Question

Cendra Brown is analyzing the captal requirements for Reynold Corporation for next year: Kendra forecasts that Reynold will need $13 milion to fund all of iss poseive-kpV projects and her jab is to letermine how to raise the money. Reynold's net income is $10 malion, and it has paid a $3 dividend per share (DPS) for the post several years (2 millon stares of common stock are cutatanding); its thareholders expect the dividend to remain cohssant for the next several years. The coenpany's target capital structure is sow debt and sow equily.

a. Suppose Reynold follows the redidual model and makes all dstributions as dividendi. How much retained earnings will it need to fund its capital budget? Enter yeur annwer in dolars. For examolec an answer of $2 minion should be entered as 2,000,000, not 2 . Round your answer to the nearest deltar
b. If Revnold foisows the residual model with ail ditributions in the form of dividends, what wat be its dividend per share for the upcoming year? pound your answer ts the neares cene. 3 What wall be its payout ratio for the upcoming year? Round your answer to two decinal places.

Answer 1

Reynold Corporation requires $3 million of retained earnings to fund its capital projects. It can pay a dividend per share of $3.50, resulting in a payout ratio of 70% based on the residual model.

Step-by-step explanation:

To address the original question, we must apply the residual dividend model. This model determines dividend payments after setting aside the earnings needed to fund the budgeted capital expenditures.

Here's the breakdown:

• Retained Earnings Needed: Reynold Corporation will need to retain $3 million ($(13 million - $10 million) to fund its capital budget because the net income is $10 million, and they need $13 million in total.
• Dividend Per Share (DPS): If all residual earnings are paid out as dividends, Reynold's DPS would be the current net income minus retained earnings, all divided by the number of shares. So the DPS would be $3.50 (($10 million - $3 million) / 2 million shares).
• Payout Ratio: The payout ratio is calculated by dividing the dividend per share by the earnings per share (EPS). With an EPS of $5 ($10 million / 2 million shares) and a DPS of $3.50, the payout ratio would be 70% ($3.50 / $5).

The final calculation assumes no additional equity is issued and that the current shareholders expect the $3 per share dividend to continue, based on historical payouts.