# divfr - Dividend Framework Solutions Problem 1 a Dividend...

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Dividend Framework: Solutions Problem 1 a. Dividend Payout Ratio = (2 * 50)/480 = 20.83% b. Free Cash Flows to Equity this year Net Income 480 \$ - (Cap Ex - Depr ) (1-DR) 210 \$ - (Chg in WC) (1-DR) 35 \$ FCFE 235 \$ Dividends as % of FCFE = 100/235 = 42.55% c. Note: I changed the riskfree rate to a long term bond rate of 8.5% in the problem. Project Investment Beta IRR Cost of Equity A \$190 mil 0.6 12.00% 11.80% B \$200 mil 0.8 12.00% 12.90% C \$200 mil 1 14.50% 14.00% D \$200 mil 1.2 15.00% 15.10% E \$100 mil 1.5 20.00% 16.75% Accept projects A, C and E. The total investment is \$ 490 million. d. Estimation of FCFE next year Net Income 540 \$ - (Cap Ex - Depr) (1-DR) 168 \$ - (Chg in WC) (1-DR) 35 \$ FCFE 337 \$ e. I may not pay this amount as dividends because of my concerns that I would not be able to maintain these dividends. I would also hold back some cash for future projects, if I feel that investment needs could vary substantially over time. f. If \$ 125 million is paid out as dividends, the cash balance will increase by \$ 212 million [\$337-\$125] Problem 2 a. Estimate the FCFE. Investable Funds 100.00 \$ - (Cap Ex ) (1-DR) 52.50 \$ - Chg in WC (1-DR) - \$ = FCFE 47.50 \$ I am assuming, since there is no information to the contrary, that these projects have risk characertistics similar to the firm. Capital Expenditures Cost of Equity = 15% After-tax Cost of Debt = 6% Debt Ratio = 500/(500+1500) = 25% Cost of Capital = (.18) (.75) + .06 (.25) = 13% Accept projects A, B, C and D: They have returns on capital that exceed the cost of capital. Total Capital Expenditures = 70 Page 1

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Dividend Framework: Solutions Since the returns are on capital, the comparison has to be to cost of capital. b. The company should return \$ 47.5 million to its stockholders. Problem 3 First, estimate the cost of capital, Cost of Equity = 22% After-tax Cost of Debt = 6% Debt Ratio = (100/(100+500)) 16.67% Cost of Capital = 19.33% Second, calculate the NPV of the three projects, In changed the EBIT on the second problem to \$ 15 million per year.
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divfr - Dividend Framework Solutions Problem 1 a Dividend...

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