Question 1

If the information content, or signaling, hypothesis is correct, then changes in dividend policy can be important with respect to firm value and capital costs.

Accepted Answer

A) True 
 B)False  True

Question 2

Which of the following statements is most correct?

Accepted Answer

A)  If you were testing dividend theories and found that a dividend increase resulted in higher stock prices, then you could rule out all other theories and conclude that the bird-in-the-hand theory was most consistent with the evidence you found. 
B)  The clientele effect suggests that investors choose their investments based on firms' past dividend policies and changes to established dividend policies may be costly to investors. 
C)  Dividends paid under a residual dividend policy might send conflicting signals to investors. 
D)  Both statements b and c are correct. 
E)  All of the statements above are correct. 
A)  If you were testing dividend theories and found that a dividend increase resulted in higher stock prices, then you could rule out all other theories and conclude that the bird-in-the-hand theory was most consistent with the evidence you found. 
B)  The clientele effect suggests that investors choose their investments based on firms' past dividend policies and changes to established dividend policies may be costly to investors. 
C)  Dividends paid under a residual dividend policy might send conflicting signals to investors. 
D)  Both statements b and c are correct. 
E)  All of the statements above are correct. D

Question 3

Albany Motors recently completed a 3-for-1 stock split. Prior to the split, the company had 10 million shares outstanding and its stock price was $150 per share. After the split, the total market value of the company's stock equaled $1.5 billion. What was the price of the company's stock following the stock split?

Accepted Answer

A)  $ 15 
B)  $ 45 
C)  $ 50 
D)  $150 
E)  $450 
A)  $ 15 
B)  $ 45 
C)  $ 50 
D)  $150 
E)  $450 C

Question 4

Which of the following statements is most correct?

Accepted Answer

A)  If a company puts in place a 2-for-1 stock split, its stock price should roughly double. 
B)  Share repurchases are taxed less favorably than dividends; this explains why companies typically pay dividends and avoid share repurchases. 
C)  On average, a company's stock price tends to rise when it announces that it is initiating a share repurchase program. 
D)  Statements a and b are correct. 
E)  All of the statements above are correct. 
A)  If a company puts in place a 2-for-1 stock split, its stock price should roughly double. 
B)  Share repurchases are taxed less favorably than dividends; this explains why companies typically pay dividends and avoid share repurchases. 
C)  On average, a company's stock price tends to rise when it announces that it is initiating a share repurchase program. 
D)  Statements a and b are correct. 
E)  All of the statements above are correct.

Question 5

Arden Manufacturing follows a strict residual distribution policy (with all distributions in the form of dividends). The company is forecasting that its net income will be $500 million this year. The company anticipates that its capital budget will be $250 million. The company has a target capital structure that consists of 50 percent equity and 50 percent long-term debt. What is the company's anticipated dividend payout ratio?

Accepted Answer

A)  75% 
B)  55% 
C)  50% 
D)  25% 
E)  47% 
A)  75% 
B)  55% 
C)  50% 
D)  25% 
E)  47%

Question 6

Which of the following statements is most correct?

Accepted Answer

A)  The tax preference hypothesis suggests that companies can reduce their costs of capital by increasing their dividend payout ratios. 
B)  One advantage of the residual distribution policy (with all distributions as dividends) is that it leads to a stable dividend payout, which is desired by investors. 
C)  Firms with a large number of investment opportunities and a relatively small amount of cash tend to have above average dividend payouts. 
D)  Answers a and b are correct. 
E)  None of the answers above is correct. 
A)  The tax preference hypothesis suggests that companies can reduce their costs of capital by increasing their dividend payout ratios. 
B)  One advantage of the residual distribution policy (with all distributions as dividends) is that it leads to a stable dividend payout, which is desired by investors. 
C)  Firms with a large number of investment opportunities and a relatively small amount of cash tend to have above average dividend payouts. 
D)  Answers a and b are correct. 
E)  None of the answers above is correct.

Question 7

Modigliani and Miller (MM) argued that dividend policy is irrelevant. On the other hand, Gordon and Lintner (GL) argued that dividend policy does matter. GL's argument rests on the contention that

Accepted Answer

A)  rs = D1/P0 + g is constant for any dividend policy. 
B)  Because of perceived differences in risk, investors value a dollar of dividends more highly than a dollar of expected capital gains. 
C)  Investors, because of tax differentials, value a dollar of expected capital gains more highly than a dollar of dividends. 
D)  Most investors will reinvest rather than spend dividends, so it would save investors money (taxes) if corporations simply reinvested earnings rather than paid them out as dividends. 
E)  None of the answers above. 
A)  rs = D1/P0 + g is constant for any dividend policy. 
B)  Because of perceived differences in risk, investors value a dollar of dividends more highly than a dollar of expected capital gains. 
C)  Investors, because of tax differentials, value a dollar of expected capital gains more highly than a dollar of dividends. 
D)  Most investors will reinvest rather than spend dividends, so it would save investors money (taxes) if corporations simply reinvested earnings rather than paid them out as dividends. 
E)  None of the answers above.

Question 8

If a firm adopts a residual distribution policy, distributions are determined as a residual item. Therefore, the better the firm's investment opportunities, the lower its distributions should be.

Accepted Answer

A) True 
 B)False

Question 9

Which of the following statements is most correct?

Accepted Answer

A)  If the dividend irrelevance theory (which is associated with the names Modigliani and Miller) were exactly correct, and if this theory could be tested with "clean" data, then we would find, in a regression of dividend yield and capital gains, a line with a slope of -1.0. 
B)  The tax preference and bird-in-the-hand theories lead to identical conclusions as to the optimal dividend policy. 
C)  If a company raises its dividend by an unexpectedly large amount, the announcement of this new and higher dividend is generally accompanied by an increase in the stock price. This is consistent with the bird-in-the-hand theory, and Modigliani and Miller used these findings to support their position on dividend theory. 
D)  If it could be demonstrated that a clientele effect exists, this would suggest that firms could alter their dividend payment policies from year to year to take advantage of investment opportunities without having to worry about the effects of changing dividends on capital costs. 
E)  Each of the statements above is false. 
A)  If the dividend irrelevance theory (which is associated with the names Modigliani and Miller) were exactly correct, and if this theory could be tested with "clean" data, then we would find, in a regression of dividend yield and capital gains, a line with a slope of -1.0. 
B)  The tax preference and bird-in-the-hand theories lead to identical conclusions as to the optimal dividend policy. 
C)  If a company raises its dividend by an unexpectedly large amount, the announcement of this new and higher dividend is generally accompanied by an increase in the stock price. This is consistent with the bird-in-the-hand theory, and Modigliani and Miller used these findings to support their position on dividend theory. 
D)  If it could be demonstrated that a clientele effect exists, this would suggest that firms could alter their dividend payment policies from year to year to take advantage of investment opportunities without having to worry about the effects of changing dividends on capital costs. 
E)  Each of the statements above is false.

Question 10

Petersen Co. has a capital budget of $1,200,000. The company wants to maintain a target capital structure that is 60 percent debt and 40 percent equity. The company forecasts that its net income this year will be $600,000. If the company follows a residual distribution policy (with all distributions in the form of dividends), what will be its payout ratio?

Accepted Answer

A)  0% 
B)  20% 
C)  40% 
D)  60% 
E)  80% 
A)  0% 
B)  20% 
C)  40% 
D)  60% 
E)  80%

Question 11

You currently own 100 shares of stock in Beverly Brothers Inc. The stock currently trades at $120 a share. The company is contemplating a 2-for-1 stock split. Which of the following best describes your position after the proposed stock split takes place?

Accepted Answer

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 $60 a share. 
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 $60 a share.

Question 12

Loiselle Graphics recently announced a 3-for-1 stock split. Prior to the split, the company's stock was trading at $90 per share. The split had no effect on the wealth of the company's investors. What will be the new stock price?

Accepted Answer

A)  $270 
B)  $ 45 
C)  $180 
D)  $ 60 
E)  $ 30 
A)  $270 
B)  $ 45 
C)  $180 
D)  $ 60 
E)  $ 30

Question 13

Which of the following statements is most correct?

Accepted Answer

A)  In general, stock repurchases are taxed the same way as dividends. 
B)  One nice feature of dividend reinvestment plans is that they enable investors to reduce the taxes paid on their dividends. 
C)  On average, companies send a negative signal to the marketplace when they announce an increase in their dividend. 
D)  If a company is interested in issuing new equity capital, a new stock dividend reinvestment plan probably makes more sense than an open market dividend reinvestment plan. 
E)  Statements b and d are correct. 
A)  In general, stock repurchases are taxed the same way as dividends. 
B)  One nice feature of dividend reinvestment plans is that they enable investors to reduce the taxes paid on their dividends. 
C)  On average, companies send a negative signal to the marketplace when they announce an increase in their dividend. 
D)  If a company is interested in issuing new equity capital, a new stock dividend reinvestment plan probably makes more sense than an open market dividend reinvestment plan. 
E)  Statements b and d are correct.

Question 14

If investors do, in fact, prefer that firms retain most of their earnings, then firms that want to maximize stock price should hold dividend payments to low levels.
a. True
b. False

Accepted Answer

A) True 
 B)False

Question 15

Firm M is a mature firm in a mature industry. Its annual net income and net cash flow are both consistently high and very stable. The company's growth prospects are quite limited; therefore, the company's capital budget is small relative to its net income. Firm N is a relatively new firm in a new industry. Its annual operating income fluctuates considerably, but the company has substantial growth opportunities. Its capital budget is expected to be large relative to its net income for the foreseeable future. Which of the following statements is most correct?

Accepted Answer

A)  Firm M probably has a lower debt ratio than Firm N. 
B)  Firm M probably has a higher distribution ratio (the total of dividend payout ratio and stock repurchase ratio) than Firm N. 
C)  If the corporate tax rate increases, the debt ratio of both firms is likely to fall. 
D)  Statements a and b are correct. 
E)  Statements b and c are correct. 
A)  Firm M probably has a lower debt ratio than Firm N. 
B)  Firm M probably has a higher distribution ratio (the total of dividend payout ratio and stock repurchase ratio) than Firm N. 
C)  If the corporate tax rate increases, the debt ratio of both firms is likely to fall. 
D)  Statements a and b are correct. 
E)  Statements b and c are correct.

Question 16

Which of the following statements is most correct?

Accepted Answer

A)  Companies can repurchase shares either (1) to change their capital structures or (2) to distribute cash to stockholders without paying cash dividends. In the second situation, tax considerations will probably play a key role in the decision to repurchase stock versus to pay more cash dividends. 
B)  Stock dividends provide investors with additional shares of stock, not cash, yet many investors must pay cash in the form of taxes on the value of the stock dividends. For this reason, stock dividends are rarely used today. 
C)  The bird-in-the-hand theory of dividend policy could be rejected immediately if personal income taxes were abolished. 
D)  If the curve relating the WACC and the debt ratio looks like a sharp 'V', this would make it more feasible for a firm to follow the residual dividend policy than if the curve looks like a shallow bowl (or a shallow 'U'). 
E)  The open market type of dividend reinvestment plan is the best type for firms that need to bring in new equity capital. 
A)  Companies can repurchase shares either (1) to change their capital structures or (2) to distribute cash to stockholders without paying cash dividends. In the second situation, tax considerations will probably play a key role in the decision to repurchase stock versus to pay more cash dividends. 
B)  Stock dividends provide investors with additional shares of stock, not cash, yet many investors must pay cash in the form of taxes on the value of the stock dividends. For this reason, stock dividends are rarely used today. 
C)  The bird-in-the-hand theory of dividend policy could be rejected immediately if personal income taxes were abolished. 
D)  If the curve relating the WACC and the debt ratio looks like a sharp 'V', this would make it more feasible for a firm to follow the residual dividend policy than if the curve looks like a shallow bowl (or a shallow 'U'). 
E)  The open market type of dividend reinvestment plan is the best type for firms that need to bring in new equity capital.

Question 17

Which of the following statements is most correct?

Accepted Answer

A)  One advantage of stock repurchases is that they are generally taxed more favorably than dividend payments. 
B)  One advantage of dividend reinvestment plans is that they enable investors to avoid paying taxes on the dividends they receive. 
C)  Stock repurchases make sense if a company is interested in increasing its equity ratio. 
D)  Stock repurchases make sense if a company believes that its stock is overvalued and that it has a lot of profitable projects to fund over the next year. 
E)  One advantage of an open market dividend reinvestment plan is that it increases the number of shares the company has outstanding. 
A)  One advantage of stock repurchases is that they are generally taxed more favorably than dividend payments. 
B)  One advantage of dividend reinvestment plans is that they enable investors to avoid paying taxes on the dividends they receive. 
C)  Stock repurchases make sense if a company is interested in increasing its equity ratio. 
D)  Stock repurchases make sense if a company believes that its stock is overvalued and that it has a lot of profitable projects to fund over the next year. 
E)  One advantage of an open market dividend reinvestment plan is that it increases the number of shares the company has outstanding.

Question 18

Which of the following statements is most correct?

Accepted Answer

A)  If a company wants to issue new shares of common stock and also wants to implement a dividend reinvestment plan, then it should implement a new-stock dividend reinvestment plan, rather than an open-market purchase plan. 
B)  If a company undertakes a 3-for-1 stock split, then the number of shares outstanding should fall, and the stock price should rise. 
C)  If a company wants to reduce its debt ratio, then it should repurchase some of its common stock. 
D)  Answers a and c are correct. 
E)  Answers b and c are correct. 
A)  If a company wants to issue new shares of common stock and also wants to implement a dividend reinvestment plan, then it should implement a new-stock dividend reinvestment plan, rather than an open-market purchase plan. 
B)  If a company undertakes a 3-for-1 stock split, then the number of shares outstanding should fall, and the stock price should rise. 
C)  If a company wants to reduce its debt ratio, then it should repurchase some of its common stock. 
D)  Answers a and c are correct. 
E)  Answers b and c are correct.

Question 19

Plato Inc. expects to have net income of $5,000,000 during the next year. Plato's target capital structure is 35 percent debt and 65 percent equity. The company's director of capital budgeting has determined that the optimal capital budget for the coming year is $6,000,000. If Plato follows a residual distribution policy (with all distributions in the form of dividends) to determine the coming year's dividend, then what is Plato's payout ratio?

Accepted Answer

A)  38% 
B)  42% 
C)  58% 
D)  33% 
E)  None of the answers above is correct. 
A)  38% 
B)  42% 
C)  58% 
D)  33% 
E)  None of the answers above is correct.

Question 20

Strategic Systems Inc. expects to have net income of $800,000 during the next year. Its target, and current, capital structure is 40 percent debt and 60 percent common equity. The Director of Capital Budgeting has determined that the optimal capital budget for next year is $1.2 million. If Strategic uses the residual distribution model (with all distributions in the form of dividends) to determine next year's dividend payout, what is the expected dividend payout ratio?

Accepted Answer

A)  0% 
B)  10% 
C)  28% 
D)  42% 
E)  56% 
A)  0% 
B)  10% 
C)  28% 
D)  42% 
E)  56%

Exam 17: Distributions to Shareholders

If the information content, or signaling, hypothesis is correct, then changes in dividend policy can be important with respect to firm value and capital costs.

Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following statements is most correct?

Modigliani and Miller (MM) argued that dividend policy is irrelevant. On the other hand, Gordon and Lintner (GL) argued that dividend policy does matter. GL's argument rests on the contention that

If a firm adopts a residual distribution policy, distributions are determined as a residual item. Therefore, the better the firm's investment opportunities, the lower its distributions should be.

Which of the following statements is most correct?

You currently own 100 shares of stock in Beverly Brothers Inc. The stock currently trades at $120 a share. The company is contemplating a 2-for-1 stock split. Which of the following best describes your position after the proposed stock split takes place?

Loiselle Graphics recently announced a 3-for-1 stock split. Prior to the split, the company's stock was trading at $90 per share. The split had no effect on the wealth of the company's investors. What will be the new stock price?

Which of the following statements is most correct?

If investors do, in fact, prefer that firms retain most of their earnings, then firms that want to maximize stock price should hold dividend payments to low levels. a. True b. False

Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following statements is most correct?

An Overview of Financial Management

Risk and Return: Part I

Risk and Return: Part II

Bond Valuation

Basic Stock Valuation

Financial Options

Accounting for Financial Management

Analysis of Financial Statements

Financial Planning and Forecasting Financial Statements

Determining the Cost of Capital

Corporate Valuation and Value-Based Management

Capital Budgeting: Decision Criteria

Capital Budgeting: Cash Flows and Risk

Real Options

Capital Structure Decisions: Part I

Capital Structure Decisions: Part II

Ipos, Investment Banking, and Financial Restructuring

Lease Financing

Hybrid Financing

Working Capital Management

Providing and Obtaining Credit

Other Topics in Working Capital Management

Derivatives and Risk Management

Bankruptcy, Reorganization, and Liquidation

Mergers, Lbos, Divestitures, and Holding Companies

Multinational Financial Management

Filters