Question

DOT Foods, Inc.,together with its subsidiaries, operates as a food company worldwide. It operates through four segments: Beef, Pork, Chicken, and Prepared Foods. DOT forecasts that its net income will be $12 million this year. The company has no depreciation expense so its net cash flow is $12 million, and its target capital structure consists of 70 percent equity and 30 percent debt. Tyson’s capital budget is $10 million.  

Required:

a)      If   the company   follows   a   residual   distribution   policy   (with   all distributions in the form of dividends), what portion of its net income should it pay out as dividends this year?

b)      How do you know if a dividend is safe? Briefly discuss.

Answer 1

B- To know whether the dividend is safe or not it is very much important to know the amount of the dividend paid does not matter, the thing which matters is payout ratio, the payout ratio explains the proportion of the net earning distributed as dividend so a sound track record of payout ratio helps to know the whether this payout ratio is sustainable and healthy or not. Another point which keeps to know the safety of dividend is trends of dividend payment, if the company is paying dividend over the years this shows the sound profitability of the company and profitability of the company is another source from where we can understand the safety of the dividend.

A-

		Million
Capital budget		10
net income		12
proportion of equity in proposed capital expenditure	10*70%	7
Amount of net income to be used in capital expenditure		7
residual profit	12-7	5
amount to be paid as dividend	12-7	5
portion of its net income should it pay out as dividends this year	5/12	41.67%
41.67% of net income would be distributed as dividend to shareholders of the company.