Reference no: EM133184462

Question - AG plc. will shortly require financing of f250 million for 24 months to complete a deal. AG's Treasurer has obtained several quotes from potential investment banks. The best fixed interest rate deal is at a rate of 6.5% per year. The best floating rate deal is at LIBOR plus 205 basis points. The directors of AG have stated a preference for floating rate borrowing given AG's liquidity requirements.

BC Ltd. also needs to borrow for a working capital injection of £250 million for 24 months. The best offer it has had from lenders is 7.5% per year for fixed rate debt and LIBOR plus 95 basis points for floating rate debt. BC would like to borrow fixed rate debt given their anticipated cash flow profile.

a) If a deal is possible, evaluate the rates that AG plc and BC Ltd. need to lend and borrow from each other, if they bargain to split the gains equally?

b) Discuss why the bargaining power might differ between the parties engaging in swap arrangements.

c) Describe the swap contract that will improve on the position of each firm compared with what they would pay if they borrowed in their preferred market (fixed or floating). Describe the type, value and interest rate and the sequence of transactions in this swap contract.