1. Purple Lemon Fruit Company is considering issuing a new 15-year debt issue that would pay an annual coupon payment of $85. Each bond in the issue would carry a $1,000 par value and would be expected to be sold for a price equal to its par value. Purple Lemons CFO has pointed out that the firm would incur a flotation cost of 1% when initially issuing the bond issue. Remember, the flotation costs will be (A. Added or B. Subtracted) from the proceeds the firm will receive after issuing its new bonds.
The firms marginal federal-plus-state tax is 40%.
Calculate the After-tax cost of debt without flotation cost (A. 4.8450% B.5.1000% C. 4.3350% D. 5.6100%)
Calculate the after-tax cost of debt with flotation cost (A. 4.8450% B. 4.5900% C. 6.1200% D. 5.1728%)
This is the cost of (A. Embedded or B. New) debt, and it is different from the average cost of capital raised in the past.
2. When raising funds by issuing new preferred stock, the company will incur an underwriting, or flotation cost, that (A. Increase or B. Decrease) the cost of preferred stock. Because the flotation cost is usually expressed as a percentage of price of each share, the difference between the cost of preferred stock with and without flotation cost is (A. Insignificant or B. Significant) to not ignore.