Deck 18: Dividend Policy and Retained Earnings

Question 1

The shareholders' equity section of the balance sheet of the XYZ Corp. is as follows: If the company now splits its stock 5-for-1, which of the following is correct?

A) The common stock section will increase to $100,000,000.
B) The market price per share will probably remain unchanged.
C) The book value per share will decline to $17.60.
D) The number of shares outstanding will increase.

Answer 1

D

Question 2

The residual theory of dividend policy asserts that:

A) sufficient dividends are paid to maintain a stable total dividend payment with any residual invested internally by the firm.
B) sufficient dividends are paid to maintain a stable dividend payout ratio with any residual invested internally by the firm.
C) dividends are paid out of the residual remaining after internal investments by the firm.
D) dividend payments are adjusted to maintain dividends at a constant percentage of total cash flows.

Answer 2

C

Question 3

According to the "marginal principle of retained earnings," dividends are:

A) the active variable.
B) the passive variable.
C) not usually paid.
D) a certain fixed percentage of earnings.

Answer 3

B

Question 4

The major, overall argument against the "marginal principle of retained earnings" is:

A) the uncertainty surrounding capital investment projects.
B) the lack of ability to adequately measure corporate investment returns.
C) the diversity of shareholders and their potential investment returns.
D) its failure to consider shareholder preferences.

Question 5

A stock dividend will:

A) increase the total value of shareholders' equity.
B) decrease the total value of shareholders' equity.
C) not affect the total value of shareholders' equity.
D) change the total value of shareholders' equity but the direction cannot be determined unless the market price and par value is known.

Question 6

A corporation may wish to repurchase some of its shares in the market for all the following reasons except:

A) this action might maximize after-tax benefit to shareholders.
B) the corporation's executives will financially benefit if the shares are resold later at a substantial profit.
C) it can stabilize or increase the market price of the stock.
D) the stock may be needed for an employee compensation plan.

Question 7

The ex-dividend date is the date on which:

A) recipients of the dividend are determined.
B) the dividend is paid.
C) the dividend is declared.
D) the stock bought no longer includes the right to receive dividend payments.

Question 8

Which of the following balance sheet accounts will be affected by a stock dividend but not by a stock split?

A) Retained earnings
B) Cash
C) Common stock
D) Dividends-in-arrears

Question 9

A firm may repurchase stock in the market because:

A) it will decrease the shareholder's wealth.
B) the firm has inadequate capital budgeting alternatives.
C) it provides negative informational content.
D) the shareholders want to divest.

Question 10

Which of the following generally does not influence the dividend policy of the firm?

A) Cash position of the firm
B) Desire for control
C) Payables vs. receivables
D) Investor's expectations of the future based on dividend policy

Question 11

The marginal principle of retained earnings means that each potential project to be financed by retained earnings must:

A) provide a higher rate of return than the shareholders can achieve after paying taxes on the distributed dividends.
B) yield a return equal to or greater than the marginal cost of capital.
C) provide enough return to pay the corporation's marginal tax rate.
D) have an internal rate of return greater than the corporate growth rate of dividends.

Question 12

The clientele effect is concerned with:

A) investor behaviour and attitudes towards dividends.
B) the relationship between the stockbroker and his/her client.
C) the stability of dividends.
D) the effect of earnings on the client.

Question 13

Shareholders may prefer dividends to reinvestment by the firm:

A) because dividends payments are certainty every year.
B) because dividend payments have an information content.
C) because investors may prefer future cash to current cash.
D) because the firm can earn higher returns than the shareholder.

Question 14

The primary purpose of a stock split is to:

A) indicate the firm's desire to retain funds.
B) increase the investor's overall wealth.
C) reduce the threat of a takeover by creating more shares.
D) bring the share price to a lower trading range.

Question 15

Inflation can affect dividend payouts in that:

A) higher interest rates resulting from inflation have left more earnings available for dividends.
B) inflation leads investors to demand higher payouts.
C) corporations are hesitant to pay dividends from inflation-caused "inventory profits."
D) dividend payouts decrease due to slower earnings growth in an inflationary economy.

Question 16

A firm with excess cash and few investment alternatives might logically:

A) declare a stock dividend.
B) split its stock two-for-one.
C) repurchase some of its own shares.
D) choose to issue preferred stock.

Question 17

In Stage II (growth stage), sales and returns on assets will be growing at increasing rates. Which of the following is true?

A) Earnings are now available for moderate dividends.
B) Stock dividends (additional shares) are quite common.
C) Acquisition of new assets will be stable.
D) The payout ratio will be close to 50% by now.

Question 18

A 2-for-1 stock split is declared. In this case which of following statements is true?

A) The cash account declines.
B) The common stock account rises.
C) The retained earnings fall.
D) The number of common shares increases.

Question 19

In the initial stage (Stage I), the corporation:

A) has a product yet to be accepted in the marketplace.
B) anticipates slow growth in sales and earnings.
C) needs a stable growth rate similar to the economy as a whole.
D) the firm has numerous projects that add value.

Question 20

A major desire of shareholders regarding dividend policy is:

A) frequent stock dividends.
B) dividend stability.
C) high payouts when earnings are up and lower payouts when earnings are down.
D) payment of dividends at frequent intervals.

Question 21

Some dividend reinvestment plans allow the shareholder to purchase shares of stock:

A) from the company's future share issues.
B) in the market through the company.
C) at a premium from the market price.
D) in the market through the shareholders broker.

Question 22

Dividend policy is relevant because:

A) shareholders apply a lower discount rate to yield a lower valuation to funds retained in the business as opposed to paid out.
B) shareholders apply a lower discount rate to yield a higher valuation to funds retained in the business as opposed to paid out.
C) shareholders apply a higher discount rate to yield a higher valuation to funds retained in the business as opposed to paid out.
D) shareholders apply a higher discount rate to yield a lower valuation to funds retained in the business as opposed to paid out.

Question 23

Which of the following is not true about the life cycle growth and dividend policy?

A) In the maturity stage, a firm usually pays moderate to high dividends.
B) In the development stage, a firm usually pays stock dividends and some low cash dividends.
C) In the expansion stage, a firm pays low to medium cash dividends and occasionally may have stock splits.
D) In the growth stage, a firm pays stock dividends.

Question 24

The major, overall argument against the "marginal principle of retained earnings" is:

A) the uncertainty surrounding capital investment projects.
B) the lack of ability to adequately measure corporate investment returns.
C) the diversity of shareholders and their potential investment returns.
D) the funds must provide a higher rate of return than the shareholder could achieve alone.

Question 25

In the maturity stage, a firm:

A) is growing about the same rate as the economy as a whole.
B) has returns on assets lower than those of the industry norm.
C) loses market share and suffers a decline in profitability.
D) pays out all earnings in dividends.

Question 26

CBA Inc. has 250,000 shares outstanding. The shares were issued for $14. The stock is currently selling for $34. CBA has $5,000,000 in retained earnings and has declared a stock dividend that will increase the number of outstanding shares by 6%. What will be the common stock account after the stock dividend?

A) $510,000
B) $3,500,000
C) $4,010,000
D) $8,500,000

Question 27

A stock split:

A) is treated by accountants just like a stock dividend.
B) reduces the retained earnings account.
C) does not change the amount in the common stock account.
D) increases shareholder wealth.

Question 28

A corporation may wish to repurchase some of its shares in the market for all the following reasons except:

A) this action might maximize after-tax benefit to shareholders.
B) it can stabilize or increase the market price of the stock.
C) the stock may be needed for an employee compensation plan.
D) corporations may have strategic goals for the organization that may be adversely

Question 29

Low dividend yields are seen:

A) when interest rates are high.
B) when firms have good investment opportunities.
C) after a stock market downturn.
D) when corporations have low growth opportunities.

Question 30

Management may repurchase shares of stock in the market:

A) if they believe the shares are considerably underpriced.
B) for shareholder stock options.
C) to use in a stock split.
D) to reduce the market price of the shares.

Question 31

According to the law, dividends may be funded from:

A) past earnings.
B) current forecasted earnings.
C) future earnings.
D) future forecasted earnings.

Question 32

A reverse stock split:

A) occurs when a company wants to increase the price of its common shares because the market hasn't recognized the improvements the company has made in achieving profitability.
B) exchanges fewer new shares of common stock for old shares of common stock.
C) will not change earnings per share.
D) is more popular in bull markets than in bear markets.

Question 33

The "clientele effect" assumes that:

A) taxes affect shareholder dividend preferences.
B) capital gains taxes are equal to taxes on dividends.
C) investors prefer dividends over capital gains regardless of their marginal tax bracket.
D) investors are indifferent between stable dividends and irregular dividends.

Question 34

Firm X has declared a stock dividend that pays one share of stock for every 7 shares owned. After the stock dividend, earnings per share will:

A) remain the same.
B) decline 14.30%.
C) decline 7.00%.
D) increase 7.00%.

Question 35

Which of the following does not affect a company's dividend policy?

A) Legal rules concerning capital impairment
B) The efficient market hypothesis
C) Access to capital markets
D) Tax position of shareholders

Question 36

Generally at what payout percentage is a stock dividend considered a stock split?

A) 10% of the outstanding shares
B) 15% of the outstanding shares
C) 25% of the outstanding shares.
D) 33% of the outstanding shares.

Question 37

In which phase of the life cycle would one most likely encounter stock dividends?

A) Always in Phase I
B) Only in Phase III
C) Only in Phase IV
D) In both Phase II and III

Question 38

What strategy would a shareholder in a high tax bracket prefer?

A) Payment of cash dividends
B) Reduction of debt
C) Repurchase of common shares
D) A stock dividend

Question 39

A stock dividend will:

A) increase the value of a share of stock.
B) decrease the common stock account.
C) decrease the retained earnings account.
D) decrease the number of shares outstanding.

Question 40

A stock split is different from a stock dividend due to:

A) delisting by stock exchanges.
B) the resulting change in market price of the common shares.
C) the shares outstanding after the split or dividend will have an increased market value.
D) no transfer of funds from retained earnings to the capital accounts.

Question 41

According to the law, dividends may be funded from:

A) predicted earnings.
B) current earnings.
C) future earnings.
D) from accounts receivable.

Question 42

One reason that investors may prefer dividends to reinvestment by the firm is that dividend payments provide information to the investor.

Question 43

A major influence on dividends is sales growth and ____________.

A) ROE
B) gross margins
C) ROA
D) brand management

Question 44

The corporate life cycle has 4 stages. In stage 1 a corporation is more likely to issue _______

A) cash dividends.
B) stock dividends.
C) no cash dividends.
D) rights.

Question 45

A firm has declared a stock dividend that pays 1 share of stock for every 11 shares owned. After the stock dividend, earnings per share will:

A) remain the same.
B) decline 9.1%.
C) decline 8.3%.
D) increase 8.3%

Question 46

Low dividend yields are seen:

A) when interest rates are high.
B) when firms have good investment opportunities.
C) after a stock market downturn.
D) as a signal of bankruptcy.

Question 47

The corporate life cycle has 4 stages. In stage 2 a corporation is more likely to issue _______.

A) very high cash dividends
B) very low cash dividends
C) stock dividends
D) buy back stock

Question 48

Francis Forensic Inc. has 500,000 shares outstanding. The shares were issued for $10. The stock is currently selling for $40. Francis Forensic has $6,000,000 in retained earnings and has declared a stock dividend that will increase the number of outstanding shares by 10%. What will be the common stock account after the stock dividend?

A) $2,000,000
B) $7,000,000
C) $1,000,000
D) $5,500,000

Question 49

A firm may repurchase stock in the market because:

A) the firm believes that they are repurchasing at a premium price.
B) reacquired shares may be useful for shareholder options.
C) it provides negative informational content.
D) reacquired shares may be useful for employee stock options.

Question 50

Regardless of the situation, no well-managed firm would borrow money to pay dividends to shareholders.

Question 51

A firm will pay dividends as long as it has cash available.

Question 52

The "marginal principle of retained earnings" holds that corporate investment should provide a return equal to or higher than that a shareholder could earn elsewhere.

Question 53

The major drawback for viewing dividends as a passive variable is that shareholders likely have some preference related to dividend payments.

Question 54

Dividends are the active variable in the "marginal principle of retained earnings."

Question 55

In the initial stage (Stage I), the corporation:

A) has a product yet to be developed.
B) anticipates slow growth in sales and earnings.
C) needs all its earnings for reinvestment in new assets.
D) is more capable of paying cash dividends.

Question 56

Shareholders may prefer dividends to reinvestment by the firm:

A) because dividends provide the highest return to investors.
B) because dividend payments are tax free.
C) because investors may prefer current cash to future cash.
D) because shareholders may prefer faster growth in the firm.

Question 57

Phil's Corp. (PC) reported AT Earnings of $15,000,000. PC has 2,150,000 shares outstanding and has excess cash on hand of $5,500,000. PC stock is currently trading at $62 a share.

-PC's EPS prior to any share repurchase would be _________.

A) $7.25
B) $5.56
C) $6.98
D) $6.56

Question 58

Generally, dividends should be changed when a corporation reaches a new level of permanent income.

Question 59

Phil's Corp. (PC) reported AT Earnings of $15,000,000. PC has 2,150,000 shares outstanding and has excess cash on hand of $5,500,000. PC stock is currently trading at $62 a share.

-PC's EPS after any share repurchase would be ________.

A) $5.56
B) $6.97
C) $7.28
D) $6.25

Question 60

Management may repurchase shares of stock in the market:

A) to buy stock they feel is considerably overpriced.
B) because future earnings are expected to decrease.
C) to use in a merger.
D) to send a signal to the market that the company is in trouble.

Question 61

A general rule of thumb would be that firms with a faster growth rate have smaller payout ratios.

Question 62

Most dividends, like interest, are paid semiannually.

Question 63

Interest income is taxed at a lower rate than dividends.

Question 64

Stock dividends may be utilized to provide information to investors about growing companies.

Question 65

Some researchers feel that shareholders prefer dividends to retained earnings because dividends have an information content.

Question 66

Dividends can only be distributed if the firm has positive income in the year the dividend is paid.

Question 67

Stock dividends usually enhance the overall wealth of an investor.

Question 68

In Stage III growth, stock dividends and stock splits are eliminated.

Question 69

Life cycle growth analysis can be helpful in determining a firm's ability to pay dividends.

Question 70

Stability of dividends is not important to shareholders.

Question 71

One of the major influences on dividends is the corporate growth rate in sales and the subsequent return on assets.

Question 72

Dividend reinvestment plans provide the shareholder an opportunity to buy additional shares of stock with the cash dividend paid by the company.

Question 73

Corporations are usually exempt from taxes on dividends received from other corporations.

Question 74

Distributions of 20-25% or greater of outstanding shares are generally to be treated as stock splits.

Question 75

Stock splits are usually utilized to place stock in a lower-price trading range.

Question 76

Shareholders in general prefer large dividends to small dividends.

Question 77

Investors in high marginal tax brackets prefer dividends while investors in low marginal tax brackets prefer to have corporate earnings reinvested.

Question 78

At maturity (Stage IV) the firm will usually pay out about 15-25% of earnings in dividends.

Question 79

The repurchase of a corporation's own stock will generally have a negative impact on its price.

Question 80

A stock split involves a reduction in the firm's retained earnings account.