A firm\'s value depends on its expected free cash flow and its cost of capital.

Question

A firm's value depends on its expected free cash flow and its cost of capital. Distributions made in the form of dividends or stock repurchases impact the firm's value and the investors in different ways In some cases, analysts notice that groups of similar investors tend to flock to stocks that have dividend policies consistent with their financial needs. This circumstance is an illustration of: O The residual dividend policy The free cash flow hypothesis O The clientele effedt O The signaling hypothesis Consider the case of Red Dirt Producers Inc., and answer the question that follows: Red Dirt Producers Inc. is an oil drilling company. The company paid a dividend of $2.80 last year, and, in the past, its dividend has increased steadily by about 4% a year. Red Dirt just announced that its dividend will increase to $3.75 this year, and its share price rose from $35 per share to $38 per share immediately after the announcement. Which of the following best explains why Red Dirt's stock price increased as it did? O Dividend irrelevance theory O The signaling hypothesis O The clientele effedt Modigliani and Miller argued that each shareholder can construct his or her own dividend policy. This statement is: False True Modigliani and Miller also pointed out that many institutional investors do not pay taxes and can buy and sell stocks with very low transaction costs. For these investors, dividend policy is investor relevant than it is for an individual

Explanation / Answer

Question 1:

Residual dividend policy. This policy first defines the amount of capital they will need for capital financing and then pay dividends.

Question 2: Signalling Effect

According to this theory, when company increases its dividend, it basically signals to investors about bright prospects of the company.

Question 3: True

MM Model talks about dividends being irrelevant for making investment decision for investors. As and when they need more cash, they can sell a part of their investment to receive additional cash other than dividend. Similarly, when they need less cash, they will buy more stocks with cash dividends that they receive.

Question 4: More

The dividend policy is more relevant for institutional investors, as it would define the amount of taxes they may have to pay, so that they maintain low cost high return structure

Question 5

Signalling Hypothesis. As explained above.

Question 6: Clientele effect

Clientele effect how demand and supply from a group of investors based on tax, change of policy of dividend or something

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