 Agency costs occur where there is a conflict of interest among different stakeholders of the firm. In any firm, the top managers are hired and retained as per the directions of the firm's board of directors who by themselves are elected by the firm's stockholders. So these top managers are assumed to work in the best interest of the firm's stockholders. Leverage also creates a conflict of interest as the management decisions in any firm may have different implications for the value of equity and the value of that particular firm. And this potentially because becomes more prominent if the risk of financial distress in that firm is higher. We know that sometimes the managerial decisions become more beneficial for the firm's equity holders and harmful for the debt holder of the firm and even they become more harmful for the overall value of the firm. So let's see to understand this to an example. We have a firm that is under financial distress. The firm has one year outstanding loan of $1 million. The management of the firm is considering a new proposal, a new strategy which seems promoting but risky as well. It requires no upfront investment. There are 50% chances of success and if there is a success, the value of the firm's assets will be increased to $1.3 million. And if there is a failure of that particular strategy, then this will decrease the value of the firm's assets to .30 million dollars. So as a result of adopting this particular strategy, the change on the value of the firm's assets will be negative .1 million. This means that now there is a question that can this negative expected pay of benefit the firm's stockholders. You see that if the firm does nothing, then the firm will eventually go into default but the equity holder will get nothing. And if the firm takes up the risky strategy, then the equity holder will also have nothing to lose because the strategy goes on success. Then the equity holder will receive 300,000 after paying off all the debt of the firm. So giving a 50% chances of success, the equity holders expected to pay off is $150,000. So this means that the gainers in this particular strategy are the stockholders of the firm who are gaining even a gaining an amount of $150,000 despite of the fact that the new strategy has a net decline in the firm's assets by $100,000, where a table that is showing the outcomes for the firm's debt and equity under each strategy. We have in old strategy, we have assets of $900,000, and if we go for nothing, we can pay the 1 million debt in the form of $900,000 only. And in case of success, by paying off the debt, the equity holders will get $300,000 as a payoff and in case of failure, the equity holder will lose nothing. But the debt holders cannot have their full repayment of debt. So if we see the expected pay off for the debt holder, that is only $650,000. So debt holders are basically the losers because the strategy fails, they will bearing the loss. And in case of successful project, the debt holder will be paying their full amount which is $1 million and if the project goes on failure, they will receive only $300,000 as we have seen in the table. So there is a net loss of $250,000 which is the difference between the value of the firm's assets of $900,000 and the net payoff to the debt holders which is $650,000. And that loss of $250,000 is in line with the $100,000 which is expected loss of the riskier strategy and the gain of $150,000 that is going into the pocket of the equity holders. So effectively we can say that they are the equity holders who are gambling with the money of the debt holders. In fact, share holders of financially distressed firm can gain from the decisions only that increases the firm's riskiness sufficiently even if there is a negative NPV of the decisions taken in the firm. Leverage also gives shareholders an incentive to replace low risk assets with the more riskier ones and that is basically the assets substitute problem. To see that increased risk to a negative NPV project reduces the firm value and this had this bad behavior induced the security holders to pay an amount in lesser in the initial stage to the firm. So what is the debt overhang and under estimate investment, under investment problem of financially distressed firms, stakeholders may choose not to fund the new positive NPV problems, NPV projects that is the phenomena of debt overhung because giving up such profitable opportunities cost to the debt holders and the overall firm's value and higher cost of the firm likely to have profitable growth opportunities regarding and that require larger amount of investment in the future. Our financially distressed firms share holders withdraw cash from the firm whenever it becomes possible and that phenomena is termed as cashing out so an extreme form of under investment resulting from the debt overhang problem.