Sheaves Corp. has a debtequity ratio of .9. The company is considering a new pla

Question

Sheaves Corp. has a debtequity ratio of .9. The company is considering a new plant that will cost $119 million to build. When the company issues new equity, it incurs a flotation cost of 8.9 percent. The flotation cost on new debt is 4.4 percent.

What is the weighted average flotation cost if the company raises all equity externally? (Enter your answer as a percent and round to two decimals.)

What is the initial cost of the plant if the company raises all equity externally? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole dollar amount, e.g., 32.)

What is the initial cost of the plant if the company typically uses 60 percent retained earnings for equity financing? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole dollar amount, e.g., 32.)

What is the initial cost of the plant if the company typically uses 100 percent retained earnings for equity financing? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole dollar amount, e.g., 32.)

Sheaves Corp. has a debtequity ratio of .9. The company is considering a new plant that will cost $119 million to build. When the company issues new equity, it incurs a flotation cost of 8.9 percent. The flotation cost on new debt is 4.4 percent.

Explanation / Answer

Wd = DE / (1+DE) = 0.9/1.9 = 0.47

We = 1 - Wd = 1 - 0.47 = 0.53

1)

Weighted average flotation cost = Wd*Fd + We*Fe

   = 0.47*4.4% + 0.53*8.9%

= 6.77%

2)

Amount raised - flotation cost = plant cost

X*(1-6.77%) = 119

X = 119 / (1-6.77%)

   = 127.64 million = 127639155

3)

60% retained earnings

New floataiton cost = Wd*Fd + We*Fe*(1-Re)

= 0.47*4.4% + 0.53*8.9%*(1-0.6)

= 3.96%

X*(1-3.96%) = 119

X = 119 / (1-3.96%)

   = 123.90 million = 123903989

4)

100% retained earnings

New floataiton cost = Wd*Fd + We*Fe*(1-Re)

= 0.47*4.4% + 0.53*8.9%*(1-100%)

= 2.08%

X*(1-2.08%) = 119

X = 119 / (1-2.08%)

   = 121.53 million = 121533004

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