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Effective vs. Nominal Interest Rate & Financial Statements

You have just been promoted as the new assistance branch manager of a local based international bank. The branch manager, who is an expatriate, has asked you a question on different types of interest rate quotations. The question he has asked is which rate should the bank advertise on a monthly-compounded loans - the normal annual percentage rate or the effective annual percentage rate? And what rate should the bank advertise on quarterly compounded savings accounts? Explain to the branch manager which quotation would attract consumers and why.

a) What are the 4 major financial statements and briefly describe each statement?

b. Briefly discuss the advantages of raising capital by issuing preferred stock rather than common stock to a company.

c) "It is said that globalization has brought more threats than opportunities"

Within the context of financial management, do you agree or disagree with each statement? Give examples to support your answer.

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Nominal interest rate is the quoted rate and effective annual rate (EAR) is the annual interest rate actually paid. If compounding occurs annually, then the effective annual rate and the nominal interest rate are the same. If compounding occurs more frequently, then the effective annual rate is greater than the nominal rate.
This said, on monthly-compounded loans, the bank should advertise as low an interest rate as possible, that is, the nominal rate instead of EAR. The lower interest rate on a loan would attract more customers. Note, however, that in some countries the law requires banks to disclose the EAR.
On quarterly compounded savings accounts, the bank should advertise as high an interest rate as possible, that is, to use the EAR instead of the ...

Solution Summary

This solution provides conceptual explanations for the financial statements of a company and the advantages of issuing preferred stock. In addition, the solution provides a comparison of effective annual rate and nominal rate.