Problem $17-2$ Agency Costs

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 $80$ hours each week, the company's EBIT will be $$635,000$ per year; if he works a

$90-$hour week, the company's EBIT will be $$795,000$ per year. The company is currently

worth $$4\mathrm{.}05$ million. The company needs a cash infusion of $$2\mathrm{.}15$ million and can issue

equity or issue debt with an interest rate of $7$ 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?