Southern Alliance Company needs to raise $21 million to start a new project and

Question

Southern Alliance Company needs to raise $21 million to start a new project and will raise the money by selling new bonds. The company will generate no internal equity for the foreseeable future. The company has a target capital structure of 50 percent common stock, 11 percent preferred stock, and 39 percent debt. Flotation costs for issuing new common stock are 14 percent, for new preferred stock, 8 percent, and for new debt, 4 percent. What is the true initial cost figure Southern should use when evaluating its project?

Explanation / Answer

weighted average flotation cost

=( w E x f E ) + ( w P x f P ) + ( w D x f D )

=50%*14%+11%*8%+39%*4%

=9.44%

Amount raised=21000000/(1-9.44%)

=23189045.94 is the  total cost of the equipment including flotation costs

the above is the answer

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