UGC NET COMMERCE July 2018 Q49
0. Which one of the following statements is false?
- A
Effective dividend policy is an important tool to achieve the goal of wealth maximisation.
- B
According to Walter, the optimal payout ratio for a growth firm is 100%.
- C
MM model asserts that the value of the firm is not affected whether the firm pays dividend or not.
- D
‘Bird-in-the-hand theory’ in reference to dividend decision has been developed by Myron Gordon.
- Option : B
- Explanation : Bird-in-the-Hand Theory: Dividends are Preferred: The principal conclusion of MM’s dividend irrelevance theory is that dividend policy does not affect the required rate of return on equity, rs. This conclusion has been hotly debated in academic circles. In particular, Myron Gordon and John Lintner argued that rs decreases as the dividend payout is increased because investors are less certain of receiving the capital gains that are supposed to result from retaining earnings than they are of receiving dividend payments. Gordon and Lintner said, in effect, that investors value a dollar of expected dividends more highly than a dollar of expected capital gains because the dividend yield component is less risky than the expected capital gain.
MM disagreed. They argued that rs is independent of dividend policy, which implies that investors are indifferent between dividends and capital gains. MM called the Gordon- Lintner argument the bird-in-the-hand fallacy because, in MM’s view, most investors plan to reinvest their dividends in the stock of the same or similar firms, and, in any event, the risk of the firm’s cash flows to investors in the long run is determined by the risk of operating cash flows, not by dividend payout policy.
