QUESTION 5

Mutiara Auto Parts is considering expanding its Penang factory at Bayan Lepas Industrial area. The expansion would be financed by the sale of common stock or a bond issue. The financial manager needs to evaluate how the two alternative financing plans will affect the earnings potential of the firm.

The total financing required is $10 million. The firm currently has $10 million of 10% coupon bonds and 1,000,000 common stocks outstanding. The firm has a 40% tax rate.

The firm can arrange financing of the $10 million through:

Plan 1: 12% coupon bond issue

Plan 2: Sale of 500,000 new shares of common stock

Required:

1. The new interest cost under Plan 1 is?
2. The existing interest cost under Plan 1 is?
3. The total interest cost under Plan 1 is?
4. The existing number of common shares outstanding is ?
5. The existing interest cost under Plan 2 is?
6. The number of additional shares issued under Plan 2 is?
7. The total number of common shares outstanding under Plan 2 is?
8. The degree of final leverage (DFL) for Plan 1 at $4,600,000 of EBIT is?
9. The degree of final leverage (DFL) for Plan 2 at $4,600,000 of EBIT is?
10. The financial break-even point under Plan 1 is?
11. The financial break-even point under Plan 2 is?
12. The EPS under Plan 1 is?
13. The EPS under Plan 2 is?
14. Based on the analysis in part (a) to part (m) above which plan should Mutiara Auto Parts choose and why?