Gainesboro

Introduction

In 2005, Gainesboro Machine Tool Corporation (Gainesboro) faced a problem regarding to re-structure its company. Gainesboro needed to decide whether to pay out dividends to the firm’s shareholders or to repurchase stock. Moreover, Gainesboro decision should reflect on its shareholders and creditors. This report will provide factors that influence dividend and share repurchase decisions including signalling effects, clientele effect and investment implications of increasing dividend payouts and share repurchase decisions. This report analyse methods available to Gainesboro and evaluates what type of corporate payout policy would be the optimal solution.

Funding of Dividend Payout

Gainesboro has three primary sources: invest less, borrow more, or issue more shares. Myers (1983, p.575) states that one of the problems with issuing equity to pay a dividend is that it decreases the value of the shares currently outstanding. Hence, funding a dividend payment with newly raised capital will not be considered as viable solution.

Decrease investments

Gainesboro set an ambitious growth objective; which is 15% annual, which the managers expanding aggressively into new markets widely then enlarge the market shares, the business would make profits from majority of its sales in a new way, and keep acquiring smaller companies to expand the firm. To reflect on Gainesboro’s free cash flow and current payout policy more analysis will be needed.

Free cash flow

Gainesboro does not have sufficient free cash flows to support a significant dividend. Due to strong competition and unfavourable economic conditions, Gainesboro‘s financial position has weakened; considerably over recent financial years. In relation to Gainesboro shortage of funds, Gainesboro may find it’s difficult to improve its competitive position with other competitors.

Current payout policy

In the past few years, Gainesboro has achieved steady dividend with strong growth in sales. However, sales...