Interest rate swaps
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Fixed Rate (%) Floating Rate (%)
ABC Inc. 4.5% LIBOR +1.00%
XYZ Inc. 6% LIBOR +1.50%
ABC Inc. and XYZ Inc. have agreed to swap their debt payments so that each firm gets its preferred debt terms. They can arrange an interest rate swap through Big Bank. Big bank charges 0.25% for its services. The remaining savings from the interest rate swap are equally shared by A and B.
a) Does ABC Inc. prefer fixed or floating rate debt? What rate does it pay on its preferred debt?
b) Does XYZ Inc. prefer fixed or floating rate debt? What rate does it pay on its preferred debt?
c) What are the total interest savings available in this interest rate swap (after transaction costs)?
d) Which company has a better credit rating?
2) The following information is given.
Fixed Rate $ (%) Floating Rate Euro (%)
Boeing 5.5% LIBOR +0.05%
Airbus 5.7% LIBOR +0.45%
Boeing and Airbus have agreed to swap their debt payments so that each firm gets its preferred debt terms. Each firm will save the same amount in percentage terms.
a) Does Boeing prefer fixed or floating rate debt? What rate does it pay on its preferred debt (after the swap)?
b) Does Airbus prefer fixed or floating rate debt? What rate does it pay on its preferred debt (after the swap)?
c) What are the total interest savings available in this cross currency interest rate swap?
d) Determine the fixed interest rate on Boing dollar debt that would make a swap no longer beneficial.
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Answers to 2 questions on Interest rate (floating for fixed rate) swaps
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