Issuing Debt Instead of New Equity in a Closely Held

question 44

Multiple Choice

Issuing debt instead of new equity in a closely held firm more likely:

• A) causes the owners-managers to work less hard and shirk their duties as they have less capital at risk.
• B) causes the owner-managers to consume more perquisites because the cost is passed to the debtholders.
• C) causes both more shirking and perquisite consumption since the government provides a tax shield on debt.
• D) cause agency costs to fall as owner-managers do not need to worry about other shareholders.
• E) cause the owner-manager to reduce shirking and perquisite consumption as the excess cashflow must be used to meet debt payments.

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Definitions:

Indirect Cost

Expenses that are not directly attributable to a specific cost object, such as overhead costs.

Plant Manager's Salary

A fixed cost not directly tied to the level of production or sales, representing the compensation of the individual overseeing the operations of a manufacturing facility.

Factory Overhead

All indirect costs associated with manufacturing, excluding direct materials and direct labor, such as utilities, depreciation, and maintenance.

Direct Materials

Raw materials that can be directly attributed to the production of a product.