You hold a 25% common stock interest in the family-owned business, a construction equipment company. Your sister,

Question:

You hold a 25% common stock interest in the family-owned business, a construction equipment company. Your sister, who is the manager, has proposed an expansion of plant facilities at an expected cost of $10,000,000. Two alternative plans have been suggested as methods of financing the expansion. Each plan is briefly described as follows: Plan 1. Issue $10,000,000 of 20-year, 10% notes at face amount. Plan 2. Issue an additional 200,000 shares of $10 par common stock at $20 per share, and $6,000,000 of 20-year, 10% notes at face amount.

The balance sheet as of the end of the previous fiscal year is as follows:

Thacker, Inc.

Balance Sheet

December 31, 2012

Assets

Current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 6,000,000

Property, plant, and equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9,000,000

Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . . . . . . . . . . . . . $15,000,000

Liabilities and Stockholders’ Equity

Liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 4,500,000

Common stock, $10 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,600,000

Paid-in capital in excess of par . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 200,000

Retained earnings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8,700,000

Total liabilities and stockholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $15,000,000

Net income has remained relatively constant over the past several years. The expansion program is expected to increase yearly income before bond interest and income tax from $800,000 in the previous year to $1,500,000 for this year. Your sister has asked you, as the company treasurer, to prepare an analysis of each financing plan.

1. Prepare a table indicating the expected earnings per share on the common stock under each plan. Assume an income tax rate of 40%. Round to the nearest cent.

2. a. Discuss the factors that should be considered in evaluating the two plans.

b. Which plan offers the greater benefit to the present stockholders? Give reasons for your opinion.

Common Stock
Common stock is an equity component that represents the worth of stock owned by the shareholders of the company. The common stock represents the par value of the shares outstanding at a balance sheet date. Public companies can trade their stocks on... Balance Sheet
Balance sheet is a statement of the financial position of a business that list all the assets, liabilities, and owner’s equity and shareholder’s equity at a particular point of time. A balance sheet is also called as a “statement of financial...