Southern Alliance Company needs to raise $75 million to start a new project and

Question

Southern Alliance Company needs to raise $75 million to start a new project and will raise the money by selling new bonds. The company will generate no internal equity for the foreseeable future. The company has a target capital structure of 75 percent common stock, 5 percent preferred stock, and 20 percent debt. Flotation costs for issuing new common stock are 11 percent, for new preferred stock, 8 percent, and for new debt, 3 percent. What is the true initial cost figure the company should use when evaluating its project?

(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 dollar amount, e.g., 32.) Initial cost $

Explanation / Answer

WACC=Respective costs*Respective weights

=(0.75*11)+(0.05*8)+(0.2*3)=9.25%

Hence true intial cost*(1-WACC)=$75,000,000

Hence true intial cost=$75,000,000/(1-0.0925)

which is equal to

=$82,644,628(Approx).

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