Lane Industries is considering three independent projects, each of which require

Question

Lane Industries is considering three independent projects, each of which requires a $1.7 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects are presented here: Project H (high risk): Cost of capital = 13% IRR = 15% Project M (medium risk): Cost of capital = 10% IRR = 8% Project L (low risk): Cost of capital = 9% IRR = 10% Note that the projects' costs of capital vary because the projects have different levels of risk. The company's optimal capital structure calls for 40% debt and 60% common equity, and it expects to have net income of $4,000,000. If Lane establishes its dividends from the residual dividend model, what will be its payout ratio? Round your answer to 2 decimal places.

Explanation / Answer

Project L Should be accepted as Devidend Payout ratio is higher in this project

Project H Project M Project L Cost of capitaL 13% 10% 9% IRR 15% 8% 10% Investment 1,700,000 1,700,000 1,700,000 Capita; Structure Debt 40% 680000 680000 680000 Equity 60% 1020000 1020000 1020000 Net Income 4,000,000 4,000,000 4,000,000 Less: Interest Payment
to Debt 88400 68000 61200 (680000*Cost of Capital of
the particular Project) Remaing amount paid to Equity 3,911,600 3,932,000 3,938,800 This procet Not
Accepted as IRR is less then Cost of capital Devidend Payout Ratio
=Devidend/ Net Income 0.9779 0.983 0.9847

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