Deck 12: Payout Policy

Question 1

Firms can repurchase shares in the following ways:
I. Open market repurchase
II. Through a tender offer
III. Through a Dutch auction process
IV. Through direct negotiation with a major shareholder

A) I only
B) II only
C) III only
D) I, II, III, and IV

Answer 1

I, II, III, and IV

Question 2

The following statements are true of dividend reinvestment plans (DRIPs):
I. offered by the companies to their shareholders
II. generally, new shares are issued at a discount
III. the dividends are taxable as ordinary income

A) I only
B) I and II only
C) I, II and III
D) III only

Answer 2

I, II and III

Question 3

Firms can pay out cash to their shareholders in the following ways:
I. Dividends
II. Share repurchases
III. Interest payments

A) I only
B) II only
C) I and II only
D) III only

Answer 3

I and II only

Question 4

On January 2, Michigan Mining declared a $25-per-share quarterly dividend payable on March 9th to stockholders of record on February 9. What is the latest date by which you could purchase the stock and still get the recently declared dividend?

A) February 5
B) February 6
C) February 7
D) February 8

Question 5

Which of the following is not true?

A) Firms have long-run target dividend payout ratios
B) Dividend changes follows shifts in long-term, sustainable earnings
C) Managers are reluctant to make dividend changes that might have to be reversed
D) All of the above

Question 6

Greenmail refers to the practice of a company purchasing its stock, usually at a high price, from:

A) Small shareholders who are happy with performance of the firm
B) A hostile shareholder who threatens to take over the firm
C) Large shareholders who are happy with performance of the firm
D) None of the above

Question 7

Which of the following dividends is never in the form of cash?
I. Regular dividend
II. Special dividend
III. Stock dividend
IV. Liquidating dividend

A) I only
B) II only
C) III only
D) I, II, and IV only

Question 8

Which of the following lists events in the chronological order from earliest to latest?

A) Record date, declaration date, ex-dividend date
B) Declaration date, record date, ex-dividend date
C) Declaration date, ex-dividend date, record date
D) None of the above

Question 9

The par value of the outstanding shares is defined as:

A) Retained earnings
B) Legal capital
C) Book value of equity
D) None of the above

Question 10

Generally, firms resort to repurchase of stock because:
I. Firms have accumulated large amount of excess cash
II. Firms want to change their capital structure
III. Firms want to substitute it for regular dividends

A) I only
B) II only
C) I and II only
D) III only

Question 11

The most important difference between stock repurchases and cash dividends is that they:0
I. Benefit different groups
II. Have different effects on corporate cash flow
III. May have different tax consequences

A) I only
B) II only
C) III only
D) I, II, and III

Question 12

Which of these dates occurs last in time (when arranged in the chronological order)?

A) Payment date
B) Ex-dividend date
C) Record date
D) Dividend declaration date

Question 13

Generally, investors interpret the announcement of an increase in dividends as:

A) bad news and the stock price drops
B) good news and the stock price increases
C) a non-event and does not affect the stock price
D) very bad news and the stock price plunges

Question 14

The procedure where the firm states a series of prices at which it is prepared to repurchase stock. Shareholders submit offers indicting how many shares they wish to sell at each price. The firm then calculates the lowest price at which it is able to buy the desired number of shares. This procedure is known as:

A) Open market transaction
B) Dutch auction
C) Green mail
D) None of the above

Question 15

Dividends are decided by:
I. The managers of a firm
II. The government
III. The board of directors

A) I only
B) II only
C) III only
D) I and II only

Question 16

Generally, investors view the announcement of open-market repurchase of stocks as:

A) bad news and the stock price drops
B) good news and the stock price increases
C) a non-event and does not affect the stock prices
D) very good news and the stock price jumps up

Question 17

According to financial executives' views about dividend policy, the following statement is the most frequently cited one:
I. we try to avoid reducing the dividend
II. we try to maintain a smooth dividend stream
III. we look at the current dividend level
IV. we are reluctant to make a change that may have to be reversed

A) I only
B) II only
C) III only
D) IV only

Question 18

Dutch auction process is the same as:

A) discriminatory price auction
B) uniform price auction
C) English auction
D) none of the above

Question 19

Generally, investors interpret the announcement of a decrease in dividends as:

A) bad news and the stock price drops
B) good news and the stock price increases
C) a non-event and does not affect the stock prices
D) very good news and the stock price jumps up

Question 20

Generally, firms resort to repurchase of stock during:
I. boom times at an increasing rate as firms accumulate excess cash
II. recession at an increasing rate because of the low stock price
III. boom as well as recession at a steady rate

A) I only
B) II only
C) III only
D) II and III only

Question 21

Which of the following investors have the strongest tax reason to prefer dividends over capital gains?

A) Pension funds
B) Financial institutions
C) Individuals
D) Corporations

Question 22

If the corporate tax rate is 35%, what is the maximum effective tax rate on dividends received by another corporation?

A) 35%
B) 30%
C) 10.5%
D) None of the above

Question 23

If investors do not like dividends because of the additional taxes that they have to pay, how would you expect stock prices to behave on the ex-dividend date?

A) Fall by more than the amount of the dividend
B) Fall exactly by the amount of the dividend
C) Fall by less than the amount of the dividend
D) Cannot be predicted

Question 24

One key assumption of the Miller and Modigliani (MM) dividend irrelevance argument is that:

A) Future stock prices are certain
B) There are no capital gains taxes
C) All investments are risk-free
D) New shares are sold at a fair price

Question 25

Company X has 100 shares outstanding. It earns $1,000 per year and expects to pay all of it as dividends. If the firm expects to maintain this dividend forever, Calculate the stock price today. (The required rate of return is 10%)

A) $110
B) $90
C) $100
D) None of the above

Question 26

One key assumption of the Miller and Modigliani (MM) dividend irrelevance is that:

A) Future stock prices are certain
B) There are no capital gains taxes
C) Capital markets are efficient
D) All investments are risk-free

Question 27

If dividends are taxed more heavily than capital gains, the investors:

A) Should be willing to pay more for stocks with low dividend yields
B) Should be willing to pay more for high dividend yields
C) Should be willing to pay the same for stocks regardless of the dividend yields
D) Cannot be predicted as stock prices fluctuate randomly

Question 28

A firm in Australia earns a pretax profit of $A10 per share. It pays a corporate tax of $3 per share (30% tax rate) in taxes. The firm pays the remaining $A7 in dividends to a shareholder in 30% tax bracket. What is the amount of tax paid by the shareholder under the imputation tax system?

A) $A2.10
B) Zero
C) $A3.00
D) None of the above

Question 29

Two corporations A and B have exactly the same risk and both have a current stock price of $100. Corporation A pays no dividend and will have a price of $120 one year from now. Corporation B pays dividends and will have price of $113 one year from now after paying the dividend. The corporations pay no taxes and investors pay no taxes on capital gains but pay a tax of 30% income tax on dividends. What is the value of the dividend that investors expect corporation B to pay one year from today?

A) $7
B) $13
C) $10
D) None of the above

Question 30

A firm in Australia earns a pretax profit of $A10 per share. It pays a corporate tax of $3 per share (30% tax rate) in taxes. The firm pays the remaining $A7 in dividends to a shareholder in 40% tax bracket. What is the amount of tax paid by the shareholder under the imputation tax system?

A) $A1.00
B) Zero
C) $A4.00
D) None of the above

Question 31

If both dividends and capital gains are taxed at the same ordinary income tax rate, the effect of tax is different because:

A) Capital gains are actually taxed, while dividends are taxed on paper only
B) Dividends are taxed when distributed while capital gains are deferred until the stock is sold
C) Both dividends and capital gains are taxed every year
D) Both A and C

Question 32

The dividend-irrelevance proposition of Miller and Modigliani depends on the following relationship between investment policy and dividend policy.

A) The level of investment does not influence or matter to the dividend decision
B) Once the dividend policy is set the investment decision can be made as desired
C) The investment policy is set before the dividend decision and not changed by dividend policy
D) None of the above

Question 33

Company X has 100 shares outstanding. It earns $1,000 per year and expects to pay all of it as dividends. If the firm expects to maintain this dividend forever, Calculate the stock price after the dividend payment. (The required rate of return is 10%)

A) $110
B) $90
C) $100
D) None of the above

Question 34

According to behavioral finance investors prefer dividends because:

A) investors prefer the discipline that comes from spending only the dividends
B) of the tax consideration
C) stock market is efficient
D) all of the above

Question 35

Company X has 100 shares outstanding. It earns $1,000 per year and expects repurchase its shares in the open market instead of paying dividends. Calculate the number of shares outstanding at the end of year-1, if the required rate of return is 10%.

A) 110
B) 90
C) 100
D) None of the above

Question 36

The indifference proposition regarding dividend policy:

A) Assumes that tax rates increase at the same rate as inflation
B) Assumes that investors are indifferent about the timing of dividend payments
C) States that investors are indifferent between stock dividends and cash dividends
D) States that investors are indifferent between stock repurchase and cash dividends

Question 37

If investors have a marginal tax rate of 20% and a firm has announced a dividend of $5;

A) The price of stock should decrease by $4 on the ex-dividend date
B) The price of the stock should decrease by $5 on the ex-dividend date
C) The price of the stock should increase by $5 on the ex-dividend date
D) The price of the stock should increase by $4 on the ex-dividend date

Question 38

The rightist position is that the market will reward firms that:

A) Have high dividend yield.
B) Have low dividend yield.
C) Are well managed, regardless of dividend yield.
D) None of the above.

Question 39

According to middle-of-the-roaders, a firm's value is not affected by its dividend policy because:

A) of the clientele effect
B) of the tax loopholes available to wealthy stockholders
C) well-managed companies prefer to signal their worth by paying high dividends
D) All of the above

Question 40

One possible reason that shareholders often insist on higher dividends is:

A) They agree with Miller and Modigliani
B) Tax consideration
C) The stock market is efficient
D) They do not trust managers to spend retained earnings wisely

Question 41

Firms can pay out cash to their shareholders in two ways: cash dividends and stock dividends.

Question 42

What is SEC Rule 10b-18? Briefly explain.

Question 43

Australia follows the imputation tax system.

Question 44

In 2005, ExxonMobil was the largest repurchaser of its own shares with $18.2 billion worth of repurchases.

Question 45

Dividend payments are used to change the capital structure by replacing equity with debt.

Question 46

The managers of the firm set the dividend paid to the shareholders.

Question 47

Many companies have automatic dividend reinvestment plans (DRIPs).

Question 48

Usually "special" or "extra" dividend is unlikely to be repeated in the future.

Question 49

Adoption of Rule 10b-18 by the SEC, in the year 1982, has protected firms from being prosecuted for manipulating their share price through share repurchases.

Question 50

Because greenmail involves the repurchase of stock at a price higher than the market price, all shareholders benefit.

Question 51

Firms have long-run target dividend payout ratios.

Question 52

What would best explain the reluctance of General Motors to eliminate its dividend in 2008, only a few months before its financial collapse and eventual government takeover?

A) Clientele effect
B) Leftist theory
C) Rightest theory
D) Signaling hypothesis

Question 53

Managers try to avoid reducing the dividend.

Question 54

The original work conducted on the dividend payout practices of companies was conducted by Lintner.

Question 55

Managers are reluctant to make dividend changes that may have to be reversed.

Question 56

An alternative to paying cash dividends is to pay stock dividends.

Question 57

Briefly explain the chronology of dividend payment.

Question 58

Stock repurchases are like bumper dividends, but they are not typically substitute for regular cash dividends.

Question 59

Briefly discuss different ways in which a firm can pay dividends to its shareholders.

Question 60

Miller and Modigliani's argument for dividend irrelevance assumes an efficient market.

Question 61

State Miller and Modigliani's proposition on dividend irrelevance.

Question 62

Briefly describe the leftists' point of view on dividends and taxes.

Question 63

Rightists argue that increasing a firm's dividend will increase its value. State some key points in their assertion.

Question 64

Briefly describe the middle-of-the-roaders' position.

Question 65

Briefly explain how the shareholders are taxed twice in the U.S.A. using an example.

Question 66

Briefly explain the information content of share repurchase.

Question 67

Briefly describe the "imputation tax system."

Question 68

Briefly explain how the imputation tax system works in Australia using an example.

Question 69

Briefly explain how current tax laws favor capital gains?