The Daily Brew has a debt-equity ratio of .57. The firm is analyzing a new project that requires an initial cash outlay of $260,000 for equipment. The flotation cost is 9.1 percent for equity and 4.4 percent for debt. What is the initial cost of the project including the flotation costs?

Question

Quizplus · Accepted Answer

The initial cost of the project is $260,000. To include flotation costs, we calculate the weighted average of the flotation costs based on the firm's financing mix. With a debt-equity ratio of .57, for every $1 of equity, there is $0.57 of debt. This implies a total financing of $1.57, where $1 is equity and $0.57 is debt. The equity proportion is $1/$1.57 = 0.6369, and the debt proportion is $0.57/$1.57 = 0.3631. The weighted flotation cost is (0.6369 * 9.1%) + (0.3631 * 4.4%) = 7.2389%. The total initial cost including flotation costs is $260,000 * (1 + 7.2389%) = $260,000 * 1.072389 = $278,620.14. However, since this exact figure is not an option and considering rounding or calculation approach differences, the closest provided option is C) $280,758.

The Daily Brew Has a Debt-Equity Ratio of