FarmCo, Inc. follows a policy of paying out cash dividends equal to the residual
ID: 2490539 • Letter: F
Question
FarmCo, Inc. follows a policy of paying out cash dividends equal to the residual amount that remains after funding 60 percent of its planned capital expenditure. The firm tries to maintain 40 percent debt and 60 percent equity capital structure and does not plan on issuing more stock in the coming year. FarmCo's CFO has estimated that the firm earn $12 million in the current year. a. If the firm maintain its target financing mix and does not issue any equity next year, what is the most it could spend on capital expenditure next year given its earning estimate? b. If FarmCo's capital budget for next year is $9 million how much will the firm pay in divided and what is the resulting dividend payout percentage?Explanation / Answer
a.
Capital expenditure funded through income = 60%
Expected income = $12 million
Maximum spending on capital expenditure = Income/60% = $12 million/60% = $20 million
At this maximum level, the firm will not pay any cash dividends.
b.
Capital budget for next year = $9 million
Capital expenditure to be funded by the income = $9 million * 60% = $5.40 million
Residual income paid out as cash dividend = $12 million - $5.40 million = $6.60 million
Dividend payout percentage = Dividend paid/Income = $6.60 million/$12 million = 55%
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.