No-Toxic-Toys currently has $250,000 of capital and is planning a $100,000 expansion to meet the growing demand

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Question:

No-Toxic-Toys currently has $250,000 of capital and is planning a $100,000 expansion to meet the growing demand for their product. The company currently earns $87,500 in net income and the expansion will generate $43,750 in additional income before any interest expense.

The firm has three options:

(1) not expand,

(2) expand and issue $100,000 in debt that requires 15% annual interest payments, or

(3) expand and obtain $100,000 in equity financing.

For each option, calculate

a the net income and

b the return on equity (Net income ÷ Equity). Ignore the effects of income tax.