Question

BBQ Corporation has a target capital structure that is 70 percent equity, 30 percent debt. The flotation costs for equity issues are 15 percent of the amount raised; the flotation costs for debt are 8 percent. If BBQ needs $150 million for a new manufacturing facility, what is the cost when flotation costs are considered?

a) $130.65 million
b) $150 million
c) $165.42 million
d) $172.22 million
e) $185 million

Answer 1

d) $172.22 million

Step-by-step explanation:

given data

equity = 70 %

debt = 30 %

flotation costs equity = 15 %

flotation costs debt = 8 %

BBQ = $150 million

solution

first we get here weighted average flotation cost that is express as

weighted average flotation cost = ( Flotation cost debt × Weight debt ) + ( Flotation cost equity × Weight equity ) .................1

put here value and we get

weighted average flotation cost = (8% × 0.30) + (15% × 0.70)

weighted average flotation cost = 0.024 + 0.105

weighted average flotation cost = 0.129 = 12.9%

and

now we get here cost of funds that is express as

Cost of funds = Amount raised ÷ (1 - Weighted average floatation cost) .............2

put here value we get

Cost of funds =
`(150,000,000)/(1-0.129)`

Cost of funds =
`(150,000,000)/(0.871)`

Cost of funds = $172,215,844

so correct answer is d) $172.22 million