Deck 22: Managing Exchange-Rate Risk

Question 1

What is meant by the term 'dividend policy'?

A) The determination of the dividend policies of industrial firms by government, designed to encourage earnings retention for investment
B) The desired pattern of dividends over time when a company determines the proportion of profits to be paid out to shareholders, usually done periodically
C) The balance to be struck between paying interim dividends and final dividends
D) The selection of specific groups of shareholders to receive dividends this year

Answer 1

B

Question 2

In which of the following situations is a reduction in earnings most likely to be followed by a reduction in dividends?

A) Following a scrip dividend issue in the previous year
B) When the earnings fall is a result of poor management
C) When the earnings fall is thought likely to persist for a long time
D) When the earnings fall is thought likely to be short term

Answer 2

C

Question 3

Which of the following statements correctly describes what dividends a company may pay?

A) They may pay dividends at a level to be decided by the board.
B) They may not pay dividends.
C) They may pay dividends up to the point at which gearing does not fall below the rate for the previous year.
D) They may pay dividends but only up to the point that they have retained profits from previous years.

Answer 3

D

Question 4

A company wants to return funds without signaling that all future dividends will be raised abnormally. Which of the following is the simplest method to adopt?

A) Scrip dividends
B) Share buy- backs
C) Interim dividends
D) Special dividends

Question 5

According to Gordon, how do investors perceive the risk associated with more distant dividends?

A) As being irrelevant
B) As tending to zero as the time horizon increases
C) As subject to more risk than near- future dividends
D) As subject to less risk than near- future dividends

Question 6

In Miller and Modigliani's perfect world, what is likely to happen after a company announces a policy of high near- term dividends?

A) Changes to the share price are unpredictable.
B) The share price will decrease.
C) There will be no change to the share price.
D) The share price will increase.

Question 7

A company has many positive NPV projects to fund but pays all of its profits as dividends. How could it continue to create shareholder wealth in Miller and Modigliani's perfect world?

A) By issuing shares at low prices so that investors would pay for them
B) By forgoing the projects
C) By issuing shares, knowing that investors would willingly pay a fair price for them
D) By not paying dividends in future years

Question 8

What option best summarises Myron Gordon's resolution of uncertainty argument?

A) Investors perceive that a company, by spending all of its current cash flow, is replacing an uncertain dividend flow to shareholders now with a more certain flow in the future.
B) Investors perceive that a company, by retaining and reinvesting a part of its current cash flow, is replacing a certain dividend flow to shareholders now with an uncertain more distant flow in the future.
C) Investors perceive that a company, by retaining and reinvesting a part of its current cash flow, is replacing an uncertain dividend flow to shareholders now with a more certain flow in the future.
D) Investors perceive that a company, by spending all of its current cash flow, is replacing a certain dividend flow to shareholders now with an uncertain more distant flow in the future.

Question 9

What did Miller and Modigliani conclude about dividends in a perfect world?

A) Dividend policy is irrelevant to share value.
B) Dividend increases result in increases in share value.
C) The timing of dividends has a major impact on share value.
D) Dividend increases result in decreases in share value.

Question 10

An unexpected change in dividends shows how directors view the future prospects of the firm. What term is used for this?

A) Dividend policy
B) Signaling
C) Director- variability
D) Prospecting

Question 11

What is meant by an enhanced scrip issue?

A) One in which shares are offered at considerably less than an alternative cash payout
B) One in which shares are offered at considerably more than an alternative cash payout
C) One which is linked to an increased level of dividends
D) One in which the number of shares exceeds the original number of shares

Question 12

What is the key benefit of a scrip dividend for the company?

A) The cash does not leave the company.
B) Taxation is minimised.
C) Shareholder income is maximised.
D) Company income is maximised.

Question 13

Which three of the following are Miller and Modigliani's key assumptions?

A) There are no taxes or transaction costs.
B) Investors tend to prefer dividends to capital gains.
C) All investors can borrow and lend at the same interest rate.
D) All investors have free access to all relevant information.

Question 14

Which of the following gives shareholders an opportunity to receive additional shares in proportion to their existing holding instead of the normal cash dividend?

A) Share repurchase
B) Scrip dividend
C) Share buy- back
D) Special dividend

Question 15

A company pays high dividends and soon afterwards issues new shares to raise cash for investment. What two possible reasons are there for this approach?

A) It enables owners to regain control over the use of their money.
B) It increases the power of agents rather than owners..
C) Policy is being driven by the signaling effect of dividends.
D) It ensures that future dividend levels can be maintained.

Question 16

A company is experiencing good profits. What two factors might lead directors to avoid large dividend rises?

A) The risk of having to further increase dividends in future if profits fall
B) The effect on shareholders of loss of stability and predictability
C) The risk of having to reduce dividends in future if profits fall
D) Because it reduces the profitability of future projects

Question 17

What is the most important conclusion from Myron Gordon's resolution of uncertainty argument?

A) Investors prefer a prediction of long- term lower dividends.
B) Investors prefer a prediction of long- term higher dividends.
C) Investors prefer a higher near- term dividend.
D) Investors prefer a lower near- term dividend.

Question 18

Which three of the following correctly apply to a share buy- back?

A) It can be used so that the company can raise the level of borrowings on its balance sheet.
B) It is a way of reducing the tax burden while maintaining total dividend payments.
C) It can be used when the company is unsure about the sustainability of a possible increase in the normal cash dividend.
D) It is a way to return money, held within the company, to the owners.

Question 19

Which three of the following are conditions under which Miller and Modigliani's theory applies?

A) There are no taxes or transaction costs.
B) Only company managers have free access to all relevant information.
C) All investors have free access to all relevant information.
D) Investors are indifferent between dividends and capital gains.

Question 20

Which three of the following make up a suggested action plan for a dividend policy?

A) Forecast the 'surplus' cash flow resulting from the subtraction of the cash needed for investment projects from that generated by the firm's operations over the medium to long term.
B) Plan levels of dividend payment for the foreseeable future and amend borrowing levels to ensure that dividend levels gradually rise.
C) If cash flows are greater than projected for a particular year, keep the maintainable regular dividend fairly constant, but pay a special dividend or initiate a share repurchase programme.
D) Pay a maintainable regular dividend based on this forecast. This may be biased on the conservative side to allow for uncertainty about future cash flows.

Question 21

Which three of the following statements about dividends paid by UK companies are correct?

A) The firm is legally obliged to consider the effect on the debt to equity ratio.
B) Dividends are usually made as interim and final payments.
C) Dividends are generally paid every six months.
D) Dividends may only be paid out of accumulated profits.

Question 22

To whom must a special dividend be offered?

A) The public
B) Employees who are shareholders
C) All major shareholders
D) All shareholders

Question 23

What, according to Elton and Gruber, is the statistical relationship between people's tax rates and the shares they choose?

A) People in higher tax rates tend to own low- dividend shares.
B) People in lower tax rates tend to own low- dividend shares.
C) There is little relationship between the two variables.
D) People in higher tax rates tend to own high- dividend shares.

Question 24

Which three of the following statements are correct?

A) In a world with no external finance available, dividend policy should not follow a residual approach.
B) The resolution of uncertainty argument on dividend policy is based on the premise that investors perceive more distant dividends as subject to more risk and therefore they prefer near- term dividends.
C) Some shareholders are attracted to firms that follow dividend policies consistent with their objectives.
D) A scrip dividend gives shareholders the opportunity to receive additional shares in proportion to their existing holding, instead of the normal cash dividend.

Question 25

Which two of the following are limits on the use of share repurchases?

A) The firm must gain permission of shareholders.
B) The size of the repurchase must not exceed 10 per cent of the original share issue.
C) Initial sales must not be made to existing shareholders.
D) There must be no creation of an artificial market in the company's shares.

Question 26

In which three ways may a share repurchase be accomplished?

A) By making arrangements with certain shareholders
B) By offering shares to existing lenders
C) By offering shares in the stock market
D) By inviting shareholders to tender for purchase

Question 27

Which two of the following are the key questions of the dividend policy debate?

A) How can shareholder wealth be controlled to ensure the survival of the firm?
B) Can shareholder wealth be increased by changing the pattern of dividends over a period of years?
C) How can dividends be maximised so as to ensure the growth of the firm?
D) Is a steady, stable dividend growth better than one which varies from year to year depending on the firm's internal need for funds?

Question 28

Which three of the following relate to the owner- control argument?

A) Owners can only exert effective control by becoming agents of the company.
B) Managers should have to ask for investment funds; this subjects their plans to scrutiny.
C) Firms should be encouraged to distribute a high proportion of earnings.
D) Investors can reduce the principal- agent problem and achieve greater goal congruence by taking suitable actions.

Question 29

What is the main way in which firms follow the owner- control argument and distribute a high proportion of earnings, and so reduce the principal- agent problem?

A) Owners can sell shares if they feel managers are adopting a high dividend policy.
B) Managers have control over investment and so can act in the firm's best interests.
C) Owners have control over day- to- day running of the firm.
D) Managers have to ask for investment funds; this subjects their plans to scrutiny.

Question 30

What is a scrip dividend?

A) A method by which the company can raise the level of borrowings on its balance sheet
B) A mechanism by which the company buys a proportion of its own shares from investors
C) An opportunity for the company to increase dividends without sending a signal that leads to a fall in the share price
D) An opportunity for shareholders to receive additional shares in proportion to their existing holding instead of the normal cash dividend

Question 31

What term is used for shareholders who prefer a dividend pattern which matches their desired consumption pattern?

A) Preferential clientele
B) Natural clientele
C) Consumerist clientele
D) Balanced clientele

Question 32

Which three of the following are most likely to scrutinise the investment plans of a company that wants to raise external capital by issuing shares?

A) Underwriters
B) Shareholders
C) Suppliers
D) Investment bankers

Question 33

Which three of the following statements represents aspects of the real World that are most likely to contrast with Miller and Modigliani's theory?

A) Transaction costs can be ignored.
B) Mature cash cows have a high payout rate.
C) Additional costs occur as a result of taxation.
D) Rapidly growing young firms often pay low dividends.

Question 34

What term is used to describe the fact that managers know far more about the firm's prospects than do the finance providers?

A) Insider dealing
B) Information transference
C) The agent problem
D) Information asymmetry

Question 35

Which two of the following are possible results of the existence of transaction costs?

A) Mature 'cash cow' type firms choose a high payout rate.
B) Dividends tend to gradually decrease during a firm's lifetime.
C) Many young, rapidly growing firms with a need for investment finance have very low dividend payouts.
D) Smaller companies tend to have higher dividends.

Question 36

What term is used for a process in which a company pays a larger than normal dividend on a one- off basis?

A) Scrip dividend
B) Interim dividend
C) Special dividend
D) Share buy- back

Question 37

Which three of the following accurately describe taxation of an individual's capital gains in the UK or US?

A) Taxation on shares held for a number of years falls considerably.
B) Taxation policy encourages people with high income to buy shares which provide high dividends.
C) Tax is only paid on realised gains.
D) Capital gains are taxed at the individual's marginal rate.

Question 38

How can the investor manufacture 'homemade dividends' in Miller and Modigliani's perfect world?

A) By selling a proportion of shares held, hoping that a fair price would be obtained
B) By selling a proportion of shares held, confident that a fair price would be obtained
C) By selling a proportion of shares held, accepting that the price obtained would be low
D) By selling a proportion of shares held, accepting that the price obtained would be below par

Question 39

Which three of the following factors are most likely to lead to a stable dividend policy?

A) Signaling
B) Dividends as a residual; the availability of positive NPV projects
C) Mechanisms highlighted by agency theory
D) Clientele preferences

Question 40

Why do loss- making companies still pay a dividend?

A) Managers realise that reduced dividends will result in lower staff motivation.
B) The tax benefits exceed the loss incurred in paying the dividend.
C) Managers want to signal that the decline in earnings is permanent and shareholders should take their profits.
D) Managers want to signal that the decline in earnings is temporary and that positive earnings are expected in the future.

Question 41

Which three of the following are considered in the discussion of dividend policy?

A) The pattern of dividends over time
B) The extent to which dividends fluctuate from year to year
C) The overall size of dividends
D) The aim of creating shareholder wealth

Question 42

What is the key issue for lenders in relation to the agency problem?

A) Is the dividend payment being used as a signal intended to increase share prices?
B) Are excessively low dividends being used to keep money out of the reach of lenders?
C) Is the dividend payment being used as a signal intended to decrease share prices?
D) Are excessively high dividends being used to keep money out of the reach of lenders?

Question 43

A middle- aged couple earns more than sufficient cash for their current needs from their employment. They invest in shares to create a fund for their retirement. Which of the following best describes a suitable policy for the couple in efficient capital markets?

A) Invest in companies that pay low dividends and retain money to invest in projects
B) Invest in companies that have high levels of debt and pay high dividends
C) Invest in companies that pay high dividends and rarely retain money to invest in projects
D) Invest in companies that have low levels of debt and pay high dividends

Question 44

How does the clientele influence dividend policy?

A) It discourage stability in dividend policy.
B) It encourages firms to follow a residual policy.
C) It encourages stability in dividend policy.
D) It focuses the company's policy on taxation reduction.

Question 45

What is a share buyback?

A) A mechanism by which the company buys a proportion of its own shares from investors
B) An opportunity for the company to increase dividends without sending a signal that leads to a fall in the share price
C) An opportunity for shareholders to receive additional shares in proportion to their existing holding instead of the normal cash dividend
D) A method by which the company can raise the level of borrowings on its balance sheet

Question 46

Which three of the following correctly apply to a scrip dividend?

A) It gives shareholders an opportunity to receive additional shares in proportion to their existing holding instead of the normal cash dividend.
B) The company benefits because cash does not leave the company.
C) Shareholders receive the scrip dividend in addition to the cash dividend.
D) They are particularly useful for companies going through difficult trading periods.

Question 47

What is meant by the term 'natural clienteles'?

A) Some shareholders adopt an ethical, ecologically- based policy.
B) Some shareholders only buy shares in companies whose products they use.
C) Some shareholders prefer a dividend pattern which matches their desired consumption pattern.
D) Some shareholders adopt a consumption pattern which matches their dividend pattern.