13. Empire Industries forecasts net profit this coming year as shown below (in thousands of dollars):

EBIT	$1 000
Interest expense	0
Profit before tax	1 000
Taxes	300
Net profit	700

Approximately $200 000 of Empire's earnings will be needed to make new, positive-NPV investments. Unfortunately, Empire's managers are expected to waste 10% of its net income on needless perks, pet projects and other expenditures that do not contribute to the firm. All remaining income will be distributed to shareholders.

a. What are the two benefits of debt financing for Empire?

b. By how much would each $1 of interest expense reduce Empire's distributions to shareholders?

c. What is the increase in the total funds Empire will pay to investors for each $1 of interest expense?

14. The trade-off theory suggests:

A. there is no rational explanation for why firms choose debt levels that are too low to fully exploit the debt tax shield.

B. differences in the magnitude of financial distress costs and the volatility of cash flows cannot explain the differences in the use of leverage across industries.

C. the firm should choose a debt level where the tax savings from increasing leverage are just offset by the increased probability of incurring the costs of financial distress.

D. with higher costs of financial distress, it is optimal for the firm to choose higher leverage.