Deck 16: Payout Policy

Question 1

Generally, investors view the announcement of an open-market repurchase program as

A)bad news, and the stock price drops.
B)good news, and the stock price increases.
C)a nonevent that does not affect the stock price.
D)very bad news, and the stock price plunges.

Answer 1

good news, and the stock price increases.

Question 2

Which of the following dividends are never in the form of cash?

A)Regular dividends
B)Special dividends
C)Stock dividends
D)Regular dividends, special dividends, and liquidating dividends

Answer 2

Stock dividends

Question 3

The par value of the outstanding shares is known as

A)retained earnings.
B)legal capital.
C)book value of equity.
D)additional paid-in capital.

Answer 3

legal capital.

Question 4

Which of these dates, when arranged in chronological order, occurs last?

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

Question 5

According to survey data, which is the least-often cited dividend policy consideration?

A)Firms want to avoid dividend reductions.
B)Firms desire a smooth dividend policy.
C)Firms avoid dividend policy reversals.
D)Firms would prefer to raise new funds rather than reduce dividends.

Question 6

What is the likely impact on a typical individual investor if a firm undertakes a stock repurchase in lieu of a cash dividend?

A)Lower income taxes, if capital gains tax rates are less than dividend tax rates
B)Higher income taxes, if capital gains tax rates are less than dividend tax rates
C)Lower share price
D)A tax-free transaction

Question 7

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 nonevent that does not affect the stock price.
D)very bad news, and the stock price plunges.

Question 8

According to financial executives' views on dividend policy, which of the following statements is most frequently cited?

A)We try to avoid reducing the dividend.
B)We try to maintain a smooth dividend stream.
C)We look at the current dividend level.
D)We are reluctant to make a change that may have to be reversed.

Question 9

Suppose that there are no taxes, transactions costs, or other market imperfections.Which of the following actions is most likely to make shareholders better off?

A)Increase dividends.
B)Reduce share repurchases.
C)Announce that dividends will not change for at least three years.
D)Eliminate negative-NPV projects.

Question 10

Consider the procedure whereby the firm states a series of prices at which it is prepared to repurchase stock.Shareholders then submit offers indicating how many shares they wish to sell and at which 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(n)

A)open market repurchase.
B)Dutch auction.
C)green mail.
D)tender offer.

Question 11

Which of the following lists events in 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)Record date, ex-dividend date, declaration date

Question 12

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 nonevent that does not affect the stock prices.
D)very good news, and the stock price jumps up.

Question 13

A Dutch auction is the same as a(n)

A)discriminatory price auction.
B)uniform price auction.
C)English auction.
D)share repurchase.

Question 14

Which of the following answer is true?

A)Firms have long-run target dividend payout ratios.
B)Dividend changes follow shifts in long-term sustainable earnings.
C)Managers are reluctant to make dividend changes that might have to be reversed.
D)Firms have long-run target dividend payout ratios, dividend changes follow shifts in long-term sustainable earnings, and managers are reluctant to make dividend changes that might have to be reversed.

Question 15

Firms can pay out cash to their shareholders in the following way(s):

A)dividends only.
B)share repurchases only.
C)dividends and share repurchases.
D)interest payments only.

Question 16

The following statements are true of dividend reinvestment plans (DRIPs):

A)They are offered by the companies to their shareholders.
B)They are offered by the companies to their shareholders and the dividends are taxable as ordinary income.
C)They are offered by the companies to their shareholders; generally, new shares are issued at a discount; and the dividends are taxable as ordinary income.
D)The dividends are taxable as ordinary income.

Question 17

Dividend policy changes are decided and announced by

A)the managers of a firm.
B)the government.
C)the board of directors.
D)the managers of a firm and the government.

Question 18

Firms can repurchase shares in the following ways:

A)open market repurchase.
B)tender offer.
C)Dutch auction.
D)open market repurchase, tender offer, Dutch auction, and direct negotiation with a major shareholder.

Question 19

Generally, firms engage in stock repurchases during

A)boom times as firms accumulate excess cash.
B)recessions due to low stock prices.
C)times when competitor's stock prices are dropping.
D)recessions due to low stock prices and times when competitors? stock prices are dropping.

Question 20

On January 2, Michigan Mining declared a $2-per-share quarterly dividend payable on March 9 to stockholders of record on Friday, 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 21

Company X has 100 shares outstanding.It earns $1,000 per year and announces that it will use all $1,000 to repurchase its shares in the open market instead of paying dividends.Calculate the number of shares outstanding at the end of year 1, after the first share repurchase, if the required rate of return is 10 percent.

A)110
B)100
C)90.91
D)89

Question 22

One possible reason that shareholders often insist on higher dividends is

A)they agree with Miller and Modigliani.
B)the capital gains tax disadvantage.
C)the stock market is efficient.
D)they do not trust managers to spend retained earnings wisely.

Question 23

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

A)$A2.10
B)$A0
C)$A3
D)$A5.10

Question 24

If dividends are taxed more heavily than capital gains, then investors

A)should be willing to pay more for stocks with low dividend yields.
B)should be willing to pay more for stocks with high dividend yields.
C)should be willing to pay the same for stocks regardless of their dividend yields.
D)should be willing to pay more for stocks having infrequent share repurchases.

Question 25

Even if both dividends and capital gains are taxed at the same ordinary income tax rate, the effect of each type 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)capital gains are actually taxed, while dividends are taxed on paper; and both dividends and capital gains are taxed every year.

Question 26

The following are indicators that the firm has a cash surplus:.

A)Competitors' stock prices are dropping.
B)The firm has a low debt ratio compared to similar firms.
C)The firm has sufficient debt capacity to cover unexpected opportunities or setbacks.
D)Competitors' stock prices are dropping, the firm has a low debt ratio compared to similar firms, and the firm has sufficient debt capacity to cover unexpected opportunities or setbacks.

Question 27

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 percent.)

A)$110
B)$100
C)$90
D)$10

Question 28

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 percent.)

A)$110
B)$100
C)$90
D)$10

Question 29

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

A)35 percent
B)30 percent
C)10.5 percent
D)65 percent

Question 30

Miller and Modigliani's indifference proposition regarding dividend policy

A)assumes that tax rates increase at the same rate as inflation.
B)assumes that investors can sell their stock at a fair price.
C)states that investors are indifferent between stock dividends and cash dividends.
D)states that investors are indifferent between stock repurchases and cash dividends.

Question 31

According to behavioral finance, investors prefer dividends because

A)investors prefer the discipline that comes from spending only the dividends.
B)dividends generate lower taxes.
C)the stock market is efficient.
D)dividends provide a tax deduction.

Question 32

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 a 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 30 percent 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)$20

Question 33

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)The result cannot be predicted.

Question 34

The rightist position is that the market will reward firms for having

A)a high dividend yield.
B)a low dividend yield
C)good management, regardless of dividend yield.
D)a zero payout policy.

Question 35

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

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

Question 36

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

A)Changes in investment policy will alter dividend policy.
B)Changes in dividend policy will alter investment policy.
C)Investment policy is independent of dividend policy.
D)Dividends are tax-deductible and investments are depreciable.

Question 37

Consider the payout policies of U.S.firms from 2003-2013.Which category had the highest percentage of firms?

A)Firms that paid dividends and repurchased shares
B)Firms that paid dividends but did not repurchase shares
C)Firms that paid no dividends but did repurchase shares
D)Firms that paid no dividends and did not repurchase shares

Question 38

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

A)future stock prices are certain.
B)firms have an adequate supply of Treasury shares.
C)there exists a risk-free asset.
D)new shares are sold at a fair price.

Question 39

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

A)$A1
B)$0
C)$A4
D)$A5.80

Question 40

Dividend policy may affect firm value because

A)there is an unsatisfied clientele that prefers dividends to capital gains.
B)there is an unsatisfied clientele that prefers dividends to capital gains, and there are sufficient loopholes in the tax system that wealthy shareholders can avoid taxes on dividends.
C)there is an unsatisfied clientele that prefers dividends to capital gains, and well-managed companies prefer to signal their worth by paying high dividends.
D)there are sufficient loopholes in the tax system that wealthy shareholders can avoid taxes on dividends, and well-managed companies prefer to signal their worth by paying high dividends.

Question 41

The Miller and Modigliani dividend irrelevance argument assumes that the firm's investment policy and debt policy are both settled.

Question 42

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

Question 43

The Miller and Modigliani dividend irrelevance argument assumes that the firm can issue new shares at a fair price.

Question 44

In 2009, JPMorgan Chase cut its dividend down to $0.05 per share and the bank's share price increased in response.

Question 45

Most firms have long-run target dividend payout ratios.

Question 46

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

Question 47

Managers are reluctant to make dividend changes that they may have to reverse.

Question 48

A high-dividend policy is more difficult for a weak firm than for a strong firm because a weak firm likely will not have the cash to support it.

Question 49

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

Question 50

Healy and Palepu found that the stock price of firms that stopped paying a dividend declined by 9.5 percent on average upon announcement.

Question 51

Australia follows an imputation tax system for the payment of taxes on dividends.

Question 52

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

Question 53

Companies using a tender offer to repurchase shares typically offer a stock price greater than the current stock price.

Question 54

What is SEC Rule 10b-18?

Question 55

Briefly describe the sequence of events of a firm's dividend payment.

Question 56

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

Question 57

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

Question 58

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

Question 59

Managers try to avoid reducing their stock's dividend.

Question 60

Many companies have automatic dividend reinvestment plans (DRIPs).

Question 61

Briefly describe the middle-of-the-roaders' position on dividend policy.

Question 62

Briefly explain how the imputation tax system works in Australia by providing an example.Assume a 30 percent corporate tax rate and a 15 percent marginal tax rate for the investor.

Question 63

Describe Miller and Modigliani's proposition on dividend irrelevance.

Question 64

Briefly describe an imputation tax system.

Question 65

A retiree believes that investing in a nondividend paying growth firm, which requires the periodic sale of stock for income, will eventually lead to a loss of all shares.Explain the flaw in this logic.

Question 66

What information does a share repurchase convey to investors?

Question 67

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

Question 68

Briefly explain how shareholders' returns are taxed twice in the United States.

Question 69

Briefly explain how shareholders are taxed twice in the United States by providing an example.

Question 70

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