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Chapter 24: Question 5P-c (page 1452)

(Dividend Policy Analysis) Matheny Inc. went public 3 years ago. The board of directors will be meeting shortly after the end of the year to decide on a dividend policy. In the past, growth has been financed primarily through the retention of earnings. A stock or a cash dividend has never been declared. Presented below is a brief financial summary of Matheny Inc.’s operations.

(\(000 omitted)

2018

2017

2016

2015

2014

Sales revenue

\)20,000

\(16,000

\)14,000

\(6,000

\)4,000

Net income

2,400

14,000

800

700

250

Average total assets

22,000

19,000

11,500

4,200

3,000

Current assets

8,000

6,000

3,000

1,200

1,000

Working capital

3,600

3,200

1,200

500

400

Common shares:

Number of shares

Outstanding (000)

Average market price

2,000

\(9

2,000

\)6

2,000

$4

20

-

20

-

Instructions

  1. Comment on the appropriateness of declaring a cash dividend at this time, using the ratios computed in part (b) as a major factor in your analysis.

Short Answer

Expert verified

The company's operating condition appears to be improving, and it appears to be able to pay a dividend.

Step by step solution

01

Meaning of Cash Dividend

The cash dividend is paid from the net profit of the company for the financial year. It is not necessary for a firm to declare dividends; alternatively, the funds can be used for the company's other development efforts.

02

Explaining the appropriateness of declaring a cash dividend

The market price of the shares has not been given full recognition to the increase in return on assets, the profit margin on sales, and earnings per share.This indicates that market forces are having a negative impact on the stock market price.

It is possible that the relatively low market value of the shares is due to the fact that dividends have not been paid in the past.It may be stated that the company's operational condition is improving and that it seems to be able to pay a dividend.

However, it would be prudent to examine as far as possible the additional internal and external aspects listed in part (a) of the matter.

For 2018, a dividend in the range of 12 to 36 cents per share, or 10% to 30% of profits per share, seems reasonable. $240,000 ($0.12 X 2,000,000) to $720,000 ($0.36 X 2,000,000) will be required in cash. Payments in excess of $720,000 have a significant negative impact on working capital. At the average 2018 market price, this would result in between 1.3 and 4%.

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Most popular questions from this chapter

(Effect of Transactions on Financial Statements and Ratios) The transactions listed below relate to Wainwright Inc. You are to assume that on the date on which each of the transactions occurred, the corporation’s accounts showed only common stock (\(100 par) outstanding, a current ratio of 2.7:1, and a substantial net income for the year to date (before giving effect to the transaction concerned). On that date, the book value per share of stock was \)151.53.

Each numbered transaction on the next page is to be considered completely independent of the others, and its related answer should be based on the effect(s) of that transaction alone. Assume that all numbered transactions occurred during 2018 and that the amount involved in each case is sufficiently material to distort reported net income if improperly included in the determination of net income. Assume further that each transaction was recorded in accordance with generally accepted accounting principles and, where applicable, in conformity with the all-inclusive concept of the income statement.

For each of the numbered transactions you are to decide whether it:

  1. Increased the corporation’s 2018 net income.
  2. Decreased the corporation’s 2018 net income.
  3. Increased the corporation’s total retained earnings directly (i.e., not via net income).
  4. Decreased the corporation’s total retained earnings directly.
  5. Increased the corporation’s current ratio.
  6. Decreased the corporation’s current ratio.
  7. Increased each stockholder’s proportionate share of total stockholders’ equity.
  8. Decreased each stockholder’s proportionate share of total stockholders’ equity.
  9. Increased each stockholder’s equity per share of stock (book value).
  10. Decreased each stockholder’s equity per share of stock (book value).
  11. Had none of the foregoing effects.

Instructions

List the numbers 1 through 9. Select as many letters as you deem appropriate to reflect the effect(s) of each transaction as of the date of the transaction by printing beside the transaction number the letter(s) that identifies that transaction’s effect(s).

Transactions

  1. In January, the board directed the write-off of certain patent rights that had suddenly and unexpectedly become worthless.

The following statement is an excerpt from the FASB pronouncement related to interim reporting. Interim financial information is essential to provide investors and others with timely information as to the progress of the enterprise. The usefulness of such information rests on the relationship that it has to the annual results of operations. Accordingly, the Board has concluded that each interim period should be viewed primarily as an integral part of an annual period. In general, the results for each interim period should be based on the accounting principles and practices used by an enterprise in the preparation of its latest annual financial statements unless a change in an accounting practice or policy has been adopted in the current year. The Board has concluded, however, that certain accounting principles and practices followed for annual reporting purposes may require modification at interim reporting dates so that the reported results for the interim period may better relate to the results of operations for the annual period.

Instructions

The following six independent cases present how accounting facts might be reported on an individual company’s interim financial reports. For each of these cases, state whether the method proposed to be used for interim reporting would be acceptable under generally accepted accounting principles applicable to interim financial data. Support each answer with a brief explanation.

a) J. D. Long Company takes a physical inventory at year-end for annual financial statement purposes. Inventory and cost of sales reported in the interim quarterly statements are based on estimated gross profit rates, because a physical inventory would result in a cessation of operations. Long Company does have reliable perpetual inventory records.

Identify the segment information that is required to be disclosed by GAAP.

(Horizontal and Vertical Analysis) Presented below is the comparative balance sheet for Gilmour Company.

GILMOUR COMPANY

COMPARATIVE BALANCE SHEET

AS OF DECEMBER 31, 2018 AND 2017

December 31

2018

2017

Assets

Cash

\( 180,000

\) 275,000

Accounts receivable (net)

220,000

155,000

Short-term investments

270,000

150,000

Inventories

1,060,000

980,000

Prepaid expenses

25,000

25,000

Plant & equipment

2,585,000

1,950,000

Accumulated depreciation

(1,000,000)

(750,000)

\(3,340,000

(2,785,000)

Liabilities and Stockholders’ Equity

Accounts payable

\) 50,000

\( 75,000

Accrued expenses

170,000

200,000

Bonds payable

450,000

190,000

Common stock

2,100,000

1,770,000

Retained earnings

570,000

550,000

\)3,340,000

(2,785,000)

Instructions

(Round to two decimal places.)

  1. Of what value is the additional information provided in part (a)?

What type of disclosure or accounting do you believe is necessary for the following items?

a) Because of a general increase in the number of labor disputes and strikes, both within and outside the industry, there is an increased likelihood that a company will suffer a costly strike in the near future.

b) A company reports a material unusual and infrequent loss on the income statement. No other mention is made of this item in the annual report.

c) A company expects to recover a substantial amount in connection with a pending refund claim for a prior year’s taxes. Although the claim is being contested, counsel for the company has confirmed the client’s expectation of recovery.
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