Don Bauder says "The company argues that this financing fee should not be included in figuring the effective interest rate."
My analysis is that the effective interest rate is approximately 3.28%
Although a finance charge of $200,000 was made on May 2nd, and although this may be a tax deductible item for tax purposes, the $200,000 finance charge (cash outflow) is effectively offset by the $200,000 increase in principle (cash in flow) made at the same time. Even though these dollars have been categorized/labeled as a finance charge and principal increase, for the purposes of estimating a return rate on a cash flow basis, the two items offset each other. Having established this, we can now turn to evaluating the other cash flow components of the note.
Over the 9.4 month loan period, and after having made adjustments for the "net" $100,000 principal reduction made on May 2nd, or sources of funds of a $200,000 principle increase less uses of funds of the $200,000 finance charge and $100,000 of principal reduction made, the original loan amount of $1,200,000 which was for 3.4 months at annual simple interest rate of 5% became $1,100,000 ($1,200,000-$100,000), or the amount of money the borrower still had in bank account after having made and received these other cash flows. At this point in time, or May 2nd, the simple interest rate on the note became 4% annually, and was charged against the loan amount of $1,100,000 which it to be reduced in principal amount by the borrower by $100,000 per month over the remaining 6 month loan period, thus resulting in a final principal pay off of $600,000 at the end of October.
The average weighted amount of money held by the borrower over the 9.4 month loan period, or $1,200,000 over the first 3.4 months plus the averaging declining balance of funds held over the last 6 moths of the loan, is approximately $975,000. Similarly, the amount of interest charged at 5% and 4% on the amount of principal held for the first 3.4 and remaining 6 months of the loan, respectively, is estimated to be approximately $32,000. Consequently, less the smoke and mirrors, the effective interest rate based on the true sources and uses of funds applicable to this transaction are very favorable at approximately 3.28% ($32,000/$975,000).
Furthermore, the overall final interest rate may even be lower in view of tax advantages which may result via swapping of the borrower $200,000 of principle in consideration a $200,000 finance charge.
FROM 10K
SECOND AMENDMENT TO 5% SECURED PROMISSORY NOTE
THIS SECOND AMENDMENT TO 5% SECURED PROMISSORY NOTE (this “Amendment No. 2”) is made and entered into as of April 29, 2002, by E.DIGITAL CORPORATION, a Delaware corporation (“Maker”) in favor of IMMANUEL KANT INTERNATIONAL LIMITED, or its registered assigns (“Payee”).
R E C I T A L S
A. Maker has previously executed and delivered to Payee that certain 5% Secured Promissory Note dated January 18, 2002 (the “Note”), in the original principal amount of One Million Two Hundred Thousand Dollars ($1,200,000).
B. On or about April 18, 2002, Payee and Maker entered into Amendment No. 1 to 5% Secured Promissory Note (“Amendment No. 1”) to extend the maturity date under the Note to May 2, 2002.
C. Payee and Maker now desire to further modify the Note as set forth herein.
NOW, THEREFORE, for a valuable consideration, the receipt and adequacy of which is hereby acknowledged, the parties hereto agree as follows:
1. Revised Principal . The “principal sum” referenced in the first unnumbered paragraph of the Note shall be increased from $1,200,000 to $1,400,000.
2. Revised Interest . The “interest” referenced in the first unnumbered paragraph of the Note shall be decreased from “5% per annum” to “4% per annum.”
3. Maturity Date . The “Maturity Date” referenced in the Section 1(a) of the Note is hereby extended from May 2, 2002 to October 29, 2002.
4. Payment Schedule and Prepayment . Section 1(b) of the Note is hereby deleted and replaced in its entirety as follows:
”(b) Maker shall make five (5) monthly payments to Payee, each in the amount of One Hundred Thousand Dollars ($100,000). Such monthly payments shall commence on May 29, 2002 and shall be due and payable on the 29th day of each month thereafter for the next four months, with the outstanding balance of principal and accrued interest due and payable in full on the Maturity Date. In addition to the foregoing monthly payments, Maker may prepay the principal sum and interest (in full or in part) under this Note until the Maturity Date or such earlier time, as the principal sum and interest become due in accordance with the terms of this Note. Any such prepayment shall be in cash and shall be applied first to interest accrued through the date of prepayment and then to principal.”
5. Financings . Section 4 is revised, in part, by deleting the phrase “Through and including the 360th day following the date of this Note” in the first line of the Section and replacing it with the phrase “Prior to April 5, 2003” and decreasing from $10,000,000 to $5,000,000 the “net proceeds to Maker” in the 11th line of the Section
6. Effectiveness of Amendment. This Amendment shall not be effective until the Maker delivers to the Payee a cash prepayment in the amount of Three Hundred Fifteen Thousand Dollars ($315,000), with Fifteen Thousand ($15,000) to be applied to accrued interest and Three Hundred Thousand Dollars ($300,000) to be applied to principal. By execution of this Amendment No. 2, Maker hereby confirms that the undersigned is duly authorized to execute and deliver this Amendment No. 2, all necessary corporate action approving this Amendment No. 2 has been duly taken and the representations and warranties contained in that certain Security Agreement dated January 18, 2002 and that certain Intellectual Property Security Agreement dated January 18, 2002 (collectively, the “Security Agreements”), between Maker and Payee are true and correct as of this date.
AI
