Case study on B.F. Goodrich, a U.S. manufacturing company, and Rabobank, a Eurobank, wherein these two firms swapped fixed and floating rate obligations as part of their strategies to reduce their financial expenses.

Jay O. Light

Harvard Business Review (284080-PDF-ENG)

March 26, 1984

### Case questions answered:

- How large must the discount (X) be to make this an attractive deal for Rabobank?
- How large must the annual fee (F) be to make this an attractive deal for Morgan Guaranty?
- How small must the combination of F and X be to make this an attractive deal for B.F. Goodrich?
- Is this an attractive alternative for savings banks?
- Is this a deal where everyone wins? If not, who is the loser?

Not the questions you were looking for? Submit your own questions & get answers.

## B.F. Goodrich-Rabobank Interest Rate Swap Case Answers

#### Background Information – B.F. Goodrich-Rabobank Interest Rate Swap

The 1982 recession left numerous businesses in financial distress. B.F. Goodrich experienced difficulties as its credit rating was demoted from BBB to BBB-. The following year, B.F. Goodrich was desperate for $50 million to finance their existing operations. Goodrich was initially faced with a dilemma.

The high interest, coupled with Goodrich’s subpar credit rating, resulted in unappealing borrowing terms. Goodrich was adamant about accepting terms that allowed them to borrow long-term with a fixed rate.

Thus, in 1983, B.F. Goodrich and Rabobank accomplished two financings and an interest rate swap. Unlike B.F. Goodrich, Rabobank had a perfect credit rating of AAA.

Furthermore, Rabobank was looking to reduce its borrowing costs through a floating rate. This mutually beneficial transaction was aided by Morgan Guaranty, who served as an intermediary guarantor for the swap agreements.

#### Size of Discount (X)

For this deal to be attractive for Rabobank, it needs to bring in a positive net flow of capital by receiving higher interest rates while paying lower interest rates. With an 8-year fixed receipt of $5.5 million from Morgan Guaranty, Rabobank would receive $2.75 million semiannually from Morgan.

Thus, simplified to a yearly basis, we can calculate $50 million times LIBOR minus the required percentage of discount for this to be an attractive deal for Rabobank and set this equal to the yearly payments of $5.5 million.

With a LIBOR stated at 8.75%, we can simplify these calculations to (0.0875-X) < 0.11, with 0.11 resulting from the $5.5 million yearly payment divided by the total of $50 million.

Therefore, for this to be an attractive deal for Rabobank, the total value of the discount X must exceed 2.25%, a discount obtained by solving the equation for X.

(0.5) * (50 mil) * (LIBOR-X) =

#### Unlock Case Solution Now!

Get instant access to this case solution with a simple, one-time payment ($24.90).

After purchase:

- You'll be redirected to the full case solution.
- You will receive an access link to the solution via email.

Best decision to get my homework done faster!Michael

MBA student, Boston