Why is Common Stock Nonrights go with this answer? Mistral Yachts: Mistral Yacht

Question

Why is Common Stock Nonrights go with this answer?

Mistral Yachts: Mistral Yachts is closely held company that was founded in 1970 by Gal Billow to build a top-quality line of sailboats. The company's debt ratio is 48 percent, compared with an average ratio of 36 percent for sailboat companies in general. The stock is owned in eual parts by ten individuals, none of whom is in a position to put additional funds into the business. Sales for the most recent year were $12 million, and earnings after taxes amounted to $720,000. Total assets, as of the lastest balance sheet, were $9.6 million, Mistral Yachets needs an additional $4 million to finance expansion during the current fiscal year. Given the worldwide growth in leisure-time activities and interest in sailling in partcular, the firm anticipiates additional outside capital needs in the years ahead.

Explanation / Answer

Debt Ratio = 48%        (Against the industry standard of 36%)

Sales = $12 Million

Earnings after tax = $720000

Additional Capital Required = $4 Million

Now, Additional $4million can be financed through following options:

1. Get additional Loan of $4 million

2. Get additional capital from equity holders (which is not possible)

3. Issue preferred stock (stock with non rights) for $4 Million

4. Issue common stock

Best option is the option 3 which says to Issue preferred stock (stock with non rights) for $4 Million as it does not give voting rights to new preferred stock holders.

Option1 cannot be chosen as it increases the debt burden of the company. also, it increases the financial risk which can lead company towards liquidation at the time of financial crunch.

Option 4 will dilute the holding and control of the existing shareholders. also, floating and other cost will be very high for the issue.

So the best option is option 3.

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