Tom Scott is the owner, president. and primary salesperson for Scott Manufacturi

Question

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 40 hours each week. the company?s EBIT will be $600.000 per year if he works a 50-hour week. the company?s EBIT will be $725.000 per year. The company is currently worth $3.70 million. The company needs a cash infusion of $1.80 million, and it 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? (Enter your answers n dollars. not millions of dollars (e.g. 1,234,567). Do not round intermediate calculations.) b. Under which form of financing is Tom likely to work harder? Debt issue Equity issue

Explanation / Answer

Debt Issue

Answer:

Under Debt Issue Tom is likely to work harder since under Debt Issue Interest is also to be paid.

Particulars 40 Hours 50 Hours EBIT 600000 725000 Less Interest @ 8% 48000 58000 Earning After Tax 552000 667000

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