Problem:
Welch Company is considering three independent projects, each of which requires a $4 million investment. The estimated internal rate of return (IRR) and cost of capital for these projects is presented below:
| Project H (High risk): |
Cost of capital = 15% |
IRR = 20% |
| Project M (Medium risk): |
Cost of capital = 13% |
IRR = 13% |
| Project L (Low risk): |
Cost of capital = 8% |
IRR = 12% |
Note that the projects' costs of capital vary because the projects have different levels of risk. The company's optimal capital structure calls for 55% debt and 45% common equity, and it expects to have net income of $14,903,500.
Required:
Question: If Welch establishes its dividends from the residual dividend model, what will be its payout ratio?
Note: Please provide reasons to support your answer.