1.Harris Corporation has $250 million in cash, and 100 million shares outstanding. Suppose the corporate tax rate is 35%, and investors pay no taxes on dividends, capital gains, or interest income. Investors had expected Harris to pay out the $250 million through a share repurchase.
Suppose instead that Harris announces it will permanently retain the cash, and use the interest on the cash to pay a regular dividend. If there are no other benefits of retaining the cash, how will Harris’ stock price change upon this announcement?
2.Redo Problem 21, but assume the following:
a. Investors pay a 15% tax on dividends but no capital gains taxes or taxes on interest income,and Kay does not pay corporate taxes.
b. Investors pay a 15% tax on dividends and capital gains, and a 35% tax on interest income,while Kay pays a 35% corporate tax rate.
3.Raviv Industries has $100 million in cash that it can use for a share repurchase. Suppose instead Raviv invests the funds in an account paying 10% interest for one year.
a. If the corporate tax rate is 40%, how much additional cash will Raviv have at the end of the year net of corporate taxes?
b. If investors pay a 20% tax rate on capital gains, by how much will the value of their shares have increased, net of capital gains taxes?
c. If investors pay a 30% tax rate on interest income, how much would they have had if they invested the $100 million on their own?
d. Suppose Raviv retained the cash so that it would not need to raise new funds from outside investors for an expansion it has planned for next year. If it did raise new funds, it would have to pay issuance fees. How much does Raviv need to save in issuance fees to make retaining the cash beneficial for its investors? (Assume fees can be expensed for corporate tax purposes.)
4.Use the data in Table 15.3 to calculate the tax disadvantage of retained cash in the following:
a. 1998
b. 1976
5.Explain under which conditions an increase in the dividend payment can be interpreted as a signal of the following:
a. Good news
b. Bad news
6.Why is an announcement of a share repurchase considered a positive signal?
7.AMC Corporation currently has an enterprise value of $400 million and $100 million in excess cash. The firm has 10 million shares outstanding and no debt. Suppose AMC uses its excess cash to repurchase shares. After the share repurchase, news will come out that will change AMC’s enterprise value to either $600 million or $200 million.
a. What is AMC’s share price prior to the share repurchase?
b. What is AMC’s share price after the repurchase if its enterprise value goes up? What is AMC’s share price after the repurchase if its enterprise value declines?
c. Suppose AMC waits until after the news comes out to do the share repurchase. What is AMC’s share price after the repurchase if its enterprise value goes up? What is AMC’s share price after the repurchase if its enterprise value declines?
d. Suppose AMC management expects good news to come out. Based on your answers to parts (b) and (c), if management desires to maximize AMC’s ultimate share price, will they undertake the repurchase before or after the news comes out? When would management undertake the repurchase if they expect bad news to come out?
e. Given your answer to part (d), what effect would you expect an announcement of a share repurchase to have on the stock price? Why?
8.Berkshire Hathaway’s A shares are trading at $120,000. What split ratio would it need to bring its stock price down to $50?
9.Suppose the stock of Host Hotels & Resorts is currently trading for $20 per share.
a. If Host issued a 20% stock dividend, what will its new share price be?
b. If Host does a 3:2 stock split, what will its new share price be?
c. If Host does a 1:3 reverse split, what will its new share price be?
10.Explain why most companies choose to pay stock dividends (split their stock).
11.When might it be advantageous to undertake a reverse stock split?
12.After the market close on May 11, 2001, Adaptec, Inc., distributed a dividend of shares of the stock of its software division, Roxio, Inc. Each Adaptec shareholder received 0.1646 share of Roxio stock per share of Adaptec stock owned. At the time, Adaptec stock was trading at a price of $10.55 per share (cum-dividend), and Roxio’s share price was $14.23 per share. In a perfect market, what would Adaptec’s ex-dividend share price be after this transaction?