Survey of Accounting chapter 8 problem 6

Three different plans for financing a $5,000,000 corporation are under consideration by its organizers. Under each of the following plans, the securities will be issued at their par or face amount, and the income tax rate is estimated at 40% of income.

Plan 1 Plan 2 Plan 3

8% bonds $2,500,000

Preferred 4% stock, $100 par $2,500,000 1,250,000

Common stock, $5 par $5,000,000 2,500,000 1,250,000

Total $5,000,000 $5,000,000 $5,000,000

1. Determine for each plan the earnings per share of common stock, assuming that the income before bond interest and income tax is $1,000,000.

2. Determine for each plan the earnings per share of common stock, assuming that the income before bond interest and income tax is $300,000.

3. Discuss the advantages and disadvantages of each plan.