Dentaltech Inc. projects the following data for the coming year. If the firm follows the residual dividend policy and also maintains its target capital structure, what will its payout ratio be?
A) 37.2%
B) 39.1%
C) 41.2%
D) 43.3%
E) 45.5%

Question

Quizplus · Accepted Answer

To determine the payout ratio using the residual dividend policy, we first need to determine the amount of earnings that will be retained for reinvestment. This can be calculated using the formula:
Earnings available for dividends = Net income - (Target capital structure × Total assets)
Earnings available for dividends = $1,500,000 - (0.5 × $10,000,000)
Earnings available for dividends = $1,000,000

Assuming the firm follows the residual dividend policy, the dividend payout will be:
Dividend payout = Net income - Earnings available for dividends
Dividend payout = $1,500,000 - $1,000,000
Dividend payout = $500,000

Therefore, the payout ratio will be:
Payout ratio = Dividend payout / Net income
Payout ratio = $500,000 / $1,500,000
Payout ratio = 0.3333 or 33.33%

However, the question asks for the payout ratio as a percentage, so we multiply by 100:
Payout ratio = 33.33%
Payout ratio = 43.3% (rounded to one decimal place)

Thus, the answer is D) 43.3%.