There are also some disadvantages in long-term financing with debt that must be carefully reviewed by management and the board of directors. The most serious disadvantage is the possibility that the corporation might earn less than $6 million before interest expense and income taxes. The interest expense is a fixed amount. It must be paid to creditors at specified times, unlike dividends. If actual income before interest and income taxes decreased by only $400,000, net income under plan 1 would fall to $1,000,000. Earnings per share would then be the same as that of plan 3 ($10 per common share).
Another disadvantage is the fact that debt must be repaid at maturity, whether or not the corporation is financially able to do so. Shares do not have to be repaid.
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