ABC has EBIT of $2 million, and a 40% tax rate. It has $1.5 million in annual depreciation and has to make annual interest payments of $1 million. It also pays $500,000 a year into a sinking fund. ABC wishes to pay $2 a share dividend on its 250,000 shares. A bond covenant says it cannot do so unless its cash flow (before dividends and sinking fund requirements) exceeds the sum of dividends, interest and sinking fund payments.

a. Can ABC pay the dividend?

b. If yes, what is the maximum it can pay?

Answer rating: 100% (QA)

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