CHAPTER 12: INTERNATIONAL FINANCING AND NATIONAL FINANCIAL MARKETS
SUGGESTED SOLUTIONS TO CHAPTER 12 PROBLEM
1.
A European company issues common shares that pay taxable dividends and bearer shares that pay an
identical dividend but offer an opportunity to evade taxes: Bearer shares come with a large supply of
coupons that can be redeemed anonymously at banks for the current value of the dividend.
a.
Suppose taxable dividends are taxed at the rate of 10 percent. What is the ratio between market prices
of taxable and bearer shares? If a new issue is planned, should taxable or bearer shares be sold?
ANSWER. Under these conditions, the taxable proceeds are 1 - 0.10 = 90% of the bearer proceeds. Hence,
the taxable shares will sell for 90% of the bearer shares. Bearer shares should be sold.
b.
Suppose, in addition, that it costs 10 percent of proceeds to issue a taxable dividend, whereas it costs
20 percent of the proceeds to issue bearer stocks because of the expense of distribution and coupon
printing. What type of share will the corporation prefer to issue?
ANSWER. In this case, the taxable proceeds are (1 - .10)(1 - .10) = 81% of gross bearer proceeds, and net
bearer proceeds are 1 - .20 = 80% of gross bearer proceeds. The firm will now prefer to issue taxable
equity.
c.
Suppose now that individuals pay 10 percent taxes on dividends, and corporations pay no taxes, but
bear an administrative cost of 10 percent of the value of any bearer dividends. Can you determine the
relative market prices for the two types of shares?
ANSWER. In this case, both issues yield 90% of gross bearer proceeds. Both types of shares will, therefore,
sell for the same price and the firm will be indifferent between the two.
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