Suppose your company needs $12 million to build a new assembly line. Your target

Question

Suppose your company needs $12 million to build a new assembly line. Your target debt?equity ratio is 0.40. The flotation cost for new equity is 8 percent, but the flotation cost for debt is only 5 percent. Your boss has decided to fund the project by borrowing money because the flotation costs are lower and the needed funds are relatively small.

What is your company

Suppose your company needs $12 million to build a new assembly line. Your target debt?equity ratio is 0.40. The flotation cost for new equity is 8 percent, but the flotation cost for debt is only 5 percent. Your boss has decided to fund the project by borrowing money because the flotation costs are lower and the needed funds are relatively small.

Explanation / Answer

Debt to capital = (D/E) /( 1 + (D/E)) = 0.40/1.40 = 0.2857
weight of equity = 1 - weight of debt = 1 - 0.2857 = 0.7143
(a)

weighted average flotation cost
= 0.2857*0.05 + 0.7143*0.08
= 7.14%
(b)

amount raised

= 12,000,000*7.14%

= 856,800

Related Questions

Navigate

• Browse (All)
• Browse S
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.