5) Foll Productions has $5 million in (excess) cash, after financing all profitable investment opportunities. The CFO of Foll has to decide whether to invest the money in liquid short-term treasury securities at a 7% interest rate, or to issue a dividend of the entire amount now. The corporate tax rate for Foll is 28%. The average investor’s personal tax rate is 20%. 

a) Suppose the firm issues a dividend of the $5 million, and the shareholders choose the same investment (i.e., the T-bond yielding 7%), what is the total after-tax cash inflow next year for the shareholders? 

b) If instead, the CFO decides to invest the $5 million in that T-Bond, and then issues a dividend next year, what is the after-tax cash inflow next year for the shareholders? What should the CFO do — should she pay a dividend now or should she reinvest the money now?