Question

A company is considering a project which has an initial startup cost of $781,270. The firm maintains a debt-to-equity ratio of 1.12. The flotation cost of debt is 8.42% and the flotation cost of external equity is 12.62%. The firm has sufficient internally generated equity to cover the equity cost of this project. What is the initial cost of the project including the flotation costs?

Question 1 options:

	$775,222
	$795,623
	$816,023
	$836,424
	$856,824

Answer 1

The answer is (c) 816023

Initial cost of start up=  $781,270

debt to equity ratio= 1.12

% of debt = debt/total capital = 1.12/ (1 + 1.12) = 0.528302 or 52.8302%

debt capital in initial cost = 0.528302 * initial cost = 0.528302 * 781270 = $412746.4151

floatation cost of debt = 0.0842 * debt capital = 0.0842 * 412746.4151 = $ 34753.25

floatation cost of equity is covered through internally generated equity so this will not be added.

initial cost of the project including the flotation costs = initial cost + floatation cost of debt = 781270 + 34753.25 = $816023.25 or $816023approx