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June 2014 Q2
1. As a result of the subsidy, we saved interest payments of (100 basis points)1% on 60% of the total loan. What I don’t understand is why the examiner didn’t consider this 1% interest saved like below?
60% x $42.97m x 1% x (1-0.20) x 4 yr annuity.
I don’t get why the annual subsidy benefit is multiplied by 2.5% either. We only got a subsidized rate of -1%?2. I can seem to find where the 4% normal rate was mentioned in the question. Lost my mind looking for it. ?
Note (v) of the question says that the normal cost of borrowing is 150 basis points above the government yield rate, which you are told later is 2.5%.
Therefore the normal cost of borrowing is 2.5 + 1.5 = 4%.The subsidised loan is at 100 basis points below the government yield rate and is therefore at 2.5 – 1 = 1.5%.
Therefore the benefit of the subsidy is 4 – 1.5 = 2.5%.
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