Question

Frey Co. is considering the following alternative financing plans: Plan 1 Plan 2 Issue 10% bonds (at face value) $1,080,000 $540,000 Issue preferred $1 stock, $10 par — 900,000 Issue common stock, $5 par 1,080,000 720,000 Income tax is estimated at 40% of income. Determine the earnings per share on common stock, assuming that income before bond interest and income tax is $756,000. Enter answers in dollars and cents, rounding to two decimal places. Plan 1 $ Earnings per share on common stock Plan 2 $ Earnings per share on common stock

Answer 1

Answer and Explanation:

Particulars                                        Plan 1 Plan 2

Income before interest and tax $756,000     $756,000

Less:  Interest expenses          -108,000 -54,000  

                                          ($1,080,000 ×10%)     ($540,000 × 10%)

Income before tax                          $648,000    $702,000

Less: Income tax expense          -$259,200  -$280,800

                                          ($648,000 × 40%)    ($702,000 × 40%)

Net income                                   $388,800 $421,200

Less: Preferred dividend               $0           -$90,000

Profit available for common stockholder's (A) $388,800  $331,200

Divided by Number of common shares (B) 216,000       $144,000

                                                        ($1,080,000 ÷ $5)  ($720,000 ÷ $5)

Earning per share  (A) ÷ (B)            $1.8                     $2.3

By dividing the profit by the number of shares we can get the earning per share and the same is shown above