Your firm is considering a project which requires an initial investment of $5 million. Your target D/E ratio is 0.67. Flotation costs for equity are 8% and flotation costs for debt are 2%. What is the true cost (in dollars) of the project when you consider flotation costs?

Question

Quizplus · Accepted Answer

The true cost of the project is the initial investment plus the flotation costs. The flotation costs for equity are 8% of the equity portion of the project, which is $5 million * 0.67 = $3.35 million. The flotation costs for debt are 2% of the debt portion of the project, which is $5 million * 0.33 = $1.65 million. Therefore, the true cost of the project is $5 million + $3.35 million + $1.65 million = $5.30 million.

Your Firm Is Considering a Project Which Requires an Initial