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# High Dividends vs. High Capital Gains

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Question 1

Discuss a real world decision that you have analyzed (like a capital budgeting decision or security investment). Explain how you might now go about setting up the "investment decision."

Question 2

If you were to purchase a stock, would you be looking for one that paid high dividends or high capital gains? Explain your answer.

Question 3

When the Bell System was originally broken up, the old AT&T was split into a new AT&T plus 7 regional telephone companies. The specific reason for forcing the breakup was to increase the degree of competition in the telephone industry. AT&T had a monopoly on local service, long distance, and the manufacture of all the equipment used by telephone companies, and the breakup was expected to open most of these markets to competition. In the court order that set the terms of the breakup, the capital structures of the surviving companies were specified, and much attention was given to the increased competition telephone companies could expect in the future.

How do you think the optimal capital structure after the breakup compared to the pre-breakup optimal capital structure? Using the concepts learned in this objective, explain your position.

#### Solution Preview

Question 1

Discuss a real world decision that you have analyzed (like a capital budgeting decision or security investment). Explain how you might now go about setting up the "investment decision."

Before making any investment decision, one of the key elements you face is working out the real rate of return on your investment.
Decisions
I use this when I invest in Bank deposits. For example If I have deposited in the Bank \$ 100 @10% per annum for one year. After one year the deposit will be \$ 110/-. Thus compounding technique is use to find the future value of the investment.
The formulae used is :
Future Value = Present Value (1+r)^n
r= interest rate
n= time period
Another example
Besides the above concept I use the compounding technique to find out the future value of annuity. For example : What's the future value in 10 years of \$1,000 payments by the investors at the beginning of each year for the next 10 years? A 5.625% interest rate is assumed. Here we have to find out the compounded value of annuity F=A*((1+r)^n-1)/r
F=Future value, A= Annuity r= rate of interest n=duration A= 1000, r= 5.625%, n=10 =\$12950.96 at the end of the 10 th year.
Thus it is used for retirement planning, calculating the future value and also rate of return.

For more examples one can refer:
Other references:
FINANCIAL MANAGEMENT BY I.M. PANDEY
www.en.wikipedia.org

Question 2

If you were to purchase a stock, would you be looking for one that paid high dividends or high capital gains? Explain your answer.

There is a definite advantage to the investors owing to the tax differential in dividend and capital gains tax. If tax on dividend is less than the investor will prefer the dividend instead of the capital gain. One must also consider the time value of money & uncertainty, the investors will prefer the current dividend. As the future dividend increases the uncertainty. It is referred to as bird in the hand argument.

A number of dates relate to payment of cash dividends. They are:

1 Declaration Date. This is the date on which a company's board of directors declares that a dividend will b paid and specifies the amount.

2 Record Date. This is the date specified by the board of directors for determining shareholders who will be paid the dividend. All shareholders listed in the company's records on that date will be paid the dividend whether or not they actually own the stock on that particular date.

3 Payment Date. As the name suggests, this is the date on which the dividend payment is made.

4 Ex-dividend Date. This date comes after the declaration date and is usually two business days before the record date. From the ex-dividend date until the payment date, the stock is traded without the declared but unpaid dividend. This means if a sale is made after the ex-dividend ...

#### Solution Summary

1860+ words explain which of these options to look for when buying stock and discuss pre- and post-breakup capital structure of Bell.

\$2.49