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Exam 16: Dividends

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Question 21

True/False

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If a firm uses the residual dividend model to set dividend policy, then dividends are determined as a residual after providing for the equity required to fund the capital budget. Under this model, the higher the firm's debt ratio, the lower its payout ratio will be, other things held constant.

A) True
B) False

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Question 22

Multiple Choice

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LA Moving Company has the following data, dollars in thousands. If it follows the residual dividend model, what will its dividend payout ratio be?

A) 60.71%
B) 63.75%
C) 70.13%
D) 77.14%
E) 84.85%

F) B) and D)
G) C) and D)

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Question 23

Multiple Choice

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Whitman Antique Cars Inc. has the following data, and it follows the residual dividend model. Some Whitman family members would like more dividends, and they also think that the firm's capital budget includes too many projects whose NPVs are close to zero. If Whitman reduced its capital budget to the indicated level, by how much could dividends be increased, holding other things constant?

Grullon Co. is considering a 7-for-3 stock split. The current stock price is $75.00 per share, and the firm believes that its total market value would increase by 5% as a result of the improved liquidity that should follow the split. What is the stock's expected price following the split?

Keys Financial has done extremely well in recent years, and its stock now sells for $175 per share. Management wants to get the price down to a more typical level, which it thinks is $25 per share. What stock split would be required to get to this price, assuming the transaction has no effect on the total market value? Put another way, how many new shares should be given per one old share?

Which of the following statements is CORRECT?

Your firm adheres strictly to the residual dividend model. All else equal, which of the following factors would be most likely to lead to an increase in the firm's dividend per share?

Purcell Farms Inc. has the following data, and it follows the residual dividend model. Currently, it finances with 15% debt. Some Purcell family members would like for the dividend payout ratio to be increased. If Purcell increased its debt ratio, which the firm's treasurer thinks is feasible, by how much could the dividend payout ratio be increased, holding other things constant?

Miller and Modigliani's dividend irrelevance theory says that the percentage of its earnings a firm pays out in dividends has no effect on either its cost of capital or its stock price.

Suppose a firm that has been earning $2 and paying a dividend of $1.00, or a 50% dividend payout, announces that it is increasing the dividend to $1.50. The stock price then jumps from $20 to $30. Some people would argue that this is proof that investors prefer dividends to retained earnings. Miller and Modigliani would agree with this argument.

Becker Financial recently declared a 2-for-1 stock split. Prior to the split, the stock sold for $80 per share. If the firm's total market value is unchanged by the split, what will the stock price be following the split?

If a firm pays out all of its earnings as dividends and its stockholders then elect to have all of their dividends reinvested, the company should reconsider its dividend policy and possibly move to a lower dividend payout ratio.

NY Fashions has the following data. If it follows the residual dividend model, how much total dividends, if any, will it pay out?

Fauver Industries plans to have a capital budget of $650,000. It wants to maintain a target capital structure of 40% debt and 60% equity, and it also wants to pay a dividend of $225,000. If the company follows the residual dividend model, how much net income must it earn to meet its investment requirements, pay the dividend, and keep the capital structure in balance?

The federal government sometimes taxes dividends and capital gains at different rates. Other things held constant, an increase in the tax rate on dividends relative to that on capital gains would logically lead to an increase in dividend payout ratios.

If on January 3, 2012, a company declares a dividend of $1.50 per share, payable on January 31, 2012, to holders of record on January 19, then the price of the stock should drop by approximately $1.50 on January 17, which is the ex-dividend date.

If the information content, or signaling, hypothesis is correct, then a change in a firm's dividend policy can have an important effect on its stock price and cost of equity.

If on January 3, 2012, a company declares a dividend of $1.50 per share, payable on January 31, 2012, then the price of the stock should drop by approximate $1.50 on January 31.

Ross-Jordan Financial has suffered losses in recent years, and its stock currently sells for only $0.50 per share. Management wants to use a reverse split to get the price up to a more "reasonable" level, which it thinks is $25 per share. How many of the old shares must be given up for one new share to achieve the $25 price, assuming this transaction has no effect on total market value?

Firm M is a mature company in a mature industry. Its annual net income and cash flows are consistently high and stable. However, M's growth prospects are quite limited, so its capital budget is small relative to its net income. Firm N is a relatively new company in a new and growing industry. Its markets and products have not stabilized, so its annual operating income fluctuates considerably. However, N has substantial growth opportunities, and its capital budget is expected to be large relative to its net income for the foreseeable future. Which of the following statements is CORRECT?