a firm has $800,000 in paid-in-capital, retained earnings of $40,000 (including

Question

a firm has $800,000 in paid-in-capital, retained earnings of $40,000 (including the current year's earnings), and $25,000 shares of common stock outstanding. In the current year, it has $29,000 of earnnings available for common stockholders. a.) What is the most the firm can pay in cash dividends to each common stock holder? (Assume that legal capital includes all paid-in-capital.) b.) What effect would a cash dividend of $0.80 per share have on the firms balance sheet entries? c.) If the firm cannot raise any new funds from external sources, what do you consider the key constraint with the respect to the magnitude of the firms dividend payments? Why?

Explanation / Answer

a) maximum (DPS) = (D-SD)/S D - Sum of dividends over a period (usually 1 year) SD - Special, one time dividends S - Shares outstanding for the periOD = $40000/25000 =$1.6 per share b) $20000/$25000=$.80 a $20000 decrease in cash and retained earnings is the result of an $0.80 per share dividend. c) cash is the key constraint , because A firm can't pay out more in dividends unless it has in cash , unless it borrows so it will borrow

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