A company analyst forecasts that a capital budget of $25,000,000 is needed to fund all its positive NPV projects.  The firm has net income of $18,000,000 and 2,000,000 common shares outstanding. The company has paid a $2.00 per share dividend for many years and expects to pay that amount in the future.  The firm's target capital structure is 60% equity and 40% debt.

 

A. Given the firm's capital structure, how much equity does it need to fund its capital budget?

 

B. If the company plans to maintain its dividend, how much external equity will it need to issue (if any) to be able to satisfy its equity funding (in part a)? 

 

C. The CEO is considering cutting the dividend to fund the capital budget with retained earnings only (i.e., without having to issue external equity).  What would the dividend per share have to be to be able to fund all positive NPV projects with retained earnings?

 

D. The Board of Directors of at the company recognizes that cutting the dividend (as in part c) is unwise and will not approve it.  Instead, the board approved an increase in the dividend to $2.50 per share in anticipation of the company's future growth.  Given its capital structure, how much equity would the company need to issue (if any) to pay the increased dividend and provide the necessary equity funding for the capital budget?

Answer rating: 100% (QA)

a To determine the amount of equity needed to fund the capital budget we first need to calculate the total amount of financing required given the capital structure of 60 equity and 40 debt If the tota... View the full answer