Atlantic Airlines is considering these two alternatives for financing the purcha

Question

Atlantic Airlines is considering these two alternatives for financing the purchase of a fleet of airplanes.

It is estimated that the company will earn $808,200 before interest and taxes as a result of this purchase. The company has an estimated tax rate of 40% and has 98,600 shares of common stock outstanding prior to the new financing.

Determine the effect on net income and earnings per share for issuing stock and issuing bonds. Assume the new shares or new bonds will be outstanding for the entire year. (Round earnings per share to 2 decimal places, e.g. $2.66.)

Plan One Issue Stock

Plan Two Issue Bonds

1. Issue 62,700 shares of common stock at $50 per share. (Cash dividends have not been paid nor is the payment of any contemplated.) 2. Issue 14%, 12-year bonds at face value for $3,135,000.

Explanation / Answer

Option 1

Net Income Before Tax $808,200 Less Tax @ 40% $323,280 Net Income After Tax = $484,920 The number of shares increase from 98,600 to 161,300 Therefore Earnings Per Share = ($484,920/161,300) $3.00 Option two Bonds Interest would be ($3,135,000 X 14%) $438,900 per year So Net Income After tax is computed as: Net Income Before Interest and Tax $808,200 Less Interest $438,900 Net income Before Tax = ($808,200 - $438,900) $369,300 Less Income Tax of ($369,300 X 40%) $147,720 Net Income After Tax = ($369,300 - $147,720) $221,580 Earnings Per Share under this scenario equals ($221,580 / 98,600) $2.25

Related Questions

Navigate

• Browse (All)
• Browse A
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.