Problem $17-2$ Agency Costs

$14\mathrm{.}28$ points

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Tom Scott is the owner, president, and primary salesperson for Scott Manufacturing. Because of this, the company's profits are driven by the amount of work Tom does. If he works $50$ hours each week, the company's EBIT will be $$560,000$ per year; if he works a $60-$hour week, the company's EBIT will be $$645,000$ per year. The company is currently worth $$3\mathrm{.}3$ million. The company needs a cash jifusion of $$1\mathrm{.}4$ million and can issue equity or issue debt with an interest rate of $8$ percent. Assume there are no corporate taxes.

a$.$ What are the cash flows to Tom under each scenario? $($Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to the nearest whole number, e$.$g$.,1,234,567.)$

b$.$ Under which form of financing is Tom likely to work harder?

$\backslash$table$[[$a$.$ Debt issue and $50-$hour week$],[$a$.$ Debt issue and $60-$hour week$],[$a$.$ Equity issue and $50-$hour week$],[$a$.$ Equity issue and $60-$hour week$],[$b$.$ Which form of financing is Tom likely to work harder?$]]$