B.F. Goodrich – Rabobank Interest Rate Swap Case Solution
The annual fee is approximately $1,070,000 in the proposed case, which is highly attractive for the bank to execute the process of swap. However, the overall commission will be charged from total cash flows of both the parties. The only threat is that small cash inflows are based on high inflation rate, which can also reduce the charges of Morgan.
Benefit for Goodrich
In the early years, Goodrich was facing negative cash flows because the interest bearing ration was too high to recover. Therefore, the company took the opportunity to enter into the swap agreement with Rabobank and Morgan.
The company can be considered as the key player for the entire swap processasit has to recover its loss as early as possible in the given years. Thus,this deal would be the most important for the company to handle the interest bearing ratio.
The company requiredraising its funds for entering into swap, and that the principle amount associated with the interest rate was 50 million. Rabobank lentthe amount against the fixed rate, which was calculated by Morgan (Intermediary). The benefit for Goodrich was to pay the fixed amount of interest instead of floating rate over the 8 years of maturity.
This would allow the company to save from over interest payments in the future. In contrast, the company would also be able to enter into the floating rates plus 0.50% from Morgan in order to receive thepayments from Rabobank and to decrease the interest bearing ratio (Difference between Floating and Fixed rates).
If the discount rate is higheraccording to the case, then the amount can be reduced to generate more cash flows for the company asthe lowest discount rate will reduce the floating rate, which would allowthe fixed rate to be greater than floating rate. As a result, thiswill generate negative cashflows for the company and hinder the objective to recover the loss.
Secondly, the annual charges from Morgan can also reduce the profit margins of the company asthe rate charged is directly proportional to the cash flows for both the parties. Therefore,more cash flows will bear more service charges for the third party.
In order to generate the desired level of cash flows, the discount as well as service charges should be less as compared to greater cash flows. Moreover,small cash flows will charge less discount and service charges.
Opportunity for Saving Banks
The case scenario can be very useful to generate more revenues in terms of profits and there is an opportunity for saving banks to enter such swap agreement for large profits. The results also show that Rabobank is enjoying fixed rate of profits from Goodrich and that it allows every investor to invest with fixed profit margins. The case of Goodrich also shows positive signs to different parties outside the agreement.
Morgan was the bank with AAA rating and considered as the save point for both the parties. The overall results show that swaps can be very useful for other parties of the environment especially for saving banks to receive the profits and allowing every depositor to give money for fixed or high floating rates interest. The above scenario can also be beneficial for the saving banks to lendthe money twice in order to increase the profit.
It is concluded that every party can enjoy the swap agreement based on the economic conditions and allow to exchange the interest rates for their own benefits……………..
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