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If we ignore flotation costs, the NPV is:

With no flotation costs, the project generates an NPV that is greater than zero, so it should be accepted.

What about financing arrangements and issue costs? Because new financing must be raised, the flotation costs are relevant. From the information given, we know that the flotation costs are 2 percent for debt and 10 percent for equity. Because Tripleday uses equal amounts of debt and equity, the weighted average flotation cost, fA, is:

Remember, the fact that Tripleday can finance the project with all debt or all equity is irrelevant. Because Tripleday needs $500,000 to fund the new plant, the true cost, once we include flotation costs, is $500,000/(1 - fA) = $500,000/.94 = $531,915. Because the PV of the cash flows is $550,000, the plant has an NPV of $550,000 - 531,915 = $18,085, so it is still a good investment. However, its value is less than we initially might have thought.

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