Allarco Inc. predicts that earnings in the coming year will be $90,000,000. There are 20,000,000 shares and Allarco Inc. maintains a debt-equity ratio of 6.50.
a) Calculate the maximum investment funds available without issuing new equity. The correct answer was: $675,000,000.00
To reinvest the whole earnings without any equity financing and to keep the debt-equity ratio the same, the maximum funds available is $90,000,000 + (6.50 × $90,000,000) = $675,000,000
b) What will be the increase in borrowing to have the above investment funds? The correct answer was: $585,000,000.00
To keep the debt-equity ratio the same, the new borrowing should be $675,000,000 - $90,000,000 = $585,000,000
c) Suppose the firm uses residual policy. Planned capital expenditures total $45,000,000. Based on this information, what will the dividend per share be? The correct answer was: $4.20 share
D/E = 6.50 implies capital structure is (2/15) equity and (13/15) debt Equity portion of investment plan = (2/15) × $45,000,000 = $6,000,000. Residual = $90,000,000 - $6,000,000 = $84,000,000 Dividend per share = $84,000,000/20,000,000 share(s) = $4.20 per share
d) In part (c), how much borrowing will take place?
The correct answer was: $39,000,000.00
To keep the debt-equity ratio the same, the new borrowing should be $45,000,000 - $6,000,000 = $39,000,000
e) In part (c), What is the addition to retained earnings? The correct answer was: $6,000,000.00
The total dividend is $90,000,000 - (2/15) × $45,000,000 = $84,000,000 Addition to retained earnings = $90,000,000 - $84,000,000 = $6,000,000
f) Suppose Allarco Inc. plans no capital outlays for the coming year. What will the dividend per share be under a residual policy? The correct answer was: $4.50 per share
Since there's no capital outlay for the coming year, the total dividend is $90,000,000. The dividend per share is $90,000,000/20,000,000 share(s) = $4.50 per share
g) In part (f), what will new...
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