The Drew Furniture Company is considering the introduction of a new product line. Plant & inventory

expansion equal to 50% of present asset levels will be necessary to handle the anticipated volume of the new

product line. New capital will have to be obtained to finance the asset expansion. Two proposals have been

developed to provide the added capital.

1. Raise the $100,000 by issuing 10-year 12% bonds. This will change the capital structure from one

with about 20% debt to one with almost 50% debt. The investment banking house estimates the P/E

ratio, now 12 to 1, will be reduced to 10 to 1 if this method of financing is chosen.

2. Raise the $100,000 by issuing new common stock. The investment banker believes that the stock can

be issued to yield $33.33. The P/E ratio would remain at 12 to 1 if the stock were issued. The

present market price is $36.

The Company's most recent financial statements are as follows:

Drew Furniture Company Balance Sheet As of De3cember 31, 19x1 Assets Equities Current $65,000 Debt 5% $40,000 Plant & Equipment 135,000 Common Stock 100,000 Retained Earnings 60,000 $200.000 $200.000Income Statement For the Year Ended December 31, 19x1 Sales $600,000 Operating Costs 538,000 Operating Income $62,000 Interest Charge 2,000 Net Income before Tax $60,000 Income taxes 30,000 Net Income 30,000