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P14-13. Stock split—firm
LG 6; Intermediate
a. CS $1,800,000 (1,200,000 shares @ $1.50 par)
P14-14. Stock splits
LG 6; Easy
a. 400 2 800 shares will be owned by Nathan after the split.
P14-15. Stock split versus stock dividend—firm
LG 5, 6; Challenge
a. There would be a decrease in the par value of the stock from $3 to $2 per share. The shares
P14-16. Stock dividend versus stock split—firm
LG 5, 6; Challenge
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Chapter 14 Payout Policy 310
a. A 20% stock dividend would increase the number of shares to 120,000 but would not entail a decrease
Chapter 14 Payout Policy 311
a.
($1,200,000 0.40) $480,000
Shares outstanding needed 240,000
$2.00 $2.00
´
= = =
P14-19. Ethics problem
LG 6; Intermediate
Students should argue that all of the methods being contemplated by the chief financial officer (CFO) are
Case
Case studies are available on www.myfinancelab.com.
Establishing General Access Company’s Dividend Policy and Initial Dividend
This case requires students to evaluate the alternative dividend payout policies that a firm may follow. They need
to evaluate the alternatives with regard to both the financial facts of the firm as well as the stockholders’ dividend
preferences.
a. The company has experienced positive and increasing earnings since it went public. Management believes
b. The low-regular-and-extra dividend policy should be adopted for two reasons. First, this approach provides
c. There are six factors the board should consider before setting an initial dividend policy:
1. Legal constraints—Are there legal restrictions that come into play that will prohibit the firm from paying a
2. Contractual constraints—Loan covenants may be in place that put some prohibitions on the ability of the
3. Internal constraints—This factor addresses whether or not the firm has the available funds to make the
4. Growth prospects—If the firm needs the funds to invest in new or ongoing projects, it may wish to retain
5. Owner considerations—Although it is impossible to maximize the wealth of every single owner,
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Chapter 14 Payout Policy 312
6. Market consideration—How will market participants view the dividend decision? This factor is
d. Ms. McNeely will want to set a dividend that is high enough to inform stockholders of the financial strength
e. The initial dividend should be approximately $0.72 per share per year ($0.18 per quarter). General Access has
Spreadsheet Exercise
The answer to Chapter 14’s Rock-O-Corporation stockholder’s equity section spreadsheet problem is located on
the Instructor’s Resource Center at www.pearsonhighered.com/irc under the Instructor’s Manual.
Group Exercise
Group exercises are available on www.myfinancelab.com.
Dividend policy is the subject of this chapter and its group exercise. The shadow and fictitious firms will be
Integrative Case 6: O’Grady Apparel Company
Integrative Case 6, O’Grady Apparel Company, is an exercise in evaluating the cost of capital and available
investment opportunities. The student must calculate the component costs of financing, long-term debt, preferred
stock, and common stock equity, and determine the weighted average cost of capital (WACC). Investment
decisions must be made between competing projects. Finally, the student must reanalyze the case given a new,
more highly leveraged capital structure.
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Chapter 14 Payout Policy 313
a. Cost of financing sources
Debt:
$0 – $700,000
-
+
=+
$1,000
$1,000
2
d
d
d
N
In
rN
-
+
= = =
+
$1,000 $970
$120 $123
10 12.5%
$970 $1,000 $985
2
d
r
ri rd(1 – t)
ri 0.125(1 – 0.4)
ri 0.075 or 7.5%
Above $700,000: rj 0.18(1 – t)
rj 0.18(1 – 0.4)
rj 0.108 or 10.8%
Preferred stock:
p
p
p
D
rN
=
$10.20 17.9%
$57.00
p
r= =
Common stock equity:
$0 – $1,300,000
1
0
s
D
r g
P
= +
$1.76 0.15 23.8%
$20.00
s
r= + =
Above $1,300,000
1
s
n
D
r g
N
= +
$1.76 0.15 26%
$16.00
s
r= + =
b. 1. Breaking points: BPj AFj Wj
$700,000
Long-term debt $2,800,000
0.25
= =
Preferred stock: Not applicable
$1,300,000
Common stock equity $2,000,000
0.65
= =
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Chapter 14 Payout Policy 314
2.
Cost of Component Source of Financing
Ranges of Total New Financing Long-Term Debt Preferred Stock
Common
Stock Equity
3. WACC: ra (wjrj) (wprp) (wsrr or n)
Range Calculation WACC
(0.65.260)
c. 1.
2. Projects D, C, F, and A should be accepted because each has an internal rate of return greater than the
weighted average cost of capital.
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Chapter 14 Payout Policy 315
d. 1. Changing the capital structure to include more debt while keeping the cost of each financing source the
