Dividend Policy: Theories, Payout Ratios, and Stock Repurchases

Question 1

According to the Walter Model, firms should retain earnings for investment when:

Accepted Answer

The return on investment exceeds the cost of capital

Answer

The return on investment is less than the cost of capital

Answer

The firm has no profitable investment opportunities

Answer

The firm's debt-to-equity ratio is too low

Question 2

Which form of dividend policy aims to maintain a steady dividend per share over extended periods?

Accepted Answer

Constant dividend per share

Answer

Constant payout ratio

Answer

Residual dividend

Answer

Target payout ratio

Question 3

What is the main benefit of stock repurchases over dividend payments?

Accepted Answer

Signaling effect

Answer

Tax benefits

Answer

Improved financial leverage

Answer

Lower earnings per share

Question 4

Which method is typically used to determine a firm's cost of equity?

Accepted Answer

Capital Asset Pricing Model (CAPM)

Answer

Dividend Growth Model (DGM)

Answer

Weighted Average Cost of Capital (WACC)

Answer

Incremental Cost of Capital (ICC)

Question 5

Which legal consideration must companies prioritize when establishing their dividend policy?

Accepted Answer

Statutory dividend requirements

Answer

Financial performance of the company

Answer

Expectations of investors

Question 6

Dividend signaling theory suggests that dividend payments can convey a firm's future prospects to the market. How do firms use dividends to signal their expectations?

Accepted Answer

Firms with optimistic future expectations may issue dividends to indicate to investors that they anticipate higher earnings in the future.

Answer

Firms may pay dividends to mitigate the risk of potential takeover attempts.

Answer

Dividend payments are used to distribute excess cash that lacks profitable investment opportunities.

Question 7

A company with a stable earnings history is considering adopting a constant dividend payout policy. Which of the following is a potential advantage of adopting such a policy?

Accepted Answer

Reduced uncertainty for investors

Answer

Increased growth opportunities

Answer

Lower cost of capital

Answer

Improved access to debt financing

Question 8

According to the residual dividend theory, dividends should be paid out only when:

Accepted Answer

Earnings exceed investment opportunities

Answer

Earnings are below investment opportunities

Answer

Earnings equal investment opportunities

Answer

The company's debt is low

Question 9

A company with a high dividend payout ratio is said to have a:

Accepted Answer

Liberal dividend policy

Answer

Conservative dividend policy

Answer

Stable dividend policy

Answer

Moderate dividend policy

Question 10

According to the signaling theory of dividends, when a company increases its dividend, it is:

Accepted Answer

Signaling positive expectations about future earnings

Answer

Signaling negative expectations about future earnings

Answer

Trying to attract new investors

Answer

Trying to reduce its cost of capital

Question 11

What is the primary objective of dividend policy?

Accepted Answer

To maximize shareholder wealth

Answer

To minimize the cost of equity

Answer

To ensure stability in the company's operations

Answer

To comply with all applicable laws and regulations

Question 12

Stock repurchases are primarily used to:

Accepted Answer

Both (b) and (c)

Answer

Increase earnings per share

Answer

Signal management confidence

Answer

Reduce the number of outstanding shares

Question 13

According to Lintner's Model, firms with low growth prospects are likely to:

Accepted Answer

Pay lower dividends

Answer

Pay higher dividends

Answer

Pay stable but moderate dividends

Answer

Not pay dividends

Question 14

The residual dividend policy involves:

Accepted Answer

Paying out dividends after meeting investment and operating needs

Answer

Paying out all available cash as dividends

Answer

Paying out a fixed percentage of earnings as dividends

Answer

Paying out dividends based on a target dividend-to-earnings ratio

Question 15

Which dividend theory posits that dividends should be paid out only when a firm has excess funds after meeting all other obligations and investment opportunities?

Accepted Answer

Residual theory

Answer

Bird-in-hand theory

Answer

Dividend irrelevance theory

Answer

Signaling theory

Question 16

Which of the following is generally considered a primary advantage of a high dividend payout ratio?

Accepted Answer

Increased shareholder confidence

Answer

Reduced risk of takeover

Answer

Lower cost of capital

Answer

Greater financial flexibility

Question 17

Which of the following is a potential signaling effect of a dividend cut?

Accepted Answer

Lack of confidence in future earnings

Answer

Financial distress

Answer

Commitment to long-term growth

Answer

Increased investment opportunities

Question 18

What is the primary purpose of using the Gordon growth model in dividend policy?

Accepted Answer

To determine the present value of future dividends

Answer

To calculate the intrinsic value of the stock

Answer

To predict the dividend growth rate

Answer

To compare different dividend policies

Question 19

Which of the following factors does NOT directly influence a firm's dividend policy?

Accepted Answer

Stock price

Answer

Earnings and cash flow

Answer

Investor preference

Answer

Tax rates

Question 20

Which dividend theory posits that the value of a firm is unrelated to its dividend policy?

Accepted Answer

Dividend irrelevance theory

Answer

Bird-in-the-hand theory

Answer

Clientele effect theory

Answer

Tax preference theory

Question 21

The dividend irrelevance theory proposes that:

Accepted Answer

Dividend decisions do not impact a firm's value

Answer

Regular dividend payments are essential for shareholder satisfaction

Answer

Shareholders prefer stock repurchases over dividends

Answer

Debt financing is always the optimal capital structure

Question 22

The residual dividend policy implies that:

Accepted Answer

Dividends are paid after all investment needs and debt obligations are met

Answer

Dividends are paid out regularly regardless of the company's earnings

Answer

Dividend payments are based on a target payout ratio

Answer

Dividend payments are fixed at a specific percentage of earnings

Question 23

Which of the following is not a key determinant of a firm's dividend payout policy?

Accepted Answer

Customer loyalty

Answer

Profitability

Answer

Investment opportunities

Answer

Managerial conservatism

Question 24

According to the residual dividend theory, firms should pay dividends based on the:

Accepted Answer

Amount of cash available after investment and operating needs

Answer

Percentage of earnings available after debt repayment

Answer

Percentage of equity value available after reinvestment

Answer

Amount of profits available after tax and interest payment

Question 25

A stock repurchase refers to the:

Accepted Answer

Purchase of the company's own shares from shareholders

Answer

Issuance of new shares to raise funds

Answer

Payment of dividends to shareholders

Answer

Transfer of shares from one shareholder to another

Question 26

The dividend payout ratio is calculated as:

Accepted Answer

Total dividends declared / Net income

Answer

Earnings per share / Dividends per share

Answer

Dividends per share / Earnings per share

Answer

Net income / Total dividends declared

Question 27

Which of the following is a potential advantage of stock repurchases?

Accepted Answer

Increasing earnings per share

Answer

Reducing the cost of debt

Answer

Improving dividend yield

Answer

Lowering the company's stock price

Question 28

Which of the following factors is NOT typically considered when determining a company's dividend policy?

Accepted Answer

Political stability

Answer

Earnings

Answer

Cash flow

Answer

Interest rates

Question 29

What is the main difference between a stable dividend policy and a fluctuating dividend policy?

Accepted Answer

Stable dividend policy involves paying consistent dividends, while fluctuating dividend policy adjusts dividends based on company performance.

Answer

Fluctuating dividend policy involves paying consistent dividends, while stable dividend policy adjusts dividends based on company performance.

Answer

There is no difference between the two policies.

Answer

Stable dividend policy is riskier than fluctuating dividend policy.

Question 30

The dividend discount model is primarily used to:

Accepted Answer

Estimate the intrinsic value of a stock

Answer

Determine the optimal dividend payout ratio

Answer

Calculate the cost of equity

Answer

Forecast future earnings

Question 31

Which of the following is a characteristic of a residual dividend policy?

Accepted Answer

Dividends are paid only after meeting investment needs.

Answer

Dividends are paid out at a fixed percentage of earnings.

Answer

Dividends are increased gradually over time.

Answer

Dividends are decreased if cash flow declines.

Question 32

In the context of dividend policy, the agency problem refers to:

Accepted Answer

The potential conflict of interest between managers and shareholders

Answer

The risk that dividends will not be paid on time

Answer

The uncertainty about future economic conditions

Answer

The difficulty in raising new capital

Question 33

Which dividend theory posits that distributing dividends reduces agency conflicts between management and shareholders?

Accepted Answer

Agency cost theory

Answer

Residual dividend theory

Answer

Bird-in-the-hand theory

Answer

Signaling theory

Question 34

Which factor is least likely to influence a company's dividend policy?

Accepted Answer

Consumer confidence

Answer

Capital structure

Answer

Growth opportunities

Answer

Tax regulations

Question 35

According to the dividend irrelevance theory, which of the following statements is true?

Accepted Answer

Dividends do not impact firm value.

Answer

Investors favor high dividend payments.

Answer

Companies should maximize dividend payments.

Answer

Dividend policy is crucial for financial management.

Question 36

The bird-in-the-hand theory of dividend policy suggests that:

Accepted Answer

Investors prioritize current dividends over future growth.

Answer

Companies should distribute dividends to prevent conflicts of interest.

Answer

Stock repurchases are consistently superior to dividends.

Answer

Dividend policy is irrelevant to investors' decision-making.

Question 37

Which dividend theory proposes that companies should distribute excess earnings after meeting investment needs?

Accepted Answer

Residual dividend theory

Answer

Dividend irrelevance theory

Answer

Bird-in-the-hand theory

Answer

Signaling theory

Question 38

Calculate the implied dividend yield for a stock that pays an annual dividend of £0.40 and trades at a market price of £8.

Accepted Answer

5.0%

Answer

2.5%

Answer

7.5%

Answer

10.0%

Question 39

What is the primary objective of a company's dividend policy?

Accepted Answer

Maximization of shareholder wealth and value creation

Answer

Minimization of financial risk and exposure

Answer

Alignment with industry standards and practices

Answer

Increasing earnings per share at all costs