CP 112

Bagan Corporation, a profitable growth company with 200,000 shares of common stock outstanding, is in need of approximately $40 million in new funds to finance required expansion. Currently, there are no other equities outstanding. Management has three options open:

A .Sell $40 million of 12per cent bonds at face value.

b. Sell shares of 10% preferred stock: 400,000 shares at $100 each (dividend $10 per share).

c. Sell another 200,000 shares of common stock at $200 each. Operating income (before interest and income taxes) on completion of the expansion is expected to average $12 million per year; the income tax rate is 50%.

Required:

1.Complete the schedule below and calculate the earnings per share of common stock. 12%bonds Preferred stock Common stock Income before interest and income taxes $12,000,000$12,000,000$12,000,000 Less: Interest expense Income before taxes Less: Income taxes at 50%Net income Less: Preferred dividends Net income available to common stockholders Number of common shares outstanding Earnings per share of common stock

2.Which financing option is most advantageous to the common stockholders? Why?