Chapter 17
Payout Policy
I. Chapter Outline
The following chapter outline is correlated to the PowerPoint Lecture Slides. The PowerPoint slides
are referenced in bold. Alternative Examples to selected textbook examples are also available in the
PowerPoint Lecture Slides and are also referenced in bold.
17.1 Distributions to Shareholders (Slide 7)
• Dividends (Slides 9–10, 12, 14)
• Figure 17.1 Uses of Free Cash Flow (Slide 8)
• Figure 17.2 Important Dates for Microsoft’s Special Dividend (Slide 11)
• Figure 17.3 Dividend History for GM Stock, 1983-2008 (Slide 13)
• Share Repurchases (Slide 15)
17.2 Comparison of Dividends and Share Repurchases (Slide 20)
• Alternative Policy 1: Pay Dividend with Excess Cash (Slides 21–25)
• Alternative Policy 2: Share Repurchase (No Dividend) (Slides 26–31)
– Genron’s Future Dividends (Slide 29)
– Investor Preferences (Slide 30)
• Common Mistake: Repurchases and the Supply of Shares
• Example 17.1 Homemade Dividends (Slides 32–33)
17.3 The Tax Disadvantage of Dividends (Slide 43)
• Table 17.2 Long-Term Capital Gains Versus Dividend Tax Rates in the United States,
1971–2012 (Slide 44)
17.4 Dividend Capture and Tax Clienteles (Slide 56)
• The Effective Dividend Tax Rate (Slides 57–58)
17.5 Payout Versus Retention of Cash (Slide 66)
• Retaining Cash with Perfect Capital Markets (Slides 67–68, 75)
• Example 17.4 Delaying Dividends with Perfect Markets (Slides 69–70)
• PowerPoint Alternative Example 17.4 (Slides 71–74)
• Taxes and Cash Retention (Slide 76)
• Example 17.5 Retaining Cash with Corporate Taxes (Slides 77–78)
17.6 Signaling with Payout Policy (Slides 98–100)
• Dividend Smoothing (Slide 98)
17.7 Stock Dividends, Splits, and Spin-Offs (Slide 108)
• Stock Dividends and Splits (Slides 108–113)
II. Learning Objectives
17-2 Describe the dividend payment process and the open-market repurchase process.
74 Berk/DeMarzo • Corporate Finance, Fourth Edition
17-4 Discuss the effect of dividend payment or share repurchase in a perfect world.
17-6 Discuss the effect of taxes on dividend policy; compute the effective dividend tax rate.
17-8 Describe the effect of agency costs on payout policy.
III. Chapter Overview
This chapter shows that payout policy has similar constraints and motivations as capital structure.
17.1 Distributions to Shareholders
This section describes the payment process for dividends. In addition, the authors briefly touch on
17.2 Comparison of Dividends and Share Repurchases
This section introduces a hypothetical company with a large amount of cash that will increase
substantially and permanently in the next year. There are three alternative forms of payout: (1) pay a
17.3 The Tax Disadvantage of Dividends
Because dividends are generally taxed at a higher rate (in the United States) than capital gains,
17.4 Dividend Capture and Tax Clienteles
This section quantifies the combined effects of dividend and capital gains taxes. Equation 17.3 gives
the effective dividend tax rate. This rate will differ across investors. This section considers four
different factors affecting investors—including income level, investment horizon, tax jurisdiction, and
17.5 Payout Versus Retention of Cash
This section explains how firms choose the amount to pay out to shareholders. It starts out with the
Modigliani and Miller (1961) finding that, in perfect capital markets, the choice of payout versus
17.6 Signaling with Payout Policy
Firms seldom vary the size of their dividend (they smooth dividends). If this is the case, then dividend
choice will contain information regarding expectations of future earnings. This dividend signaling is
17.7 Stock Dividends, Splits, and Spin-Offs
The chapter closes with a definition of stock splits and dividends. The authors attempt to answer the
question about why firms split their stock. They conclude that the goal is to keep the stock price
IV. Spreadsheet Solutions in Excel
The following Problems for Chapter 17 have spreadsheet versions of the problems available: 22, 23,
25, 30, and 32.