A firm$$s value depends on its expected free cash flow and its cost of capital. Distributions made in the form of dividends or stock repurchases impact the firm$$s value and the investors in different ways.

Consider the case of Red Dirt Producers Inc., and answer the question that follows:

Red Dirt Producers Inc. is an oil drilling company that has some free cash flow that is not expected to be used for its growth or investment projects. The company plans to distribute the free cash flow to its shareholders but is still deciding whether the distribution should be made via a stock repurchase or the payment of cash dividends.

Which method of cash distribution carries more informational content when its announcement is made: the cash dividends or the stock repurchase? $($Hint: Think of the informational content of a firm increasing or decreasing its dividend relative to a firm announcing a stock repurchase.$)$

Stock repurchases

Dividends

Modigliani and Miller argued that each shareholder can construct his or her own dividend policy. This statement is:

False

True

Modigliani and Miller also pointed out that many institutional investors do not pay taxes and can buy and sell stocks with very low transaction costs. For these investors, dividend policy is relevant than it is for an individual investor.

Another firm, called Cheatum Power & Water, an established public utility company, has been paying dividends for the past $20$ years. This year Cheatum also announced that it will increase its dividends by $10\%.$ Which class of investors is more likely to be pleased by Cheatum$$s dividend announcement?

Investors with high tax rates who don$$t depend on current dividend income for living expenses

Investors with low tax rates who depend on current dividend income for living expenses

A firm$$s dividend policy determines its current clientele of investors.