Assignment Sample on FIN7026 Advanced Corporate Finance
Section A
Question 1 10/30
a) Explanation of debt to equity ratio
Debt to equity helped in estimating the relationship between capital supplied by the owners and capital supplied by the lenders of an organization. As opined by Nuryani and Sunarsi (2020), estimation of the higher leverage ratios helped in predicting a higher level of risks of the shareholders within the organization. In this leverage ratio analysis, the total shareholders’ equity of an organization is compared with the total liabilities of the company. Cash and current ratios have been used in this ratio analysis to evaluate the short-term debts and short-term liabilities of the company.
The formula of debt to equity ratio can be calculated by applying the formula below:
Figure 1: Debt Equity-ratio
(Source: Nuryani and Sunarsi, 2020)
The weighted average of the cost refers to the various types of financial resources of the company. The sources involve the financial resources of the company, earnings, stock, debt, and equity. The cost of debt is the return of the company that provides creditors and debt holders. The capital providers of the company need to compensate for the risk that comes with lending the company. The cost of equity is the return of the investors to receive the investment in the business. The cost of the products represents what the market expects as the compensation of the exchange for owning the stock of the business.
b) The implication of high debt to equity ratio in firm’s cost of capital
The cost of capital of a firm is interconnected with the cost of equity and the value of debt of the organization. As narrated by Vartiainen et al. (2020), an increase in the total debt and equity of the organization helped in improving the cost of capital of the company. Higher debt to equity ratios denotes that the outsider’s liability of the organization is increased as it reduces the total volume of the share capital of the company. Thus, an increase in the total debt of a company increases the total cost of capital of the company.
The government debt raises the sustainable market and development of the economy of the business market. The recent environment of low global interest weak and rates grow the appeal of the concerns of the elevated debt levels. The debt has the ability to floor the rules of the government and long-term growth. The external factors that can affect WACC involve the corporate tax rates, market conditions, and economical conditions. The debt can be utilised as the tax shield, which can be larger as 9.7% of total firm value. The debt-equity ratio basically offers benefits and it become high and the debt cause high rapidly.
1/5
Question 2
a) Explanation of MM’s trade-off theory
The main objective of trade-off theory is that it helps in selecting total debt finance and total equity finance that can help in balancing the total costs of the organization. As idealized by Miele et al. (2021), the market value of a company is identified with the help of estimating future earnings and its underlying assets. Trade-off theory is divided into two parts such as dynamic trade-off and static trade-off theory.
Miller and Modigliani discovered this theory under the assumption of the perfect market meanwhile no taxes no bankruptcy cost in a market. In simple words, the value of a popular company and unpopular company are same. Also, the capital structure of a company does make any influence on the value of a fir
b) Importance of trade-off theory in determining capital structure
The importance of trade of theory can be discussed with the help of assumptions provided in the MM trade-off theory. It does not concern about the tax rates of the economy as total taxes is considered nil in its operational activities. As stated by Wu et al. (2019), transaction costs are directly proportionate towards the bankruptcy costs of the company. Based on the information accumulated from trade-off theory, symmetry of information can be collected. In this theory of market value estimation, the cost of borrowing remained the same for the companies and investors of the organization.
c) Evaluation of real-life firm
MM’s trade of theory uses the market to book ratio, profitability, liquidity, and tangibility analysis for the purpose of evaluating determinates of capital structure. As narrated by Nurmi et al. (2021), the organization uses trade-off theory to assess the proportionate capital structure and total debts required within a stipulated period of time. Total shareholders’ equity of Tesco plc is reduced to $12343000 in the year 2021 which was valued as $13275000 in the year 2020 (Yahoo finance.com, 2021). Hence, changes in the proportionate of debt and equity make a strategic impact on the capital structure of an organization.
The financial leverage increases the variability of the shareholder’s returns that comes from the use of debt. Tax saving results from the deductibility of the interest payments has to manage the capital structure and corporate taxes. 1/5
Question 3
a) Discussion on the differences between traditional bonds and Sukuk
Traditional bonds are directly connected with debt obligations while Sukuk refers to the ownership of the assets within a particular organization. As opined by Haque et al. (2017), selling off the Sukuk in the secondary market is referred to as the selling of the ownership in the market. However, sales of bonds are interconnected with the selling of the debt with respect to underlying loan relationships among the investors.
b) Estimation of the firms’ choice in selecting traditional bonds and Sukuk
Between traditional bonds and Sukuk, a firm should need to concentrate on selecting traditional bonds for the business. Pricing of the traditional bonds is directly connected with the credit rating strategies of the company and the pricing process of traditional bonds is comparatively good than Sukuk. As stated by Hassan et al. (2018), an increase in the value of assets within an organization can be effective in increasing the total value of the assets. One of the benefits of selecting the traditional bonds is that it considers the selling of the total bonds of the company.
c) Selection of the particular bond in case of availability of asymmetric information
Sukuk can be able to increase the total value of the underlying assets within the organization and it is connected with estimating the creditworthiness of the organization. Estimation of the variable costs and determination of the financial activities can be considered as one of the important objectives of asymmetric evaluation. As believed by Ariff et al. (2017), the availability of firm’s outsiders and insiders’ information is recommended to accept Sukuk bond within the organization. Asymmetric information is associated with evaluating the total ownership of the assets. Hence, Sukuk bonds are adequate for this situation which can be effective for the financial evaluation of the business.market. 3/5
Question 4
a) Discussion on the different types of investors’ behaviour
Investor behaviour can be segregated among preserve, independent, follower, and accumulator in these four categories. As stated by Gurun et al. (2018), types of investor behaviour are directly connected with evaluating decision-making strategies, investment policies, and the managerial approach of the organization. Investor behaviour helped in deriving the investment judgment and decision-making strategies of a company. Furthermore, investor behaviour is directly connected with identifying the emotional and cognitive biases of those institutions.
The three investor types are risk-averse, risk-neutral, and risk-taking.
Risk-averse; this is the type of investors that are not willing to take any extraordinary risk in their investments and don’t want to make any loss in their capital. Therefore, those investors’ portfolios are based on risk-free assets like bonds.
Graphical view of Risk Averse is given below:
Risk-Neutral:
This type of investor doesn’t consider risk while they invest and their main emphasis is always on the return of the investment they have made. A shareholder is an example of a risk-neutral investor.
Graphical view of Risk Neutral is given below:
Risk-taking: this kind of investor is willing to take high risks because they want to get a higher return on their investment and their portfolio consists of risky things for instance derivatives, and junk bonds.
Graphical view of Risk seeker is given below:
b) Impact of risk behaviour on risk-return in a selected portfolio
Figure 2: Risk behaviour on risk return
(Source: Sushko and Turner, 2018) 3/5
The expected rate of return can be estimated with the help of determining the total value of the organization. As opined by Sushko and Turner (2018), making sustainable development within the market valuation techniques helped in identifying the several types of financial risks within an organization. Risks associated with the investment are that the total value of investments might be losses as its impact can be observed within its risk-return portfolio.
c) Discussion on the type of assets need to be selected by the investor
Real estate investment trust can be used as one of the important types of assets within the company. However, peer-to-peer lending can be effective in estimating operational growth within the business. As idealized by Liang and Renneboog (2020), change in the managerial activities and evaluation of the royalty can be effective in the financial operational activities of the business. Time horizon techniques can be used to evaluate investment capital associated with the financial capital of a particular organization. The inventors invest in the matches the needs of the assets the tangible or intangible items of the production with the additional income. The inventors help to relate the risk, cost, and guidance for the development of the organizational economy.
Question 7
a) Discussion on dividend irrelevance theory
A main fundamental aspect of dividend irrelevance theory is that company’s stock prices do not make an impact on the dividend pricing strategies of an organization. As narrated by Ali et al. (2020), modification of the cash payments system is directly connected with the shareholder’s equity analysis of the company. One of the important assumptions in dividend irrelevance theory is that by issuing a share of a company there are not any flotation costs and transactional costs of the company. Capital budgeting techniques can be used in this theoretical discussion as dividend policy does not make an impact within its dividend policies.
b) Evaluation of empirical evidence with justification
Dividend irrelevance theory helped in estimating the efficiency and payout policies of the company as stock market performances can be evaluated with the help of dividend irrelevance theory. As stated by Raza et al. (2018), implementation of the effective dividend policy can be effective in selecting assumptions of dividend irrelevance theory. Stable, residual, and constant factors need to be used that can help in evaluating operational activities within the organization. Evaluation of the market valuation and strategic development of the financial issues can be effective in estimating the stock performance of the company. The alternative theory of empirical evidence is the information acquired by the observation and process of the central part of the scientific method. Empirical evidence is obtained through o the experimental seeks of the observation action.
Figure 3: Dividend payout
(Source: Raza et al. 2018)
Paying out dividends is not able to increase the market value of the organisation throughout the development of stock price. In addition, the value of the firm is impacted by the investment policy decision and retention policies. 1/5
Question 8
a) Differences between behavioural finance and traditional finance
According to the traditional finance theory, it is decided that the total risks of the business cannot be measured. However, behavioural finance theory stated that the total risks of the business cannot be measured. As narrated that Rooij et al. (2018), humans are considered rational beings that make each and every decision logically. Apart from this, behavioural finance tells that humans are normal beings who make logical and rational decisions.
Behavioral Finance is checking the normal pattern of the decision of finance of any organization. Traditional Finance is the rational system that focuses is the mathematical calculation, checking of the market behavior, and economical models of the company.
b) Explanation of three types of behavioural biases to suboptimal investment choices
The types of behavioural biases can be considered as information, confounding, and selection biases. As opined by Blodgett et al. (2020), there are a total of 175 types of biases present in decision making which generates rigidity in financial activities. Name bias is an example of information effect, confounding bias is an example of conformity effect and selection bias is directly connected with confirmation effect.
Behavioral finance is the field of study that focuses on the psychological factors of the investors in the market of the company. Behavioral bias beliefs in influences the decisions and affect the money of the organization. 1/5
Section B 24/40
Question 1
a) Evaluation return of the portfolio
| Estimation of the expected return of a portfolio of Amazon and Boeing stock | ||
| Particulars | Amazon stock | Boeing stock |
| Probability in return | 0.158 | 0.237 |
| The current rate of return | 3.10% | 9.50% |
| The expected return of a portfolio of Amazon and Boeing stock | 2.7413% | |
| (Probability in return in Amazon stock × Current rate of return in Amazon stock) + (Probability in return in Boeing stock × Current rate of return in Boeing stock) | ||
Table 1: Evaluation return of the portfolio
(Source: MS Excel)
Return of portfolio formula is given below:
Figure 4: Return of a portfolio
(Source: Capozzi et al.2017)
| E(Rp)= | (3.1%*50%) +(9.5%*50%) |
= 6% 1.5/2
b) Justification of the higher standard deviation of Amazon stock
Yes, the return in the stock will be diversified as the addition of Boeing within Amazon stock can expand the portfolio volume. As opined by Capozzi et al. (2017), an increase in the total standard deviation of the business helped in maintaining financial strategies as well as incrementing the corporate values of the firm. Higher standard deviation helped in visualizing future scopes of making investments in that stock.
The portfolio is the collection of the investors to meet the common investment goal of the organization; the efficient portfolio offers the highest expected return level of the risk. The portfolio gives the ability to the inventors who are given the risks of the workplace and provide opportunities to the employees.
The standard deviation of a stock is a useful tool for the investors to use at the time of searching for the ideal stock. Some of the investors of the company Amazon prefer the conservative approaches of the business. The higher standard deviation can help the point in the right direction. The concept of the standard deviation for Amazon determines the dispersion of the dataset. The standard deviation of the company is a statistical measurement that calculates through the square root of the variance. Through the use of standard deviation, the company can set the financial condition. Standard deviation can use in the financial world to get the best outcomes in the business. 0/2
c) Estimation of the standard deviation of the portfolio
| Estimation of portfolio standard deviation of Amazon and Boeing stock | ||
| Particulars | Amazon stock | Boeing stock |
| Proportionate in portfolio investment | 60000 | 40000 |
| Stock | Amazon stock | Boeing stock |
| The current rate of return | 3.10% | 9.50% |
| Probability in return | 0.158 | 0.237 |
| Amazon stock | ||
| Covariance of Amazon stock | Amazon stock | 0.00403225 |
| Boeing stock | ||
| Covariance of Boeing stock | Boeing stock | 0.005041 |
| The variance of the stocks | 0.0080645 | 0.010082 |
| Portfolio of standard deviation | 9158.220351 | |
| SD when the correlation coefficient is 1 | 1135621.595 | 908373.3735 |
| SD when the correlation coefficient is 0.4 | 49.6000992 | 363349.3494 |
| SD when the correlation coefficient is -1 | -4.36766E-05 | -908373.3735 |
Table 2: Estimation of the standard deviation of the portfolio (Source: MS Excel)
The calculation formula of the standard deviation of the portfolio is given below.
Figure 5: Standard Deviation Calculation 4/5
When CorrAB = +1
Port SD = SQRT(0.5^2*15.8^2+0.5^2*23.7^2+(2*0.5*0.5*15.8*23.7*1))
= 19.75%
When CorrAB= 0.4
Port SD =SQRT(0.5^2*15.8^2+0.5^2*23.7^2+(2*0.5*0.5*15.8*23.7*0.4))
= 16.67%
When CorrAB = -1
Port SD = SQRT(0.5^2*15.8^2+0.5^2*23.7^2+(2*0.5*0.5*15.8*23.7*-1))
= 0
The portfolio risk is zero when correlation of -1 provides the best potential for diversification.
d) Portfolio of capital market
| Evaluation of capital market line | ||
| Particulars | Amazon Stock | Boeing Stock |
| Risk-free rate | 1.50% | 1.50% |
| The standard deviation of the market portfolio | 11.75% | 13.25% |
| Market return | 3.10% | 9.50% |
| The standard deviation of stock | 15.80% | 23.70% |
| Capital market line | 53.74193548387100% | 30.81315789473680% |
Table 3: Portfolio of capital market
(Source: MS Excel) 2/2
Figure 6: Capital Market Line
e) Meaning of Beta and its calculations
| Estimation of the mean of the beta | |
| Particulars | β |
| Amazon | 2.16 |
| Ford | 1.75 |
| Dell | 1.14 |
| Starbucks | 1.16 |
| Boeing | 1.14 |
| Disney | 0.96 |
| Newmont | 0.63 |
| Exxon Mobil | 0.55 |
| Jhonson & Jhonson | 0.5 |
| Cambell soup | 0.03 |
| Beta | 1.002 |
Formula? 0/3
The Beta o the investment security is the measurement of the volatility of the expected returns of the stock. Beta uses as the measurement of the risk an integral part of the asset of the company. The formula for Beta calculation is,
βi = Cov (ri, rm) / Var (rm)
βi = market Beta of asset i
Cov – Covariance
Var = Variance
rm = Average of the expected rate of return on the market
ri = expected return of asset i
Figure 7: Beta of a stock
Beta is use to check data and reflects the future volatilities. Beta stock is been calculated by return of stock over the period and divide stock return by the index returns.
Calculation procedure of Beta
| Estimation of the mean of the beta | |
| Particulars | β |
| Amazon | 2.16 |
| Ford | 1.75 |
| Dell | 1.14 |
| Starbucks | 1.16 |
| Boeing | 1.14 |
| Disney | 0.96 |
| Newmont | 0.63 |
| Exxon Mobil | 0.55 |
| Jhonson & Jhonson | 0.5 |
| Cambell soup | 0.03 |
| Beta | 1.002 |
Table 4: Calculation procedure of Beta
(Source: MS Excel)
Based on the historical performances of the particular stock and stock analysis of a company can be effective in evaluating unsystematic risks of the business. With the help of hypothesis analysis, the beta of the assets has been determined.
Beta is the measuring process of stock validity, which is related to overall market. The individual stock market is depending on the way they have deviated from the market. However, if the beta is above 1.0 then the stock swings more in the market over time. Besides that, 1.5 Beta means, the market will move average and expected to move 1.5 times market excess return. The beta less than 1.0 indicates a stock with lower volatility and the low volatility organisations are Disney, Newmont, Exxon Mobil, Jhonson & Jhonson, Cambell soup. On the other hand, high volatility organisations are Amazon, Ford, Dell, Starbucks, and Boeing.
1.5/3
f) Calculation of the portfolio beta
| Estimation of portfolio standard deviation of Amazon, Boeing, and a new one | |||
| Particulars | Amazon stock | Boeing stock | New Stock |
| Proportionate in portfolio investment | 40000 | 40000 | 20000 |
| Amazon stock | Boeing stock | ||
| The current rate of return | 3.10% | 9.50% | 11.50% |
| Probability in return | 0.158 | 0.237 | 0.237 |
| Amazon stock | |||
| Covariance of Amazon stock | Amazon stock | 0.00403225 | 0.00403225 |
| Boeing stock | |||
| Covariance of Boeing stock | Boeing stock | 0.005041 | 0.005041 |
| The variance of the stocks | 0.0080645 | 0.010082 | 0.007442 |
Table 5: Calculation of the portfolio beta
(Source: MS Excel)
The stock of Campbell soup is lower and the portfolio beta decreased from 1.65 to 1.38. The new calculation is based on weights of 40% and 20% which has shown in the below:
Portfolio Beta = (40000/100000*2.16) + (40000/100000*1.14) + (20000/100000*0.3) = 1.38 1/2
formula?
g) Estimation of the expected return of new portfolio using CAPM model
| Estimation of the expected rate of return under the CAPM model | |||
| Particulars | Amazon stock | Boeing Stock | New Stock |
| The risk-free rate of return | 1.50% | 1.50% | 1.50% |
| The market rate of return | 4% | 4% | 4% |
| Beta of stock | 37.500% | 21.750% | 11.780% |
| Expected rate of return | 2.437500% | 2.043750% | 1.794500% |
Table 6: Estimation of the expected return of new portfolio using CAPM model
(Source: MS Excel)
By the given below formula, I have calculated the return on Campbell Soup.
1/2
Re = 1.5+0.3*(5-1.5)
= 2.55%
The security returns of Campbell soup has computed in the new portfolio return which has developed below:
E(Rp) = (3.1%*40%) + (9.5%*40%)+(2.55%*20%)
= 5.55%
h) Evaluation of new portfolio in security market line
| New portfolio on Security Market line | ||
| Particulars | Amazon stock | Boeing stock |
| Proportionate in portfolio investment | 75000 | 25000 |
| Amazon stock | Boeing stock | |
| The current rate of return | 3.10% | 9.50% |
| Probability in return | 0.158 | 0.237 |
| Amazon stock | ||
| Covariance of Amazon stock | Amazon stock | 0.00403225 |
| Boeing stock | ||
| Covariance of Boeing stock | Boeing stock | 0.005041 |
| The variance of the stocks | 0.0080645 | 0.010082 |
| Portfolio of standard deviation | 9050.189915 | |
| SD when the correlation coefficient is 1 | 1122225.794 | 897658.1943 |
| SD when the correlation coefficient is 0.4 | 49.6000992 | 359063.2777 |
| SD when the correlation coefficient is -1 | -4.4198E-05 | -897658.1943 |
Table 7: Evaluation of new portfolio in security market line
(Source: MS Excel)
Security market line (SML) is the graphical presentation of the capital asset pricing model (CAPM), which helps to determine the investment products and its favourable return compared to the level risk. SML principally used to show the risk and depicts different market portfolio.
Figure 8: Security Market line
(Source: Jylhä, 2018)
SML helps to measure the risk of the organisation through Beta and identify the security risk contribution from the portfolio (Jylhä, 2018). In addition, SML is interpreted as undervalued, which helps to examine the corporate financing decisions, compare different sector’s organisation and undervalued the investment opportunities. 1/2
12/20
Question 2
a) Estimation of cost of capital
| Cost of capital of the firm | |
| Particulars | $ |
| Cost of debt | 7.50% |
| Cost of equity | 15% |
| Debt | 30% |
| Equity | 70% |
| Value of the firm | 100% |
| Cost of capital | 0.1275 |
Table 8: Estimation of cost of capital
(Source: MS Excel)
The cost of capital of an organization can be calculated by using the below formula.
Figure 9: WACC
| WACC = | (70%*15%)+ (30%*7.5%) |
= 12.75% 2/2
b) Determination of firms after-tax weighted cost of capital
| The weighted average cost of capital of the firm | |
| Particulars | $ |
| Cost of debt | 7.50% |
| Cost of equity | 15% |
| Debt | 30% |
| Equity | 70% |
| Value of the firm | 100% |
| Cost of capital | 0.1275 |
| WACC | 19.605 |
Table 9: Determination of firms after-tax weighted cost of capital
(Source: MS Excel)
The below formula can be used while taxes are included to calculate WACC.
Figure 10: WACC
WACC= (70%*15%)+ (30%*7.5%)(1-0.35)
=11.96% 3/3
c) Evaluation of shareholders’ appealing in levered and unlevered firm
The cost of capital in a levered firm is comparatively low than an unlevered firm as the shareholders in an unlevered firm are more appealing than a levered firm.
On the other hand, leverage has debt which provides tax benefits as it is opined by Husain and Sunardi (2020) that interest expense is taxes deductibles. Therefore, stockholders prefer levered firms instated of unlevered firms. 2/3
d) Discussion of tax shield and its determination
A tax shield is basically a reduction in the taxable income within the organization as its intention is to make ascertain the taxable expense within the organization. However, a tax shield is associated with multiplying the total amount of deduction with the tax rates of the organization.
Figure 11: Discussion of Tax shield
Tax Shield = Interest * Tax rate
= 80*35%
= $28 1.5/2
The issue of the tax shield is an important object of the interest of academic and business managers. The volume of the management and leverage buyouts increases the debt of the components of the values of the organizational stock. The most important courses are divided into the main categories of the non-interest and interest of tax shields.
Calculation of tax shield
| Estimation of the tax shield | ||
| Particulars | Income statement of firm U | Income statement of Firm L |
| EBIT | 1000 | 1000 |
| Total interest paid | 0 | 80 |
| EBT | 1000 | 920 |
| Total tax paid | 350 | 322 |
| Net income | 650 | 598 |
| Tax shield | 350 | 322 |
Table 10: Calculation of tax shield
(Source: MS Excel)
e) Determination of levered beta
| Estimation of the levered beta | |
| Particulars | $ |
| Cost of debt | $ 7.50 |
| Cost of equity | $ 1.50 |
| Debt | 30% |
| Equity | 70% |
| Tax debt | 35% |
| Value of Debt | $ 2.25 |
| Value of Equity | $ 1.05 |
| Value of the firm | 100% |
| Cost of capital | $ 3.30 |
| Unlevered beta | $ 1.20 |
| Levered Beta | % 2.59 |
Table 11: Determination of levered beta
Using the bottom Formula levered beta can be calculated.
Levered Beta = 1.2*(1+ (1-0.35)*( 0.3/0.7))
2/2 = 1.53
f) Estimation of the new levered beta of the firm
| Estimation of new levered beta | |
| Particulars | $ |
| Cost of debt | $ 7.50 |
| Cost of equity | $ 1.50 |
| Debt | 40% |
| Equity | 60% |
| Tax debt | 35% |
| Value of Debt | $ 3.00 |
| Value of Equity | $ 0.90 |
| Value of the firm | 100% |
| Cost of capital | $ 3.90 |
| Unlevered beta | $ 0.10 |
| Levered Beta | $ 2.27 |
Table 12: Estimation of the new levered beta of the firm
(Source: MS Excel)
The beta of equity is also called levered beta, can be calculated by giving the below formula.
1/2
= 2.5
g) Effect of debt on the value of the firm
Figure 12: Effect of debt on the value of the firm
(Source: MS Excel)
The total value of the firm is 100% of which 30% is debt as it denotes that tax debt has a huge impact on the total operational activities of the company. As opined by Lam et al. (2020), a reduction in the total equity of the organization denotes that the total debts of the business increased.
WACC refers to the weighted average cost of capital of the organization with the capital from the sources that involve the common stock, bonds, preferred stock, and the other forms of debt. The Trade-off theory of the capital structure of the organization shows the corporate leverage that analyses the balancing of the tax-saving benefits of debt.
0.5/6
12/20
Section C 9/30
Question 2
a) Explanation of four relevant theories of dividend policy
Dividends can be considered as the dividend payout ratio that helps in indicating the amount paid dividends leading to help in making the company able to earn. Dividend might be paid of accumulated profits as well as not out capital leading to make a beneficial point of the company. However, there are different types of dividend theory among which four theories can be considered as the main. These four theories include Bird-in-the-land, Signaling, Tax preference, Dividends are irrelevant. As stated by Kanakriyah (2020), there is a strong relationship between dividend policies and firm performance. It can be said from the scenario that growth, as well as improvement of company performances, can be dependent on the dividend theory. The relevant theories of the dividend policy are regular dividend policy, irregular dividend policy stable dividend policy, and no dividend policy.
Figure 13: Dividend Signaling Hypothesis
The stock price has increased from $41 on 2018, $50 on 2019, and $55 on 2021, which is depicted as the dividend increase.
Theory related to dividend theory mainly focuses on the behaviors of the investments on the basis of different factors. According to the Bird-in-the-hand theory, investors prefer dividends to potential future capital gains, as they think that it is less risky. It can be said that dividends include taxes at a higher rate but have the ability to avoid uncertainty in respect of future stock prices. Nonetheless, this particular theory suggests that investors will pay high value to get high share prices from the company. Moreover, according to Tax preference theory dividends as well as capital gains can be a tax-advantaged source of their income in some countries. This particular theory mainly contradicts in such as way that sometimes capital gains can be taxed at lower rates than dividends can attract investors to choose capital gain investments. As stated by Jaara et al. (2018), it can be seen in BF investors can behave irrationally sometimes and select the investment options on the basis of benefits can be considered as the behaviours of investors.
| New stockholders |
| Firm |
| Old Shareholders |
| New Shareholders |
| Old stockholders |
| Shares |
| Shares |
| Cash |
| Cash |
| Cash |
Figure 14: Two ways of raising cash
(Source: Jaara et al. 2018)
Signalling theory of dividends mainly has concern on the change in their amount rather than the actual amount as increasing signals of dividends can change the views of management for future investments. According to the theory managers as well as investors do not like dividend cuts actually (Jaara et al. 2018). Modigliani-Miller introduced the theory on dividend irrelevance saying that holding a fixed investment policy cannot be able to affect the initial share prices. According to this theory, there are two ways of raising cash in the favor of stockholders. One is old shareholders can sell their stocks and the second is the reduction of claims that can be demonstrated from the above figure.
The policy of the dividend distribution of the company dictates the frequency of pay to the shareholders. The company earns profits that have to decide the development of the company. The policy that involves in the dividend is stable dividend policy, regular dividend policy, irregular dividend policy, no dividend policy. The class of investors puts the investment in the production and business of the company with the risk-averse. Through this policy, the company makes the components of the dividend which is the constant dividend per share. This helps to develop the business of the company through the utilization of the dividend policy.
4/12- barely any improvement!
b) Explanation of zero dividend puzzle 2/3
The dividend puzzle can be considered as the concept that suggests companies that are paying dividends are rewarded by their investors with a high valuation. On the other hand, the Zero-dividend puzzle mainly helps in preferring the stock-raising capital, as well as not paying out a dividend. It can be an attractive issue for the company. As per the views of Bilinski and Lyssimachou (2020), zero dividends can be beneficial for the companies as it helps in making them, able to pay less and get more share prices from the companies./ Investors are likely to select zero dividend policies to ensure their future income from the investments.
Figure 15: Zero Dividend Puzzle
c) Dividend of Apple inc. from 2000 to 2017
2/5
| Dividend of Apple inc. from 2000 to 2017 | |
| Particulars | $ (Million) |
| 2000 | $ 0.05 |
| 2001 | $ 0.07 |
| 2002 | $ 0.10 |
| 2003 | $ 0.85 |
| 2004 | $ 1.25 |
| 2005 | $ 1.29 |
| 2006 | $ 1.78 |
| 2007 | $ 0.75 |
| 2008 | $ 1.74 |
| 2009 | $ 1.50 |
| 2010 | $ 1.95 |
| 2011 | $ 1.44 |
| 2012 | $ 2.65 |
| 2013 | $ 3.05 |
| 2014 | $ 0.52 |
| 2015 | $ 0.57 |
| 2016 | $ 57.00 |
| 2017 | $ 0.63 |
Table 13: Dividend of Apple inc. from 2000 to 2017
(Source: Yahoo finance)
Figure 16: Dividend of Apple inc. from 2000 to 2017
(Source: Yahoo finance)
d) Justification of the data gathered about Apple Inc’s dividend
According to the MM model, it is required to increase the total value of the dividend within a stipulated period of time. As opined by Husain and Sunardi (2020), the basic objective of the dividend theory is to maintain the sustainable capital structure of the business. However, dividend irrelevance theory is concerned about the tax rates of the organization. The dividend of Apple Inc is increased to $2.65 million in the year 2012 as which means that the organization has been able to improve the capital structure of the company (Yahoo finance.com, 2021). Thus, it can be said that the MM model and dividend irrelevance theory helped to visualize the basic requirements and objectives of the business.
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