Southern Alliance Company needs to raise $29 million to start a new project. The

Question

Southern Alliance Company needs to raise $29 million to start a new project. The company will generate no internal equity for the foreseeable future. The company has a target capital structure of 55 percent common stock, 8 percent preferred stock, and 37 percent debt. Flotation costs for issuing new common stock are 8 percent, for new preferred stock, 6 percent, and for new debt, 4 percent. What is the true initial cost figure Southern should use when evaluating its project?

HINT: Since the company generates no Retained Earnings, all of the project will be financed externally. Remember that the total amount raised, net of the financing cost, must leave the company with exactly $29 million to start the project. This financing cost must be added to the start-up cost of the project to get the true, total initial cost. incorrect

$29,730,884

$30,969,671

$27,260,000

$32,208,458

Explanation / Answer

Answer should be (B)30969671

Working:

Average FInancing Cost = 8 *.55 + 6*.08 + 4* .37 = 6.36 %

So, Initial Cost = 29 / (100-6.36) * 100 = 30.969671

Thanks n Please rate :) Chirag NAgpal

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