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Cornerstones of Financial Accounti...

4th Edition
Jay Rich + 1 other
ISBN: 9781337690881

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Cornerstones of Financial Accounti...

4th Edition
Jay Rich + 1 other
ISBN: 9781337690881
Textbook Problem
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Common and Preferred Stock

Expansion Company now has $2,500,000 of equity (100,000 common shares). Current income is

  1. and Expansion Company needs $500,000 of additional capital. The firm’s bankers insist that this capital be acquired by selling either common or preferred stock. If Expansion sells common stock, the ownership share of the current stockholders will be diluted because 20,000 more shares will be sold. If preferred stock is sold, the dividend rate will be 15% of the $500,000. Furthermore, the preferred stock will have to be cumulative, participating, and convertible into
  2. shares of common stock.

Required:

Indicate whether Expansion should sell additional common or preferred stock, and explain the reasons for your choice.

To determine

Concept introduction:

Stocks (Common Stock and Preferred Stock):

These are two types of the share capital of a company. Common Stock represents the Common shares issued to the shareholders and preferred stock represents the preference shares issued. Preference shares are given preference in payment of dividends and repayment of capital. Common shareholders get the inbuilt right to vote in decisions of the company and preference shareholders generally do not get this right but they may get voting rights with special provisions.

To indicate:

The way of financing the additional fund requirement.

Explanation

These are two types of the share capital of a company. Common Stock represents the Common shares issued to the shareholders and preferred stock represents the preference shares issued. Preference shares are given preference in payment of dividends and repayment of capital. Common shareholders get the inbuilt right to vote in decisions of the company and preference shareholders generally do not get this right but they may get voting rights with special provisions...

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