Use the information for Questions 1 and 2:
Boehm Corporation has had stable earnings growth of 8% a year for the past 10 years and in 2013 Boehm paid dividends of $2.6 million on net income of $9.8 million. However, in 2014 earnings are expected to jump to $12.6 million, and Boehm plans to invest $7.3 million in a plant expansion. This one-time unusual earnings growth won't be maintained, though, and after 2014 Boehm will return to its previous 8% earnings growth rate. Its target debt ratio is 35%.
Calculate Boehm's total dividends for 2014 under each of the following policies:
1. (a) Its 2014 dividend payment is set to force dividends to grow at the long-run growth rate in earnings.
(b) It continues the 2013 dividend payout ratio. 2.6 million is the dividend for 2013.
2. (a) It uses a pure residual policy with all distributions in the form of dividends (35% of the $7.3 million investment is financed with debt).
2.555 million
(b) It employs a regular-dividend-plus-extras policy, with the regular dividend being based on the long-run growth rate and the extra dividend being set according to the residual policy.