Question

The argument that homemade dividends would lead to the irrelevance of dividend policy hinges critically on the assumption

Select one:

a. that shareholders are willing to buy more shares.

b. that the capital asset pricing model can be used to value shares.

c. of no taxes and transaction costs.

d. that the company will issue more shares.

e. of stable dividend payment.

In terms of changes in the number of shares outstanding, a 20% stock dividend is equivalent to a ____________ stock split.

Select one:

a. six for five

b. six for four

c. five for three

d. five for four

e. seven for six

Answer 1

1 No taxes and transaction costs

Homemade dividend is creted when the investor sells a portion of his shares to the company to achieve the same cash flows. Hence the shareholders do not BUY shares. Moreover there is no valuation of shares based on beta of company and hence CAPM assumption is irrelevant. The company buys shares already issued and there is no fresh issue. Dividend payment need not be stable. However the homemade dividend strategy will not be effective if there are taxes and transaction costs since that will dilute the cash flows in that case.

2: six for five

A 20% stock dividend means 1 share for every 5 held. This makes a total of 6 shares after the dividend is declared. This is equal to a stock split of 6 for 5.