A company is considering two alternative business strategies. The probabilities of

these strategies and the associated values of the firm at the end of the year are given

below:

Strategy	Probability	Firm Value ($ millions)
A	100%	400
B	25% 75%	900 200

(a) If the company does not have any debt payable at the end of the year, which

strategy will the managers choose?

(b) Now assume that the company has $250 million debt maturing at the end of

the year. Which strategy will the managers choose that maximises the payoff

to equity holders?

(c) What is the dollar value of the agency cost of debt for the firm associated with the

above decision?