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Dianaton Ltd is considering a risky investment in offshore drilling. To finance the ongoing working...

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Accounting

Dianaton Ltd is considering a risky investment in offshore drilling. To finance the ongoing working capital needs of the project over 15 years, $10 million will be needed if it continues to be successful. Several suggestions for finance have been put before the board of directors:

1. Issue more shares to the public or by private placement

2. Borrow the required cash

3. Establish another company (in which Dianaton Ltd will be the only shareholder) and use that company to borrow the money, relying on the limited liability principle if the project fails.

Assume that the expected returns on ordinary shareholders' equity are the same for all options.

Required a) How should Dianaton Ltd's board of directors rank the first two options? Identify and explain two factors that the board of directors require to consider when making decision about the first two options.

b) What are the advantages and disadvantages of the third option? Should the board undertake the third option? Consider multiple stakeholders in your answer.

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