Business is going well for Email Designers. The board of directors of this family-owned company believes that Email Designers could earn an additional $1,000,000 income before interest and taxes by expanding into new markets. However, the $4,000,000 the business needs for growth cannot be raised within the family. The directors, who strongly wish to retain family control of the company, must issue securities to outsiders. They are considering three financing plans.
Plan A is to borrow 6%. Plan B is to issue 100,000 shares of common stock. Plan C is to issue 100,000 shares of non voting, $2.50 preferred stock ($2,50 is the annual cash dividends for each share of preferred stock). Email Designers currently has net income of $1,200,000 and 400,000 shares of common stock outstanding. The company's income tax rate is 40%.
1. Prepare an analysis which plan will result in the highest earnings per share of common stock.
2. Recommend one plan to the board of directors. Give your reasons.
The expert analyzes alternative ways of raising $4 million. A company's tax rate is examined.