19. Dividends and Taxes. The expected pretax return on three stocks is divided between dividends and capital gains in the following way: (LOS)

a. If each stock is priced at $100, what are the expected net returns on each stock to (i) a pen- sion fund that does not pay taxes, (ii) a corporation paying tax at 35%, and (iii) an individual with an effective tax rate of 15% on dividends and 10% on capital gains?

b. Suppose that investors pay 50% tax on dividends and 20% tax on capital gains. If stocks are priced to yield an 8% return after tax, what would A, B, and C each sell for? Assume the expected dividend is a level perpetuity.

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Stock ABC A Expected Dividend $ 0 Expected Capital Gain $10 5 10 5 0