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c. $22,563
d. $23,750
e. $25,000
63. Chicago Brewing has the following data, dollars in thousands. If it
follows the residual dividend model, what will its dividend payout
ratio be?
Capital budget $5,000
% Debt 45%
Net income (NI) $5,300
a. 48.11%
b. 50.52%
c. 55.57%
d. 61.13%
e. 67.24%
64. LA Moving Company has the following data, dollars in thousands. If it
follows the residual dividend model, what will its dividend payout
ratio be?
Capital budget $5,000
% Debt 45%
Net income (NI) $7,000
a. 60.71%
b. 63.75%
c. 70.13%
d. 77.14%
e. 84.85%
65. New Orleans Builders Inc. has the following data. If it follows the
residual dividend model, what is its forecasted dividend payout ratio?
Capital budget $7,500
% Debt 35%
Net income (NI) $6,500
a. 18.23%
b. 20.25%
c. 22.50%
d. 25.00%
e. 27.50%
66. Ross-Jordan Financial has suffered losses in recent years, and its
stock currently sells for only $0.50 per share. Management wants to
use a reverse split to get the price up to a more “reasonable” level,
which it thinks is $25 per share. How many of the old shares must be
given up for one new share to achieve the $25 price, assuming this
transaction has no effect on total market value?
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a. 47.50
b. 49.88
c. 50.00
d. 52.50
e. 55.13
(14-6) Stock split C R Answer: b MEDIUM
67. Keys Financial has done extremely well in recent years, and its stock
now sells for $175 per share. Management wants to get the price down
to a more typical level, which it thinks is $25 per share. What stock
split would be required to get to this price, assuming the transaction
has no effect on the total market value? Put another way, how many new
shares should be given per one old share?
a. 6.98
b. 7.00
c. 7.35
d. 7.72
e. 8.10
68. Whited Products recently completed a 4-for-1 stock split. Prior to the
split, its stock sold for $120 per share. If the firm’s total market
value increased by 5% as a result of increased liquidity and favorable
signaling effects, what was the stock price following the split?
a. $29.93
b. $31.50
c. $33.08
d. $34.73
e. $36.47
69. Clark Farms Inc. has the following data, and it follows the residual
dividend model. Currently, it finances with 15% debt. Some Clark
family members would like for the dividends to be increased. If Clark
increased its debt ratio, which the firm’s treasurer thinks is
feasible, by how much could the dividend be increased, holding other
things constant?
Capital budget $3,000,000
Net income (NI) $3,500,000
% Debt now 15%
% Debt after change 60%
a. $1,093,500
b. $1,215,000
c. $1,350,000
d. $1,485,000
e. $1,633,500
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70. Purcell Farms Inc. has the following data, and it follows the residual
dividend model. Currently, it finances with 15% debt. Some Purcell
family members would like for the dividend payout ratio to be
increased. If Purcell increased its debt ratio, which the firm’s
treasurer thinks is feasible, by how much could the dividend payout
ratio be increased, holding other things constant?
Capital budget $3,000,000
Net income (NI) $3,500,000
% Debt now 15%
% Debt after change 60%
a. 38.6%
b. 40.5%
c. 42.5%
d. 44.7%
e. 46.9%
71. Whitman Antique Cars Inc. has the following data, and it follows the
residual dividend model. Some Whitman family members would like more
dividends, and they also think that the firm’s capital budget includes
too many projects whose NPVs are close to zero. If Whitman reduced its
capital budget to the indicated level, by how much could dividends be
increased, holding other things constant?
Original capital budget $3,000,000
New capital budget $2,000,000
Net income $3,500,000
% Debt 40%
a. $486,000
b. $540,000
c. $600,000
d. $660,000
e. $726,000
72. Pavlin Corp.’s projected capital budget is $2,000,000, its target
capital structure is 40% debt and 60% equity, and its forecasted net
income is $900,000. If the company follows the residual dividend
model, how much dividends will it pay or, alternatively, how much new
stock must it issue?
a. $462,983; $244,352
b. $487,350; $257,213
c. $513,000; $270,750
d. $540,000; $285,000
e. $ 0; $300,000
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73. Grullon Co. is considering a 7-for-3 stock split. The current stock
price is $75.00 per share, and the firm believes that its total market
value would increase by 5% as a result of the improved liquidity that
should follow the split. What is the stock’s expected price following
the split?
a. $32.06
b. $33.75
c. $35.44
d. $37.21
e. $39.07
74. Walter Industries is a family owned concern. It has been using the
residual dividend model, but family members who hold a majority of the
stock want more cash dividends, even if that means a slower future
growth rate. Neither the net income nor the capital structure will
change during the coming year as a result of a dividend policy change
to the indicated target payout ratio. By how much would the capital
budget have to be cut to enable the firm to achieve the new target
dividend payout ratio?
% Debt 35%
% Equity = 1.0 – % Debt 65%
Capital budget under the residual dividend model $5,000,000
Net income; it will not change this year even if
dividends increase $3,500,000
Equity to support the capital budget
= % Equity × Capital budget $3,250,000
Dividends paid = NI − Equity needed $250,000
Currently projected dividend payout ratio 7.1%
Target dividend payout ratio 70.0%
a. –$2,741,538
b. –$3,046,154
c. –$3,384,615
d. –$3,723,077
e. –$4,095,385
75. Sheehan Corp. is forecasting an EPS of $3.00 for the coming year on its
500,000 outstanding shares of stock. Its capital budget is forecasted
at $800,000, and it is committed to maintaining a $2.00 dividend per
share. It finances with debt and common equity, but it wants to avoid
issuing any new common stock during the coming year. Given these
constraints, what percentage of the capital budget must be financed
with debt?
a. 30.54%
b. 32.15%
c. 33.84%
d. 35.63%
e. 37.50%
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76. Del Grasso Fruit Company has more positive NPV projects than it can
finance under its current policies without issuing new stock, but its
board of directors had decreed that it cannot issue any new shares in
the foreseeable future. Your boss, the CFO, wants to know how the
capital budget would be affected by changes in capital structure policy
and/or the target dividend payout policy. You obtained the following
data, which shows the firm’s projected net income (NI), its current
capital structure and dividend payout policies, and three possible new
policies. Projected net income for the coming year will not be
affected by a policy change. How much larger could the capital budget
be if (1) the target debt ratio were raised to the indicated amount,
other things held constant, (2) the target payout ratio were lowered to
the indicated amount, other things held constant, or (3) the debt ratio
and dividend payout were both changed by the indicated amounts?
Current Policy Changes
Policy Increase Debt Lower Payout Do Both
Projected NI $175.0 $175.0 $175.0 $175.0
% Debt 25.0% 75.0% 25.0% 75.0%
% Equity 75.0% 25.0% 75.0% 25.0%
% Payout 65.0% 65.0% 20.0% 20.0%
a. $133.0; $ 85.5; $389.6
b. $140.0; $ 90.0; $410.1
c. $147.4; $ 94.8; $431.7
d. $155.2; $ 99.8; $454.4
e. $163.3; $105.0; $478.3
77. Ellinger Inc. is a mature company in a mature industry. It plans to
distribute all of its income at year-end, and its earnings are not
expected to grow. The CFO is now considering whether the firm should
distribute income to stockholders as dividends or use the funds to
repurchase common stock. She believes the P/E ratio would not be
affected by a repurchase. Moreover, she believes that the stock can be
repurchased at the end of the year at the then-current price, which is
expected to be the now-current price plus the dividend that would
otherwise be received at year-end. Based on the data shown below, and
disregarding any possible tax effects, how much would a stockholder who
owns 100 shares gain if the firm used its net income to repurchase
stock rather than for dividends?
Net income (NI) expected for the coming year $625,000
Currently outstanding shares 100,000
Current stock price $40.00
a. $564.06
b. $593.75
c. $625.00
d. $656.25
e. $689.06
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CHAPTER 14
ANSWERS AND SOLUTIONS
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