Suppose your company needs $14 million to build a new assembly line. Your target

Question

Suppose your company needs $14 million to build a new assembly line. Your target debtequity ratio is 0.60. The flotation cost for new equity is 7 percent, but the flotation cost for debt is only 4 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’s weighted average flotation cost, assuming all equity is raised externally?(Round your answer to 2 decimal places. (e.g., 32.16))

What is the true cost of building the new assembly line after taking flotation costs into account? (Enter your answer in dollars, not millions of dollars, i.e. 1,234,567. Do not round intermediate calculations and round your final answer to the nearest whole dollar amount.(e.g., 32)

What is your company’s weighted average flotation cost, assuming all equity is raised externally?(Round your answer to 2 decimal places. (e.g., 32.16))

Explanation / Answer

Fund Required for New Assembly line = $ 14 mio Debt Equity Ratio = 0.6 Suppose equity = x, then Debt = 0.6 x x + 0.6 x= 14, i.e. x = 14/1.6 = $8.75 mio Equity = $ 8.75 mio and Debt = $ 14-8.75 = $ 5.25 mio a) $ mio Floating cost rate Floating cost Debt           5.25 4.0%           0.21 equity           8.75 7%           0.61         14.00           0.82 Floating cost % = 0.82/14 = 5.86% b) True Cost of assembly Line = $ 1400000 + $ 82000= $1482000

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