Question

The dividend payout ratio measures the proportion of net income paid out in dividends. A company that pays out more than its earnings as dividends has a payout ratio greater than 100%. Under which of the following scenarios might this occur? a. A firm that is shrinking its asset base (by selling businesses) b. A cyclical firm during a recession year c. A company paying a special dividend (a one time dividend) d. All are correct

Answer 1

The answer is option B) A company that pays out more than its earnings as dividends has a payout ratio greater than 100%. This is true for a cyclical firm during a recession year.

Step-by-step explanation:

A cyclical firm reacts to the dynamics of the economy. During an economic boom, the firm thrives and when there is economic recession, the firm will suffer loss.

When this happens, their stock will fall but in order to protect their stock and company image, they could decide to pay dividends to their investors to the tune that will be greater than their profit at that material time.

This move will result in a deficit as a result of paying out more than 100% as dividends.

They do so temporarily with the notion that they will bounce back after the recession.