Trower Corp. has a debt–equity ratio of .85. The company is considering a new pl

Question

Trower Corp. has a debt–equity ratio of .85. The company is considering a new plant that will cost $107 million to build. When the company issues new equity, it incurs a flotation cost of 7.7 percent. The flotation cost on new debt is 3.2 percent.

What is the initial cost of the plant if the company raises all equity externally? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

What is the initial cost of the plant if the company typically uses 65 percent retained earnings? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

What is the initial cost of the plant if the company typically uses 100 percent retained earnings? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

Trower Corp. has a debt–equity ratio of .85. The company is considering a new plant that will cost $107 million to build. When the company issues new equity, it incurs a flotation cost of 7.7 percent. The flotation cost on new debt is 3.2 percent.

Explanation / Answer

a)Initial cash flow=(1+flaoting cost of equirty)*investment
=(1+7.7%)*107mn
=$115,239,000

b)Wt of debt= (D/E)/(1+D/E)
=0.85/(1+0.85)=0.4596
wt of capital=1- wt of debt=0.54054
Cost of finance from retianed earnings=107mn*0.65=$69,550,000
Remiander= 107000000-69550000=$37,450,000

Raised the amount by debt=0.4596*37450000=$17,212,020
Raised by equity=37,450,000-17,212,020=$20,237,980
Cost of amount by debt=17,212,020*(1+3.2%)=$17,762,804.64
Cost of amount raised by equity=20,237,980*(1+7.7%)=$21,796,304.46
Total cost=17,762,804.64+21,796,304.46=$39,559,109

c)It is same as initial investment sicne there is no cost involced here and it is 107mn

Related Questions

Navigate

• Browse (All)
• Browse T
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.