Residual dividend model Welch Company is considering three independent projects,

Question

Residual dividend model

Welch Company is considering three independent projects, each of which requires a $5 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 30% debt and 70% common equity, and it expects to have net income of $12,494,000. 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 = 15% IRR = 19% Project M (Medium risk): Cost of capital = 13% IRR = 11% Project L (Low risk): Cost of capital = 8% IRR = 10%

Explanation / Answer

Net income [A] Minimum return required [B] Residual income [A-B] Pauout ratio =Residual income /net income H 12,494,000 5,000,000* .19 = 950,000 11544000 11544000/12494000= 92.40% M 12,494,000 5000000*.11= 550000 11944000 11944000/12494000= 95.60% L 12,494,000 5000000*.08 = 400000 12094000 12094000/12494000=96.80%

Related Questions

Navigate

• Browse (All)
• Browse R
• Subjects

---

---

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