School of Accounting and Finance

Master of Applied Finance Degree

Assignment

Corporate Finance Theory

Dr. Jean Canil

Instructions

1. Assignment two can be done in a group of no more than 2 students and it is the responsibility of the group to ensure that each student has contributed equally.
2. The first page of your assignment should specify your name(s), student number(s) and the assignment title. The assignment should be completed in Word format. Please show all workings.
3. Late assignments will not be accepted unless arrangements have been made with myself before the due date.

EASTBORO MACHINE TOOLS CORPORATION

In mid-September of 2001, Jennifer Campbell, chief financial officer of Eastboro Machine Tools Corporation, paced the floor of her Minnesota office. She needed to submit a recommendation to Eastboro’s board of directors regarding the company’s dividend policy, which had been the subject of an ongoing debate among the firm’s senior managers. Compounding her problem was the previous week’s terrorist attacks on the World Trade Center and the Pentagon. The stock market had plummeted in response to the attacks, and along with it Eastboro’s stock had fallen 18 percent, to $22.15. In response to the market collapse, a spate of companies had announced plans to buy back stock, some to signal confidence in their companies as well as in the U.S. financial markets, and others for opportunistic reasons. Now Jennifer Campbell’s dividend-decision problem was compounded by the dilemma of whether to use company funds to pay out dividends or to buy back stock instead.

BACKGROUND ON THE DIVIDEND QUESTION

After years of traditionally strong earnings and predictable dividend growth, Eastboro had faltered in the past five years. In response, management implemented two extensive restructuring programs, both of which were