Gilliland Airlines is considering two alternatives for the financing of a purchase of fleet of airplanes. These two alternatives are:

1. Issue 90,000 shares f common stock at $30 per share. (Cash dividends have not been paid nor is the payment of any contemplated.)
2. Issue 10%, 10-year bonds at face value for $2,700,000.

It is estimated that the company will earn $800,000 before interest and taxes as a result of this purchase. The company has an estimated tax rate of 30% and has 120,000 shares of common stock outstanding prior to the new financing.

Instructions

Determined the effect on net income and earnings per share for these two method of financing.

Solution