Question: TRANE Corporation plans to raise $4million to pay off its existing short-term bank loan of $1.2 million and to increase total assets by $2,800,000. The bank loan bears an interest rate of 11 percent. The company's president owns 55% of the 10,000,000 shares of common stock and wishes to maintain control of the company. The company's tax rate is 30 percent. Balance s0heet information is shown below. The company is considering two alternatives to raise the $4 million:
(1) sell common stock at $10 per share, or
(2) Sell bonds at a 12% coupon, each $1,000 bond carrying 50 warrants to buy common stock at $15 per share. Current Balance Sheet Current Liabilities $1,500,000 Common Stock, Par $0.10+ new stock 5,000,000 Retained earnings 700,000 Total Assets $3,200,000 Total claims $3,200,000
a. Show the new balance sheet under both alternatives. For Alternatives 2, show the balance sheet after exercise of the warrants.
b. Calculate the president's ownership position for both alternatives. He doesn't buy any of the additional shares.
c. Calculate earnings per share for both alternatives, assuming that EBIT is 12% of total assets.
d. Calculate the debt ratio under both alternatives e. Which alternative do you recommend and why?