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41) Kelly owns 10,000 shares in McCormick Spices, which currently has 500,000 shares
outstanding. The stock sells for $86 on the open market. McCormick's management has decided
on a 2-1 split.
a. Will Kelly's financial position alter after the split, assuming that the stocks will fall
proportionately?
b. Assuming only a 35% fall on each stock, what will be Kelly's value after the split?
Topic: 16.1 How Do Firms Distribute Cash to Their Shareholders?
Keywords: stock dividend/split
Principles: Principle 3: Cash Flows Are the Source of Value
42) Why has the popularity of stock repurchases been growing faster than the cash dividends as a
method for companies to distribute cash to their stockholders.
Topic: 16.1 How Do Firms Distribute Cash to Their Shareholders?
Keywords: stock repurchase
Principles: Principle 3: Cash Flows Are the Source of Value
11
43) Explain the significance of each of the following:
a. announcement date
b. ex-dividend date
c. record date
d. payment date
Topic: 16.1 How Do Firms Distribute Cash to Their Shareholders?
Keywords: key dates
Principles: Principle 3: Cash Flows Are the Source of Value
44) What are the effects of stock splits and stock dividends? Why are they popular?
50,000 $100 shares, this argument seems dubious.
It is also possible that managers use stock splits to hint at future good news concerning the
company's cash flows.
Topic: 16.1 How Do Firms Distribute Cash to Their Shareholders?
Keywords: stock dividend/split
45) XYZ Corporation has 400,000 shares of common stock outstanding, a P/E ratio of 8, and
$500,000 available for common stockholders. The board of directors has just voted a 3-2 stock
split.
a. If you had 100 shares of stock before the split, how many shares will you have after the split?
b. What was the total value of your investment in XYZ stock before the split?
c. What should be the total value of your investment in XYZ stock after the split?
d. In view of your answers to (b) and (c) above, why would a firm's management want to have a
stock split?
Topic: 16.1 How Do Firms Distribute Cash to Their Shareholders?
Keywords: stock dividend/split
Principles: Principle 3: Cash Flows Are the Source of Value
1) Which of the following might cause dividend policy to affect shareholder wealth?
A) Taxes
B) Transaction costs
C) Changes in the firm's investment policies
D) All of the above
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend policy
Principles: Principle 3: Cash Flows Are the Source of Value
13
2) A stock repurchase increases the:
A) retention ratio of earnings.
B) number of shares outstanding.
C) EPS.
D) both B and C.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend policy
Principles: Principle 3: Cash Flows Are the Source of Value
3) Transaction costs:
A) encourage firms to retain earnings rather than pay dividends.
B) encourage firms to pay large dividends. rather than retain earnings.
C) are encountered whenever a firm pays a dividend.
D) are incurred when investors fail to cash their dividend check.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend policy
Principles: Principle 3: Cash Flows Are the Source of Value
4) The Modigliani and Miller dividend irrelevancy theorem states that:
A) dividends are preferable to stock repurchases.
B) the timing of cash distributions is important.
C) the timing of cash distributions is unimportant.
D) stock repurchases are preferable to dividends.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
5) Assume that as the result of a firm announcing a large unexpected increase in its dividend
payment, the price of the firm's common stock rises. This event would be consistent with which
of the following?
A) The dividend irrelevance theory
B) The tax preference theory
C) The information effect
D) The beta effect
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
14
6) Millbury Gas and Oil's rate of return on equity is 12%. It can either pay a dividend of $5.00
today or reinvest the money and pay a dividend of $5.60 at the end of the year. From a
shareholder's point of view, the value of the dividend paid now is ________ and the value of the
dividend paid a year from now is ________.
A) $5.00, $4.46
B) $5.00, $5.00
C) $4.46, $5.00
D) $5.60, $5.00
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
7) In the absence of taxes, transaction costs, or changes in a firm's operating or investment
policies:
A) the greater the payout ratio, the greater the share price of the firm.
B) the price of a share of stock is not affected by dividend policy.
C) the firm should retain earnings so stockholders will receive a capital gain.
D) the firm should pay a dividend only after current equity financing needs have been met.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
8) Which of the following is included in the Modigliani and Miller dividend indifference
theorem?
A) Transaction costs
B) Personal taxes
C) Changes in the firm's investment policies
D) All of the above
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
9) What might an investor reasonably expect from a company with excess cash and few internal
investment growth opportunities?
A) The company will buy Treasury bills with all the excess cash.
B) The company will split its stock.
C) The company will declare a stock dividend.
D) The company will pay a cash dividend or repurchase some of its own shares.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend policy
15
Topic: 16.2 Does Dividend Policy Matter?
Keywords: clientele
Principles: Principle 3: Cash Flows Are the Source of Value
11) Which of the following describes the clientele effect concept of dividend policy?
A) The clientele effect looks at investor preferences for dividends compared to share repurchase
programs.
B) The clientele effect defines the relationship between the shareholder and a stockbroker.
C) The clientele effect focuses entirely on the stability of dividends.
D) Modern corporations do not consider shareholders to be "clients."
Topic: 16.2 Does Dividend Policy Matter?
Keywords: clientele
Principles: Principle 3: Cash Flows Are the Source of Value
12) In the absence of taxes or transaction costs, investors:
A) would prefer immediate dividends to future capital gains.
B) who did not want a dividend could use dividends to purchase more shares.
C) could create their own dividends by selling the appropriate number of shares.
D) Both B and C are correct.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
16
13) Which of the following statements is most plausible?
A) Increases in stock price associated with a dividend increase are likely due to information
conveyed by the increase.
B) Increases in stock price associated with a dividend increase are likely due to changes in the
company's capital structure.
C) Increases in stock price associated with a dividend increase are likely due to investors'
preference for dividends over capital gains.
D) Increases in stock price associated with a dividend increase are likely due to the favorable tax
treatment of dividends over capital gains.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: information effect
Principles: Principle 4: Market Prices Reflect Information
14) Chandler Corporation has 1 million shares outstanding. The current price per share is $20. If
the company decides to pay a $2 million dollar dividend, the company will have ________
shares outstanding worth approximately ________.
A) 900,000, $20 per share
B) 1,000,000, $20 per share.
C) 900,000, $22.22 per share.
D) 1,000,000, $18 per share.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
15) Chandler Corporation has 1 million shares outstanding. The current price per share is $20. If
the company decides to use $2 million dollars to repurchase shares at the market price, the
company will have ________ shares outstanding worth approximately ________. Assume that
the price does not change during the repurchase period.
A) 900,000, $20 per share
B) 1,000,000, $20 per share
C) 900,000, $22.22 per share
D) 1,000,000, $18 per share
Topic: 16.2 Does Dividend Policy Matter?
Keywords: stock repurchase
Principles: Principle 3: Cash Flows Are the Source of Value
17
16) Which of the following reasons is used to justify stock repurchases?
A) The repurchase narrows ownership.
B) The repurchase modifies the firm's capital structure.
C) The repurchase reduces the firm's costs associated with servicing small stockholders.
D) All of the above.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: stock repurchase
Principles: Principle 3: Cash Flows Are the Source of Value
17) Dividend policy is influenced by:
A) a company's investment opportunities.
B) a firm's capital structure mix.
C) a company's availability of internally generated funds.
D) all of the above.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend policy
Principles: Principle 3: Cash Flows Are the Source of Value
18) All of the following are methods available to a corporation who desires to repurchase stock
EXCEPT:
A) offering to employees who own an interest in the firm.
B) open market.
C) tender offer to all existing stockholders.
D) offer to one or more major stockholders on a negotiated basis.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: stock repurchase
Principles: Principle 3: Cash Flows Are the Source of Value
19) Which of the following typically would NOT affect the dividend policy of the firm?
A) Today's dividend policy is affected by future dividend expectations among investors.
B) Managers are afraid to decrease their voting control of the company by issuing stock
dividends.
C) The failure of so many high-tech and dot.com companies showed that dividends are important
to long-term investors.
D) The current and future cash flow expectations of the company affect dividend policy.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend policy
Principles: Principle 3: Cash Flows Are the Source of Value
18
20) Which of the following conclusions about dividend policy is reasonable?
A) An inverse relation should exist between the amount of acceptable investments a firm has and
the dividends remitted to investors.
B) Management's actions regarding dividends might carry greater weight than a statement by
management that earnings will be increasing.
C) Management should avoid surprising investors when it comes to the firm's dividend decision.
D) All of the above are reasonable.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend policy
Principles: Principle 3: Cash Flows Are the Source of Value
21) If investor's expect a 15% rate of return on their investment, they will be indifferent between
a $1.00 dividend received immediately or:
A) $1.15 received at the end of the year.
B) $1.00 received later.
C) $0.87 received at the end of the year.
D) $1.00 increase in the stock price a year later.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
22) Which of the following is a reason that a company would repurchase its own shares of stock
in the market?
A) To reduce cash and the number of shares outstanding
B) To increase outstanding equity shares
C) To have shares available to offer a merger target
D) Both A and B
Topic: 16.2 Does Dividend Policy Matter?
Keywords: stock repurchase
Principles: Principle 3: Cash Flows Are the Source of Value
23) Since 2003 for most investors the tax rate on dividends has been ________ and the tax rate
on capital gains has been ________.
A) 28%, 15%
B) 15%, 15%
C) 25%, 25%
D) 20%, 34%
Topic: 16.2 Does Dividend Policy Matter?
Keywords: cash dividend
Principles: Principle 3: Cash Flows Are the Source of Value
19
24) Which of the following is the most probable way in which a shareholder will benefit from a
stock split?
A) The immediately lower share price will attract enough increased interest in the stock to cause
the market price to increase on a more consistent basis.
B) The immediately higher number of shares that an investor owns immediately increases the
investor's wealth.
C) The shareholder can use the immediately increased wealth to borrow more money to buy even
more shares at the immediately lower market price.
D) A shareholder can lose money after a stock split if the market believes that the split was an
artificial way of attracting attention to a company that is not well managed.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: stock dividend/split
Principles: Principle 3: Cash Flows Are the Source of Value
25) Brimfield Corp. has total cash available of $1 million, but decides to match last year's
dividend payout of $1.5 million. If the company raises the extra $500,000 by selling stock, the
decision to pay out more than its available cash in dividends should:
A) cause the stock price to increase.
B) have no effect on the value of the stock.
C) cause the stock price to decrease.
D) a company cannot use money raised by selling to stock to pay a dividend to existing
stockholders.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: dividend indifference
Principles: Principle 3: Cash Flows Are the Source of Value
26) Fred Handel owns 2000 shares of Haydn Inc. stock which is currently selling for $18 per
share. If the company repurchases 10% of its outstanding shares at $18 per share and Fred
chooses to sell back 200 shares:
A) his investment in the company and his percentage of ownership will each decrease by 10%.
B) his investment in the company and his percentage of ownership will stay the same.
C) his investment in the company will decrease by $3,600 and his percentage of ownership will
stay the same.
D) the value of his remaining shares will increase to $20 per share and his percentage of
ownership will fall by 10%.
Topic: 16.2 Does Dividend Policy Matter?
Keywords: stock repurchase
Principles: Principle 3: Cash Flows Are the Source of Value
20
