QUESTION 6(20 POINTS) ABC is reviewing its capital budget for the upcoming year. It has paid a RM5 dividend per share (DPS) for the past several years, and its shareholders expect the dividend to remain constant for the next several years. The company's target capital structure is 70 percent equity and 30 percent debt, it has 1 million shares of common equity outstanding, and its net income is RM10 million. The company forecasts it would require RM12 million to fund all its profitable projects for the upcoming year. a. If ABC follows the residual model and makes all distribution as dividends, how much retained earnings it will need to fund its capital budget? ( 2 points) b. If ABC follows the residual model with all distributions in the form of dividends, what will be company's dividend per share and pay-out ratio for the upcoming year? ( 2 points) c. If ABC maintains its current RM5 DPS for next year, how much retained earnings will be available for the firm's capital budget? (2 points) d. Suppose ABC's management is firmly opposed to cutting the dividend; that is, it wishes to maintain the RM5 DPS for the next year. Suppose also that the company is committed to funding all profitable projects and is willing to issue more debt (along with the available retained earnings) to help finance the company's capital budget. Assume the resulting change in capital structure has a minimal impact on the company's composite cost of capital, so that the capital budget remains at RM12 million. What proportion of this year's capital budget would have to be financed with debt? (4 points) e. Suppose that ABC's management wants to maintain the RM5 DPS. In addition, the company wants to maintain its target capital structure ( 70 percent equity, 30 percent debt) and its RM12 million capital budget. What is the minimum ringgit amount of new common stock the company would have to issue in order to meet all of its objectives? (4 points) f. Now consider the case in which ABC's management wants to maintain the RM5 DPS and its target capital structure but also wants to avoid issuing new common stock. The company is willing to cut its capital budget in order to meet its objectives. Assuming the company's projects are divisible, what will be the company's capital budget for the next year? (4 points) g. If a firm follows the residual distribution policy, what actions can it take when its forecasted retained earnings are less than the retained earnings required to fund its capital budget? (2 points) QUESTION 6(20 POINTS) ABC is reviewing its capital budget for the upcoming year. It has paid a RM5 dividend per share (DPS) for the past several years, and its shareholders expect the dividend to remain constant for the next several years. The company's target capital structure is 70 percent equity and 30 percent debt, it has 1 million shares of common equity outstanding, and its net income is RM10 million. The company forecasts it would require RM12 million to fund all its profitable projects for the upcoming year. a. If ABC follows the residual model and makes all distribution as dividends, how much retained earnings it will need to fund its capital budget? ( 2 points) b. If ABC follows the residual model with all distributions in the form of dividends, what will be company's dividend per share and pay-out ratio for the upcoming year? ( 2 points) c. If ABC maintains its current RM5 DPS for next year, how much retained earnings will be available for the firm's capital budget? (2 points) d. Suppose ABC's management is firmly opposed to cutting the dividend; that is, it wishes to maintain the RM5 DPS for the next year. Suppose also that the company is committed to funding all profitable projects and is willing to issue more debt (along with the available retained earnings) to help finance the company's capital budget. Assume the resulting change in capital structure has a minimal impact on the company's composite cost of capital, so that the capital budget remains at RM12 million. What proportion of this year's capital budget would have to be financed with debt? (4 points) e. Suppose that ABC's management wants to maintain the RM5 DPS. In addition, the company wants to maintain its target capital structure ( 70 percent equity, 30 percent debt) and its RM12 million capital budget. What is the minimum ringgit amount of new common stock the company would have to issue in order to meet all of its objectives? (4 points) f. Now consider the case in which ABC's management wants to maintain the RM5 DPS and its target capital structure but also wants to avoid issuing new common stock. The company is willing to cut its capital budget in order to meet its objectives. Assuming the company's projects are divisible, what will be the company's capital budget for the next year? (4 points) g. If a firm follows the residual distribution policy, what actions can it take when its forecasted retained earnings are less than the retained earnings required to fund its capital budget? (2 points)
