ABC Corporation is considering three possible financing arrangements to raise additional Br. 10,000,000 of new capital. Currently, the capital structure of ABC consists of no debt and Br. 10,000,000 of equity. There are 500,000 shares of common stock currently outstanding, selling at Br. 20 per share. ABC is expected to generate Br. 12,000,000 of earnings before interest and taxes next year. It is expected that the interest rate on any debt would be 10%. The three possible financing alternatives are:

Alternative 1: Finance completely with new equity. Alternative 2: Finance using 50% debt and 50% new equity. Alternative 3: Finance completely with new debt.

Required:

1. Calculate the earnings per share for each alternative, assuming that there are no taxes on corporate income:
2. Calculate the earnings per share for each alternative, assuming that the rate of tax on corporate income is 30%:
3. Which alternative do you recommend to the firm? Please discuss by relating to capital structure theory.

Answer rating: 100% (QA)

To analyze the earnings per share EPS for each financing alternative we need to calculate the net income for each scenario and then divide it by the number of outstanding shares Given information Curr... View the full answer