BWFF2043 (GROUP E)

TUTORIAL 8
DIVIDEND POLICY

1. Terra Cotta finances new investments by 40 percent debt and 60 percent equity.
The firm needs $640,000 for financing new investments. If retained earnings
available for reinvestment equal $400,000, how much money will be available for
dividends in accordance with the residual dividend theory?

2. RCB has 2 million shares of common stock outstanding. Net income is $550,000,
and the P/E ratio for the stock is 10. Management is planning a 20 percent stock
dividend. What will be the price of the stock after the stock dividend? If an investor
owns 100 shares prior to the stock dividend, does the total value of his or her
shares change? Explain.

3. You own 5 percent of the Trexco Corporation’s common stock, which recently sold
for $98 prior to a planned two-for-one stock split announcement. Before the split
there are 25,000 shares of common stock outstanding.
a. Relative to now, what will be your financial position after the stock split?
(Assume the stock price falls proportionately).
b. The executive vice-president in charge of finance believes the price will only
fall 40 percent after the split because she feels the price is above the optimal
price range. If she is correct, what will be your net gain?

4. The Dunn Corporation is planning to pay dividend of $500,000. There are 250,000
shares outstanding, with an earnings per share of $5. The stock should sell for $50
after the ex-dividend date. If instead of paying a dividend, management decides to
repurchase stock:
a. What should be the repurchase price?
b. How many shares should be repurchased?
c. What if the repurchase price is set below or above your suggested price in
part (a)?
d. If you own 100 shares, would you prefer that the company pay the dividend
or repurchase stock?