What is the first step in the process of adjusting the initial investment for flotation costs?

• A. Record the flotation costs as an expense in the income statement
• B. Add the flotation costs to the initial investment amount
• C. Ignore flotation costs and proceed with the original investment value
• D. Deduct the flotation costs from the initial investment amount

Answer: (D)

Verified step by step guidance

1. Understand the concept of flotation costs: Flotation costs are the fees and expenses incurred when a company issues new securities, such as underwriting fees, legal fees, and registration costs. These costs reduce the net proceeds from the investment.
2. Recognize the impact of flotation costs: Flotation costs must be accounted for because they reduce the amount of capital available for the investment. Ignoring these costs would lead to an inaccurate representation of the investment value.
3. Determine the adjustment method: To account for flotation costs, they are deducted from the initial investment amount. This ensures that the net investment value reflects the actual funds available after covering these costs.
4. Perform the adjustment: Subtract the flotation costs from the initial investment amount using the formula: \( \text{Net Investment} = \text{Initial Investment} - \text{Flotation Costs} \).
5. Verify the adjusted value: After deducting flotation costs, confirm that the net investment value is accurate and ready for further financial analysis or reporting.