CHAPTER 14: DISTRIBUTIONS TO SHAREHOLDERS: DIVIDENDS AND SHARE REPURCHASES

1. The optimal distribution policy strikes that balance between current dividends and capital gains that maximizes the firm's stock price.
a. True
b. False

ANSWER: True

2. Other things held constant, the higher a firm's target payout ratio, the higher its expected growth rate should be.
a. True
b. False

ANSWER: False
RATIONALE: The higher the payout ratio, the less of its earnings the firm reinvests in the business, and the lower the reinvestment rate, the lower the firm's growth rate.
3. 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 …show more content…

So, the higher the debt ratio, the less equity will be needed, and this results in a higher dividend payout ratio according to the residual dividend model.
20. If management wants to maximize its stock price, and if it believes that the dividend irrelevance theory is correct, then it must adhere to the residual dividend policy.
a. True
b. False

ANSWER: False

21. If on January 3, 2014, a company declares a dividend of $1.50 per share, payable on January 31, 2014, then the price of the stock should drop by approximately $1.50 on January 31.
a. True
b. False

ANSWER: False
RATIONALE: This is false. The stock price will drop on the ex-dividend date, which is two days prior to the holder of record date, which is well before the actual January 31 payment date. Also, because the dividend is taxable, the price decline is generally somewhat less than the full amount of the dividend.
22. If on January 3, 2014, a company declares a dividend of $1.50 per share, payable on January 31, 2014, to holders of record on January 17, then the price of the stock should drop by approximately $1.50 on January 15, which is the ex- dividend date.
a. True
b. False

ANSWER: True
RATIONALE: This is true. The stock price will drop on the ex-dividend date, which is two days prior to the holder of record date, which is well before the actual January 31 payment date. Note, though, that because the dividend is taxable, the price decline may be