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Determining a Dividend Payout

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A company has a target capital structure that consists of 40 percent debt and 60 percent equity. The company's capital budget for next year is $10 million. Axel expects net income of $8 million. The company's cost of capital is 12 percent.

a. How much will the company pay out in dividends if it follows a residual dividend policy?

b. What is the company's dividend payout ratio if it pays the dividends calculated above?

c. Is it likely the company will follow a residual dividend policy? Why or why not?

d. If the company decided to pay out $4.5 million in dividends, how much would it need to raise in equity outside the company?

e. Should the company go ahead with a project of average risk that generates a 10 percent rate of return? Why or why not?

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