Tim Smith is the owner, president, and primary salesperson for Blue Manufacturin

Question

Tim Smith is the owner, president, and primary salesperson for Blue Manufacturing. Because of this, the company's profits are driven by the amount of work Tim does. If he workds 40 hours each week, the company's EBIT will be $405,000 per year, and if he works a 50-hour week, the company's EBIT will be $505,000 per year. the company is currently worth $2054 million. The company needs a cash infusion of $1.3 million, and it can issue equtiy or issue debt with an interest rate of 9.8 percent. Assume there are no corporate taxes.(round answer to the nearest whole dollare amount).

What are the cash inflow to Tim under each scenario?

                                          Debt issue         Equity issue

40 hour week cash flow   $________          $_________

50 hour week cash flow   $________          $_________

Explanation / Answer

under debt issue

for 40 hour week cash flow

cash inflow = EBIT - interest = 405000 - 1300000 * 9.8% = 277600

for 50 hour week

cash inflow = 505000 - 127400 = 377600

under equity issue

for 40 hour week

tims owenership percentage = 2054/(2054+1.3) = 99.94%

cash inflow = 99.94% * 405000 = 404757

for 50 hor week

cash inflow = 99.94% * 505000 = 504697

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