Concept explainers
Concept Introduction:
Bonds:
Bonds are debt instruments issued by the borrower company to its lenders. Bonds are issued at a specified rate of interest and for a specified time period. The bondholders get a fixed rate of interest on the bonds and repayment of the bonds at the maturity date. Bonds may be issued at a premium or discount.
Stocks (Common Stock and Preferred Stock):
There 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
To Indicate:
If the advantages and disadvantages of issuing preferred stock and bonds
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- (Bond Issue) Donald Lennon is the president, founder, and majority owner of Wichita Medical Corporation, an emerging medical technology products company. Wichita is in dire need of additional capital to keep operating and to bring several promising products to final development, testing, and production. Donald, as owner of 51% of the outstanding stock, manages the company’s operations. He places heavy emphasis on research and development and long-term growth. The other principal stockholder is Nina Friendly who, as a nonemployee investor, owns 40% of the stock. Nina would like to deemphasize the R & D functions and emphasize the marketing function to maximize short-run sales and profits from existing products. She believes this strategy would raise the market price of Wichita’s stock.All of Donald’s personal capital and borrowing power is tied up in his 51% stock ownership. He knows that any offering of additional shares of stock will dilute his controlling interest because he…arrow_forwardYou plan to purchase debenture bonds from one of two companies in the same industry that are similar in size and performance. The first company has $800,000 in total liabilities, and $1,200,000 in equity. the second company has $600,000 in total liabilities, and $400,000 in equity. 2. Which company's debenture bonds are less risky based on the debt-to-equity ratio? Explain. Show your calculations to support your decision.arrow_forwardXentec Inc. has decided to expand its operations to owning and operating golf courses. The following is an excerpt from a conversation between the chief executive officer, Peter Kilgallon, and the vice president of finance, Dan Baron:Peter: Dan, have you given any thought to how we’re going to manage the acquisition of Sweeping Bluff Golf Course?Dan: Well, the two basic options, as I see it, are to issue either preferred stock or bonds. The equity market is a little depressed right now. The rumor is that the Federal Reserve Bank’s going to increase the interest rates either this month or next.Peter: Yes. I’ve heard the rumor. The problem is that we can’t wait around to see what’s going to happen. We’ll have to move on this next week if we want any chance to complete the acquisition of Sweeping Bluff Golf Course.Dan: Well, the bond market is strong right now. Maybe we should issue debt this time around.Peter: That’s what I would have guessed as well. Sweeping Bluff Golf Course’s…arrow_forward
- Your company is rapidly growing and needs additional capital to expand the online retailing portion of its business model. One group of the board of directors proposes that the company issue $800,000 of additional common stock, while a separate group of the board is in favor of issuing the same amount of long-term bonds. As a possible compromise, the company’s investment banker suggests that the company issue convertible bonds. The board asks you to write a memo examining the advantages and disadvantages of convertible bonds. The company currently has 200,000 common shares outstanding, and the stock is currently trading at a price of $30 per share. The company’s effective interest rate is 10%; however, the investment banker believes that the convertible debt could be issued at a 6% interest rate. Write a memo to the board of directors detailing how convertible bonds work and the advantages and disadvantages of the security. In addition, provide details on how the issuance of the…arrow_forward3) As a consultant to KLM Snow Sports Equipment, you have been asked to compute the appropriate discount rate to use to evaluate the purchase of anew warehouse facility. You have determined the market value of the firm's capital structure as follows:Source of Capital Market ValueBonds $600,000Preferred Stock $150,000Common Stock $450,000To finance the purchase, KLM will sell 20‐year bonds, with a 9% coupon rate and semiannual coupons, at the market price of $940. Flotation costs forissuing the bonds are 3 percent of the market price. Preferred stock paying an annual $3 dividend can be sold for $42; the cost of issuing these shares is$3 per share. Common stock for KLM is currently selling for $54 per share. The firm paid a $2.80 dividend last year and expects dividends to continuegrowing at a rate of 5 percent per year. Flotation costs for issuing new common stock will be 6 percent of the market price. The firm’s dividendscurrently equal the net income so there is no internal equity…arrow_forwardTarzan Health Center has no debt but is considering two plans to add leverage. Plan A-issue P200,000 bonds; Plan B- issue P300,000 bonds. The proceeds from both proposals shall be used to return the same amount of common stock. Management wants to evaluate the impact of increasing Company's financial leverage. Data about the corporations current and proposed capital structure follows: Addl data: Interest in Plan A-P14,000; Plan B- P27,0001. What is the market value of the equity under Plan A? 2. What is the market value of the firm under Plan B?3. What is the weighted average cost of capital under Plan A?4. What is the weighted average cost of capital under Plan B?arrow_forward
- Timeless Toys hopes to raise as much long-term capital as possible for corporate expansion. However, the firm also wants to maintain as much corporate control as possible. Timeless has identified the four financing options described below. Which of these options will best allow the firm to pursue its goals? issuance of 200,000 shares of common stock at a price of $11 per share issuance of 150,000 shares of common stock at a price of $15 per share issuance of 15,000 $100, 5% bonds at face value issuance of 20,000 $100, 5% bonds at face valuearrow_forwardYou are considering a stock investment in one of two firms (LotsofDebt, Inc. and LotsofEquity, Inc.), both of which operate in the same industry. LotsofDebt, Inc. finances its $38.00 million in assets with $33.75 million in debt and $4.25 million in equity. LotsofEquity, Inc. finances its $38.00 million in assets with $4.25 million in debt and $33.75 million in equity. Calculate the debt ratio. (Round your answers to 2 decimal places.) debt ratio Lotsofdebt Inc: % Lotsofequity Inc: % Calculate the equity multiplier. (Round your answers to 2 decimal places.) Equity Multiplier Lotsofdebt Inc: Timess Lotsodequity Inc: Times Calculate the debt-to-equity. (Round your answers…arrow_forwardSeveral investors are in the process of organizing a new company. The investors believe that P2,600,000 will be needed to finance the new company’s operation, and they are considering three methods of raising this amount of money. Method A: All P2,600,000 would be obtained through issue of common stock Method B: P 1,300,000 would be obtained through issue of common stock and the other P1,300,000 would be obtained through issue of P100 par value, 12% preferred stock. Method C: P 1,300,000 would be obtained through issue of common stock, and the other P 1,300,000 would be obtained through issue of bonds carrying an interest ate of 12%. The investors organizing the new company are confident that it can earn P520,000 each year before interest and taxes. The tax rate will be 30%. Required: 1. Assuming that the investors are correct in their earnings estimate, compute the net income that would go to the common stockholders under each of the three financing methods listed above. 2. Using the…arrow_forward
- You are considering a stock investment in one of two firms (LotsofDebt, Inc. and LotsofEquity, Inc.), both of which operate in the same industry. LotsofDebt, Inc. finances its $36.00 million in assets with $33.00 million in debt and $3.00 million in equity. LotsofEquity, Inc. finances its $36.00 million in assets with $3.00 million in debt and $33.00 million in equity. Calculate the debt ratio. (Round your answers to 2 decimal places.) LotsofDebt, Inc. = ___.__% LotsofEquity, Inc. = ___.__% Calculate the equity multiplier. (Round your answers to 2 decimal places.) LotsofDebt, Inc. =______ times LotsofEquity, Inc. = ______ times Calculate the debt-to-equity. (Round your answers to 2 decimal places.) LotsofDebt, Inc. =______ times LotsofEquity, Inc. = ______ timesarrow_forwardOlivia Hawkins is evaluating a bond investment in Westlake Company. She is concerned about the corporation’s ability to make future interest payments. Determine the company’s time’s interest earned ratio if the company has operating income before interest and taxes of $12,235 million and interest expense of $1,025 million and interpret it.arrow_forwardComet Company plans to build a new corporate headquarter facility in Plano, Texas. Accordingly, the company must consider various ways to finance this capital expansion. The Board of Directors believes that there are many advantages to issuing both debt and equity securities to obtain capital. The Board must consider the impact of issuing debt or equity securities on the company’s financial results as well as its profitability ratios and other metrics. The Board should also consider the expectations of investors related to the type of financing the company chooses. Options for financing the company’s expansion include issuing preferred stock, common stock, or bonds. Prepare a memo (in no more than 2 pages) discussing the advantages and disadvantages of debt and equity financing and recommend which option you believe is best to Comet Company’s Board of Directors. Include an analysis of your recommendation whereby you specifically address the effect of the financing choice on the…arrow_forward
- Intermediate Accounting: Reporting And AnalysisAccountingISBN:9781337788281Author:James M. Wahlen, Jefferson P. Jones, Donald PagachPublisher:Cengage Learning