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Maximum amount of capital spending possible

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(a) Farside Corporation follows a strict residual dividend policy. Its optimal capital structure is 75% debt 25% equity (i.e the D/E ratio = 3).. Farside's earnings for the year = $150,000. If Farside's capital budget for the coming year is $750,000, will it pay a dividend? If so, how much? What is the maximum amount of capital spending possible with no new equity issued (i.e. using internal funding only)?

(b) Suppose, for the year just ended, Contrarian declared dividends totaling $10.5 million. Earnings totaled $42 million. Borrowing for the coming year is planned at $13 million. Assume Contrarian uses a strict residual dividend policy. What is the planned capital budget? What is the target (optimal) capital structure implicit in these calculations?

Reference no: EM132654748

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