Q&A Hero

Q: An increase in any current asset must be accompanied by an equal increase in some current liability. a. True b. False

Q: Net working capital is defined as current assets divided by current liabilities. a. True b. False

Q: Net operating working capital, defined as operating current assets minus the difference between current liabilities and notes payable, is equal to the current ratio minus the quick ratio. a. True b. False

Q: 5 = $1,870,000/ Total assets Total assets = $748,000

Q: Refer to Exhibit 16.1. Assume now that the company believes that if it adopts a restricted policy, its sales will fall by 15% and EBIT will fall by 10%, but its total assets turnover, debt ratio, interest rate, and tax rate will all remain the same. In this situation, what's the difference between the projected ROEs under the restricted and relaxed policies? Do not round intermediate calculations. a. 3.66% b. 3.29% c. 3.73% d. 4.57% e. 3.26%

Q: Refer to Exhibit 15.1. What's the difference in the projected ROEs under the restricted and relaxed policies? Do not round intermediate calculations. u200b a. 2.995% b. 2.381% c. 2.455% d. 2.872% e. 2.307%

Q: 2 = $2,200,000 / Total assets Total assets = $1,000,000

Q: 5 = $2,200,000 / Total assets Total assets = $880,000

Q: 0 = $2,200,000 / Net FA Net FA = $550,000 u200b Restricted: TATO = Sales / Total assets

Q: Refer to Exhibit 15.1. If the firm adopts a restricted policy, how much lower would its interest expense be than under the relaxed policy? Do not round intermediate calculations. u200b a. $4,740 b. $5,700 c. $6,000 d. $7,320 e. $5,100

Q: Madura Inc. wants to increase its free cash flow by $180 million during the coming year, which should result in a higher EVA and stock price. The CFO has made these projections for the upcoming year: u200b EBIT is projected to equal $850 million. Gross capital expenditures are expected to total to $360 million versus depreciation of $120 million, so its net capital expenditures should total $240 million. The tax rate is 40%. There will be no changes in cash or marketable securities, nor will there be any changes in notes payable or accruals. u200b What increase in net operating working capital (in millions of dollars) would enable the firm to meet its target increase in FCF? a. $107 b. $90 c. $92 d. $108 e. $75

Q: Zarruk Constructions DSO is 50 days (on a 365-day basis), accounts receivable are $100 million, and its balance sheet shows inventory of $70 million. What is the inventory turnover ratio? a. 10.32 b. 8.13 c. 10.43 d. 8.03 e. 11.26

Q: Gonzales Company currently uses maximum trade credit by not taking discounts on its purchases. The standard industry credit terms offered by all its suppliers are 2/10, net 48 days, and the firm pays on time. The new CFO is considering borrowing from its bank, using short-term notes payable, and then taking discounts. The firm wants to determine the effect of this policy change on its net income. Its net purchases are $11,760 per day, using a 365-day year. The interest rate on the notes payable is 10%, and the tax rate is 40%. If the firm implements the plan, what is the expected change in net income? Do not round intermediate calculations. a. $25,747 b. $31,927 c. $31,669 d. $22,143 e. $22,915

Q: Aggarwal Inc. buys on terms of 2/10, net 30, and it always pays on the 30th day. The CFO calculates that the average amount of costly trade credit carried is $425,000. What is the firm's average accounts payable balance? Assume a 365-day year. a. $707,625 b. $516,375 c. $637,500 d. $567,375 e. $522,750

Q: Suppose the credit terms offered to your firm by its suppliers are 2/10, net 30 days. Your firm is not taking discounts, but is paying after 13 days instead of Day 30. You point out that the nominal cost of not taking the discount and paying on Day 30 is approximately 37%. But since your firm is neither taking discounts nor paying on the due date, what is the effective annual percentage cost (not the nominal cost) of its costly trade credit, using a 365-day year? a. 1,089.5% b. 1,303.1% c. 822.5% d. 982.7% e. 1,068.1%

Q: Margetis Inc. carries an average inventory of $750,000. Its annual sales are $10 million, its cost of goods sold are 75% of annual sales, and its receivables collection period is twice as long as its inventory conversion period. The firm buys on terms of net 30 days, and it pays on time. Its new CFO wants to decrease the cash conversion cycle by 6 days, based on a 365-day year. He believes he can reduce the average inventory to $635,450 with no effect on sales. By how much must the firm also reduce its accounts receivable to meet its goal in the reduction of its cash conversion cycle? Do not round your intermediate calculations. a. $11,650 b. $11,767 c. $13,398 d. $13,980 e. $11,417

Q: 14 28.00 u200b a. $2,134 b. $1,888 c. $1,454 d. $1,813 e. $1,775

Q: Soenen Inc. had the following data for last year (in millions). The new CFO believes that the company could improve its working capital management sufficiently to bring its net working capital and cash conversion cycle up to the benchmark companies' level without affecting either sales or the costs of goods sold. Soenen finances its net working capital with a bank loan at an 8% annual interest rate, and it uses a 365-day year. If these changes had been made, by how much would the firm's pre-tax income have increased? Do not round your intermediate calculations. Original Data Related CCC Benchmarks' CCC Sales $103,000 Cost of goods sold $80,000 Inventory (ICP) $20,000 91.25 38.00 Receivables (DSO) $16,000 56.70 20.00 Payables (PDP) $5,000 22.81 30.00

Q: Weiss Inc. arranged a $10,000,000 revolving credit agreement with a group of banks. The firm paid an annual commitment fee of 0.5% on the unused balance of the loan commitment. On the used portion of the revolver, it paid 1.5% above prime for the funds actually borrowed on a simple interest basis. The prime rate was 9% during the year. If the firm borrowed $6,000,000 immediately after the agreement was signed and repaid the loan at the end of one year, what was the total dollar annual cost of the revolver? Do not round intermediate calculations. a. $780,000 b. $734,500 c. $650,000 d. $643,500 e. $767,000

Q: Affleck Inc.'s business is booming, and it needs to raise more capital. The company purchases supplies on terms of 1/10, net 20, and it currently takes the discount. One way of acquiring the needed funds would be to forgo the discount, and the firm's owner believes she could delay payment to 95 days without adverse effects. What would be the effective annual percentage cost of funds raised by this action? (Assume a 365-day year.) a. 3.66% b. 5.38% c. 4.41% d. 4.23% e. 3.75%

Q: Roton Inc. purchases merchandise on terms of 2/15, net 40, and its gross purchases (i.e., purchases before taking off the discount) are $525,000 per year. What is the maximum dollar amount of costly trade credit the firm could get, assuming it abides by the suppliers credit terms? (Assume a 365-day year.) Do not round intermediate calculations. a. $36,297 b. $31,011 c. $42,992 d. $31,363 e. $35,240 ANSWER: e RATIONALE: Discount 2% Gross purchases $525,000 Discount days 15 Days in year 365 Net days 40 u200b Net purchases = Gross (1 - Disc %) = $514,500 Net purchase per day = Net / 365 = $1,410 Total trade credit = Net days Net per day = $56,384 Free credit = Net per day Discount days = $21,144 Costly credit = Total credit - Free credit = $35,240 u200b LOCAL STANDARDS: United States - OH - Default City - Tier 2: - Capital structure 115. Kirk Development buys on terms of 2/15, net 60 days. It does not take discounts, and it typically pays on time, 60 days after the invoice date. Net purchases amount to $475,000 per year. On average, what is the dollar amount of total trade credit (costly + free) the firm receives during the year, i.e., what are its average accounts payable? (Assume a 365-day year, and note that purchases are net of discounts.) a. $78,082 b. $96,822 c. $60,904 d. $78,863 e. $91,356 ANSWER: a RATIONALE: Purchases $475,000 Net days 60 Discount % 2% Days to payment 60 Discount days 15 Days/Year 365 u200b Purchases/day = $475,000 / 365 = $1,301 Average trade credit = Average A/P = Days to payment Net purchases/day = $78,082 u200b LOCAL STANDARDS: United States - OH - Default City - Tier 2: - Capital structure

Q: Ingram Office Supplies, Inc., buys on terms of 2/15, net 50 days. It does not take discounts, and it typically pays on time, 50 days after the invoice date. Net purchases amount to $300,000 per year. On average, what is the dollar amount of costly trade credit (total credit free credit) the firm receives during the year? (Assume a 365-day year, and note that purchases are net of discounts.) Do not round intermediate calculations. a. $29,055 b. $28,767 c. $27,904 d. $32,795 e. $26,466

Q: Buskirk Construction buys on terms of 2/15, net 60 days. It does not take discounts, and it typically pays on time, 60 days after the invoice date. Net purchases amount to $600,000 per year. On average, how much free trade credit does the firm receive during the year? (Assume a 365-day year, and note that purchases are net of discounts.) a. $23,178 b. $26,877 c. $20,466 d. $24,658 e. $18,986

Q: A firm buys on terms of 2/8, net 45 days, it does not take discounts, and it actually pays after 63 days. What is the effective annual percentage cost of its non-free trade credit? (Use a 365-day year.) a. 14.35% b. 12.48% c. 14.06% d. 17.79% e. 11.19%

Q: Bumpas Enterprises purchases $4,562,500 in goods per year from its sole supplier on terms of 2/15, net 50. If the firm chooses to pay on time but does not take the discount, what is the effective annual percentage cost of its non-free trade credit? (Assume a 365-day year.) a. 25.56% b. 23.45% c. 21.11% d. 19.47% e. 22.51%

Q: Your company has been offered credit terms of 4/30, net 90 days. What will be the nominal annual percentage cost of its non-free trade credit if it pays 105 days after the purchase? (Assume a 365-day year.) a. 20.08% b. 15.21% c. 20.28% d. 23.93% e. 20.48%

Q: Atlanta Cement, Inc. buys on terms of 2/15, net 30. It does not take discounts, and it typically pays 55 days after the invoice date. Net purchases amount to $720,000 per year. What is the nominal annual percentage cost of its non-free trade credit, based on a 365-day year? a. 20.11% b. 18.62% c. 22.91% d. 14.34% e. 15.27%

Q: A firm buys on terms of 3/15, net 45. It does not take the discount, and it generally pays after 110 days. What is the nominal annual percentage cost of its non-free trade credit, based on a 365-day year? a. 9.03% b. 13.78% c. 10.69% d. 11.88% e. 11.17%

Q: Whitmer Inc. sells to customers all over the U.S., and all receipts come in to its headquarters in New York City. The firm's average accounts receivable balance is $2.5 million, and they are financed by a bank loan at an 7.50% annual interest rate. The firm is considering setting up a regional lockbox system to speed up collections, and it believes this would reduce receivables by 20%. If the annual cost of the system is $15,000, what pre-tax net annual savings would be realized? a. $25,650 b. $21,825 c. $22,500 d. $24,300 e. $20,250

Q: Nogueiras Corps budgeted monthly sales are $3,000, and they are constant from month to month. 40% of its customers pay in the first month and take the 2% discount, while the remaining 60% pay in the month following the sale and do not receive a discount. The firm has no bad debts. Purchases for next months sales are constant at 50% of projected sales for the next month. "Other payments", which include wages, rent, and taxes, are 25% of sales for the current month. Construct a cash budget for a typical month and calculate the average cash gain or loss during the month. Do not round intermediate calculations. a. $871 b. $632 c. $711 d. $726 e. $617

Q: Van Den Borsh Corp. has annual sales of $61,735,000, an average inventory level of $15,012,000, and average accounts receivable of $10,008,000. The firm's cost of goods sold is 85% of sales. The company makes all purchases on credit and has always paid on the 30th day. However, it now plans to take full advantage of trade credit and to pay its suppliers on the 40th day. The CFO also believes that sales can be maintained at the existing level but inventory can be lowered by $1,946,000 and accounts receivable by $1,946,000. What will be the net change in the cash conversion cycle, assuming a 365-day year? Do not round intermediate calculations. Round to the nearest whole day. a. 41 days b. 44 days c. 28 days d. 31 days e. 35 days

Q: Edison Inc. has annual sales of $37,595,000, or $103,000 a day on a 365-day basis. The firm's cost of goods sold are 75% of sales. On average, the company has $9,000,000 in inventory and $8,000,000 in accounts receivable. The firm is looking for ways to shorten its cash conversion cycle. Its CFO has proposed new policies that would result in a 20% reduction in both average inventories and accounts receivable. She also anticipates that these policies would reduce sales by 10%, while the payables deferral period would remain unchanged at 35 days. What effect would these policies have on the company's cash conversion cycle? Do not round intermediate calculations. Round to the nearest whole day. a. 24 days b. 20 days c. 25 days d. 22 days e. 21 days

Q: Del Grasso Fruit Company has more positive NPV projects than it can finance under its current policies without issuing new stock, but its board of directors had decreed that it cannot issue any new shares in the foreseeable future. Your boss, the CFO, wants to know how the capital budget would be affected by changes in capital structure policy and/or the target dividend payout policy. You obtained the following data, which shows the firm's projected net income (NI), its current capital structure and dividend payout policies, and three possible new policies. Projected net income for the coming year will not be affected by a policy change. How much larger could the capital budget be if (1) the target debt ratio were raised to the indicated amount, other things held constant, (2) the target payout ratio were lowered to the indicated amount, other things held constant, or (3) the debt ratio and dividend payout were both changed by the indicated amounts? u200b u200b Policy Changes Current policy Increase debt Lower payout Do both Projected NI $270.0 $270.0 $270.0 $270.0 % Debt 25.0% 75.0% 25.0% 75.0% % Equity 75.0% 25.0% 75.0% 25.0% % Payout 65.0% 65.0% 20.0% 20.0% u200b a. 252.0; 162.0; 738.0 b. 254.5; 131.2; 848.7 c. 209.2; 187.9; 590.4 d. 257.0; 179.8; 804.4 e. 259.6; 142.6; 752.8

Q: Sheehan Corp. is forecasting an EPS of $5.00 for the coming year on its 500,000 outstanding shares of stock. Its capital budget is forecasted at $625,000, and it is committed to maintaining a $4.00 dividend per share. It finances with debt and common equity, but it wants to avoid issuing any new common stock during the coming year. Given these constraints, what percentage of the capital budget must be financed with debt? a. 23.60% b. 21.60% c. 22.40% d. 24.00% e. 20.00%

Q: Walter Industries is a family owned concern. It has been using the residual dividend model, but family members who hold a majority of the stock want more cash dividends, even if that means a slower future growth rate. Neither the net income nor the capital structure will change during the coming year as a result of a dividend policy change to the indicated target payout ratio. By how much would the capital budget have to be cut to enable the firm to achieve the new target dividend payout ratio? Do not round intermediate calculations. % Debt 45% % Equity = 1.0 % Debt 55% Capital budget under the residual dividend model $5,000,000 Net income; it will not change this year even if dividends increase $3,500,000 Equity to support the capital budget = % Equity Capital budget $2,750,000 Dividends paid = NI Equity needed $750,000 Currently projected dividend payout ratio 21.4% Target dividend payout ratio 43% u200b a. -$1,372,727 b. -$1,098,182 c. -$1,537,455 d. -$1,249,182 e. -$1,496,273

Q: Grullon Co. is considering a 8-for-4 stock split. The current stock price is $75.00 per share, and the firm believes that its total market value would increase by 6% as a result of the improved liquidity that should follow the split. What is the stock's expected price following the split? a. $47.30 b. $41.34 c. $40.15 d. $39.75 e. $31.40

Q: Pavlin Corp.'s projected capital budget is $2,000,000, its target capital structure is 40% debt and 60% equity, and its forecasted net income is $850,000. If the company follows the residual dividend model, how much dividends will it pay or, alternatively, how much new stock must it issue? a. $0; $350,000 b. $378,000; $325,500 c. $287,000; $318,500 d. $325,500; $388,500 e. $381,500; $290,500

Q: Whitman Antique Cars Inc. has the following data, and it follows the residual dividend model. Some Whitman family members would like more dividends, and they also think that the firm's capital budget includes too many projects whose NPVs are close to zero. If Whitman reduced its capital budget to the indicated level, by how much could dividends be increased, holding other things constant? u200b Original capital budget $3,000,000 New capital budget $2,150,000 Net income $3,500,000 % Debt 33% u200b a. $438,515 b. $626,450 c. $694,790 d. $558,110 e. $569,500

Q: Purcell Farms Inc. has the following data, and it follows the residual dividend model. Currently, it finances with 10% debt. Some Purcell family members would like for the dividend payout ratio to be increased. If Purcell increased its debt ratio, which the firm's treasurer thinks is feasible, by how much could the dividend payout ratio be increased, holding other things constant? Capital budget $3,000,000 Net income (NI) $3,500,000 % Debt now 10% % Debt after change 53% u200b a. 28.0% b. 39.1% c. 38.3% d. 31.7% e. 36.9%

Q: Clark Farms Inc. has the following data, and it follows the residual dividend model. Currently, it finances with 20% debt. Some Clark family members would like for the dividends to be increased. If Clark increased its debt ratio, which the firm's treasurer thinks is feasible, by how much could the dividend be increased, holding other things constant? Capital budget $3,000,000 Net income (NI) $3,500,000 % Debt now 20% % Debt after change 73% u200b a. $1,923,900 b. $1,669,500 c. $1,494,600 d. $1,590,000 e. $1,192,500

Q: Whited Products recently completed a 4-for-1 stock split. Prior to the split, its stock sold for $105 per share. If the firm's total market value increased by 4% as a result of increased liquidity and favorable signaling effects, what was the stock price following the split? a. $26.21 b. $24.57 c. $20.75 d. $27.30 e. $21.84

Q: Keys Financial has done extremely well in recent years, and its stock now sells for $70 per share. Management wants to get the price down to a more typical level, which it thinks is $40.00 per share. What stock split would be required to get to this price, assuming the transaction has no effect on the total market value? Put another way, how many new shares should be given per one old share? a. 1.40 b. 2.01 c. 1.75 d. 1.58 e. 2.28

Q: Ross-Jordan Financial has suffered losses in recent years, and its stock currently sells for only $0.70 per share. Management wants to use a reverse split to get the price up to a more "reasonable" level, which it thinks is $21 per share. How many of the old shares must be given up for one new share to achieve the $21 price, assuming this transaction has no effect on total market value? a. 30.60 b. 25.80 c. 28.50 d. 30.00 e. 36.30

Q: New Orleans Builders Inc. has the following data. If it follows the residual dividend model, what is its forecasted dividend payout ratio? Capital budget $7,000 % Debt 40% Net income (NI) $7,000 u200b a. 39.60% b. 37.20% c. 49.20% d. 31.60% e. 40.00%

Q: LA Moving Company has the following data, dollars in thousands. If it follows the residual dividend model, what will its dividend payout ratio be? Capital budget $5,900 % Debt 40% Net income (NI) $6,550 u200b a. 48.71% b. 47.33% c. 44.58% d. 38.14% e. 45.95%

Q: Chicago Brewing has the following data, dollars in thousands. If it follows the residual dividend model, what will its dividend payout ratio be? Capital budget $5,700 % Debt 45% Net income (NI) $3,300 u200b a. 3.95% b. 5.00% c. 5.90% d. 5.35% e. 5.55%

Q: NY Fashions has the following data. If it follows the residual dividend model, how much total dividends, if any, will it pay out? Capital budget $1,400,000 % Debt 65% Net income (NI) $735,000 u200b a. $247,450 b. $186,200 c. $225,400 d. $301,350 e. $245,000

Q: Torrence Inc. has the following data. If it uses the residual dividend model, how much total dividends, if any, will it pay out? Capital budget $975,000 % Debt 60% Net income (NI) $635,000 u200b a. $213,150 b. $240,100 c. $262,150 d. $245,000 e. $284,200

Q: Mortal Inc. expects to have a capital budget of $600,000 next year. The company wants to maintain a target capital structure with 30% debt and 70% equity, and its forecasted net income is $575,000. If the company follows the residual dividend model, how much in dividends, if any, will it pay? a. $119,350 b. $175,150 c. $128,650 d. $155,000 e. $190,650

Q: Dentaltech Inc. projects the following data for the coming year. If the firm follows the residual dividend model and also maintains its target capital structure, what will its dividend payout ratio be? EBIT $2,500,000 Capital budget $1,275,000 Interest rate 10% % Debt 40% Debt outstanding $6,500,000 % Equity 60% Shares outstanding 5,000,000 Tax rate 25% u200b a. 44.9% b. 52.9% c. 52.5% d. 39.5% e. 38.1%

Q: Banerjee Inc. wants to maintain a target capital structure with 35% debt and 65% equity. Its forecasted net income is $150,000, and its board of directors has decreed that no new stock can be issued during the coming year. If the firm follows the residual dividend model, what is the maximum capital budget that is consistent with maintaining the target capital structure? a. $286,154 b. $223,846 c. $230,769 d. $205,385 e. $186,923

Q: D. Paul Inc. forecasts a capital budget of $775,000. The CFO wants to maintain a target capital structure of 45% debt and 55% equity, and she also wants to pay a dividend of $650,000. If the company follows the residual dividend model, how much income must it earn, and what will its dividend payout ratio be? a. $1,087,013; 59.80% b. $1,097,775; 59.21% c. $871,763; 74.56% d. $1,076,250; 60.39% e. $861,000; 75.49%

Q: Ring Technology has a capital budget of $950,000, it wants to maintain a target capital structure of 35% debt and 65% equity, and it also wants to pay a dividend of $275,000. If the company follows the residual dividend model, how much net income must it earn to meet its capital budgeting requirements and pay the dividend, all while keeping its capital structure in balance? a. $803,250 b. $946,050 c. $776,475 d. $892,500 e. $767,550

Q: Fauver Industries plans to have a capital budget of $600,000. It wants to maintain a target capital structure of 40% debt and 60% equity, and it also wants to pay a dividend of $200,000. If the company follows the residual dividend model, how much net income must it earn to meet its investment requirements, pay the dividend, and keep the capital structure in balance? a. $560,000 b. $683,200 c. $515,200 d. $632,800 e. $621,600

Q: Mid-State BankCorp recently declared a 7-for-2 stock split. Prior to the split, the stock sold for $120 per share. If the firm's total market value is unchanged by the split, what will the stock price be following the split? a. $39.77 b. $34.29 c. $35.31 d. $27.77 e. $41.49

Q: Toombs Media Corp. recently completed a 3-for-1 stock split. Prior to the split, its stock sold for $160 per share. The firm's total market value was unchanged by the split. Other things held constant, what is the best estimate of the stock's post-split price? a. $55.47 b. $50.67 c. $40.00 d. $41.60 e. $53.33

Q: Becker Financial recently declared a 2-for-1 stock split. Prior to the split, the stock sold for $100 per share. If the firm's total market value is unchanged by the split, what will the stock price be following the split? a. $51.50 b. $45.50 c. $50.00 d. $38.50 e. $49.00

Q: Portland Plastics Inc. has the following data. If it follows the residual dividend model, what is its forecasted dividend payout ratio? Capital budget $12,000 % Debt 40% Net income (NI) $17,500 u200b a. 63.57% b. 60.03% c. 62.39% d. 58.86% e. 59.45%

Q: Which of the following statements is CORRECT? a. Suppose a firm that has been earning $2 and paying a dividend of $1.00, or a 50% dividend payout, announces that it is increasing the dividend to $1.50. The stock price then jumps from $20 to $30. Some people would argue that this is proof that investors prefer dividends to retained earnings. Miller and Modigliani would agree with this argument. b. Other things held constant, the higher a firm's target dividend payout ratio, the higher its expected growth rate should be. c. Miller and Modigliani's dividend irrelevance theory says that the percentage of its earnings that a firm pays out in dividends has no effect on its cost of capital, but it does affect its stock price. d. The federal government sometimes taxes dividends and capital gains at different rates. Other things held constant, an increase in the tax rate on dividends relative to that on capital gains would logically lead to a decrease in dividend payout ratios. e. If investors prefer firms that retain most of their earnings, then a firm that wants to maximize its stock price should set a high dividend payout ratio.

Q: Which of the following statements is CORRECT? a. If a firm follows the residual dividend model, then a sudden increase in the number of profitable projects would be likely to lead to a reduction of the firm's dividend payout ratio. b. The clientele effect explains why so many firms change their dividend policies so often. c. One advantage of adopting the residual dividend model is that this policy makes it easier for a corporation to attract a specific and well-identified dividend clientele. d. New-stock dividend reinvestment plans are similar to stock dividends because they both increase the number of shares outstanding but don't change the firm's total amount of book equity. e. Investors who receive stock dividends must pay taxes on the value of the new shares in the year the stock dividends are received.

Q: Which of the following statements is NOT CORRECT? a. Stock repurchases can be used by a firm as part of a plan to change its capital structure. b. After a 3-for-1 stock split, a company's price per share should fall, but the number of shares outstanding will rise. c. Investors may interpret a stock repurchase program as a signal that the firm's managers believe the stock is undervalued, or, alternatively, as a signal that the firm does not have many good investment opportunities. d. A company can repurchase stock to distribute a large one-time cash inflow, say from the sale of a division, to stockholders without having to increase its regular dividend. e. Stockholders pay no income tax on dividends if the dividends are used to purchase stock through a dividend reinvestment plan.

Q: Which of the following actions will best enable a company to raise additional equity capital, other things held constant? a. Refund long-term debt with lower cost short-term debt. b. Declare a stock split. c. Begin an open-market purchase dividend reinvestment plan. d. Initiate a stock repurchase program. e. Begin a new-stock dividend reinvestment plan.

Q: Which of the following statements is CORRECT? a. 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. b. 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. c. Stock repurchases tend to reduce financial leverage. d. If a company declares a 2-for-1 stock split, its stock price should roughly double. e. One advantage of adopting the residual dividend model is that this makes it easier for corporations to meet the requirements of Modigliani and Miller's dividend clientele theory.

Q: Firm M is a mature company in a mature industry. Its annual net income and cash flows are consistently high and stable. However, M's growth prospects are quite limited, so its capital budget is small relative to its net income. Firm N is a relatively new company in a new and growing industry. Its markets and products have not stabilized, so its annual operating income fluctuates considerably. However, N has substantial growth opportunities, and its capital budget is expected to be large relative to its net income for the foreseeable future. Which of the following statements is CORRECT? a. Firm M probably has a lower target debt ratio than Firm N. b. Firm M probably has a higher target dividend payout ratio than Firm N. c. If the corporate tax rate increases, the debt ratio of both firms is likely to decline. d. The two firms are equally likely to pay high dividends. e. Firm N is likely to have a clientele of shareholders who want a consistent, stable dividend income.

Q: Which of the following statements is CORRECT? a. One advantage of dividend reinvestment plans is that they enable investors to avoid paying taxes on the dividends they receive. b. 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 adhere strictly to the residual dividend model. c. If a firm adheres strictly to the residual dividend model, then, holding all else constant, its dividend payout ratio will tend to rise whenever its investment opportunities improve. d. 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. e. Despite its drawbacks, following the residual dividend model 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.

Q: Which of the following statements is CORRECT? a. Firms with a lot of good investment opportunities and a relatively small amount of cash tend to have above-average dividend payout ratios. b. One advantage of the residual dividend model is that it leads to a stable dividend payout, which investors like. c. An increase in the stock price when a company cuts its dividend is consistent with signaling theory as postulated by MM. d. If the "clientele effect" is correct, then for a company whose earnings fluctuate, a policy of paying a constant percentage of net income will probably maximize its stock price. e. Stock repurchases make the most sense at times when a company believes its stock is undervalued.

Q: Which of the following statements is CORRECT? a. If a company has a 2-for-1 stock split, its stock price should roughly double. b. Capital gains earned on shares repurchased are taxed less favorably than dividends, which is why companies typically pay dividends and avoid share repurchases. c. 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. d. Stock repurchases increase the number of outstanding shares. e. The clientele effect is the best explanation for why companies tend to vary their dividend payments from quarter to quarter.

Q: Which of the following statements is CORRECT? a. Historically, the tax code has encouraged companies to pay dividends rather than retain earnings. b. If a company uses the residual dividend model to determine its dividend payments, dividend payout will tend to increase whenever its profitable investment opportunities increase relatively rapidly. c. The more a firm's management believes in the clientele effect, the more likely the firm is to adhere strictly to the residual dividend model. d. Large stock repurchases financed by debt tend to increase expected earnings per share, but they also tend to increase the firm's financial risk. e. A dollar paid out to repurchase stock has the same tax benefit as a dollar paid out in dividends. Thus, both companies and investors should be indifferent between distributing cash through dividends and stock repurchase programs.

Q: Which of the following statements is CORRECT? a. Under the tax laws as they existed in 2017, a dollar received by an individual taxpayer as interest income is taxed at the same rate as a dollar received as dividends. b. One nice feature of dividend reinvestment plans (DRIPs) is that they reduce the taxes investors would have to pay if they received cash dividends. c. Empirical research indicates that, in general, companies send a negative signal to the marketplace when they announce an increase in the dividend. As a result, share prices fall when dividend increases are announced because investors interpret the increase as a signal that the firm expects fewer good investment opportunities in the future. d. If a company needs to raise new equity capital, a new-stock dividend reinvestment plan would make sense. However, if the firm does not need new equity, then an open market purchase dividend reinvestment plan would probably make more sense. e. Dividend reinvestment plans have not caught on in most industries, and today over 99% of all DRIPs are offered by utilities.

Q: Which of the following statements is CORRECT? a. One disadvantage of dividend reinvestment plans is that they increase transactions costs for investors who want to increase their investment in the company. b. One advantage of dividend reinvestment plans is that they enable investors to postpone paying taxes on the dividends credited to their account. c. Stock repurchases can be used by a firm that wants to increase its debt ratio. d. 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. e. One advantage of an open market dividend reinvestment plan is that it provides new equity capital and increases the shares outstanding.

Q: Which of the following statements about dividend policies is CORRECT? a. Miller and Modigliani argued that investors prefer dividends to capital gains because dividends are more certain than capital gains. They call this the "bird-in-the-hand" effect. b. One reason that companies tend to favor distributing excess cash as dividends rather than by repurchasing stock is that dividends are normally taxed at a lower rate than gains on repurchased stock. c. One advantage of dividend reinvestment plans is that they allow shareholders to delay paying taxes on the dividends that they choose to reinvest. d. One key advantage of the residual dividend model is that it enables a company to follow a stable dividend policy. e. The clientele effect suggests that companies should follow a stable dividend policy.

Q: Which of the following statements is CORRECT? a. 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. b. 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 reverse splits are illegal today. c. 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. d. When a company declares a stock split, the price of the stock typically declines--for example, by about 50% after a 2-for-1 split--and this necessarily reduces the total market value of the firm's equity. e. 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 20-for-1 so as to bring the price down to something close to $25. Moreover, if the price is relatively low--say $2 per share--then it can declare a "reverse split" of say 1-for-10 so as to bring the price up to somewhere around $20 per share.

Q: Which of the following would be most likely to lead to a decrease in a firm's dividend payout ratio? a. Its earnings become more stable. b. Its access to the capital markets increases. c. Its research and development efforts pay off, and it now has more high-return investment opportunities. d. Its accounts receivable decrease due to a change in its credit policy. e. Its stock price has increased over the last year by a greater percentage than the increase in the broad stock market averages.

Q: Which of the following does NOT normally influence a firm's dividend policy decision? a. The firm's ability to accelerate or delay investment projects without adverse consequences. b. A strong preference by most of its shareholders for current cash income versus potential future capital gains. c. Constraints imposed by the firm's bond indenture. d. The fact that much of the firm's equipment is leased rather than bought and owned. e. The fact that Congress is considering changes in the tax law regarding the taxation of dividends versus capital gains.

Q: If a firm adheres strictly to the residual dividend model, the issuance of new common stock would suggest that a. the dividend payout ratio has remained constant. b. the dividend payout ratio is increasing. c. no dividends will be paid during the year. d. the dividend payout ratio is decreasing. e. the dollar amount of capital investments had decreased.

Q: If a firm adheres strictly to the residual dividend policy, and if its optimal capital budget requires the use of all earnings for a given year (along with new debt according to the optimal debt/assets ratio), then the firm should pay a. the same dividend as it paid the prior year. b. no dividends to common stockholders. c. dividends only out of funds raised by the sale of new common stock. d. dividends only out of funds raised by borrowing money (i.e., issuing debt). e. dividends only out of funds raised by selling off fixed assets.

Q: Your firm adheres strictly to the residual dividend model. All else equal, which of the following factors would be most likely to lead to an increase in the firm's dividend per share? a. The firm's net income increases. b. The company increases the percentage of equity in its target capital structure. c. The number of profitable potential projects increases. d. Congress lowers the tax rate on capital gains, leaving the rest of the tax code unchanged. e. Earnings are unchanged, but the firm issues new shares of common stock.

Q: Myron Gordon and John Lintner believe that the required return on equity increases as the dividend payout ratio is lowered. Their argument is based on the assumption that a. investors are indifferent between dividends and capital gains. b. investors require that the dividend yield plus the capital gains yield equal a constant. c. capital gains are taxed at a higher rate than dividends. d. investors view dividends as being less risky than potential future capital gains. e. investors prefer a dollar of expected capital gains to a dollar of expected dividends because of the lower tax rate on capital gains.

Q: You own 100 shares of Troll Brothers' stock, which currently sells for $120 a share. The company is about to declare a 2-for-1 stock split. Which of the following best describes your likely position after the split? a. You will have 200 shares of stock, and the stock will trade at or near $120 a share. b. You will have 200 shares of stock, and the stock will trade at or near $60 a share. c. You will have 100 shares of stock, and the stock will trade at or near $60 a share. d. You will have 50 shares of stock, and the stock will trade at or near $120 a share. e. You will have 50 shares of stock, and the stock will trade at or near $600 a share.

Q: In the real world, dividends a. are usually more stable than earnings. b. fluctuate more widely than earnings. c. tend to be a lower percentage of earnings for mature firms. d. are usually changed every year to reflect earnings changes, and these changes are randomly higher to lower, depending on whether earnings increased or decreased. e. are usually set as a fixed percentage of earnings, e.g., at 40% of earnings, so if EPS = $2.00, then DPS would equal $0.80. Once the percentage is set, then dividend policy is on "automatic pilot" and the dividend actually paid depends strictly on earnings.