After completing its capital spending for the year, Banff Manufacturing has $1,000 extra cash. Banffs managers must
Question:
After completing its capital spending for the year, Banff Manufacturing has $1,000 extra cash. Banff’s managers must choose between investing the cash in Canada bonds that yield 3% or paying the cash out to investors who would invest in the bonds themselves.
a. If the corporate tax rate is 35%, what personal tax rate after applying the dividend tax credit would make the investors equally willing to receive the dividend or to let Banff invest the money?
b. Is the answer to (a) reasonable? Why or why not?
c. Suppose the only investment choice is a preferred stock that yields 6%. The corporate dividend exclusion of 100% applies. What personal tax rate will make the shareholders indifferent to the outcome of Banff’s dividend decision?
d. Is this a compelling argument for a low dividend-payout ratio? Why or why not?
Step by Step Answer:
Fundamentals Of Corporate Finance
ISBN: 9781259654756
10th Canadian Edition
Authors: Stephen Ross, Randolph Westerfield, Bradford Jordan, Gordon Roberts, J. Ari Pandes, Thomas Holloway