JN Electronics is considering two plans for raising $ 1 comma 000 comma 000 to expand operations. Plan A is to issue 9 % bonds payable, and plan B is to issue 700 comma 000 shares of common stock. Before any new financing, JN Electronics has net income of $ 150 comma 000 and 100 comma 000 shares of common stock outstanding. Management believes the company can use the new funds to earn additional income of $ 300 comma 000 before interest and taxes. The income tax rate is 40 %. Analyze the JN Electronics situation to determine which plan will result in higher earnings per share.

Question

Business

Kathryn Larson

16 December, 00:44

JN Electronics is considering two plans for raising $ 1 comma 000 comma 000 to expand operations. Plan A is to issue 9 % bonds payable, and plan B is to issue 700 comma 000 shares of common stock. Before any new financing, JN Electronics has net income of $ 150 comma 000 and 100 comma 000 shares of common stock outstanding. Management believes the company can use the new funds to earn additional income of $ 300 comma 000 before interest and taxes. The income tax rate is 40 %. Analyze the JN Electronics situation to determine which plan will result in higher earnings per share.

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Karlee · Answer 1

It is a better deal to finance through bonds payable, as the projected earnings per share is 2.76 while, financing through equity the EPS is 0.4125

Explanation:

current income: 150,000

additional income 300,000

if finance through equity:

300,000 - 40% tax rate = 180,000

scenario income 150,000 + 180,000 = 330,000

EPS: 330,000 / (100,000+700,000) = 330,000/800,000 = 0.4125

if finance through debt:

1,000,000 x 9% = 90,000 interest expense

(300,000 - 90,000) - 40% taxrate = 126,000 after interet and taxes

scenario income 150,000 + 126,000 = 276,000

EPS 276,000 / 100,000 = 2.76