Question

Seashore Salt Co. has surplus cash. Its CFO decides to pay back $4 per share to investors by initiating a regular dividend of $1 per quarter or $4 per year. The stock price jumps to $90 when the payout is announced. a) Why does the stock price increase? b) What happens to the stock prices when the stock goes ex-dividend? Assume instead of that the CFO announces a stock repurchase of $4 per share instead of a cash dividend. a) What happens to the stock price when the repurchase is announced? Wold you expect the price to increase to $90? Explain briefly. b) Suppose the stock is repurchased immediately after the announcement. Would the repurchase result in an additional stock-price increase?

Answer 1

Answer(1): Dividend- It is a part of company's profit that is distributed to the shareholders in the form of dividend.

Effect on share price before and after the dividend- When the dividend is announced, investors start buying the shares of that company so as to avail the dividend. Share price increases after the announcement of dividend. As soon as the cash dividend is paid, company's cash reduces and its share price comes down thinking that it will have less cash for operations and expansion.

Answer(b):

Ex-dividend- The ex-dividend date is the date for a stock is one business day before the record date. Record date is a date by which, shareholders should be the shareholders in the books of company. This is the cut off date for receiving dividend. The trader who purchases the stock on or after the ex date, will not be able to get dividend. Dividend is given to the shareholders who hold the stocks before the ex-date. When stock goes ex-dividend, it starts coming down. Traders who buy the shares the post ex-dividend, they may get the share at lower price and can keep it for few months to get the next (upcoming) dividend.