Question

Dividend constraints Afirm has $850,000 in paid-in capital, retained earnings of $42.000 (including the current year's earnings), and 26,000 shares of common stock outstanding in the current year, it has $30,000 of earnings available for the common stockholders. a. What is the most the firm can pay in cash dividends to each common stockholder? (Assume that legal capital includes all paid-in capital.) b. What effect would a cash dividend of $1.11 per share have on the firm's balance sheet entries? c. If the firm cannot raise any new funds from external sources, what do you consider the key constraint with respect to the magnitude of the firm's dividend payments? a. If legal capital is assumed to include all paid-in capital, the most the firm can pay in cash dividends to each common stockholder is $ the nearest cent.) (Round to

Answer 1

a) If the legal capital Includes all paid in capital:

Max. Cash dividend payable to each Common Stockholder = Retianed Earnings/No. of Common Stock Outstanding

= 42000/26000

= 1.615 $ per stock

b) If Company Pays 1.11$ per share , Total dividend payable = 1.11*26000= 28860 $

The Following entries has to be passed

Retained Earnings a/c ---------DR 28860

To Dividend Payable a/c 28860

Dividend Payable a/c ----------DR 28860

To Cash and Bank a/c 28860

At The end , Cash Balance and Retained earnings Balance should be reduced by 28860 $

c) If the Company Cannot raise Funds from Outside and It pays Dividends at above magnitude then Working Capital of the firm will be badly effected and its Operations may Block.