2. Dividends versus stock repurchases Ignoring possible tax effects and signalin

Question

2. Dividends versus stock repurchases Ignoring possible tax effects and signaling costs, the total value of a firm's equity remains the same irrespective of how the firm distributes its residual earnings-dividends or stock repurchases. Each distribution method has certain advantages and disadvantages. Based on your understanding of dividends and stock repurchases, select the best terms to go with the statements. Select the best term to complete the sentence Repurchase stock Distribute dividends Excess cash or a desire to recapitalize usually leads management to ???? False True Repurchases are more dependable than dividends because the investor wealth does not decrease after a repurchase, whereas the stock price decreases distributed. This statement is 7?7? when dividends are True False Dividends provide signals about a firm's future prospects, whereas some investors might misinterpret why a firm is repurchasing stock. This statement is ?2?? Saves Increases Repurchase transactions allow a firm to buy back stock that may be needed to fulfill obligations when employees exercise their stock options. This ???? the costs associated with issuing new shares.

Explanation / Answer

1. Share repurchase

(By buying back shares, the capital structure changes)

2. False

(Share repurchases increase investor wealth over time, although they have a higher degree of uncertainty than dividends. If dividends are distributed at an amount higher then market expectation, the stock price increases. Moreover, if the tax consequences of dividends and capital gains are the same and the information content of cash dividends and stock repurchases is the same then the effects of both on shareholder value will be the same.)

3. True

(Dividend is taken as a sign of profitability whereas stock repurchase may be taken as a sign of purposeful reduction of owners of the company)

4. Saves

(Since new shares are not required to be issued as ESOP, the cost of issuing new shares will be saved.)

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