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Dear Sir,
Hope you can help me with q4 from June 13 exam.
I am trying to follow the same technique as you have showed us in one of your revision lectures ( I believe it was q 4 June 10) but I am not sure if I’m doing it correctly.
My calculations are:
25c/0.9-0.04 = 29.06 that’s the MV at yr 3
To get it to yr 0 I am discounting at 9% over 3yrs
29 x 0.772 = 22.43
Need to compare it with current PV
16c x 1.03/0.9 – 0.03 = 18.9
So the proposal will increase shareholders wealth by 3.53 per share.
Could you please see if my calculations are correct?
Regards
You have made a few mistakes.
Firstly, 25c / (0.09 – 0.04) = 500c (not 29.06).
Secondly that is the MV at time 2 (not time 3). (The formula usually gives the MV at time 0 for dividends starting at time 1. Here the dividends start at time 3, which is 2 years late, and so it gives a MV 2 years late).
So the MV now is 500c discount for 2 years, which is 421c
The current MV is (16c x 1.03) / (0.09 – 0.03) = 275c
So the gain is 146c per share.
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