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Howeverinrealitytherearehightransactioncosts

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Unformatted text preview: y A to compensate for higher taxation Tax Consequences: An example 29 30 Some Real World Factors Favoring a Low Payout Flotation costs: A firm can sell stock to raise cash if necessary to pay dividends New issues are costly and can reduce the cash available for reinvestment Since raising cash, if the firm wants to keep borrowing and investment decisions independent, is costly a firm might be inclined to have a low payout ratio 31 Some Real World Factors Favoring a Low Payout Flotation costs: Imagine two firms identical in every way except that one has a greater dividend payout ratio than the other. Since one firm reinvests more, its equity grows faster. The other firm must sell some stock to catch up Since this is expensive, a firm might be inclined to have a low payout 32 Some Real World Factors Favoring a Low Payout Dividend restrictions: Legal restrictions: some laws prevent firms paying dividends if the dividend amount exceeds the firm’s retained earnings Bond indentures: Some bonds may have covenants prohibiting dividend payments above a certain level 33 Some Real World Factors Favoring a High Payout Desire for current income: In the absence of market imperfections, investors requiring higher current cash flows can simply sell off their stock. However, in reality there are high transaction costs associated with selling stock, including brokerage fees and capital gains tax. Fixed income investors, such as pensioners, requiring cons...
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This note was uploaded on 04/09/2012 for the course FINN 321 taught by Professor Farahsaid during the Spring '12 term at Alvin CC.

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