Whitman Antique Cars Inc. has the following data, and it follows the residual dividend model. Some Whitman family members would like more dividends, and they also think that the firm's capital budget includes too many projects whose NPVs are close to zero. If Whitman reduced its capital budget to the indicated level, by how much could dividends be increased, holding other things constant?

Original capital budget
$3,000,000
New capital budget
$2,150,000
Net income
$3,500,000
% Debt
35%

Dividend payout will increase by (1,550,000- 2,102,500) =$552500

Explanation:

                                                                                        old                       new

capital budgeting                                                       3000000               2150000

net income                                                               3500000                 3500000

equity needed to support capital budgeting

                                                                                       65%                           65%

Equity needed =( capital budgeting * equity%)      1950000               1397500

dividend payout = net income - equity needed    1,550,000              2,102,500

$552500

Explanation:

The proportion of debt is given so the equity proportion can be calculated

Equity = 1 - debt ratio

           =1- 35%

            =65%

According the information the residual dividend model will be used to calculate the dividend both in the existing and the new budget

Dividend of original = net income - (original capital budget×equity ratio )

                                  =3500000-(3000000×0.65)

                                  =3500000-1950000

                                  =$1550000

New capital Budget = 3500000 - (2150000 ×0.65)

                                  =3500000 -1397500

                                  =21025000

Then the increase will be the difference between the two

Increase = 2102500 - 1550000

               =$552500