Question

You are considering a project which requires $136,000 in external financing. The flotation cost of equity is 11 % and the cost of debt is 4.5 %. You wish to maintain a debt-equity ratio of.45. What is the initial cost of the project including the flotation costs?

Multiple Choice

• $138,009

• $143,367

• $155,283

• $154,004

• $149,422

Answer 1

Debt -equity ratio = 0.45
That means 1 equity = 0.45 debt
therefore
Weight of equity = 1/1.45
=68.97%
Weight of debt =0.45/1.45
=31.03%
Weighted average flotation cost = (11%*68.97%)+(4.5%*31.03%)
=8.98%
Cost of project = 136000/(1-flotation cost)
=136000/(1-0.0898)
=$149422