A firm has $800,000 in paid-in-capital, retained earnings of $40,000 (including the current year's earnings), and $25,000 shares of common stock outstanding. In the current year, it has $29,000 of earnnings available for common stockholders.

a.) What is the most the firm can pay in cash dividends to each common stock holder? (Assume that legal capital includes all paid-in-capital.)
b.) What effect would a cash dividend of $0.80 per share have on the firms balance sheet entries?

The correct answer for option (a) is $1.6 per share and for option (b) is decrease in cash and retained earning.

Explanation:

According to the scenario, the computation for the given data are as follows:

(a) We can calculate the amount that firm can pay in cash dividend by using following formula:

Amount to pay in cash dividend = $40,000 ÷ 25,000

= $1.6 per share

(b). If the cash dividend is $0.80 per share than the cash and retained earning can be calculated as follows:

Cash and retained earning = $0.80 × 25,000 = $20,000

As $20,000 is less than previous, than it will decrease the cash and retained earning.