Question

Effect of Financing on Earnings Per Share Three different plans for financing an $18,000,000 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% bond - - $9,000,000
Prefered 4% stock, $20 par - $9,000,000 $4,500,000
Common stock 10% $18,000,000 $9,000,000 $4,500,000
Total $18,000,000 $18,000,000 $18,000,000

Determine the earnings per share of common stock for each plan, assuming that the income before bond interest and income tax is $2,100,000.

Answer 1

$0.7 $1 $1.44

Step-by-step explanation:

The computation of the earning per share is shown below:

Particulars Plan 1 Plan 2 Plan 3

EBIT $2,100,000 $2,100,000 $2,100,000

Less: Bond

interest at 8% -$720,000

EBT $2100,000 $2,100,000 $1,380,000

Less:

Income tax -$840,000 -$840,000 -$552,000

PAT $1,260,000 $1,260,000 $828,000

Less:

Pref dividend -$360,000 -$180,000

Net income (A) $1,260,000 $900,000 $648,000

Number of

shares (B) 1,800,000 900,000 450,000

Earning per

share (A ÷ B) $0.7 $1 $1.44