Case Studies in Finance – Managing for Corporate Value Creation (7th edition); Bruner,
Eades & Schill; Case 29, Gainesboro Machine Tool, pp. 393-407.
A. Use the information in Case Study 29 to answer the following questions:
1. The Case Study highlights that Swenson must resolve whether to pay dividends or to buy
back shares. In resolving this, what important issues must she consider? (3 Marks)
2. Exhibit 8 presents an estimate of the borrowing needed assuming a 40% dividend payout
ratio. Using the Total 2005-11 column in this Exhibit as the basis for your analysis, what
are the implications of different dividend payout levels for Gainesboro’s capital structure
and unused debt capacity if:
(a) no dividends are paid?
(b) a 20% payout ratio is pursued?
(c) a 40% payout ratio is pursued?
(d) a residual payout policy is pursued?
For the purposes of this exercise assume that maximum debt capacity is, as a matter of
policy, 40% of the book value of equity. Furthermore, assume that any excess cash (after
funding the operations and dividend payments) is used to buy back shares. (4 Marks)
3. How might Gainesboro’s various providers of capital, such as its shareholders and
creditors, react if Gainesboro:
(a) declares a dividend in 2005? What are the arguments for and against the zero payout,
40% payout, and residual payout policies? (3 Marks)
(b) repurchases its shares? Should Gainesboro repurchase its shares? (1 Marks)
4. Should the advertising proposal have any bearing on these proposals? (1 Mark)
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