Question

Three plans for financing a $20,000,000 corporation are under consideration by its organizers. Under each of the following plans, the securities will be issued at their par or face amount and the income tax rate is estimated at 30%.

                                                                      Plan 1                    Plan 2                    Plan 3   

9% Bonds                                                        —                          —                  $10,000,000

6% Preferred Stock, $100 par                         —                 $10,000,000              5,000,000

Common Stock, $10 par                        $20,000,000            10,000,000              5,000,000

Total                                                        $20,000,000          $20,000,000          $20,000,000

It is estimated that income before interest and taxes will be $5,000,000.

Instructions

Determine for each plan, the expected net income and the earnings per share on common stock.

Answer 1

Basic EPS=Net income/No. of common stock weighted
	in $
Plan 1
EPS
(5000000*70%)/2000000	1.75
Plan 2
EPS
((5000000*70%)-(6%*10000000))/1000000	2.9
Plan 3
EPS
(2870000-(5000000*6%))/500000	5.14
Net income
EBIT	$5,000,000
Less: Interest (9%*10000000)	900000
EBT	$4,100,000
Less: Tax (30%)	$1,230,000
Net Income	$2,870,000
If any doubt please comment