2023 FIN534 Quiz 8 ( Graded: 30/30)

Question 1

Which of the following statements is correct?

Answer

[removed]		One disadvantage of dividend reinvestment plans is that they increase transactions costs for investors who want to increase their ownership in the company.
[removed]		One advantage of dividend reinvestment plans is that they enable investors to postpone paying taxes on the dividends credited to their account.
[removed]		Stock repurchases can be used by a firm that wants to increase its debt ratio.
[removed]		Stock repurchases make sense if a company expects to have a lot of profitable new projects to fund over the next few years, provided investors are aware of these investment opportunities.
[removed]		One advantage of an open market dividend reinvestment plan is that it provides new equity capital and increases the shares outstanding.

Question 2

Which of the following statements is correct?

Answer

[removed]		If a company has a 2-for-1 stock split, its stock price should roughly double.
[removed]		Capital gains earned in a share repurchase are taxed less favorably than dividends; this explains why companies typically pay dividends and avoid share repurchases.
[removed]		Very often, a company’s stock price will rise when it announces that it plans to commence a share repurchase program. Such an announcement could lead to a stock price decline, but this does not normally happen.
[removed]		Stock repurchases increase the number of outstanding shares.
[removed]		The clientele effect is the best explanation for why companies tend to vary their dividend payments from quarter to quarter.

Question 3

Which of the following statements is correct?

Answer

[removed]		If a firm repurchases some of its stock in the open market, then shareholders who sell their stock for more than they paid for it will be subject to capital gains taxes.
[removed]		An open-market dividend reinvestment plan will be most attractive to companies that need new equity and would otherwise have to issue additional shares of common stock through investment bankers.
[removed]		Stock repurchases tend to reduce financial leverage.
[removed]		If a company declares a 2-for-1 stock split, its stock price should roughly double.
[removed]		One advantage of adopting the residual dividend policy is that this makes it easier for corporations to meet the requirements of Modigliani and Miller’s dividend clientele theory.

Question 4

Which of the following statements is correct?

Answer

[removed]		Under the tax laws as they existed in 2008, a dollar received for repurchased stock must be taxed at the same rate as a dollar received as dividends.
[removed]		One nice feature of dividend reinvestment plans (DRIPs) is that they reduce the taxes investors would have to pay if they received cash dividends.
[removed]		Empirical research indicates that, in general, companies send a negative signal to the marketplace when they announce an increase in the dividend, and as a result share prices fall when dividend increases are announced. The reason is that investors interpret the increase as a signal that the firm has relatively few good investment opportunities.
[removed]		If a company wants to raise new equity capital rather steadily over time, a new stock dividend reinvestment plan would make sense. However, if the firm does not want or need new equity, then an open market purchase dividend reinvestment plan would probably make more sense.
[removed]		Dividend reinvestment plans have not caught on in most industries, and today about 99% of all companies with DRIPs are utilities.

Question 5

Which of the following should not
influence a firm’s dividend policy decision?

Answer

[removed]		The firm’s ability to accelerate or delay investment projects.
[removed]		A strong preference by most shareholders for current cash income versus capital gains.
[removed]		Constraints imposed by the firm’s bond indenture.
[removed]		The fact that much of the firm’s equipment has been leased rather than bought and owned.
[removed]		The fact that Congress is considering changes in the tax law regarding the taxation of dividends versus capital gains.

Question 6

Myron Gordon and John Lintner believe that the required return on equity increases as the dividend payout ratio is decreased. Their argument is based on the assumption that

Answer

[removed]		investors are indifferent between dividends and capital gains.
[removed]		investors require that the dividend yield and capital gains yield equal a constant.
[removed]		capital gains are taxed at a higher rate than dividends.
[removed]		investors view dividends as being less risky than potential future capital gains.
[removed]		investors value a dollar of expected capital gains more highly than a dollar of expected dividends because of the lower tax rate on capital gains.

Question 7

Trenton Publishing follows a strict residual dividend policy. All else equal, which of the following factors would be most likely to lead to an increase
in the firm’s dividend per share?

Answer

[removed]		The firm’s net income increases.
[removed]		The company increases the percentage of equity in its target capital structure.
[removed]		The number of profitable potential projects increases.
[removed]		Congress lowers the tax rate on capital gains. The remainder of the tax code is not changed.
[removed]		Earnings are unchanged, but the firm issues new shares of common stock.

Question 8

Which of the following statements is correct?

Answer

[removed]		One advantage of dividend reinvestment plans is that they enable investors to avoid paying taxes on the dividends they receive.
[removed]		If a company has an established clientele of investors who prefer a high dividend payout, and if management wants to keep stockholders happy, it should not follow the strict residual dividend policy.
[removed]		If a firm follows a strict residual dividend policy, then, holding all else constant, its dividend payout ratio will tend to rise whenever the firm’s investment opportunities improve.
[removed]		If Congress eliminates taxes on capital gains but leaves the personal tax rate on dividends unchanged, this would motivate companies to increase their dividend payout ratios.
[removed]		Despite its drawbacks, following the residual dividend policy will tend to stabilize actual cash dividends, and this will make it easier for firms to attract a clientele that prefers high dividends, such as retirees.

Question 9

Which of the following statements is CORRECT?

Answer

[removed]		When firms are deciding on the size of stock splits—say whether to declare a 2-for-1 split or a 3-for-1 split, it is best to declare the smaller one, in this case the 2-for-1 split, because then the after-split price will be higher than if the 3-for-1 split had been used.
[removed]		Back before the SEC was created in the 1930s, companies would declare reverse splits in order to boost their stock prices. However, this was determined to be a deceptive practice, and it is illegal today.
[removed]		Stock splits create more administrative problems for investors than stock dividends, especially determining the tax basis of their shares when they decide to sell them, so today stock dividends are used far more often than stock splits.
[removed]		When a company declares a stock split, the price of the stock typically declines—by about 50% after a 2-for-1 split—and this necessarily reduces the total market value of the equity.
[removed]		If a firm’s stock price is quite high relative to most stocks—say $500 per share—then it can declare a stock split of say 10-for-1 so as to bring the price down to something close to $50. Moreover, if the price is relatively low—say $2 per share—then it can declare a “reverse split” of say 1-for-25 so as to bring the price up to somewhere around $50 per share.

Question 10

You own 100 shares of Troll Brothers’ stock, which currently sells for $120 a share. The company is contemplating a 2-for-1 stock split. Which of the following best describes what your position will be after such a split takes place?

Answer

[removed]		You will have 200 shares of stock, and the stock will trade at or near $120 a share.
[removed]		You will have 200 shares of stock, and the stock will trade at or near $60 a share.
[removed]		You will have 100 shares of stock, and the stock will trade at or near $60 a share.
[removed]		You will have 50 shares of stock, and the stock will trade at or near $120 a share.
[removed]		You will have 50 shares of stock, and the stock will trade at or near $60 a share.

Question 11

Which of the following actions will best enable a company to raise additional equity capital?

Answer

[removed]		Refund long-term debt with lower cost short-term debt.
[removed]		Declare a stock split.
[removed]		Begin an open-market purchase dividend reinvestment plan.
[removed]		Initiate a stock repurchase program.
[removed]		Begin a new-stock dividend reinvestment plan.

Question 12

If a firm adheres strictly to the residual dividend policy, then if its optimal capital budget requires the use of all earnings for a given year (along with new debt according to the optimal debt/total assets ratio), then the firm should pay

Answer

[removed]		no dividends except out of past retained earnings.
[removed]		no dividends to common stockholders.
[removed]		dividends only out of funds raised by the sale of new common stock.
[removed]		dividends only out of…

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