Financial Management: Core Concepts, 4e (Brooks)
Chapter 17 Dividends, Dividend Policy, and Stock Splits
17.1 Cash Dividends
1) The decision to pay a cash dividend is within the jurisdiction of ________.
A) the SEC
B) the board of directors of the firm
C) the firm's largest labor union
D) the largest shareholders of the firm
Answer: B
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
2) Typically, shares of stock are stored in the vault of the brokerage firm and you, as owner, will
not take physical possession. Under these circumstances the brokerage firm is the ________ and
you are the ________.
A) street owner; settlement owner
B) settlement owner; street owner
C) owner of record; beneficiary owner
D) beneficiary owner; owner of record
Answer: C
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
3) A common practice today is to have shares of stock in ________, using the name of the
brokerage as owner rather than you.
A) street name
B) bearer name
C) your financial advisor's name
D) beneficiary name
Answer: A
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
4) After placing an order to buy or sell shares of stock through your broker, which of the
following statements is TRUE regarding the settlement date for the order?
A) The settlement date is the same day as the agreed-upon trade.
B) The settlement date is one day after the agreed-upon trade.
C) The settlement date is two days after the agreed-upon trade.
D) The settlement date is three days after the agreed-upon trade.
Answer: C
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
5) The ________ is the date when the board of directors announces the next cash dividend to the
public.
A) declaration date
B) record date
C) payment date
D) ex-dividend date
Answer: A
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
6) It is August 14th and John has just purchased 100 shares of Cash Cow Inc. for $1,200 with a
settlement date of August 16th. Cash Cow recently declared a dividend of $1.00 per share
payable to shareholders of record as of August 15th. How much money did John pay for the right
to the recently declared dividend?
A) John paid $100.00 for the dividend because he purchased the stock prior to the dividend
record date.
B) John paid $50.00 for the dividend because the record date was between purchase date of
August 14th and the settlement date of August 16th. Therefore, the dividend payment is shared
equally between the previous owner of the stock and John.
C) John paid $0.00 for the dividend because he was not the shareholder of record on August
15th. Therefore, the dividend payment went to the previous owner of the stock.
D) This is a complicated issue and not easily answered. Thus, there is not enough information to
answer this question.
Answer: C
Diff: 2
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
7) Identify each of the following dates associated with the payment of a dividend by Jefferson
State Timber Company: August 15, September 5, September 7, and September 22.
A) Declaration date, ex-dividend date, record date, payment date
B) Ex-dividend date, declaration date, record date, payment date
C) Record date, declaration date, ex-dividend date, payment date
D) Declaration date, record date, payment date, ex-dividend date
Answer: A
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
8) Pike's Peak Pure Spring Water Inc. is considered a liquid company because of its generous
dividend policy. Prior to the firm's ex-dividend date of June 15th, the stock is selling for a price
of $31.25 per share. If you purchase the stock prior to June 15th, you will receive a dividend of
$1.60. If you waited until June 16th to buy the stock, and there was no other event to change the
price of the stock, what would be the stock's expected price?
A) $31.25
B) $29.65
C) $23.18
D) Unknown
Answer: B
Explanation: Original cash price - dividend = the ex-dividend price. $31.25 - $1.60 = $29.65
Diff: 2
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
9) Which of the following is NOT a form of corporate dividend?
A) Regular cash dividend
B) Special cash dividend
C) Stock dividend
D) These are all forms of corporate dividends.
Answer: D
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
10) Firms that pay dividends typically pay ________ time(s) per year.
A) one
B) two
C) four
D) twelve
Answer: C
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
11) Which of the following dividends does NOT actually involve the distribution of money?
A) Special dividends
B) Liquidating dividends
C) Stock dividends
D) All of the dividends above involve the payment of cash to the stockholder.
Answer: C
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
12) The final distribution of cash to shareholders after a company has been sold off or
discontinued operations is called a/an ________ dividend.
A) complete
B) liquidating
C) stock
D) optimal
Answer: B
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
13) The decision to pay a cash dividend is within the jurisdiction of the shareholders.
Answer: FALSE
Explanation: The decision to pay a cash dividend is within the jurisdiction of the board of
directors.
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
14) If you choose to buy shares of stock and leave the shares with your broker in street name,
then the brokerage firm becomes the beneficiary owner and you become the owner of record.
Answer: FALSE
Explanation: If you choose to buy shares of stock and leave the shares with your broker in street
name, then the brokerage firm becomes the owner of record and you become the beneficiary
owner.
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
15) The record date is the date on which the board of directors announces the next quarterly cash
dividend.
Answer: FALSE
Explanation: The declaration date is when the board of directors announces the next quarterly
cash dividend.
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
16) A stock dividend pays shareholders of record with additional shares of stock rather than with
cash.
Answer: TRUE
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
17) A liquidating dividend is a dividend that a company pays out routinely to shareholders, often
quarterly and often the same from quarter to quarter.
Answer: FALSE
Explanation: A regular cash dividend is a dividend that a company pays out routinely to
shareholders, often quarterly and often the same from quarter to quarter.
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
18) A special dividend is associated with a period of especially poor company performance.
Answer: FALSE
Explanation: A special dividend is associated with a period of especially GOOD company
performance.
Diff: 1
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
19) What is a cash dividend? Define and describe the process of declaring and paying a cash
dividend. In your description, define the following terms: the declaration date, the ex-dividend
date, the record date, and the payment date.
Answer: Cash dividends are the payment of cash to the stockholders of a corporation and are
authorized by the corporation's board of directors. The declaration date of a cash dividend is the
date on which the board publicly announces the next dividend to be paid to shareholders who are
the owners of record on a specific (or record) date. Careful record keeping of the ownership of
shares is of particular importance for the payment of dividends. The ex-dividend date establishes
the recipient of the dividend; it is two days before the record date. If you buy before the ex-date,
you get any declared dividend. If you buy on or after the ex-date, the seller gets any declared
dividend. On this day the stock begins trading without the next announced dividend. Thus, the
stock price falls by approximately the value of the declared dividend. On the record date, a list of
owners of record is established. The actual payment date is the day when the cash dividend is
paid out.
Diff: 3
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
20) Define the following terms: regular cash dividend, stock dividend, special dividend, and
liquidating dividend. An increase in which of these dividends appears to send the most positive
signal to the market? Why?
Answer: A regular cash dividend is a payment of cash to the stockholders of a corporation.
Depending on the firm's dividend policy, these tend to be the most frequent and consistent cash
flows received by shareholders. An increase in the regular cash dividend is interpreted as an
ongoing increase in the cash flows a stockholder can expect to receive from the corporation. A
stock dividend is the payment of additional shares of stock to existing shareholders. A stock
dividend is just a paper dividend and has no apparent economic value, although it could be
construed by some investors as a positive signal for the firm's future. A special dividend is a
one-time event and is not intended by management to be a signal of continued higher payouts to
stockholders. Rather, by its designation as something special it is generally interpreted by the
market as a one-time increase in dividends. A liquidating dividend is issued when the firm is
discontinuing operations or when a major portion of the business has been sold off. These are
considered final distributions and as such the market anticipates that the firm will cease to
operate.
From these descriptions, it should be clear that an increase in the regular cash dividend should
have the greatest impact on stock prices as it is the only form of dividend that represents a
permanent increase in cash flows to shareholders, as opposed to one-time increases or paper
changes.
Diff: 3
Topic: 17.1 Cash Dividends
AACSB: Analytical Thinking
LO: 17.1 Understand the formal process for paying dividends and differentiate among the most
common types.
17.2 Dividend Policy
1) Investors who wish to avoid paying taxes in the present are typically ________.
A) low-dividend clientele
B) high-dividend clientele
C) drawn to firms that have erratic dividend policies
D) none of the above
Answer: A
Explanation: Investors who want to avoid paying taxes are often in higher tax brackets.
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
2) John is in a high income-tax bracket and wishes to minimize current taxes payable. He also
has a sizeable current income and prefers high growth rates to significant annual cash flow from
his equity investments. Which of the following dividend polices would John most likely prefer if
we assume that the dividend policy has no impact on the value of the firm and that the capital
gains tax rate is lower than the ordinary tax rate?
A) High-dividend-payout policy
B) No-dividend-payout policy
C) Low-dividend-payout policy
D) John would be indifferent to all of the dividend policies.
Answer: B
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
3) Low-dividend clientele are preferred by firms because ________.
A) they pay more money per share of comparable stock than other types of investors
B) high-dividend clientele are more active shareholders
C) they are less critical of management decisions
D) None of the above. Low-dividend clientele are as equally preferred as high-dividend clientele.
Answer: D
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
4) Which of the following states of the world is NOT required for dividend policy to be
irrelevant?
A) A world with no taxes
B) A world with no transaction costs
C) A world with no dividends
D) All of the above are required for dividend irrelevance.
Answer: C
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
5) Which of the following is NOT a reason for a low-dividend-payout policy?
A) The avoidance or postponement of taxes on distributions for shareholders
B) Low-dividend-payout clientele are willing to pay a higher price per share than high-dividend
payout clientele
C) Less need for additional costly outside funding
D) Higher potential future returns for shareholders
Answer: B
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
6) Which of the following is NOT a reason for a high-dividend-payout policy?
A) Convenient and direct deposit of cash dividend
B) Avoidance of transaction costs for selling shares
C) Higher potential future returns for shareholders
D) Cash payments today versus uncertain cash payments tomorrow
Answer: C
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
7) Which of following is a reason for a high-dividend-payout policy?
A) Dividends are generally taxed at a lower rate than capital gains.
B) All investors prefer high dividend payments over low dividend payments.
C) Cash payments today are preferred over uncertain payments in the future.
D) More cash is left in the company for investing in company projects.
Answer: C
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
8) Which of following is a reason for a low-dividend-payout policy?
A) Low-dividend-payout clientele are willing to pay a higher price per share than high-dividend
payout clientele.
B) Avoidance of transaction costs for selling shares
C) Convenient and direct deposit of cash dividend
D) Less need for additional costly outside funding
Answer: D
Diff: 2
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
9) The optimal dividend policy for a firm is always ________.
A) to pay the maximum possible reasonable dividend
B) different for different clienteles of shareholders
C) to pay no dividend at all in a world in which both capital gains and dividends are taxed
D) to pay the same-size dividend every year
Answer: B
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
10) All investors want the maximum amount of dividends possible.
Answer: FALSE
Explanation: The timing of cash flow desires and needs may vary among investors.
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
11) Low-dividend stocks are preferred by clients who prefer to delay taxes.
Answer: TRUE
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
12) In a world with no taxes and no transaction costs, dividend policy is irrelevant.
Answer: TRUE
Diff: 2
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
13) Low-dividend-payout policy may require less need for additional costly outside financing for
the firm.
Answer: TRUE
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
14) High-dividend-payout policy increases transaction costs for both the firm and the shareholder
compared to a simple sale of stock by the shareholder to get cash.
Answer: FALSE
Explanation: Shareholders avoid transaction costs when they can receive dividends rather than
sell stock to get cash.
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
15) Optimal dividend policy will differ among shareholders for reasons including personal
income tax status and future expectations for the firm.
Answer: TRUE
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
16) The preferred dividend policy in a world of no taxes and no transactions costs is to pay no
dividends.
Answer: FALSE
Explanation: In fact, you are indifferent to dividend policy in a world with no taxes and no
transaction costs.
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
17) In a world of taxes but no transaction costs, the preferred strategy to maximize wealth is to
pay dividends.
Answer: FALSE
Explanation: In a world of taxes but no transaction costs, the preferred strategy to maximize
wealth is to pay NO dividends.
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
18) One reason cited for a high-dividend policy is the preference for a certain cash flow today
versus an uncertain cash flow in the future.
Answer: TRUE
Diff: 1
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
19) List and describe three reasons for a low-dividend-payout policy.
Answer: First, lower dividends avoid or postpone the payment of taxes on distributions for
shareholders. Dividends are taxed as ordinary income, whereas capital gains are frequently taxed
at a special rate that is lower than ordinary tax rates. If dividends are low or nonexistent,
investors may choose to supplement current cash flow by selling shares of stock and being taxed
at the (sometimes) lower capital gains rate, or they can delay cash flow and thus delay payment
of taxes. By making a zero or small dividend distribution, the firm allows the shareholder to
determine the timing of cash flow and taxes from stock ownership. Second, lower dividends
today allow for higher potential future returns for shareholders. By making low or no dividend
payouts, the firm can reinvest more money into the firm and thus provide for more rapid growth.
Finally, there is less need for additional costly outside financing if firms use internally generated
funds for growth rather than incurring the cost and process of external funding.
Diff: 2
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
20) In a world without taxes or transaction costs, it can be argued that dividend policy is
irrelevant for shareholder value and cash flow. With a no-dividend policy, the current price is and
will remain $100.00 per share. With a high-dividend policy, the current price is $100.00 per
share and the value falls to $95 per share upon payment of the dividend.
Use the following example to demonstrate dividend policy irrelevance.
No-dividend Policy
High-dividend Policy
5,000 shares owned
5,000 shares owned
$100.00 current price per share
$100.00 current price per share
$0.00 dividends per share
$5.00 dividends per share
$25,000 desired cash flow per year $25,000 desired cash flow per year
Answer: No-dividend policy: Sell 250 shares of stock at $100 per share and receive $25,000 in
cash. The remaining stock has a value of (5000 - 250) shares × $100 per share = $475,000. Total
value = $475,000 in stock + $25,000 in cash = $500,000.
High-dividend policy: Receive $25,000 cash from the dividends of $5.00 per share × 5,000
shares. The remaining stock has a value of 5,000 shares × $95.00 per share = $475,000. Total
value = $475,000 in stock + $25,000 in cash = $500,000.
Diff: 3
Topic: 17.2 Dividend Policy
AACSB: Analytical Thinking
LO: 17.2 Explain individual preferences and issues surrounding different dividend policies.
17.3 Selecting a Dividend Policy
1) According to the text, which of the following four cash flows should be LAST in order of
priority for a firm?
A) Cash to pay off debts in a timely fashion
B) Cash to maintain operations
C) Cash dividends
D) Cash for reinvesting
Answer: C
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
2) A residual dividend policy is one in which
A) leftover funds are paid out to stockholders as dividends after all other capital requirements are
met.
B) a conservative dividend payment is made each period to stockholders.
C) no dividends are paid to stockholders because they will reap their benefits when the firm
ceases operations.
D) bondholders receive extra cash flows when available after paying dividends to shareholders.
Answer: A
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
3) It is more common for companies to choose a ________ dividend policy over a ________
dividend policy.
A) zero; positive
B) residual; sticky
C) sticky; residual
D) There have been no empirical studies done on this question.
Answer: C
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
4) Which of the following is NOT a stated reason for following a sticky dividend policy?
A) Individuals who use the cash flow from dividends for current income do not like having their
cash flow cut unexpectedly.
B) The market considers dividend payments a signal of the firm's health. A dividend cut may be
considered bad news.
C) If managers pay dividends, they are constrained from paying dividends so large that cash
dividends would come from legal capital.
D) All of the above are stated reasons for sticky dividend policy.
Answer: C
Explanation: Managers are constrained from paying dividends so large that cash dividends
would come from legal capital. This reason was not identified for a sticky dividend policy.
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
5) "Individuals living off of their dividends streams do not like reductions in their quarterly
payments." This sounds like an argument for what type of dividend policy?
A) Residual dividend policy
B) Sticky dividend policy
C) Constantly declining dividend policy
D) None of the above
Answer: B
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
6) Which of the following dividend policies would most likely have the greatest variability in
actual dividends paid?
A) Sticky dividend policy
B) A policy of raising dividends by a fixed dollar amount
C) A policy of raising dividends by a fixed percentage amount
D) Residual dividend policy
Answer: D
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
7) Which of the following are NOT legitimate constraints on the dividends a firm will pay to
shareholders?
A) Dividends must not eat into legal capital.
B) Bondholders may have covenants limiting the amount of the dividend.
C) Dividends may be constrained by the amount of cash a firm has.
D) All are legitimate constraints on the dividends that firms choose to pay to shareholders.
Answer: D
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
8) Legal capital can be thought of as the original contributions of the owners consisting of
A) retained earnings paid by the shareholders.
B) par value plus paid-in-capital in excess of par value paid by the shareholders.
C) par value plus retained earnings paid by the shareholders.
D) par value paid by the shareholders.
Answer: B
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
9) Par value plus paid-in-capital in excess of par value paid by the shareholders could be defined
as ________.
A) legal capital
B) retained earnings
C) treasury stock
D) preferred stock
Answer: A
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
10) Which of the following is NOT a common bondholder covenant?
A) Dividends cannot be paid unless there is sufficient cash to cover the next coupon payment.
B) Dividends may be prohibited above a certain percentage of current earnings.
C) If the firm has insufficient cash to cover required coupon payments, shareholders will pay
interest directly from their own accounts on a pro rata basis.
D) All of the above are common bondholder covenants.
Answer: C
Explanation: Shareholders are not required nor would they agree to pay interest from their own
personal wealth.
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
11) The dividend policy of a firm may be influenced by all of the following EXCEPT ________.
A) the fact that there may not be enough cash on hand
B) the fact that bondholder covenants can place constraints on dividend policy
C) the fact that firms cannot pay out cash dividends from their legal capital
D) the fact that loans are a typical resource for paying dividends
Answer: D
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
12) When a firm pays out dividends from leftover funds, it is called a residual dividend policy.
Answer: TRUE
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
13) A firm will set its dividend policy high enough so that it can continually meet the distribution
level of the cash dividend in spite of variances in cash inflow from operations and in cash
outflows for maintenance and investing.
Answer: FALSE
Explanation: A firm will set its dividend policy low enough so that it can continually meet the
distribution level of cash in spite of variances in cash inflow from operations and cash outflows
for maintenance and investing.
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
14) An increase in dividends may signal poor performance in the future.
Answer: FALSE
Explanation: A cut in dividends may signal poor performance in the future.
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
15) A policy of "sticky dividends," meaning one in which dividends tend to stick at newly raised
levels, is used more frequently by firms than a residual dividend policy.
Answer: TRUE
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
16) Legal capital equals the par value of common stock minus the paid-in-excess of par on the
common shares.
Answer: FALSE
Explanation: Legal capital equals par value of common stock plus the paid-in-excess of par on
the common shares.
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
17) Bond covenants are frequently used to limit the dividends payable to stockholders.
Answer: TRUE
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
18) Dividends can be used by management to send a signal to the market regarding positive
future expectations.
Answer: TRUE
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
19) Stockholders may have covenants stating that a company cannot pay dividends unless
sufficient cash is currently available to cover the next coupon interest payments.
Answer: FALSE
Explanation: Bondholders may have covenants stating that a company cannot pay dividends
unless sufficient cash is currently available to cover the next coupon payments.
Diff: 1
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
20) Compare and contrast a sticky dividend policy with a residual dividend policy. Which policy
is more widely used by large corporations? What advantages does that policy have over the
other?
Answer: In a residual dividend policy, a firm pays out dividends from whatever funds remain
after all required distributions have been made. Thus, the shareholders receive the current
"residue" of earnings. Because earnings fluctuate from year to year, it is difficult to estimate with
a reasonable degree of certainty the level of cash flow or dividend payment from period to period
with a residual dividend policy. This level of uncertainly is generally distasteful to investors.
Alternatively, a sticky dividend policy is so named because once a dividend is declared, the firm
makes every effort to continue to pay that level of dividend. A sticky dividend policy means that
the firm is reasonably certain that it will be able to continue to pay that level of dividend into the
foreseeable future. An increase in the dividend is thus a reliable signal to the market that the
increased dividend will continue. The sticky dividend policy is preferred by investors and firms
alike as a way to reduce uncertainly about dividend cash flows and as a technique to signal
changes in expectations for future cash flows.
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
21) There are three practical considerations in selecting a firm's dividend policy: restrictions on
legal capital, restrictive bondholder covenants, and constraints on cash availability. Define and
discuss each of these items and the impact of each on the formulation of a firm's dividend policy.
Answer: Legal capital is the original contributions of the firm's shareholders and is defined as
par value plus paid-in-capital in excess of par value. Most states do not allow a firm to reduce
legal capital to make a dividend payment.
Corporate bond contracts can contain covenants that restrict the payment of dividends for a
number of reasons, such as restricting dividends to a certain percentage of current earnings.
Cash availability is a natural restriction on dividends. If a firm is restricted to accumulated cash
on hand for dividends, this limits the amount a firm can pay.
Diff: 2
Topic: 17.3 Selecting a Dividend Policy
AACSB: Analytical Thinking
LO: 17.3 Explain how a company selects dividend policy.
17.4 Stock Dividends, Stock Splits, and Reverse Splits
1) ________ are just paper financial transactions.
A) Stock dividends and cash dividends
B) Stock splits and coupon payments
C) Stock splits and stock dividends
D) Stock dividends and interest payments
Answer: C
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
2) A ________ is a payment to current shareholders in which the payment is less than 25% of the
current shares held.
A) stock split
B) stock dividend
C) cash dividend
D) specially designated dividend
Answer: B
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
3) Stock splits and stock dividends ________.
A) are just paper financial transactions
B) divide the firm's existing shares into multiple shares with the same total dollar value
C) may be used to signal management's intentions to the marketplace
D) All of the above
Answer: D
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
4) First National Bank Inc. has decided on a 5-for-1 stock split. If the firm currently has
2,000,000 shares outstanding, how many shares will be outstanding after the stock split?
A) 12,000,000 shares
B) 10,000,000 shares
C) 8,00,000 shares
D) 2,000,000 shares
Answer: B
Explanation: A 5-for-1 stock split = 5 × 2,000,000 shares =10,000,000 shares. A stock split in
and of itself has no value. However, the split may send a signal to the market of positive
expectations for the firm.
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
5) ACME Inc. has decided on a 4-for-1 stock split. If the firm currently has 400,000 shares
outstanding, how many shares will be outstanding after the stock split?
A) 400,000 shares
B) 1,600,000 shares
C) 3,200,000 shares
D) 6,400,000 shares
Answer: B
Explanation: A 4-for-1 stock split = 4 × 400,000 shares = 1,600,000 shares. A stock split in and
of itself has no value. However, the split may send a signal to the market of positive expectations
for the firm.
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
6) ACME Inc. has decided on a 4-for-1 REVERSE stock split. If the firm currently has 800,000
shares outstanding, how many shares will be outstanding after the stock split?
A) 200,000 shares
B) 400,000 shares
C) 3,200,000 shares
D) 6,400,000 shares
Answer: A
Explanation: 800,000 shares ÷ 4 = 200,000 outstanding shares.
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
7) Academic Partners Inc. has 1,200,000 outstanding shares of stock selling for $36 per share.
After a 2-for-1 stock split, how many shares of stock are outstanding and what is the change in
the firm value (given no new information)?
A) 2,400,000 shares and a change in value of $124,800,000
B) 2,400,000 shares and a change in value of $0.00
C) 600,000 shares and a change in value of $124,800,000
D) 600,000 shares and a change in value of $0.00
Answer: B
Explanation: A 2-for-1 stock split = 2 × 1,200,000 shares = 2,400,000 shares. A stock split in
and of itself has no value. However, the split may send a signal to the market of positive
expectations for the firm.
Diff: 3
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
8) ACME Inc. has decided on a 25% stock dividend. If the firm currently has 800,000 shares
outstanding, how many shares will be outstanding after the stock split?
A) 1,250,000 shares
B) 1,000,000 shares
C) 600,000 shares
D) 200,000 shares
Answer: B
Explanation: 800,000 shares × 25% = 200,000 + 800,000 = 1,000,000 shares outstanding.
Diff: 3
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
9) ACME Inc. has decided on a 10-for-1 reverse stock split. If the firm currently has 40,000,000
shares outstanding, how many shares will be outstanding after the stock split?
A) 100,000,000 shares
B) 20,000,000 shares
C) 5,000,000 shares
D) 4,000,000 shares
Answer: D
Explanation: 40,000,000 shares ÷ 10 = 4,000,000 shares outstanding.
Diff: 3
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
10) Which of the following is NOT a widely stated reason as to why firms split their stock?
A) To remain at or return to a preferred trading range
B) A signal to the market about expected continued strong performance
C) Increased liquidity
D) To lower dividends per share and thus the total cost of dividends for the firm
Answer: D
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
11) Which of the following commonly stated reasons for stock splits has the weakest empirical
evidence in support?
A) To remain at or return to a preferred trading range
B) A signal to the market about expected continued strong performance
C) Increased liquidity
D) All of the above reasons have strong empirical evidence to support them.
Answer: C
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
12) The ________ theory of stock splits states that firms want their shares to trade in a range
between $20-$40 per share.
A) preferred trading range
B) signaling hypothesis
C) increased liquidity
D) market hubris
Answer: A
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
13) Historically, the average price on the ________ has been in the $20-$40 per share range.
A) Dow Jones Industrial Average
B) New York Stock Exchange
C) S and P 500
D) Wilshire 2000
Answer: B
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
14) Historically, the average price on the New York Stock Exchange has been in the range of
________ per share.
A) $5-$10
B) $10-$15
C) $15-$20
D) $20-$40
Answer: D
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
15) Investors who buy stock in lots of fewer than 100 shares are said to be purchasing ________.
A) round lots
B) small lots
C) odd lots
D) off lots
Answer: C
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
16) Round lots trade in increments of ________ shares.
A) 50
B) 100
C) 500
D) 1,000
Answer: B
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
17) Which of the following statements is NOT true?
A) Odd lots consist of the purchase or sale of fewer than 100 shares of stock.
B) The commission rates on odd lots are often less expensive on a per share basis than for round
lots.
C) Most trades on the NYSE are done via round lots.
D) When stock prices begin to rise above the preferred trading range, the cost of a round lot may
move out of the range of many small retail traders.
Answer: B
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
18) Empirical evidence shows that a stock split is generally considered by the market to be
________.
A) good news
B) bad news
C) not newsworthy
D) This is a good question, but it has not been empirically studied by financial economists.
Answer: A
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
19) ________ is the term used when a firm decides to consolidate its stock into a lesser number
of outstanding shares.
A) Double down
B) Double up
C) Reverse split
D) Depreciating split
Answer: C
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
20) Reverse splits are used when ________.
A) firms decide to consolidate their stock into a fewer number of outstanding shares
B) firms want to change directions in product development
C) firms are reversing complex derivative security contracts
D) None of the above
Answer: A
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
21) Which of the following statements is NOT true?
A) A straight stock split is often taken to engineer a stock's price down into the preferred trading
range.
B) A reverse split is often taken to engineer a stock's price up into the preferred trading range.
C) After a straight stock split, the equity value of the company increases because there are now
more shares to trade.
D) Researchers have found that after a straight stock split, companies generally tend to move into
the preferred trading range of $20 to $40 a share.
Answer: C
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
22) Which of the following is NOT a reason used by the market as justification for a firm that
engages in a stock split?
A) The company wishes to keep their stock price in a preferred trading range.
B) The company wants to pay dividends to more shareholders.
C) The company wished to send a positive signal to the market.
D) The company wishes to increase liquidity by making their stock easier to buy.
Answer: B
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
23) Stock splits and stock dividends are just paper transactions with no real economic value.
Answer: TRUE
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
24) A stock dividend is a payment of shares to current shareholders in which the payment is less
than 50% of the current shares held.
Answer: FALSE
Explanation: A stock dividend is a payment of shares to current shareholders such that the
payment is less than 25% of the current shares held.
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
25) In general, stock prices continue to rise after splits.
Answer: TRUE
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
26) Historically, the average price per share for stocks traded on the New York Stock Exchange
(NYSE) has been in the $50-$75 range.
Answer: FALSE
Explanation: Historically, the average price per share for stocks traded on the New York Stock
Exchange (NYSE) has been in the $20-$40 range.
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
27) A reverse split is the consolidation of a company's stock into a lesser number of outstanding
shares.
Answer: TRUE
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
28) Reverse splits are a technique used by some NASDAQ-traded firms to prevent their share
prices from falling below a threshold that will give the NASDAQ the option to delist the stock.
Answer: TRUE
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
29) Round lot trading on the NYSE are in increments of 100 shares.
Answer: TRUE
Diff: 1
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
30) Rough Rider Disposal Inc. is having a stock split. The current price is $57 per share, and you
own 500 shares. The split is a one-and-one-half-shares-for-one share split. What is the expected
per share price after the split? What is your wealth before and after the split? Based on empirical
evidence, does the market value of outstanding shares (new price times new quantity) tend to
increase or decrease on average when stocks split into a greater number (but lower priced)
shares, as in this problem?
Answer: The price should drop from $57 per share to $57/1.50, or $38 per share. Your wealth
should not change. Your pre-split value was $57 × 500 shares = $28,500. After the split, you
have 500 shares × the split ratio of 1.5 = 750 shares. Your post -split wealth is $38 × 750 shares
= $28,500. There is no change in your wealth. However, empirical evidence does indicate that
stock splits are a positive signal in the marketplace and on average result in increased wealth to
shareholders. Of course, individual results may vary.
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
31) Identify and define three reasons for stock splits.
Answer: Although stock splits appear to have no impact on the value of the firm, they do
regularly occur and three popular reasons have been identified for their existence. First, one can
argue that stocks are more popular if they trade in a preferred trading range. A price range of
$20-$40 per share allows investors to purchase modest amounts of stock in round lots of one
hundred shares per lot. This helps reduce transaction costs on a per share basis and may support
broad market participation by a greater number of investors.
A second reason for stock splits is that they send a signal to investors. As stock prices rise above
preferred trading ranges, management sends a signal to investors that says stock prices are
unlikely to return to preferred (lower) prices without a positive split.
Finally, lower prices per share and more outstanding shares provide greater liquidity, thus
making it easier for more investors to trade the stock. However, this argument is not
well-supported by empirical evidence and tends to be downplayed by investors.
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
32) Identify and explain two reasons for reverse stock splits.
Answer: A reverse stock split, as its name implies, is just the opposite of the more commonly
recognized stock split. With a reverse stock split, a firm divides its number of outstanding shares
into a lesser amount of outstanding shares. Two reasons are sometimes cited for splits like these.
First, if a stock is trading below its preferred trading range, a reverse stock split is a way to
immediately increase the price-per-share of stock and return to the preferred price-per-share
trading range. More concretely, a reverse stock split may take place to avoid sanctions from the
NASDAQ rule that stocks trading below $1 per share for more than 30 days can be delisted.
Diff: 2
Topic: 17.4 Stock Dividends, Stock Splits, and Reverse Splits
AACSB: Analytical Thinking
LO: 17.4 Understand stock splits and reverse splits and why companies use them.
17.5 Specialized Dividend Plans
1) Which of the following is generally NOT true of stock repurchase plans?
A) Firms announce buying plans in advance.
B) The plan sets a specific time frame for repurchase.
C) The plan sets a specific dollar figure (or number shares) to be repurchased.
D) Once a plan is announced, the vast majority of firms (in excess of 70%) complete the plans as
announced.
Answer: D
Explanation: Only about 30% of all announced stock repurchase plans are completed as
originally set out. As many as 35% of repurchase plans are never started and 35% are only
partially completed.
Diff: 2
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
2) Which of the following is generally NOT true of stock repurchase plans?
A) Stock repurchase plans effectively allow shareholders to choose their own dividend policy.
B) Stockholders who sell all or part of their shares back to the firm as part of an announced stock
repurchase plan pay taxes at an ordinary rate rather than the capital gains rate because the IRS
recognizes these plans as thinly veiled attempts to reduce stockholder tax liabilities.
C) About 30% of announced stock repurchase plans are fully completed.
D) About 35% of announced stock repurchase plans are never started.
Answer: B
Explanation: Stock repurchases are effectively the payment of cash dividends and are thus taxed
in a similar manner.
Diff: 2
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
3) Plans that call for the automatic reinvestment of shareholder cash dividends in more shares of
the company stock are called ________.
A) DRIPs
B) ACORNs
C) STRIPs
D) IPOs
Answer: A
Explanation: A DRIP is a Dividend Reinvestment Plan. ACORN stands for Association of
Community Organizations for Reform Now. A STRIP stands for Separate Trading of Registered
Interest and Principal Securities. IPOs are initial public offerings.
Diff: 1
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
4) Which of the following is NOT true regarding dividend reinvestment plans (DRIPs)?
A) DRIPs avoid most or all transaction fees if administered directly by the company.
B) By choosing a DRIPs option, a shareholder automatically buys additional shares of a
company on a regular basis.
C) DRIPs often allow investors to purchase a small number of shares per transaction.
D) All of these statements about DRIPs are true.
Answer: D
Diff: 2
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
5) Janet owns 1000 shares of Walmart Inc. The firm has a semiannual dividend policy of $0.60
per share or the option to reinvest the cash dividends into additional shares of company stock. If
the stock is selling for $33.00 per share ex-dividend, how many shares of stock will Maggie
receive in the next dividend period if she chooses the dividend reinvestment plan?
A) 60 shares
B) 18.18 shares
C) 10.33 shares
D) 8.64 shares
Answer: B
Explanation: Cash value of the dividends = the per share dividend × the number of shares owned
= $0.60 × 1000 shares = $600.00. At $33 per share Maggie can purchase $600/$33 = 18.18
shares.
Diff: 3
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
Hmwrk Questions: * Taken from "Prepping for Exams" questions at the end of the chapter.
6) Jameis owns 100 shares of ACME Inc. The firm has a quarterly dividend policy of $0.50 per
share or the option to reinvest the cash dividends into additional shares of company stock. If the
stock is selling for $108.00 per share ex-dividend, how many shares of stock will Jameis receive
in the next dividend period if he chooses the dividend reinvestment plan?
A) 1.66 shares
B) 1.25 shares
C) 0.46 shares
D) 0.21 shares
Answer: C
Explanation: Cash value of the dividends = the per share dividend × the number of shares owned
= $0.50 × 100 shares = $50.00. At $108 per share Marcus can purchase $50/$108 =0.4629
shares.
Diff: 3
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
7) Dividend Reinvestment Plans (DRIPS) can be found in ________.
A) brokerage-run programs
B) transfer-agent-run programs
C) company-run programs
D) all of the above
Answer: D
Diff: 2
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
8) About 70% of announced stock repurchase plans are not completed as announced.
Answer: TRUE
Diff: 1
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
9) DRIP is an acronym for Dividend Renewal or Initiation Plan.
Answer: FALSE
Explanation: DRIP is an acronym for DIVIDEND REINVESTMENT PLAN.
Diff: 1
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
10) DRIPs (dividend reinvestment plans) generally have few or no transaction costs.
Answer: TRUE
Diff: 1
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.
11) What is a DRIP as it applies to stocks? Suppose you own 5,000 shares of Rough Rider
Disposal Inc. and the firm has a DRIP program. Rough Rider pays dividends at the rate of $1.50
per share per year and has a current price of $57 per share. How many additional shares of stock
can you receive if you elect to receive your dividends via the DRIP option? What advantage over
purchasing the stock on the open market does a DRIP plan offer?
Answer: A DRIP, or dividend reinvestment plan, is a technique that allows for the automatic
reinvestment of cash dividends into the purchase of additional shares of the company's stock. In
our example, the cash dividend for Rough Rider would be $1.50 per share × 5,000 shares for a
total of $7,500. By selecting the DRIP option, you could purchase $7,500/$57 per share = 131.58
additional shares of stock. This option is popular because it allows for an easy way to increase
stock ownership and typically eliminates the transaction costs an investor would bear in an
open-market transaction. DRIPS, however, are not exempt from ordinary taxes on the receipt of
dividends.
Diff: 3
Topic: 17.5 Specialized Dividend Plans
AACSB: Analytical Thinking
LO: 17.5 Understand stock repurchases and dividend reinvestment programs.