Valuing Investment Decisions: Flotation Costs And Capital Budgeting

Abstract

We highlight a measurement problem inherent in the prevalent approach to factoring flotation costs in capital budgeting decision-making. This arises because the traditional method calculates a higher cost of capital, while keeping the initial cash-flow unchanged. We demonstrate an alternate approach that corrects for this problem by assigning a higher initial investment due to flotation costs, while keeping the cost of capital unchanged.