Question

The capital budget forecast for the Santano Company is $725,000. The CFO wants to maintain a target capital structure of 45% debt and 55% equity, and it also wants to pay dividends of $425,000. If the company follows the residual dividend policy, how much income must it earn, and what will its dividend payout ratio be?

Select the correct answer.

a. NI = $823,750 Payout = 51.59%

b. NI = $822,990 Payout = 51.51%

c. NI = $823,180 Payout = 51.53%

d. NI = $823,370 Payout = 51.55%

e. NI = $823,560 Payout = 51.57%

Answer 1

Dividend payout =Net income-(Capital budget*Weight of equity)

425,000=Net income-(0.55*725,000)

Net income=425,000+398750

=$823750

Dividend payout ratio=Dividend payout/Net income

=425,000/823750

=51.59%(Approx).

Hence the correct option is:

a. NI = $823,750

Payout = 51.59%