Consider Two Firms, U and L, Both with $50,000 in Assets

question 9

Essay

Consider two firms, U and L, both with $50,000 in assets. Firm U is unlevered, and firm L has $20,000 of debt that pays 8% interest. Firm U has 1,000 shares outstanding, while firm L has 600 shares outstanding. Mike owns 20% of firm L and believes that leverage works in his favor. Steve tells Mike that this is an illusion, and that with the possibility of borrowing on his own account at 8% interest, he can replicate Mike's payout from firm L.
-Given a level of operating income of $2,500, show the specific strategy that Mike has in mind.

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Definitions:

Bargaining Representative

An individual or organization designated to negotiate employment conditions on behalf of a group of employees.

Commissioned Drug Salesman

A sales representative specifically authorized to sell pharmaceutical drugs, often working on a commission basis.

Car Allowance

is a financial stipend provided by an employer to its employees for the expenses associated with using one's personal car for work purposes.

Legal Action

The process of seeking or enforcing rights through the judicial system, often involving litigation or court proceedings.