Response to the following problem:
Assume that Ali Perry, Byron Myers, and Brenton Taylor of Inogen to launch a new retail chain to market their portable oxygen systems. This chain, named O-to-Go, requires $500,000 of start-up capital. The three contribute $375,000 of personal assets in return for 15,000 shares of common stock, but they need to raise another $125,000 in cash. There are two alternative plans for raising the additional cash. Plan A is to sell 3,750 shares of common stock to one or more investors for $125,000 cash. Plan B is to sell 1,250 shares of cumulative preferred stock to one or more investors for $125,000 cash (this preferred stock would have a $100 par value, an annual 8% dividend rate, and be issued at par).
If the new business is expected to earn $72,000 of after-tax net income in the first year, what rate of return on beginning equity will the three (as a group) earn under each alternative? Which plan will provide the higher expected return to them?
If the new business is expected to earn $16,800 of after-tax net income in the first year, what rate of return on beginning equity will the three (as a group) earn under each alternative? Which plan will provide the higher expected return to them?
Analyze and interpret the differences between the results for parts 1 and 2.