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

Approximately $150,000 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?

Transcribed Image Text:

EBIT Interest expense Income before tax Taxes Net income $1000 0 1000 -220 $780