Dividend Policy

Zoom Session 6
 Residual Dividend Model

1. It determines the optimal capital budget

2. Given its target capital structure, it determines the amount of equity
needed to finance that budget
3. It uses retained earnings to meet equity requirements to the extent
possible
4. It pays dividends only if more earnings are available than are needed to
support the optimal capital budget.

The word residual implies “leftover,” and the residual policy implies that
dividends are paid out of “leftover” earnings.
Residual Model for Dividends
 Example

• Required capital budget = $800,000.

• Target capital structure= 40% debt, 60% equity.
• Net income= $600,000 (forecast).
• How much dividend should be paid out?
Example
If the net income (NI) drops to $400,000?
If rises to $800,000?
Any Questions??