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Unformatted text preview: Number of shares outstanding
Earnings per share
Market price per share
Price/earnings ratio 2003 $1,260,000 $1,200,000 300,000 300,000 $4.20 $4.00 $23.50 $20.00 5.6 5.0 a. How many shares should the company have outstanding in order to combine
the earnings available for common stockholders of $1,200,000 in the year
2003 and a dividend of $2.00 to produce the desired payout ratio of 40%?
b. How many shares would Harte have to repurchase to have the level of shares
outstanding calculated in part a? CHAPTER 13 CASE Establishing General Access Company’s Dividend Policy
and Initial Dividend G eneral Access Company (GAC) is a fast-growing Internet access provider
that initially went public in early 1997. Its revenue growth and profitability
have steadily risen since the firm’s inception in late 1995. GAC’s growth has
been financed through the initial common stock offering, the sale of bonds in
2000, and the retention of all earnings. Because of its rapid growth in revenue
and profits, with only short-term earnings declines, GAC’s common stockholders have been content to let the firm reinvest earnings to expand capacity to meet
the growing demand for its services. This strategy has benefited most stockholders in terms of stock splits and capital gains. Since the company’s initial public
offering in 1997, GAC’s stock twice has been split 2-for-1. In terms of total
growth, the market price of GAC’s stock, after adjustment for stock splits, has
increased by 800 percent during the seven-year period 1997–2003.
Because GAC’s rapid growth is beginning to slow, the firm’s CEO, Marilyn
McNeely, believes that its shares are becoming less attractive to investors. Ms.
McNeely has had discussions with her CFO, Bobby Joe Rook, who believes that
the firm must begin to pay cash dividends. He argues that many investors value
regular dividends and that by beginning to pay them, GAC would increase the
demand—and therefore the price—for its shares. Ms. McNeely decided that at
the next board meeting she would propose that the firm begin to pay dividends
on a regular basis.
Ms. McNeely realized that if the board approved her recommendation, it
would have to (1) establish a dividend policy and (2) set the amount of the initial 588 PART 4 Long-Term Financial Decisions annual dividend. She had Mr. Rook prepare a summary of the firm’s annual
EPS. It is given in the following table.
Year EPS 2003 $3.70 2002 4.10 2001 3.90 2000 3.30 1999 2.20 1998 0.83 1997 0.55
Mr. Rook indicated that he expects EPS to remain within 10% (plus or minus)
of the most recent (2003) value during the next three years. His most likely estimate is an annual increase of about 5%.
After much discussion, Ms. McNeely and Mr. Rook agreed that she would
recommend to the board one of the following types of dividend policies:
1. Constant-payout-ratio dividend policy
2. Regular dividend policy
3. Low-regular-and-extra dividend policy
Ms. McNeely realizes that her dividend proposal would significa...
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