LOS b: Compare the impact on shareholder wealth of a share repurchase and a cash dividend of equal amount.

Q1. What is the impact on shareholder wealth of a share repurchase and a cash dividend of equal amount when the tax treatment of the two alternatives is the same?

A)   A share repurchase will sometimes lead to higher total shareholder wealth than a cash dividend of an equal amount.

B)   A share repurchase is equivalent to a cash dividend of an equal amount, so total shareholder wealth will be the same.

C)   A share repurchase will always lead to higher total shareholder wealth than a cash dividend of an equal amount.

Q2. Pearl City Breweries has 8 million shares outstanding that are currently trading at $34 per share. The company is choosing whether to distribute $22 million as dividends or to use the same amount to repurchase its shares. Ignoring tax effects, what will be the amount of total wealth from owning one share of Pearl City Breweries under each of these alternatives?

          Cash dividend                    Share repurchase

A)   $31.25                                   $37.00

B)   $34.00                                   $34.00

C)   $31.25                                   $34.00

LOS b: Compare the impact on shareholder wealth of a share repurchase and a cash dividend of equal amount. fficeffice" />

Q1. What is the impact on shareholder wealth of a share repurchase and a cash dividend of equal amount when the tax treatment of the two alternatives is the same?

A)   A share repurchase will sometimes lead to higher total shareholder wealth than a cash dividend of an equal amount.

B)   A share repurchase is equivalent to a cash dividend of an equal amount, so total shareholder wealth will be the same.

C)   A share repurchase will always lead to higher total shareholder wealth than a cash dividend of an equal amount.

Correct answer is B)

Assuming that the tax treatment of a share repurchase and a cash dividend of equal amount is the same, a share repurchase is equivalent to a cash dividend payment, and shareholder wealth will be the same.

Q2. Pearl City Breweries has 8 million shares outstanding that are currently trading at $34 per share. The company is choosing whether to distribute $22 million as dividends or to use the same amount to repurchase its shares. Ignoring tax effects, what will be the amount of total wealth from owning one share of Pearl City Breweries under each of these alternatives?

          Cash dividend                    Share repurchase

A)   $31.25                                   $37.00

B)   $34.00                                   $34.00

C)   $31.25                                   $34.00

Correct answer is B)

If the company pays a cash dividend, the dividend per share will be $22 million/8 million = $2.75. The value of its shares will be:

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