Answer Choices:
a. Historically, the tax code has encouraged companies to pay dividends rather than retain earnings.
b. If a company uses the residual dividend model to determine its dividend payments, dividend payout will tend to increase whenever its profitable investment opportunities increase relatively rapidly.
c. The more a firm’s management believes in the clientele effect, the more likely the firm is to adhere strictly to the residual dividend model.
d. Large stock repurchases financed by debt tend to increase expected earnings per share if the firm expects to finance itself primarily through equity in the future.
e. A dollar paid out to repurchase stock has the same tax benefit as a dollar paid out in dividends. Thus, both companies and investors should be indifferent between distributing cash through dividends and stock repurchase programs.
Answer:
a. Historically, the tax code has encouraged companies to pay dividends rather than retain earnings.
Question: Which of the following statements is CORRECT?
Answer Choices:
a. If a firm follows the residual dividend model, then a sudden increase in the number of profitable projects would be likely to lead to a reduction of the firm’s dividend payout ratio.
b. The clientele effect explains why so many firms change their dividend policies so often.
c. One advantage of adopting the residual dividend model is that this policy makes it easier for a corporation to attract a specific and well-identified dividend clientele.
d. New-stock dividend reinvestment plans are similar to stock dividends because they both increase the number of shares outstanding but don’t change the firm’s total amount of book equity.
e. Investors who receive stock dividends must pay taxes on the value of the new shares in the year the stock dividends are received.
Answer:
a
Question: Which of the following statements is NOT CORRECT?
Answer Choices:
a. Stock repurchases can be used by a firm as part of a plan to change its capital structure.
b. After a 3-for-1 stock split, a company’s price per share should fall, but the number of shares outstanding will rise.
c. Investors may interpret a stock repurchase program as a signal that the firm’s managers believe the stock is undervalued, or, alternatively, as a signal that the firm does not have many good investment opportunities.
d. A company can repurchase stock to distribute a large one-time cash inflow, say from the sale of a division, to stockholders without having to increase its regular dividend.
e. Stockholders pay no income tax on dividends if the dividends are used to purchase stock through a dividend reinvestment plan.
Answer:
e
Question: You own 100 shares of Troll Brothers’ stock, which currently sells for $120 a share. The company is about to declare a 2-for-1 stock split. Which of the following best describes your likely position after the split?
Answer Choices:
a. You will have 200 shares of stock, and the stock will trade at or near $120 a share.
b. You will have 200 shares of stock, and the stock will trade at or near $60 a share.
c. You will have 100 shares of stock, and the stock will trade at or near $60 a share.
d. You will have 50 shares of stock, and the stock will trade at or near $120 a share.
e. You will have 50 shares of stock, and the stock will trade at or near $600 a share.
Answer:
b. You will have 200 shares of stock, and the stock will trade at or near $60 a share.
Question: If a retired individual lives on his or her investment income, then it would make sense for this person to prefer stocks with high payouts so he or she could receive cash without going to the trouble and expense of selling stocks. On the other hand, it would make sense for an individual who would just reinvest any dividends received to prefer a low-payout company because that would save him or her taxes and brokerage costs.
Answer Choices:
True
False
Answer:
a. True
Question: If a firm pays out all of its earnings as dividends and its stockholders then elect to have all of their dividends reinvested, the company should reconsider its dividend policy and possibly move to a lower dividend payout ratio.
Answer Choices:
True
False
Answer:
b. False
Question: If a firm uses the residual dividend model to set dividend policy, then dividends are determined as a residual after providing for the equity required to fund the capital budget. Under this model, the higher the firm’s debt ratio, the lower its payout ratio will be, other things held constant.
Answer Choices:
True
False
Answer:
b. False
Question: If the information content, or signaling, hypothesis is correct, then a change in a firm’s dividend policy can have an important effect on its stock price and cost of equity.
Answer Choices:
True
False
Answer:
a. True
Question: The announcement of an increase in the cash dividend should, according to MM, lead to an increase in the price of the firm’s stock, other things held constant.
Answer Choices:
True
False
Answer:
b. False
Question: Which of the following statements is CORRECT?
Answer Choices:
a. Under the tax laws as they existed in 2014, a dollar received by an individual taxpayer as interest income is taxed at the same rate as a dollar received as dividends.
b. One nice feature of dividend reinvestment plans (DRIPs) is that they reduce the taxes investors would have to pay if they received cash dividends.
c. Empirical research indicates that, in general, companies send a negative signal to the marketplace when they announce an increase in the dividend. As a result, share prices fall when dividend increases are announced because investors interpret the increase as a signal that the firm expects fewer good investment opportunities in the future.
d. If a company needs to raise new equity capital, a new-stock dividend reinvestment plan would make sense. However, if the firm does not need new equity, then an open market purchase dividend reinvestment plan would probably make more sense.
e. It is rare to see a company’s stock price fall when it announces that it plans to commence a share repurchase program.
Answer:
d. If a company needs to raise new equity capital, a new-stock dividend reinvestment plan would make sense. However, if the firm does not need new equity, then an open market purchase dividend reinvestment plan would probably make more sense.
Question: In the real world, dividends
Answer Choices:
a. are usually more stable than earnings.
b. fluctuate more widely than earnings.
c. tend to be a lower percentage of earnings for mature firms.
d. are usually changed every year to reflect earnings changes, and these changes are randomly higher to lower, because that is the best way to manage earnings.
Answer:
a. are usually more stable than earnings.
Question: Which of the following actions will best enable a company to raise additional equity capital, other things held constant?
Answer Choices:
a. Refund long-term debt with lower cost short-term debt.
b. Declare a stock split.
c. Begin an open-market purchase dividend reinvestment plan.
d. Initiate a stock repurchase program.
e. Begin a new-stock dividend reinvestment plan.
Answer:
e
Question: Which of the following statements is CORRECT?
Answer Choices:
a. If a firm repurchases some of its stock in the open market, then shareholders who sell their stock for more than they paid for it will be subject to capital gains taxes.
b. An open-market dividend reinvestment plan will be most attractive to companies that need new equity and would otherwise have to issue additional shares of common stock through investment bankers.
c. Stock repurchases tend to reduce financial leverage.
d. If a company declares a 2-for-1 stock split, its stock price should roughly double.
e. One advantage of adopting the residual dividend model is that this makes it easier for corporations to meet the requirements of Modigliani and Miller’s dividend clientele theory.
Answer:
a. If a firm repurchases some of its stock in the open market, then shareholders who sell their stock for more than they paid for it will be subject to capital gains taxes.
Question: If a firm adheres strictly to the residual dividend policy, and if its optimal capital budget requires the use of all earnings for a given year (along with new debt according to the optimal debt/assets ratio), then the firm should pay
Answer Choices:
a. the same dividend as it paid the prior year.
b. no dividends to common stockholders.
c. dividends only out of funds raised by the sale of new common stock.
d. dividends only out of funds raised by borrowing money (i.e., issuing debt).
e. dividends only out of funds raised by selling off fixed assets.
Answer:
b. no dividends to common stockholders.
Question: The federal government sometimes taxes dividends and capital gains at different rates. Other things held constant, an increase in the tax rate on dividends relative to that on capital gains would logically lead to an increase in dividend payout ratios.
Answer Choices:
True
False
Answer:
b. False
Question: Your firm adheres strictly to the residual dividend model. All else equal, which of the following factors would be most likely to lead to an increase in the firm’s dividend per share?
Answer Choices:
a. The firm’s net income increases.
b. The company increases the percentage of equity in its target capital structure.
c. The number of profitable potential projects increases.
d. Congress lowers the tax rate on capital gains, leaving the rest of the tax code unchanged.
e. Earnings are unchanged, but the firm issues new shares of common stock.
Answer:
a. The firm’s net income increases.
Question: Which of the following statements is CORRECT?
Answer Choices:
a. When firms are deciding on the size of stock splits–say whether to declare a 2-for-1 split or a 3-for-1 split, it is best to declare the smaller one, in this case the 2-for-1 split, because then the after-split price will be higher than if the 3-for-1 split had been used.
b. Back before the SEC was created in the 1930s, companies would declare reverse splits in order to boost their stock prices. However, this was determined to be a deceptive practice, and reverse splits are illegal today.
c. Stock splits create more administrative problems for investors than stock dividends, especially determining the tax basis of their shares when they decide to sell them, so today stock dividends are used far more often than stock splits.
d. When a company declares a stock split, the price of the stock typically declines–for example, by about 50% after a 2-for-1 split–and this necessarily reduces the total market value of the firm’s equity.
e. If a firm’s stock price is quite high relative to most stocks–say $500 per share–then it can declare a stock split of say 20-for-1 so as to bring the price down to something close to $25. Moreover, if the price is relatively low–say $2 per share–then it can declare a “reverse split” of say 1-for-10 so as to bring the price up to somewhere around $20 per share.
Answer:
e. If a firm’s stock price is quite high relative to most stocks–say $500 per share–then it can declare a stock split of say 20-for-1 so as to bring the price down to something close to $25. Moreover, if the price is relatively low–say $2 per share–then it can declare a “reverse split” of say 1-for-10 so as to bring the price up to somewhere around $20 per share.
Question: Which of the following statements is CORRECT?
Answer Choices:
a. Firms with a lot of good investment opportunities and a relatively small amount of cash tend to have above-average dividend payout ratios.
b. One advantage of the residual dividend model is that it leads to a stable dividend payout, which investors like.
c. An increase in the stock price when a company cuts its dividend is consistent with signaling theory as postulated by MM.
d. If the “clientele effect” is correct, then for a company whose earnings fluctuate, a policy of paying a constant percentage of net income will probably maximize its stock price.
e. Stock repurchases make the most sense at times when a company believes its stock is undervalued.
Answer:
e. Stock repurchases make the most sense at times when a company believes its stock is undervalued.
Question: Other things held constant, the higher a firm’s target payout ratio, the higher its expected growth rate should be.
Answer Choices:
True
False
Answer:
b. False
Question: The optimal distribution policy strikes that balance between current dividends and capital gains that maximizes the firm’s stock price.
Answer Choices:
True
False
Answer:
a. True
Question: The federal government sometimes taxes dividends and capital gains at different rates. Other things held constant, if the tax rate on dividends is high relative to that on capital gains, then individuals with low taxable incomes should favor stocks with low payouts and high-income individuals should favor high-payout companies.
Answer Choices:
True
False
Answer:
a. True
Question: Which of the following statements is CORRECT?
Answer Choices:
a. One disadvantage of dividend reinvestment plans is that they increase transactions costs for investors who want to increase their investment in the company.
b. One advantage of dividend reinvestment plans is that they enable investors to postpone paying taxes on the dividends credited to their account.
c. Stock repurchases can be used by a firm that wants to increase its debt ratio.
d. Stock repurchases make sense if a company expects to have a lot of profitable new projects to fund over the next few years, provided investors are aware of these investment opportunities.
e. One advantage of an open market dividend reinvestment plan is that it provides new equity capital and increases the shares outstanding.
Answer:
c. Stock repurchases can be used by a firm that wants to increase its debt ratio.