Assignment: 4

Q. 1: Identify and explain the four broad sets of factors that affect dividend policy.
Q. 2: Problems
Residual dividend model: Axel Telecommunications has a target capital structure that consists
of 70 percent debt and 30 percent equity. The company anticipates that its capital budget for the
upcoming year will be $3,000,000. If Axel reports net income of $2,000,000 and it follows a
residual dividend payout policy, what will be its dividend payout ratio?

Stock split: Gamma Medical’s stock trades at $90 a share. The company is contemplating a 3-for-
2 stock split. Assuming that the stock split will have no effect on the market value of its equity,
what will be the company’s stock price following the stock split?

Stock repurchases: Beta Industries has net income of $2,000,000 and it has 1,000,000 shares of
common stock outstanding. The company’s stock currently trades at $32 a share. Beta is
considering a plan in which it will use available cash to repurchase 20 percent of its shares in the
open market. The repurchase is expected to have no effect on either net income or the company’s
P/E ratio. What will be its stock price following the stock repurchase?

Stock split: After a 5-for-1 stock split, the Strasburg Company paid a dividend of $0.75 per new
share, which represents a 9 percent increase over last year’s pre-split dividend. What was last
year’s dividend per share?

External equity financing: Northern Pacific Heating and Cooling Inc. has a 6-month backlog of
orders for its patented solar heating system. To meet this demand, management plans to expand
production capacity by 40 percent with a $10 million investment in plant and machinery. The firm
wants to maintain a 40 percent debt-to-total-assets ratio in its capital structure; it also wants to
maintain its past dividend policy of distributing 45 percent of last year’s net income. In 2005, net
income was $5 million. How much external equity must Northern Pacific seek at the beginning of
2006 to expand capacity as desired? Assume the firm uses only debt and common equity in its
capital structure.