Integrated Waveguide Technologies, Inc. (IWT) is a 6-year old company founded by Hunt Jackson and David Smithfield to exploit metamaterial plasmonic technology to develop and manufacture miniature microwave frequency directional transmitters and receivers for use in mobile Internet and communications applications. The technology, although highly-advanced, is relatively inexpensive to implement and their patented manufacturing techniques require little capital in comparison to many electronics fabrication ventures. Because of the low capital requirement, Jackson and Smithfield have been able to avoid issuing new stock and thus own all of the shares. Because of the explosion in demand for its mobile Internet applications, IWT must now access outside equity capital to fund its growth and Jackson and Smithfield have decided to take the company public. Until now, Jackson and Smithfield have paid themselves reasonable salaries but routinely reinvested all after-tax earnings in the firm, so dividend policy has not been an issue. However, before talking with potential outside investors, they must decide on a dividend policy. Your new boss at the consulting firm Flick and Associates, which has been retained to help IWT prepare for its public offering, has asked you to make a presentation to Jackson and Smithfield in which you review the theory of dividend policy and discuss the following issues.
1. Suppose instead that IWT has just made the $100 million distribution in the form of a stock repurchase. Now what is IWT’s intrinsic value of equity? How many shares did IWT repurchase? How many shares remained outstanding after the repurchase? What is its intrinsic per share stock price after the repurchase?
2. What are stock dividends and stock splits? What are the advantages and disadvantages of stock dividends and stock splits? Video you may find helpful. M&M Dividend Irrelevance Theory
3. What is operating leverage, and how does it affect a firm's business risk? Show the operating break-even point if a company has fixed costs of $1,000, a sales price of $18, and variables costs of $10.