ACCA Advanced Financial Management (AFM) Practice Exam

What is a key principle advocated by middle-road dividend policy supporters?

1. Dividend policy significantly affects company value

2. Company value remains unaffected by dividend policy

3. Companies should only pay dividends

4. Investor preferences do not matter

The correct answer is: Company value remains unaffected by dividend policy

A key principle advocated by supporters of a middle-road dividend policy is that company value remains unaffected by dividend policy. This view aligns with the idea that a firm's value is determined primarily by its earning capacity and investment decisions, rather than how profits are distributed to shareholders. Proponents of this perspective suggest that while dividends are important and investors often have preferences regarding dividend payments, the overall value of the company is more significantly influenced by its operational effectiveness, growth potential, and the quality of its investments. They argue that by maintaining a balanced approach, companies can cater to various investor preferences while still focusing on long-term growth strategies. This viewpoint stands in contrast to more extreme beliefs; for example, some may argue that dividend policies directly impact a firm's value or that companies should always distribute their earnings as dividends. However, middle-road advocates recognize the trade-offs and suggest that maintaining flexibility in dividend policies allows companies to better respond to changing market conditions and investor sentiments.