Question: Leeson Company entered into an interest rate swap with Morley Corporation on January 1, 2003. The- notional amount of the swap is $20,000;000. Leeson will pay Morley a fixed annual rate of 8 percent. Morley will pay Leeson LIBOR plus 1 percent. Settlement is to be made every six months and the contract lasts for three years. The annual variable rates based on LIBOR plus 1 percent are:
July 1, 2003 8.26%
January 1, 2004 8.32%
July 1, 2004 8.18%
January 1, 2005 7.92%
July 1, 2005 7.90%
January 1, 2006 8.06%
Required: a. Set up a schedule showing the net receipts or payments for Leeson.
b. Why would Leeson enter into a strategy of this type?
c. Has Leeson benefited from this transaction?
d. What dangers are present?