onrad Corporation plans to raise $8 million to pay off its existing short-term bank loan of $2.4 million and to increase total assets by $5,600,000. The bank loan bears an interest rate of 12 percent. The company's president owns 55% of the 4,000,000 shares of common stock and wishes to maintain control of the company. The company's tax rate is 21%. Balance sheet information is shown below. The company is considering two alternatives to raise the $8 million: (1) sell common stock at $20 per share, or (2) Sell bonds at a 12% coupon, each $1,000 bond carrying 25 warrants to buy common stock at $30 per share. Calculate the debt ratio under both alternatives Which alternative do you recommend and why? Current Liabilities $3,000,000 Common Stock, Par $0.50 2,000,000 Retained earnings 1,400,000 Total Assets $6,400,000 Total claims $6,400,000 Alternative 1: Common stock $20 Tax rate 35% # new shares 400,000 New financing $8,000,000 Par value per share $0.50 Existing Loan $2,400,000 Interest rate 12% Alternative 2: Debentures 12% Interest amount - old $288,000 Exercise price per warrant $30 Interest amount - new $960,000 # bonds to raise 4M 8,000 # new shares 200,000 President owns 55.0% warrants per bond 25 Shares outstanding 4,000,000 New money raised 6,000,000 Addition to par 100,000 Additional paid-in capital 5,900,000

EBK CONTEMPORARY FINANCIAL MANAGEMENT

14th Edition

ISBN:9781337514835

Author:MOYER

Publisher:MOYER

Chapter15: Dividend Policy

Section: Chapter Questions

Problem 4P

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Conrad Corporation plans to raise $8 million to pay off its existing short-term bank loan of $2.4 million and to increase total assets by $5,600,000. The bank loan bears an interest rate of 12 percent. The company's president owns 55% of the 4,000,000 shares of common stock and wishes to maintain control of the company. The company's tax rate is 21%. Balance sheet information is shown below.

The company is considering two alternatives to raise the $8 million: (1) sell common stock at $20 per share, or (2) Sell bonds at a 12% coupon, each $1,000 bond carrying 25 warrants to buy common stock at $30 per share.

Calculate the debt ratio under both alternatives

Which alternative do you recommend and why?

		Current Liabilities	$3,000,000
		Common Stock, Par $0.50	2,000,000
		Retained earnings	1,400,000
Total Assets	$6,400,000	Total claims	$6,400,000

Alternative 1: Common stock	$20	Tax rate	35%
# new shares	400,000	New financing	$8,000,000
Par value per share	$0.50	Existing Loan	$2,400,000
		Interest rate	12%
Alternative 2: Debentures	12%	Interest amount - old	$288,000
Exercise price per warrant	$30	Interest amount - new	$960,000
# bonds to raise 4M	8,000
# new shares	200,000	President owns	55.0%
warrants per bond	25	Shares outstanding	4,000,000
New money raised	6,000,000
Addition to par	100,000
Additional paid-in capital	5,900,000

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