1. Fidelity company has a target capital structure that
consists of 40 percent debt and 60 percent equity. The company’s capital budget
for next year is $10 million. Axel expects net income of $8 million. The
company’s cost of capital is 12 percent.

a. How much will the company pay out in dividends if it
follows a residual dividend policy?

b. What is the company’s dividend payout ratio if it pays
the dividends calculated above?

c. Is it likely the company will follow a residual dividend
policy? Why or why not?

d. If the company decided to pay out $4.5 million in
dividends, how much would it need to raise in equity outside the company?

e. Should the company go ahead with a project of average
risk that generates a 10 percent rate of return? Why or why not?

2. Ladle Corporation entered into an agreement with its
investment banker to sell 15 million shares of the company’s stock with Ladle
netting $270 million dollars from the offering. The expected price to the
public was $20 per share.

The out-of-pocket expenses incurred by the investment banker
were $5,000,000.

a. What profit or loss would the investment banker incur if
the issue were sold to the public at an average price of $25 per share?

b. What profit or loss would the investment banker incur if
the issue were sold to the public at an average price of $15 per share?

If the investment banker agrees to handle the issue on a
best efforts basis, earning 7.5 percent of the proceeds, calculate the
investment banker’s profit or loss if all 15 million shares are sold at an
average price of $15. How much will the company receive?