Corporate Finance: Instructor\'s Manual Applied Corporate Finance

Aswath Damodaran 428

Gauging the tax effect by looking at Price Behavior on Ex-

Dividend Date

Let Pb= Price before the stock goes ex-dividend

Pa=Price after the stock goes ex-dividend

D = Dividends declared on stock

to, tcg = Taxes paid on ordinary income and capital gains respectively

$ Pb $Pa

______________|_______ E x - Dividend Day _ ______________|

Assume that we are looking at a market, where every investor in this stock

bought this stock 3 years ago (to allow it to qualify for capital gains) at a price

“P”.

Each investor is now assumed to face a decision of whether to sell before the ex-

dividend day and get Pb ((and give up the dividend) or sell after and get Pa and

receive the dividend.