CH 17

TRUE/FALSE
1.When a company distributes dividends to stockholders, the amount of equity capital

invested in the firm is reduced.
A)
True
B)
False
Ans:
A
2.A liquidating dividend occurs when a going-concern firm liquidates a division and pays
out the proceeds to its shareholders.
A)
True
B)
False
Ans:
B
3.Under U.S. bankruptcy rules, shareholders are entitled to a liquidating dividend
whenever the company's assets are sold in bankruptcy.
A)
True
B)
False
Ans:
B
4.Consider an investor who purchases a dividend-paying stock of a public company the
day prior to the dividend record date. We would expect this investor to receive a
dividend distribution.
A)
True
B)
False
Ans:
B
5.Distributions to stockholders in the form of a standing discount for products or services
that the firm produces are often not thought of as dividends.
A)
True
B)
False
Ans:
A
6.Stock prices react to dividend announcements because the amount of the dividend sends
a signal to investors about management's view of the company's prospects.
A)
True
B)
False
Ans:
A
A)
7.Dividends reduce the stockholder's investment in the firm.

True
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B)
Ans:
False
A
8.Stock prices drop on the ex-dividend date, but usually the drop is less than the amount of
the dividend.
A)
True
B)
False
Ans:
A
9.If there are no taxes on dividends, then the price of a stock will not drop on the exdividend date.
A)
True
B)
False
Ans:
B
10.Private companies often don't announce dividend payments because private company
shares are not frequently traded and the list of shareholders is relatively small.
A)
True
B)
False
Ans:
A
A)
B)
Ans:
11.The record date should never come before the ex-dividend date.
True
False
A
12.Stockholders who don't choose to sell back their shares in a stock repurchase are losing
money because the company is only distributing value to the participating shareholders.
A)
True
B)
False
Ans:
B
A)
B)
Ans:
13.In a realistic situation, dividend policy does not affect firm value.
True
False
B
14.A large regular dividend always denotes a firm with a high level of cash that also has
many new project alternatives.
A)
True
B)
False
Ans:
B
15.Dividend policy can help a firm maintain a desired capital structure.
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A)
B)
Ans:
True
False
A
16.Fixed-price tender offer stock repurchases always take place at a price higher than the
market price of the stock.
A)
True
B)
False
Ans:
A
17.Targeted share repurchases always occur at a price higher than the current market quoted
price for a stock.
A)
True
B)
False
Ans:
B
18.Open-market stock repurchases are a convenient way for the company to distribute large
amounts cash.
A)
True
B)
False
Ans:
B
19.Stock repurchases are a stronger indication of high cash flow than dividends.
A)
True
B)
False
Ans:
B
20.Compared to raising regular cash dividends, initiating an open-market stock repurchase
is generally not as strong a positive signal to investors because the repurchase can
easily be canceled or scaled back before it is completed.
A)
True
B)
False
Ans:
A
21.If the three conditions of Modigliani and Miller hold, then dividend policy should not
affect firm value.
A)
True
B)
False
Ans:
A
22.Traditionally, capital gains taxes have been higher than taxes on dividends.
A)
True
B)
False
Ans:
B
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23.Suppose that the government raises short- and long-term capital gains taxes while
leaving all other taxes unchanged. This tax rate change would encourage companies to
increase the use of stock repurchases rather than issuing dividends.
A)
True
B)
False
Ans:
B
24.Dividend reinvestment programs allow investors to reinvest the dividends they receive
back into a company's stock without paying taxes on the dividends or a transaction fee
on the stock purchase.
A)
True
B)
False
Ans:
B
25.Paying a stock dividend does not actually transfer any value to the company's
stockholders.
A)
True
B)
False
Ans:
A
26.Some companies have been known to pay dividends to current stockholders while
simultaneously raising capital through a new equity issue. Generally, this behavior is
explained by the need to discipline managers by regularly exposing the company to the
extra scrutiny involved in an equity issue.
A)
True
B)
False
Ans:
A
27.Although stock splits do not add any value to the firm, investors tend to react positively
to stock splits because management isn't likely to initiate a stock split if the firm's
prospects are poor.
A)
True
B)
False
Ans:
A
28.Surveys conducted of managers tell us that they primarily see regular cash dividends as a
way to precisely adjust their leverage ratio to the target suggested by the trade-off theory
of capital structure.
A)
True
B)
False
Ans:
B
29.It is unethical for a corporate board to conduct a large tender offer stock repurchase when
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A)
B)
Ans:
the board members have private information indicating that the company's share price is
too high.
True
False
A
30.It is possible for a large investor to get a controlling interest in a firm without actually
buying any additional shares.
A)
True
B)
False
Ans:
A
Multiple Choice
31.Which type of dividend is most likely to be used to distribute the revenue from a onetime sale of a large asset?
A)
Regular cash dividend
B)
Extra dividend
C)
Special dividend
D)
Liquidating dividend
32.Which type of dividend is used to distribute any remaining value when the company's
assets are being sold as the company is terminated?
A)
B)
Extra dividend
C)
Special dividend
D)
33.Consider a company that had unexpectedly higher earnings last quarter and intends to
pay out some additional value to shareholders. Which type of dividend is the company
likely to use?
A)
B)
Extra dividend
C)
Special dividend
D)
Ans:
B
34.Which step in the dividend payment process for a public company usually results in a
change in the company's stock price? Assume the dividend has changed from the last
dividend paid.
A)
Public announcement
B)
Ex-dividend date
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C)
D)
Ans:
Payable date
Both a and b
D
35.The shares of ABC, Inc., fell sharply today after the company announced that it is
increasing its regular cash dividend distributions. Which one of the following
explanations may explain investors' negative reaction?
A)
Changes in regular cash dividends are made frequently so that the company's
management can adjust for changes in short-term earnings. The decrease in the
stock price is probably related to some other negative event.
B)
Investors previously believed the company had many lucrative growth
opportunities. By announcing higher regular cash dividends, the company is
sending a signal that it doesn't have enough positive-NPV projects to use all
the money.
C)
Investors expected that the company would announce a stock repurchases rather
than a cash dividend increase. Since a change in dividend policy is commonly
viewed as a weaker signal than a stock repurchase, the share price fell on the news
of the dividend increase.
D)
None of the above explanations can possibly explain investor's reaction.
Ans:
B
36.Which one of these examples does NOT meet the strict definition for a dividend?
Steel Gen Corp regularly distributes $0.05 to each shareholder for every share they
own.
B)
Chalone Vineyards once offered their investors discounts on wine in proportion to
the number of shares they owned.
C)
Churchill Downs, Inc., which operates several horse racing tracks, including
the location for the Kentucky Derby, distributes two free general admission
tickets to every investor who holds more than 100 shares in the company (as
of 2008).
D)
Both b and c do not meet the definition for a dividend.
Ans:
C
A)
37.Which of the following is NOT a possible result of a stock repurchase?

Removing a large number of shares from circulation can change the ability of
certain shareholders to control the firm.
B)
If the number of remaining shares is relatively small, the remaining shares will be
less liquid.
C)
The company will decrease its leverage ratio (debt-to-equity ratio).
D)
By repurchasing stock when it is undervalued, managers can effectively transfer
value from selling stockholders to stockholders who don't take part in the
repurchase.
Ans:
C
A)
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38.Which type of stock repurchase often takes place at a price below the current market
price of the stock?
A)
Open-market repurchase
B)
Fixed-price tender offer repurchase
C)
Dutch auction tender offer repurchase
D)
Targeted stock repurchase
Ans:
D
39.Which type of stock repurchase allows management to set the repurchase price at the
lowest level necessary to repurchase the desired number of shares?
A)
Open-market repurchase
B)
Fixed-price tender offer repurchase
C)
Dutch auction tender offer repurchase
D)
All of the above will generate the same purchase price.
Ans:
C
40.Which of the following explanations is NOT a possible benefit of dividends?

A)
Some investors prefer dividend-paying stocks and will be willing to pay a higher
price for stocks with regular dividends.
B)
Paying out large regular dividends can force management to regularly raise more
capital. The extra scrutiny involved in raising capital can increase the incentives of
management to run the company efficiently.
C)
Dividends can be used to manage the capital structure of the company.
D)
Paying dividends reduces the probability that the firm will enter financial
distress.
Ans:
D
41.Which of the following statements about the relative advantages of stock repurchases
over dividends is NOT true?
A)
Stock repurchases send a stronger signal than dividends to the market about
management's belief that the firm's prospects are good.
B)
Open-market stock purchases allow management more flexibility because
investors are less likely to react if the management cuts back or ends a stock
repurchase as compared to cutting back on dividend payments.
C)
Stock repurchases allow stockholders to choose whether or not to participate in the
stock repurchase. This allows stockholders to have more control over their tax
burden.
D)
Historically, taxes on dividend payment have been higher than those on stock
repurchases.
Ans:
A
42.In early 2003, the U.S. government cut the tax rate on dividends to a flat 15 percent
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A)
B)
C)
D)
Ans:
instead of treating dividend payments as other income. All else being equal, how would
we expect the number of companies paying dividends to change?
We would expect the number of dividend-paying companies to increase.
We would expect the number of dividend-paying companies to decrease.
We would expect the number of dividend-paying companies to stay relatively
constant.
None of the above.
A
43.Suppose you are advising a retiree who holds 2,000 shares of LargeDiv Corp. The
company is largely held by tax-paying institutional investors and has announced that it
will shortly be issuing a large dividend. Because the shares are held in the retiree's Roth
IRA, she will not incur taxes on either capital gains or dividends. The retiree has decided
to sell the shares sometime this year, and use the money for living expenses. You expect
the only upcoming change in the stock price will result from the dividend. Ignoring any
discounting for time, what advice should you give?
A)
Sell the stock nowthe stock price is likely to decrease more than just the
dividend amount.
B)
Sell the stock ex-dividendthe stock price is likely to decline, but by less than
the dividend amount.
C)
It doesn't matter when the stock is sold.
D)
Sell the stock nowit is always better to sell the stock immediately regardless of
the tax consequences.
Ans:
B
44.Suppose you own shares of ThreeFor, Inc., which has just announced a 3-for-1 stock
split. Immediately after the announcement, the price of the company's shares rose by 5
percent. You don't expect any new information about the company until after the stock
split. Ignoring any discounting for time, if you intend to sell your shares soon, you
should
A)
Sell the stock nowthe single share you have now is likely to be worth more than
the three shares you'll have after the split.
B)
Sell the stock after the splittypically, the marker reacts positively to stock splits.
The three shares you'll have after the split will be worth more than the single share
you have now.
C)
Sell the stock nowthe stock is likely to be more liquid before the split when
there are fewer shares.
D)
It doesn't matter when the stock is sold. If there is no new information about
the stock, then the value of three shares after the split should be the same as
the value of the single share you hold now.
Ans:
D
45.Generally, management undertakes a reverse stock split to
A)
Send a signal to investors that the company is expected to perform poorly.
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B)
C)
D)
Ans:
Meet the minimum requirements to be listed on one of the major stock

exchanges.
Increase the liquidity of shares by decreasing the number of share available.
Reduce the administrative costs associated with investor relations.
B
46.Which one of the following statements describes the finding from academic studies on
corporate dividend policy?
A)
Managers tend to increase regular cash dividends in response to unexpectedly high
earnings.
B)
Managers tend to maintain a level dividend payment at an amount that they
are relatively certain they can maintain in the future.
C)
Managers tend to focus on dividends rather than stock repurchases because
institutional investors tend to prefer regular dividends.
D)
Dividend policy doesn't matter because investors can re-create dividends by selling
a fraction of their shares.
Ans:
B
47.Which of the following considerations should NOT be related to management's concerns
when setting a dividend or stock repurchases policy?
A)
Over the long term, how much does the company's level of earnings exceed its
investment requirements? How certain is this level?
B)
Is the stock currently undervalued? Can the management add value to the
company by initiating a stock repurchase?
C)
Does the firm have enough financial reserves to maintain the dividend policy in
periods when earnings are down or investment requirements are up?
D)
Can the firm quickly raise equity capital if necessary?
Ans:
B
48.Which one of these actions could by itself have an impact on the control of the firm?
A)
A tender offer stock repurchase
B)
A special dividend payment
C)
A stock split
D)
A regular cash dividend payment
Ans:
A
49.GHI Co. has just announced that the board has reached a targeted stock repurchase
agreement with a large stockholder. The company will repurchase all of the large
investor's stock for 90 percent of the current market value. When the stock repurchase
was announced, the shares of GHI Co. fell by 7 percent. Which one of these explanations
Page 9
A)
B)
C)
D)
Ans:
could reasonably explain the drop in share price?

The willingness of the large investor to accept the targeted stock repurchase
signals that the large investor believes the company will not do well in the future.
A targeted stock repurchases essentially transfers value from the average investor
to the targeted investor.
Investors believe that the company's management is entrenching itself by
buying off any large block shareholders.
Both A and C are possible explanations.
C
50.Good Signal Co. is currently trading for $10 with 1 million shares outstanding. Which of
the following actions would be the most credible signal that management believes that
the long-term prospects for a company has improved?
A)
Pay a $0.20 extra dividend in addition to the company's $0.20 regular quarterly
dividend.
B)
Increase the company's regular quarterly dividend from $0.20 to $0.40.
C)
Initiate an open-market stock repurchase of 2 percent of the company's stock.
D)
Initiate a Dutch auction tender offer stock repurchase for 2 percent of the
company's stock.
Ans:
B
51.Stock splits: Split-Gram, Inc., has announced a 4-to-1 stock split. If the company
currently has 1 million shares outstanding, how many outstanding shares will it have
after the split?
A)
4 million
B)
3 million
C)
2 million
D)
1 million
Ans:
A
Feedback:
The company had 1 million shares outstanding and is issuing a 4-for-1 stock split.
4 1 million = 4 million.
52.Stock splits: You own 3,000 shares of Split Holdings Co. The shares are currently
selling for $48. The company has just announced a 4-for-1 stock split. How many shares
will you own after the split, and approximately what will your holdings in Split Holdings
Co be worth?
A)
12,000 shares worth about $144,000
B)
C)
D)
Ans:
A
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Feedback:
You own 3,000 shares of a company that is undergoing a 4-for-1 split. You will have:
4 3,000 = 12,000 shares
After the split, each share will be worth one-fourth of the original share price, so your
total holding will be worth:
($48 / 4 ) 12,000 = $144,000
53.Stock dividends and stock splits: Split-Div, Inc., has issued quarterly dividends of
$0.10 per share each quarter over the last few years. This quarter Split-Div initiated a 2for-1 stock split. What is the minimum quarterly dividend the board of Split-Div should
approve to avoid sending a bad signal to investors?
A)
$0.02 per share
B)
$0.05 per share
C)
$0.10 per share
D)
$0.20 per share
Ans:
B
Feedback:
To avoid sending a bad signal to investors, the company needs to pay out the same
dividend relative to the number of outstanding shares. After a 2-for-1 split, the equivalent
regular cash dividend would be $0.10 / 2 = $0.05.
54.Stock splits: You own 1,200 shares of ABC, Co. The company has recently announced a
1-for-3 reverse stock split. How many shares will you own after the reverse split?
A)
300 shares
B)
400 shares
C)
3,600 shares
D)
4,800 shares
Ans:
B
Feedback:
You own 1,200 shares. After a 3-for-1 reverse stock split, you would own:
1,200 / 3 = 400 shares
55.Stock dividends: ABC Co. stock is currently trading for $54. Assume there is no new
information about the company. If the company issues a 10 percent stock dividend, what
will the approximate price of the stock be after the stock dividend is issued?
A)
$47.80 per share
B)
$48.60 per share
C)
$49.09 per share
D)
$54.00 per share
Ans:
C
Feedback:
After the stock dividend, there will be 110 percent more shares representing the same
Page 11
amount of assets: $54 / 110% = $49.09 per share

56.Types of dividends: ABC Co. will be distributing $40 million to shareholders through a
special dividend. The company has 160 million shares outstanding. If you own 100
shares of ABC Co., how much will you receive? Ignore taxes.
A)
$400
B)
$100
C)
$25
D)
None of the above
Ans:
C
Feedback:
The dividend payment will be ($40 million / 160 million shares) = $0.25 per share.
With 100 shares you will receive 100 $0.25 = $25.
57.The ex-dividend date: ABC Co. has announced it will pay its regular cash dividend of
$0.45 per share. If dividends are taxed at 15 percent, about how much do you expect the
price of ABC to drop on the ex-dividend day?
A)
$0.07
B)
$0.38
C)
$0.45
D)
$0.52
Ans:
B
Feedback:
The price would be expected to drop by the amount investors receive after taxes:
$0.45 85% = $0.38
58.The ex-dividend date: You own 10,000 shares of ABC Co., which is currently trading
for $11.50 per share. The company has announced that it will soon pay a special
dividend of $1.50 per share. Tomorrow is the ex-dividend day. Ignoring taxes, what do
you expect your block of shares will be worth tomorrow?
A)
$15,000
B)
$100,000
C)
$115,000
D)
$200,000
Ans:
B
Feedback:
With no taxes you expect that the company's stock will drop by $1.50 to $10.00. Your
holdings will be worth 10,000 $10 = $100,000
59.The ex-dividend date: ABC Co. stock is currently trading at $25.70 per share. The
company pays a regular cash dividend of $0.40 every quarter. Tomorrow is ex-dividend
day for the upcoming regular dividend. The tax rate on dividends is 15 percent.
Assuming there is no new information released about the company, how much do you
expect the company's stock to trade for tomorrow?
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A)
B)
C)
D)
Ans:
$0.40
$25.24
$25.30
$25.36
D
Feedback:
$0.40 85% = $0.34
The new stock price would be $25.70 $0.34 = $25.36
60.The ex-dividend date: ABC Co. stock is currently trading at $38.15 per share. The
company pays a regular cash dividend of $0.80 every quarter. Tomorrow is ex-dividend
day for the upcoming regular dividend. The tax rate on dividends is 15 percent.
A)
$37.47
B)
$37.35
C)
$37.32
D)
$37.23
Ans:
A
Feedback:
$0.80 85% = $0.68
61.The ex-dividend date: ABC. Co is currently trading at $37.00 per share. The company
is paying a regular cash dividend of $0.40 per share and an extra dividend of $0.10 per
share. Tomorrow is the ex-dividend day. The tax rate on dividends is 15 percent.
A)
$36.43
B)
$36.50
C)
$36.58
D)
$37.00
Ans:
C
Feedback:
($0.40 + 0.10) 85% = $0.42
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62.The ex-dividend date: ABC. Co is currently trading at $22.00 per share. The company
is paying a regular cash dividend of $0.30 per share, and an extra dividend of $0.05 per
share. Tomorrow is the ex-dividend day. The tax rate on dividends is 15 percent.
A)
$21.70
B)
$21.65
C)
$21.60
D)
$21.55
Ans:
A
Feedback:
($0.30 + $0.05) 85% = $0.30
63.Types of dividends: Distressed Capital, Inc., is being liquidated. The company's assets
can be sold for $20 million. It will cost $18 million for the company to meet all its
previous obligations and to payoff debt holders. The company has 30 million shares
outstanding. If you own 2,000 shares, how much do you expect to receive in liquidating
dividends? Ignore taxes.
A)
$0.00
B)
$133.33
C)
$266.66
D)
$1,200.00
Ans:
B
Feedback:
Shareholders will receive the residual claim after other claimholders have been paid:
20 million 18 million = 2 million
That 2 million will be distributed pro-rata.
As a holder of 2,000 shares, you will receive:
2 million (2,000 shares / 30 million shares) = $133.33
64.Types of dividends: You own 20,000 shares of stock in Casi-knows, Inc., which has just
sold one of its large resort hotels for $300 million. Management intends to return the
entire revenue from the sale to shareholders by issuing a special dividend. If Casi-knows
has 20 million shares outstanding, how large a dividend payment do you expect to
receive?
A)
$20,000
B)
$200,000
C)
$300,000
D)
$1,000,000
Ans:
C
Feedback:
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The 300 million shares will be distributed pro-rata. You will receive:
$300 million (20,000 shares / 20 million shares) = $300,000
65.Types of dividends: ABC Co. has a policy of returning a minimum of 40 percent of

earnings to shareholders every year through dividend issues and open-market stock
repurchases. In each quarter this year, the company earned $0.35 per share. In each of the
first three quarters the company paid a regular cash dividend of $0.10 per share. What
combination of dividends could the company's board approve to meet their target payout
percentage?
A)
A regular cash dividend of $0.10 per share.
B)
A regular cash dividend of $0.10 per share and an extra dividend of 0.56 per share.
C)
A regular cash dividend of $0.10 per share and an extra dividend of $0.46 per
share.
D)
share.
Ans:
D
Feedback:
The company earned $0.35 4 quarters = $1.40 per share this year. To achieve the 40
percent target, the firm must distribute $1.40 x 40% = $0.56 per share to shareholders.
The company has already distributed $0.10 3 quarters = $0.30 per share.
The company could meet the target by distributing another $0.26 per share through a
regular dividend of 0.10 and an extra dividend of 0.16 per share.
66.Types of dividends: ABC Co. has a policy of returning a minimum of 25 percent of

earnings to shareholders every year through dividend issues and open-market stock
repurchases. In each quarter this year, the company earned $0.20 per share. In each of the
first three quarters, the company paid a regular cash dividend of $0.05 per share. What
combination of dividends could the company's board approve to meet their target payout
percentage?
A)
A regular cash dividend of $0.05
B)
A regular cash dividend of $0.05 per share and an extra dividend of 0.05 per share
C)
share
D)
share
Ans:
A
Feedback:
percent target, the firm must distribute $0.80 25% = $0.20 per share to shareholders.
The company could meet the target by distributing another $0.05 per share through a
regular dividend.
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Format: Multiple Choice

Learning Objective: LO 3
Level of Difficulty: Medium
67.How stock repurchases differ from dividends: ABC Co. has a policy of returning a
minimum of 25 percent of earnings to shareholders every year through dividend issues
and open-market stock repurchases. In each quarter this year, the company earned $0.25
per share. In each of the first three quarters, the company paid a regular cash dividend of
$0.05 per share. The company has 2 million shares of common stock outstanding. What
combination of dividends and stock repurchases could the company's board approve to
meet their target payout percentage?
A)
B)
A regular cash dividend of $0.05 per share and an open-market stock repurchase of
$100,000 in stock
C)
$400,000 in stock
D)
500,000 in stock
Ans:
B
Feedback:
The company has already distributed $0.05 3 quarters = $0.15 per share. If the
company issues another regular dividend of $0.05 per share, it will still have $0.05 per
share to remaining to be returned to shareholders.
The stock repurchase required to return that value would be (0.05 per share 2 million
shares) = $100,000 of stock repurchase.
68.How stock repurchases differ from dividends: ABC Co. has a policy of returning a
minimum of 40 percent of earnings to shareholders every year through dividend issues
and open-market stock repurchases. In each quarter this year, the company earned $0.20
per share. In each of the first three quarters, the company paid a regular cash dividend of
$0.05 per share. The company has 8 million shares of common stock outstanding. What
combination of dividends and stock repurchases could the company's board approve to
meet their target payout percentage?
A)
B)
$960,000 in stock
C)
A regular cash dividend of $0.05 per share and a special dividend of $0.12
D)
Both b and c will meet the target payout percentage
Ans:
D
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Feedback:
To meet the 40 percent target the company must distribute another ($0.31 $0.15) =
$0.17 per share. The company could meet the target in two ways:
1.
It could distribute another $0.17 per share through a regular dividend of $0.05 and
an extra dividend of $0.12 per share.
2. The company could pay another $0.17 per share through a regular dividend of
$0.05 and a stock repurchase of ($0.12 per share 8 million shares) = $960,000 in stock.
69.How stock repurchases differ from dividends: You purchased 3,000 shares of Space
Apparition Co. four years ago at $40 per share You have just received a mailing from the
company announcing a fixed-price tender offer stock repurchase at $70 per share.
Capital gains are taxed at 20 percent. If you participate in the repurchase, how much will
you receive?
A)
$31,500
B)
$192,000
C)
$178,000
D)
$210,000
Ans:
B
Feedback:
You will only be taxed on the capital gain. So you will receive:
3,000 shares x ($40 + ($70 $40) 0.80) = $192,000
70.How stock repurchases differ from dividends: You purchased 3,000 shares of Purple
Stuff Beverage Co. four years ago at $30 per share. You have just received a mailing
from the company announcing a fixed-price tender offer stock repurchase at $36 per
share. Capital gains are taxed at 15 percent. If you participate in the repurchase, how
much will you receive?
A)
$18,000
B)
$91,800
C)
$105,300
D)
$108,800
Ans:
C
Feedback:
3,000 shares x ($30 + ($36-$30) 0.85) = $105,300
Page 17

71.How stock repurchases differ from dividends: You purchased 2,500 shares of
DotCom.com several years ago for $40 per share. The company is offering a fixed-price
tender offer repurchase for $54 per share. What is the amount of after-tax proceeds you
would receive from taking part in the repurchase if capital gains are taxed at 15 percent?
A)
$120,000
B)
$121,250
C)
$129,750
D)
$135,000
Ans:
C
Feedback:
2,500 shares x ($40 + ($54 $40) 0.85 ) = $129,750
72.How stock is repurchased: ABC Co has 3 million shares outstanding. The shares are
currently selling for $40. If the firm repurchases $10 million at market prices,
approximately how much will the stock be worth after the repurchase? Ignore taxes.
A)
$40
B)
$38
C)
$42
D)
$50
Ans:
A
Feedback:
Before the repurchase, the firm was worth $40 per share 3 million shares = $120
million. The firm repurchased 10 million shares at the market price of $40 = 250,000
shares. After the repurchase, the firm has $120 million $10 million = $110 million. The
number of remaining shares is 2,750,000. So each share is worth:
$110,000,000 / 2,750,000 = $40
73.How stock repurchases differ from dividends: You purchased 500 shares in Div
Choice, Inc., several years ago for $20. The company previously announced it will be
distributing cash to shareholders in a novel way. First, the company will a have a tender
offer stock repurchase at $30 per share. After the repurchase, it will issue a special
dividend of $5.00 per share to the remaining stockholders. Suppose that you want to
convert your holdings in Div Choice, Inc., into cash. Assume the tax on dividends is 30
percent and the tax on capital gains is 15 percent. The shares are currently trading for
Page 18
A)
B)
C)
D)
Ans:
$30. Assume no new information comes out about the company. How much cash will
you receive from taking part in the repurchase?
You will receive $14,250 by taking part in the repurchase.
A
Feedback:
If you take part in the repurchase, you will have to pay taxes on your capital gains. So
you will receive:
500 shares ($20 + ($30 $20) 0.85 ) = $14,250

74.How stock repurchases differ from dividends: Using the same information from the
preceding question, approximately how much will you receive by waiting until after the
ex-dividend day and then selling the shares in the market?
A)
You will receive about $13,500 by selling after the ex-dividend day.
B)
C)
D)
Ans:
C
Feedback:
This question is a bit tricky. If you wait until after the dividend payment, you will pay a
30 percent tax on the dividend, so you will receive $5 70% = $3.50 per share in
dividends. However, we would expect the price of the stock to only fall by the after-tax
amount of the dividend. So the stock will be worth about $30 $3.50 = $26.50. Thus,
from selling the stock you will receive. (20 + (26.50 20) 0.85) = $25.525 per share.
In total, you will receive ($25.525+ $3.50) 500 shares = $14,512.50.
75.Dividend policy and firm value: You purchased 2,000 shares of NoDiv Technologies
several years ago at $50 per share. The company does not pay a regular cash dividend.
You want to manufacture your own dividend by selling a little bit of stock each
quarter. The company's stock is currently trading at $75. If capital gains are taxed at 15
percent, how many shares would you have to sell to receive $3,420 in cash?
A)
27 shares
B)
46 shares
C)
48 shares
D)
51 shares
Ans:
C
Page 19
Feedback:
Each share you sell will yield ($50 + ($75 $50) 0.85) = $71.25. To raise $3,420, you
must sell $3,420 / $71.25 = 48 shares.
76.Dividend policy and firm value: You purchased 8,000 shares of NoDiv Technologies
several years ago at $20 per share. The company does not pay a regular cash dividend.
You want to manufacture your own dividend by selling a little bit of stock each
quarter. The company's stock is currently trading at $60. If capital gains are taxed at 15
percent, how many shares would you have to sell to receive $2,000 in cash?
A)
30 shares
B)
33 shares
C)
37 shares
D)
39 shares
Ans:
C
Feedback:
Each share you sell will yield ($20 + ($60 $20) 0.85) = $54. To raise $2,000 you
must sell $2,000 / $54 = 37 shares.
77.Dividend policy and firm value: You purchased 4,000 shares of High-Div Co. several
years ago at $50 per share. The company has decided to pay a special dividend of $2.00
per share. Dividend payments are taxed at 15 percent. You intend to reinvest in the
company through the dividend reinvestment program. If the company's stock is trading at
$48.20 following the dividend payment, how many additional shares can you buy
through the dividend reinvestment program?
A)
166 shares
B)
141 shares
C)
134 shares
D)
125 shares
Ans:
B
Feedback:
After taxes you will receive ($2.00 x 0.85) 4,000 shares = $6,800. With the DRIP
program, you will not have any transaction costs to reinvest. So you can buy:
($6,800 / $48.20) = 141 shares
Page 20
78.Dividend policy and firm value: You own 7,000 shares of No-Drip Co. The company
has decided to pay a special dividend of $1.00 per share. Dividend payments are taxed at
15 percent. You intend to reinvest your dividend back into the company, but the company
does not have a dividend reinvestment program. To reinvest through your broker, you
will have to pay a $46 commission. If the company's stock is trading at $12.43 following
the dividend payment, how many additional shares will you be able to purchase?
A)
563 shares
B)
481 shares
C)
478 shares
D)
475 shares
Ans:
D
Feedback:
After taxes you will receive ($1.00 x 0.85) 7,000 shares = $5,950. You will also have
to pay the $46 transaction fee, leaving you with $5,904 to invest. So you can buy:
($5,904 / $12.43) = 475 shares
79.Stock price reactions to dividend announcements: The Dimples Golf Ball Co. has
paid a regular dividend of $0.20 quarterly for the last three years. The company has 2
million shares outstanding. Over the next year the company will have to spend $800,000
to service its debt and spend $200,000 in capital expenditures. The company has
$500,000 of cash and cash equivalents. Over the next year how much cash must be
provided from operations to continue to make the same quarterly dividend payment, and
still have $500,000 in cash at the end of the year?
A)
1,000,000
B)
1,600,000
C)
2,000,000
D)
2,600,000
Ans:
D
Feedback:
To continue the current dividend pattern, the company will need to pay $0.20 per quarter
x 4 quarter) x 2 million shares = $1,600,000. The company will also need ($800,000 debt
payments + 200,000 CapEx) = $1,000,000. The company must maintain $500,000 cash
and cash equivalents. The result is that to meet the dividend payments and other
requirements operations must provide $1,600,000 + $1,000,000 = $2,600,000.
80.Stock price reactions to dividend announcements: The Wyoming Boot Co. has paid a
regular dividend of $0.25 quarterly for the last several years. The company has 1 million
shares outstanding. Over the next year the company will have to spend $600,000 to
Page 21
A)
B)
C)
D)
Ans:
service its debt and spend $500,000 in capital expenditures. The company has $600,000
of cash and cash equivalents. Over the next year how much cash must be provided from
operations to continue to make the same quarterly dividend payment and still have
$250,000 in cash at the end of the year?
1,000,000
1,100,000
1,750,000
2,100,000
C
Feedback:
To continue the current dividend pattern, the company will need to pay $0.25 per quarter
4 quarter) 1 million shares = $1,000,000. The company will also need ($600,000
debt payments + 500,000 CapEx) = $1,100,000. The company can take ($600,000
$250,000) = $350,000 from cash and cash equivalents and still have the necessary cash
for next year. The result is that to meet the dividend payments and other requirements,
operations must provide $1,000,000 + $1,100,000 $350,000 = $1,750,000.
Format: Essay
81.Describe the four general types of cash dividends and the purpose of each.
Ans:
The most common form of a dividend is known as the regular cash dividend,
which is paid on a regular basis. It is typically set at a level that management
generally expects the company to be able to maintain in the long run, barring
major changes in the fortune of the firm. The extra dividend is generally paid when
the firm has earnings that are higher than expected. The special dividend is a onetime payment to stockholders and is used to distribute large amounts of cash. It
may be used to distribute the proceeds from the sale of a major asset or business or
even to alter the capital structure of the firm. A liquidating dividend is paid to
stockholders when a firm is liquidated and will no longer continue doing business.
Note that the proceeds form the liquidating dividend are available only after all
creditors and priority claimants are paid.
Format: Essay
82.Discuss why investor perception of a stock repurchases is weaker than that of a cash
dividend.
Ans:
While repurchases give investors the flexibility to choose whether or not they
would like to receive a dividend, the major weakness in a repurchase lies in the
fact that when a company publicly announces an ongoing open-market repurchase
program, investors know that management can cut back on the repurchase or end
them at any time. This makes the commitment to pay out cash weaker than with a
dividend, and it means that if cash flows are less certain, then managers are likely
to prefer to distribute extra cash by repurchasing shares where there is some
flexibility in following through.
Page 22
Format: Essay
83.In the 2005 follow-up to the Lintner study, the researchers found that managers choose
their firm's dividend policies in a way that enables them to continue making the
investments necessary for the firm to complete in its product markets. What does this
imply about a firm that operates in a low-growth industry?
Ans:
Since managers appear to be sensitive to not having the ability to take on positiveNPV projects because of a lack of financing, then it appears that managers would
like to create a buffer of cash, causing a low-dividend payout, in order to be able to
invest in these projects. If on the other hand, the firm does not have many growth
prospects, and consequently new positive-NPV projects, then the firm should have
a higher dividend payout than a similarly successful firm in a higher growth
industry.
Page 23

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TRUE/FALSE

1.When a company distributes dividends to stockholders, the amount of equity capital

7.Dividends reduce the stockholder's investment in the firm.

37.Which of the following is NOT a possible result of a stock repurchase?

40.Which of the following explanations is NOT a possible benefit of dividends?

Meet the minimum requirements to be listed on one of the major stock

could reasonably explain the drop in share price?

amount of assets: $54 / 110% = $49.09 per share

65.Types of dividends: ABC Co. has a policy of returning a minimum of 40 percent of

66.Types of dividends: ABC Co. has a policy of returning a minimum of 25 percent of

Format: Multiple Choice

Format: Multiple Choice

Format: Multiple Choice

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