In response to stockholder pressure in 2018, a company announced a significant increase in dividends paid...
In response to stockholder pressure in 2018, a company announced a significant increase in dividends paid to stockholders financed by the sale of some of its assets.
a. What would you expect the stock price to do? Why?
b. The company also had €10 billion in bonds outstanding at the time of the dividend increase. How would you expect the bonds to react to the announcement? Why?
Homework Answers
a. What would you expect the stock price to do? Why?
The stock price is going to fall significantly because increase in dividends is not a resul to the good performance of the company but rather due to the pressure of the shareholders and it is financed by the sale of its assets. So, the company cannot sustain giving dividends in the future.
b. The company also had €10 billion in bonds outstanding at the time of the dividend increase. How would you expect the bonds to react to the announcement? Why?
The bonds prices start to decrease because the sale of the assets results in lower value of the bond's collateral. This increases the risk in the bonds as the company now has less cash to meet interest obligations and fewer assets to generate additional cash.
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