EBK CONTEMPORARY FINANCIAL MANAGEMENT
14th Edition
ISBN: 9781337514835
Author: MOYER
Publisher: CENGAGE LEARNING - CONSIGNMENT
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Question
Chapter 2.A, Problem 3QTD
Summary Introduction
To determine: The reason for 70% corporate-dividend exclusion.
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What is the relative tax advantage of corporate debt if the corporate tax rate Tc = 21%, thepersonal tax rate Tp = 37%, but all equity income is received as capital gains and escapestax entirely (TpE = 0%)? How does the relative tax advantage change if the companydecides to pau out all equity income as cash dividends that are taxed at 20%?
What is the clientele effect and how does it impact on dividens policy for the company? If the company decide to pay 20% payout?
Which of the following statements is CORRECT?
Group of answer choices
When calculating the cost of preferred stock, companies must adjust for taxes, because dividends paid on preferred stock are deductible by the paying corporation.
Because of tax effects, an increase in the risk-free rate will have a greater effect on the after-tax cost of debt than on the cost of common stock as measured by the CAPM.
If a company's beta increases, this will increase the cost of equity used to calculate the WACC, but only if the company does not have enough reinvested earnings to take care of its equity financing and hence must issue new stock.
Higher flotation costs reduce investors' expected returns, and that leads to a reduction in a company's WACC.
When calculating the cost of debt, a company needs to adjust for taxes, because interest payments are deductible by the paying corporation.
Chapter 2 Solutions
EBK CONTEMPORARY FINANCIAL MANAGEMENT
Ch. 2.A - Prob. 1QTDCh. 2.A - Prob. 2QTDCh. 2.A - Prob. 3QTDCh. 2.A - Prob. 1PCh. 2.A - Prob. 2PCh. 2.A - Prob. 3PCh. 2.A - Prob. 4PCh. 2.A - Prob. 5PCh. 2.A - Prob. 6PCh. 2.A - Prob. 7P
Ch. 2.A - Prob. 8PCh. 2 - Prob. 1QTDCh. 2 - Prob. 2QTDCh. 2 - Prob. 3QTDCh. 2 - Prob. 4QTDCh. 2 - Prob. 5QTDCh. 2 - Prob. 6QTDCh. 2 - Prob. 7QTDCh. 2 - Prob. 8QTDCh. 2 - Prob. 9QTDCh. 2 - Prob. 10QTDCh. 2 - Prob. 1PCh. 2 - Prob. 2PCh. 2 - Prob. 3PCh. 2 - Prob. 4PCh. 2 - Prob. 5PCh. 2 - Prob. 6PCh. 2 - Prob. 7PCh. 2 - Prob. 8PCh. 2 - Prob. 9PCh. 2 - Prob. 10PCh. 2 - Prob. 11PCh. 2 - Prob. 12PCh. 2 - Prob. 13P
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Similar questions
- If payout policy is irrelevant or has no effect on firm value, then why do individuals have a preference on payout policy? Shefrin and Statman (1984) provide a really interesting illustration of why payout policy may be important to individual investors by highlighting a particular case of a dividend omission by Consolidated Edison in the 70s, which occurred after 89 years of uninterrupted dividends. One of the shareholder's statements concerning the missed dividend payment during the 1974 annual meeting was as follows: What are we to do? You give us shorthand answers. You don't know when the dividend is coming back. Who is going to pay my rent? I had a husband. Now Con Ed has to be my husband. (Shefrin et al., 1984, p. 276) An excellent and very readable summary questioning the dividend's relevance is provided by Black (1976) and a summary of the current state of the literature is found in Baker and Weigand (2015). The questions that you should consider for this discussion response…arrow_forwardWhat does an increase in the tax rate on corporate profits do to a firm’s coverage ratio? increases it decreases it nothingarrow_forwardWhich of the following is NOT a consequence of the double tax on dividends? Question 15 options: Corporations have an incentive to retain earnings and structure distributions to avoid dividend treatment. Corporations have an incentive to invest in non-corporate rather than corporate businesses. The cost of capital for corporate investment is increased. Corporations have an incentive to finance operations with debt rather than equity. All of the above are consequences of the double tax on dividends.arrow_forward
- FAMA is considering issuing new common stock and using the proceeds to reduce its outstanding debt. The stock issue would have no effect on total assets, the interest rate FAMA pays, EBIT, or the tax rate. Which of the following is likely to occur if the company goes ahead with the stock issue? a. The times interest earned ratio will decrease. b. The ROA will decline. c. Taxable income will decrease. d. The tax bill will increase. e. Net income will decrease. Please explain answer.arrow_forwardThe cost of preferred stock to a firm must be adjusted to an after-tax figure because 50% of dividends received by a corporation may be excluded from the receiving corporation's taxable income. a. True b. False just give me the logic dont give me the answer to thisarrow_forwardWhich of the following theories is supported by the argument that shareholders can transform a company dividend policy into a different policy by means of investors buying and selling on their own account? a. dividend irrelevance theory b. "bird-in-the-hand" theory C. residual distribution model d. tax preference theoryarrow_forward
- 15% of IBM's value is declared as a special dividend. How long and during what time period must a corporation hold the stock in order to avoid having to reduce its basis, due to the special dividend?arrow_forwardDiscuss: Miller and Scholes (1972) model of corporate dividend policy that assumed market efficiency Jensen and Benington (1973) challenge on efficient market hypothesis Fama and French (1992) proposed three factor modelarrow_forwardWhich of the following statements is CORRECT? Assume a company's target capital structure is 50% debt and 50% common equity. Group of answer choices The WACC is calculated on a before-tax basis. The WACC exceeds the cost of equity. The cost of equity is always equal to or greater than the cost of debt. The cost of reinvested earnings typically exceeds the cost of new common stock. The interest rate used to calculate the WACC is the average after-tax cost of all the company's outstanding debt as shown on its balance sheet.arrow_forward
- What is the cost of equity (%)? What is the post-tax cost of debt (%)? What is the WACC (%)? What is the value of the company ($)? What is the price per share ($)?arrow_forwardTaggart Technologies is considering issuing new common stock and using the proceeds to reduce its outstanding debt. The stock issue would have no effect on total assets, the interest rate Taggart pays, EBIT, or the tax rate. Which of the following is likely to occur if the company goes ahead with the stock issue? a. The times-interest-earned ratio will decrease. b. Net income will decrease. c. Taxable income will decline. d. The ROA will decline. e. The tax bill will increase.arrow_forwardwhy would investors prefer to invest in a company with a regular divided policy than a company with a low regular and extra dividend policy?arrow_forward
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