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E15–19 Knutsen Financial Services Ltd

Finance

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E15–19 Knutsen Financial Services Ltd. needs to raise $3,000,000 to expand company operations. Knutsen’s president is considering two options:

• Plan A: $3,000,000 of 4 percent bonds payable to borrow the money

• Plan B: 300,000 common shares at $10.00 per share

Before any new financing, Knutsen Financial Services Ltd. expects to earn net income of $900,000, and the company already has 300,000 common shares outstanding. The president believes the expansion will increase income before interest and income tax by $600,000. The company’s income tax rate is 30 percent.

Required

Prepare an analysis similar to Exhibit 15–9 on page 842, to determine which plan is likely to result in the higher earnings per share. Which financing plan would you recommend for Knutsen Financial Services Ltd.? Give your reasons.