The Clydesdale Corporation has an optimal capital structure consisting of 70 percent debt and 30 percent
equity. The marginal cost of capital is calculated to be 14.75 percent.
Total earnings available to common
stockholders for the coming year total $1,200,000. Investment opportunities are:
Project Investment IRR (%)
A $1,000,000 22
B $750,000 18
C $1,250,000 15
D $500,000 14
a. According to the residual dividend theory, what should the firm's total dividend payment be?
b. If the firm paid a total dividend of $675,000, and restricted equity financing to internally generated funds,
which projects should be selected? Assume the marginal cost of capital is constant.
a. Select projects A, B, C for an investment of $3,000,000
$3,000,000 × .7 = $2,100,000 debt
$3,000,000 × .3 = $900,000 common equity
Dividend payment $1,200,000 - $900,000 = $300,000
b. $1,200,000 - $675,000 = $525,000 for investment. Choose projects A and B. (Project A requires an equity investment
of $300,000 and project B requires an equity investment of $225,000.)
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