Which of the following statements is CORRECT?
A) If a company uses the residual dividend model to determine its dividend payments, dividends payout will tend to increase whenever its profitable investment opportunities increase.
B) The stronger management thinks the clientele effect is, the more likely the firm is to adopt a strict version of the residual dividend model.
C) Large stock repurchases financed by debt tend to increase earnings per share, but they also increase the firm's financial risk.
D) A dollar paid out to repurchase stock is taxed at the same rate as a dollar paid out in dividends. Thus, both companies and investors are indifferent between distributing cash through dividends and stock repurchase programs.
E) The tax code encourages companies to pay dividends rather than retain earnings.

Question

Quizplus · Accepted Answer

Large stock repurchases financed by debt increase the firm's leverage, which increases the firm's financial risk. While repurchases can boost earnings per share because there are fewer shares outstanding, they also increase the total amount of interest the firm must pay on its debt. As a result, this can make the firm's earnings more volatile and unpredictable.

Which of the Following Statements Is CORRECT