Case Study: Establishing General Access Companys Dividend Policy and Initial Dividend

General Access Company (GAC) is a fast-growing internet access provider that initially went public in early 2003. Its revenue growth and profitability have steadily risen since the firms inception in late 2001. GACs growth has been financed through the initial common stock offering, the sale of bonds in 2006, and the retention of earnings. Due to its rapid growth in revenue and profits with only short-term earnings declines, GACs common stockholder have been content to let the firm reinvest earnings as part of its plan to expand capacity to meet the growing demand for its services. This strategy has benefited most stockholders in terms of stock spilts and capital gain. Since the companys initial public offering in 2003, GACs stock twice has been spilt 2-for-1. In terms of total growth, the market price of GACs stock, after adjustment for stock split has increased by 800% during the 7-year period 2003-2009.

As the GACs growth is becoming to slow, the firms CEO, Marilyn McNeely believes that its shares are becoming less attractive to investors. McNeely had discussion with the CFO, Bobby Joe Rook, who believes that the firm must begin to pay cash dividends. He argues that many investors value regular dividends and by paying them, GAC would increase the demand and price for its shares. McNeely decided that at the next board meeting, she would propose that the firm begin to pay dividends on a regular basis. McNeely realized that if the board approved her recommendation, it would have to (1) establish a dividend policy and (2) set the amount of the initial annual dividend. She had Rook to prepare a summary of the firms annual Earnings Per Share (EPS). It is given in the following table.

Year	EPS
2009	$3.70
2008	$4.10
2007	$3.90
2006	$3.30
2005	$2.20
2004	$0.83
2003	$0.55

Rook indicated that he expects EPS to remain within 10% (plus or minus) of the most recent (2009) value during the next years. His most likely estimate is an annual increase of about 3%. After much discussion, McNeely and Rook agreed that she would recommend to the board one of following types of dividend policies:

1. Constant-payout-ratio dividend policy
2. Regular dividend policy
3. Low-regular-and-extra dividend policy

McNeely realizes that her dividend proposal would significantly affect future financing opportunities, costs and the firms share price. She also knows that she must be sure that her proposal is complete and fully educates the board with regard to the long term implications of each policy.

Based on the case study, answer the following questions.

1. Analyze each of the three dividend policies in light of GACs financial position.
2. Which dividend policy would you recommend? Justify your recommendation.
3. Discuss any four key factors to consider when setting the amount of a firms initial annual dividend?
4. How should McNeely go about deciding on what initial annual dividend she will recommend to the board?
5. In view of your dividend policy recommendation in part (b), how large an initial dividend would you recommend? Justify your recommendation.