Question

a) If high-dividend stocks offer a higher expected (and required) return than low- dividend stocks due to higher personal taxes levied on the former, why don’t corporations simply reduce dividend payments and thus lower their cost of capital?

b) An Investor buys 100 shares at GH¢500.00 per share, putting up a 70% margin. i) How much equity would the investor have to provide in order to make this margin transaction ii) In what way may managers use dividends to convey pertinent information about their firms in a world of informational asymmetry and also, choose to convey information via dividend policy?

c) Hedge funds often take derivatives positions to boost their performance. Explain how performance statistics for hedge funds can look better than what their actual holdings should justify?

d) ABC Ghana Ltd is considering investing in the following projects which are considered mutually exclusive

	project 2	project 2
annual cash inflow	1,000,000	2,000,000
cost of machine	2,500,000	6,000,000
scrap value of machine expected	250,000	1,000,000

Abc Ghana Ltd uses the straight line method of depreciation. However, tax- allowable depreciation is 30% on straight line basis. The cost of capital for the company is 20% per annum.

i) Calculate the Accounting Rate of Return for each project.

ii) Calculate the Net Present Value (NPV) for each project. iii) Compute the Payback period for each project.

(Note: In each of the above, advise the Company on which of the projects to implement or undertake.)

Answer 1

Solutions:-

a)The main reason for the corporates are not simply reduce dividend payments and thus lower their cost of capital is it will effects the company credibility from the investors. Most of the investors considers that drastic cut is a negative sign for a company’s health .And good dividend payment policy helps to attract investors to invest in the company. Cutting in the dividend may happen negative rating from the investors.

d)

Particulars	Project 1	Project 2
Accoun ting Rate of Return	40%	33%
Net Present Value(NPV)	8,33,333.33	16,66,666.67
Pay Back Period	2.5 Year	3 Year