Welch Company is considering three independent projects, each of which requires

Question

Welch Company is considering three independent projects, each of which requires a $4 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects is presented below:

Note that the projects' costs of capital vary because the projects have different levels of risk. The company's optimal capital structure calls for 55% debt and 45% common equity, and it expects to have net income of $9,802,000. If Welch establishes its dividends from the residual dividend model, what will be its payout ratio? Round your answer to two decimal places.

%

Project H (High risk): Cost of capital = 16% IRR = 22% Project M (Medium risk): Cost of capital = 14% IRR = 12% Project L (Low risk): Cost of capital = 8% IRR = 11%

Explanation / Answer

The total financing needed for the three projects is $15million. The firm should raise debt to preserve its current D/E ratio.

With a 50% D/E = $0.50 of debt. Thus, for assets of $1.50, the firm has $1.00 equity and $0.50 debt. The debt to asset ratio is $0.50

Related Questions

Navigate

• Browse (All)
• Browse W
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.