9) Residual Dividend Policy. For this and the next question: Caesar Machinery is
ID: 2768876 • Letter: 9
Question
9) Residual Dividend Policy. For this and the next question: Caesar Machinery is a large machine shop in the southeast side of town. The company's capital budget for the next fiscal year is $60 million. Its optimal capital structure calls for a debt ratio of 60%. The company's earnings before interest and taxes (EBIT) are $98 million for the year. The firm has $200 million in assets, pays an average interest of 10% on all its debt, and has a marginal tax rate of 35%. The firm maintains a residual dividend policy and will keep its optimal capital structure intact. Calculate the company's net income.
A) $98 Million
C) $55.90 Million
D) None of the above
10) Calculate the dividend amount after the financing of the company's capital budget.
A) $36 Million
C) $31.90 Million
D) $55.90 Million
11) CAPITAL BUDGETING. If an investment's IRR is 15% and its profitability index is 1.85, its required rate of return
A) must be less than 15%
C) must be equal to 15%
D) can be greater then or less than 15%
12) CF Estimation. In which of the following situations would a firm's net cash flow from a capital project be affected?
A) A firm spent $5,000 in the previous year in a training program for a group of six engineers who will operate a highly computerized production machinery now being evaluated
C) A new high tech manufacturing equipment will replace an existing one. The annual insurance premium on the existing equipment is $1,000. The replacement equipment would also require an annual insurance cost of $1,000
D) None of the above cash flows would be considered an incremental net cash flow in capital budgeting
Explanation / Answer
Answer for question 9
Total assets = $200 million
Debt ratio = 60%
Value of debt in capital structure = $200 × 60%
= $120 million
Interest rate = 10%
Annual interest on debt = $120 × 10%
= 12 million
EBIT = $98 million
EBT = $98 - $12
= $86
Tax rate = 35%
Net income = $86 × (1 – 35%)
= $55.90 million
Net income is $55.90 million. Hence, option (C) is correct answer.
Answer for question 10
Total fund require as capital budget = $60 million
Debt financing = 60% = $ 36 million
Equity financing = $60 - $36
= $24
So total dividend = $55.9 - $24
= $31.9 million
Total dividend is $31.9 million.
Hence, option (C) is correct answer.
Answer for question 11
If IRR if the project is 15% and Profitab9ility index is 1.85, then required rate of return on project must be less than 15%.
Hence, option (A) is correct answer.
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