Question
A firm has 120m to either invest in projects or pay out as dividends, and it currently has the following investment opportunities: 1) Project A:
A firm has 120m to either invest in projects or pay out as dividends, and it currently has the following investment opportunities: 1) Project A: 60m initial cost, 12m cash inflow in year 1 and growing at a constant rate of 5% for 6 additional years and then ceasing. 2) Project B: 70m initial cost, 10m cash inflow p.a. in first 6 years and then declining at a constant rate of 4% each year indefinitely. At the same point last year, the firm had 100m to either invest in projects or pay out as dividends, and it decided to pay out 20m in dividends. Investors expect this level of pay-out to be maintained. a) If the firm wishes to adopt a stable dividend policy this year, calculate the dividend it will pay on each of its 50 million shares, and determine how it should invest the remainder of its funds if the cost of capital is 10%. Assume projects can be partially invested in.
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