Question

Explain under which conditions an increase in the dividend payment can be interpreted as a signal​ of:

a. Good news.

b. Bad news.

a. Good news.

Under which conditions can an increase in the dividend payment be interpreted as a signal of good​ news:  ​(Select the best choice​ below.)

A.

By increasing dividends managers signal that they believe that future earnings will be high enough to maintain the new dividend payment.

B.

Raising dividends gives investors more​ cash, so the stock price​ increases, which is good news.

C.

By increasing dividends managers signal higher future growth​ prospects, which is good news.

D.

By increasing dividends managers signal that they have cash to pay​ out, which is good news.

b. Bad news.

Under which conditions can an increase in the dividend payment be interpreted as a signal of bad​ news: ​(Select the best choice​ below.)

A.

Raising dividends requires borrowing money and increasing​ debt, which is bad news.

B.

Raising dividends signals that the firm does not have any positive NPV investment​ opportunities, which is bad news.

C.

Raising dividends for no reason signals​ management's desire to manipulate​ investors, which is a waste of managerial​ resources, which is bad news.

D.

Raising dividends means paying out more​ cash, leaving less cash in the​ firm, and thus reducing​ value, which is bad news.

Answer 1

1.
By increasing dividends managers signal that they believe that future earnings will be high enough to maintain the new dividend payment.

2.
Raising dividends signals that the firm does not have any positive NPV investment​ opportunities, which is bad news.