fin test #3 section #2
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what are the three views:
- dividend policy is irrelevant
- high dividends increase share prices
- low dividends increase share prices
view #1 (MM's indifferent theory/irrelevant theory)
irrelevant implies shareholder wealth isn't affected by dividend policy whether the firm pays o% or 100% of its earnings as dividends
view #1 is based on 2 assumptions
perfect capital markets (study dividends in isolation i.e. no costs, no bankruptcies, conflicts)
firm's investment and borrowing decisions have been made and won't be altered by dividend payment
with the 2 assumptions you conclude
there isn't a relationship between dividend policy and stock value
- based on bird-in-the-hand theory- investors may prefer "dividend today" as it is less risky compared to uncertain future capital gains"
- -higher RR for discounting a dollar of capital gain than dollar of dividends
managers ca control dividends but can't dictate the price of stock
dividends actually hurt investors based on the difference in tax treatment of dividends versus capital gains
investors try to defer....
taxes whenever possible
stocks that allow tax deferral will
possibly sell at premium relative to stocks that require current taxation
- low dividends
- high capital gains
- high dividends
- low capital gains
in conclusion this theory believes
low dividends are advantageous and high dividends are hurtful
What would you like to do?
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