Discuss the effects on distribution policy consistent with: (1) the signaling hypothesis (also called the information content hypothesis) and (2) the clientele effect..
Integrated Waveguide Technologies (IWT) is a 6-year-old company founded by HuntJackson and David Smithfield to exploit metamaterial plasmonic technology to develop and manufacture miniature microwave frequency directional transmitters and receivers for use in mobile Internet and communications applications. IWT ’ s technology, although highly advanced, is relatively inexpensive to implement, and its patented manufacturing techniques require little capital as compared to many electronics fabrication ventures.Because of the low capital requirement, Jackson and Smithfield have been able to avoid issuing new stock and thus own all of the shares. Because of the explosion in demand for its mobile Internet applications, IWT must now access outside equity capital to fund its growth, and Jackson and Smithfield have decided to take the company public. Until now,Jackson and Smithfield have paid themselves reasonable salaries but routinely reinvested all after-tax earnings in the firm, so dividend policy has not been an issue. However,before talking with potential outside investors, they must decide on a dividend policy.Your new boss at the consulting firm Flick and Associates, which has been retained to help IWT prepare for its public offering,has asked you to make a presentation to Jackson and Smithfield in which you review the theory of dividend policy and discuss the following issues.
- A) Discuss the effects on distribution policy consistent with: (1) the signaling hypothesis (also called the information content hypothesis) and (2) the clientele effect. (15 pts)
- B) Suppose Integrated Waveguide Technologies (IWT) has decided to distribute $50 million in the form of a stock repurchase, which it presently is holding in very liquid short-term investments. IWT’s value of operations is estimated to be about $1,937.5 million. IWT has $387.5 million in debt (it has no preferred stock). IWT has 100 million shares of stock outstanding. How many shares did IWT repurchase? What is its intrinsic stock price per share after the repurchase? (15 pts)
- Explain the rationale of the view that a firm’s equity can be viewed as an option. After learning that, what would the firm’s manager want to do, and how might the bondholders respond? (15 pts)
- Monar Inc.’s CFO would like to decrease its cash conversion cycle by 10 days. The company carries average inventory of $750,000. Its annual sales are $10 million, its cost of goods sold is 75% of annual sales, and its average collection period is twice as long as its inventory conversion period. It uses a 365-day year. The firm buys on terms of net 30 days, and it pays on time. The CFO believes he can reduce the average inventory to $647,260 with no effect on sales. By how much must the firm also reduce its accounts receivable to meet its goal in the reduction of the cash conversion cycle? (20 pts)
- Cash doesn’t earn interest, so why would a company have a positive target cash balance? (10 pts)
- What is interest rate parity? Assume that currently, you can exchange 1 euro for 1.27 dollars in the 180-day forward market, and the risk-free rate on 180-day securities is 6 percent in the United States and 4 percent in France. Suppose the spot rate is 1 euro for 1.25 dollars. Does interest rate parity hold? If not, which securities offer a higher expected return? Demonstrate your answer in detail. (15 pts)