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March 2025 ACCA Exams

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The valuation of securities – The valuation of equity – ACCA Financial Management (FM)

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  1. Hello, can please help me to slove this question .

    Q: Assume you are valuing the UVW common shares. For this purpose, you assemble the below information about UVW from several sources. The UVW’s fiscal year ends on 31st December.
    Extracts of Balance Sheet
    (in millions of dollars)
    For year ending 31st December Year 2023 Year 2022
    Cash and cash equivalent 60 40
    Net accounts receivable 1,100 900
    Inventories 1,710 1,630
    Other current assets 630 580
    Total current assets 3,500 3,150
    Gross fixed assets 4,200 3,800
    Accumulated depreciation 1,500 1,250
    Net fixed assets 2,700 2,550
    Current liabilities 1,360 1,200
    Long-term debt 2,300 2,500
    Shareholders’ equity 2,540 2,000
    Total liabilities and shareholders’
    equity 6,200 5,700

    Extracts of Income Statement
    (in millions of dollars, except per share amounts)
    Year 2023
    Sales 6,500
    Earnings before interest, taxes, depreciation and amortization (EBITDA) 1,450
    Depreciation expense 250
    Operating income 1,200
    Net interest expense 200
    Pretax income 1,000
    Income tax (tax rate = 40%) 400
    Net income 600
    Earnings per share $1.5
    Dividends per share $0.6

    Selected Financial Data
    Year 2023
    Current share price $23
    Number of outstanding shares 400 million
    Pre-tax cost of debt 8%
    Estimated beta 1.2
    Risk-free rate 6%
    Estimated Market return 11%

    Additional information is shown as below:
    In 2024, the sales, EBITDA and net income are expected to grow by 20%, compared to the 2023 data; the investment in fixed capital will grow at the same rate as net income; the non-cash working capital at the end of 2024 will be 130% of the 2024 EBITDA; the depreciation expense will remain unchanged.
    • From 2025 and beyond, the sales and net income will grow forever at 6% annually; both investment in fixed capital and investment in working capital will grow at the same rate as net income; the depreciation expense will be 50% of the investment in fixed capital.
    • The fixed capital expenditures are expected to remain at 50% of sales growth. The depreciation expense, which is the only non-cash charge, is expected to remain at 50% of the fixed capital expenditures. The investment in non-cash working capital will grow at the same rate as net income.
    • 60% of future investments will be financed with equity and 40% will be financed with debt. The depreciation expense is the only non-cash charge.
    • The company follows a stable dividend payout policy. There are no plans to issue additional shares or buy back existing shares.

    Estimate the per-share value of the UVW shares at the beginning of 2024, using the Free Cash Flow to Equity Model.

  4. Hi Sir, when we use the dividend valuation model, are we getting the market value of the company as whole( Equity+Debt) or the market cap(equity only)?

      • So if we took the share price X no. of shares, would that mean we get the total market value of equity + debt or just equity?

      • Correction : The technical article says market value of co = future cash flows/WACC, so does that mean equity + debt since WACC includes both? Sorry for asking so many questions and thank you for being patient!

      • The number of share multiplied by the share price is the total market value of the shares, which is the total market value of equity.

      • The market value of shares is the PV of the dividends discounted at the cost of equity.

        The PV of the operating cash flows (before interest) discounted at the WACC is the total market value of the company (equity + debt).
        (Although this second statement is more relevant for Paper AFM)

        No problem asking questions, although questions (as opposed to comments) are better asked in the Ask the Tutor Forum – I do not always see questions here, but I always see them and answer them in the Ask the Tutor Forum.

      • The required rate of return to shareholders is not after tax. Tax has no effect on the cost of equity.

        When calculating the market value of debt we use the investors required rate of return (which is before tax) because it is the investors who determine the market value and they are not affected by company tax.

        Have you watched the lectures on the valuation of debt?

    • Your course only briefly mentions the PE ratio and earnings yield. It was severely tested on the 2023 June exam, with roughly 5 questions in each part A&B.

      Nonetheless, your lectures are excellent!

      Your work has inspired me………

  5. Sir, is it right to say we’ve discounted the dividend growth in perpetuity to get present value at time 2 however we must discount it again to get present value in time 0?

      • So its also right to say that if we discounted 20(1.04) with 15% at time 3, it would’ve not have taken into account the future expected dividend beyond time 3?

      • No it is not correct. If the dividend is growing in perpetuity then we use the dividend growth formula to get the present value at time 2. I actually explain and illustrate this in my lectures.

    • Yes, and I explain this in my lectures. If dividends are expected to grow by (say) 5% a year, then the market value will also be expected to grow by 5% as year as well. Again, I explain why in the lectures.

  10. Hi Sir,
    Please is there a way to use the dividend valuation model to calculate the price of a share if the company’s retention ratio is 100%?

    By the way I must say I admire you a lot, Mr. Moffat, for the great skill with which you teach
    Thank you very much for your hard work, sir

  11. hello sir a question, this expected dividend, what if the company doesn’t pay dividends, how does it work then. I just don’t understand how the dividend is a suitable figure for valuating share price since the CEO can just decide not to pay anything . are we talking about a set figure that is basically theoretical and may or may not be paid , who decides how much the dividend is? considering we want to retain some of our earnings for the growth of the business can the dividend be the rest minus pref shares divided by ord shares? how do we know ho wmuch we should keep for the company and how much we should distribute among shareholders as dividend?

    • For a quoted company, nobody would invest in shares if the company was never going to pay a dividend. They might pay no dividend for several years in order to grow but they must pay a dividend at some stage – the MV is the PV of the future expected dividends whenever they are expected to occur.

      In addition (and more relevant for an unquoted company) the dividend valuation model is not the only way of finding a MV – there is an asset valuation and a PE valuation, both of which are explained in a later chapter.

  12. Hi tutor

    I come from Asian country, not familiar with some different measurements were shown in the answer:
    In example 1, the market value is 200c($2)
    In example 5, the market value is 284p($2.84)
    In example 8, the PV@8% is 125 (=$125 p.c. ex int.)
    what are “c”, “p” and “p.c.” really stand for?

    • p.c. stands for ‘per cent’ (i.e. per 100)

      ‘c’ is the market price stands for ‘cent’ (there are 100 cents in one $).

      ‘p’ in the market price is a typing mistake – it should be ‘c’ for ‘cents’.

    • The growth formula gives the PV at time 0 when the first dividend is in 1 years time.

      Here, the first growing dividend is in 3 years time, which is 2 years later than 1 years time, therefore the formula gives the PV two years later i.e. at time 2 instead of at time 0.

  14. Hi John 🙂

    Oh my, I have watched this lecture three times now. I still don’t understand the last example and how we get to the solution. In particular the 189 baffles me – how can it be so high, when previous years were 20?

    • I assume that you are referring to example 7.

      189 is the market value and is the PV of the future expected dividends. They will pay 189 for the share and will then expect to receive 20 per year for ever growing at 4% per year. They will obviously have to pay much more than 20 for the share – even if you were not expecting the dividends to grow, you would pay a lot more than 20 in order to then get income of 20 per year from your investment!!

  15. In question no. 3 , there had been given ….. about to pay a dividend of 15c per share.
    So, when we calculate market value, shouldn’t we get the cum div value of market value instead of market value( ex div)?

    Because about to pay dividend refers to cum div market value, isn’t it?

  16. I am also referring to question 7. I thought P in the formula is the market value of the shares and not the dividend? I would have expected that the market value of the dividend in 3 yrs time would be 20c X 1.04 = 20.8c. Why are we then discount the discount year 1 & 2 with the current value of the dividend and year 3 with the present value of the equity?

    • P in the formula is indeed the market value. 20.8 is the dividend in 3 years time, not the market value!!!
      The market value, as I explain the lectures, is the present value of future dividends. Once the dividend starts growing, then we can use the formula to calculate the MV at that time. But everything then needs discounting to get the PV ‘now’.

      • However in this example we have discounted the dividend in 1 years and 2 years time (20c) and then the MV (18.9) from 2 years onwards.

        Why do we not discount the MV for years 1 and 2 to be consistent with our approach with year 2 onwards?

        Thanks

      • The approach is 100% consistent.

        You will know from the earlier lectures that the MV of the shares is the PV of the future dividends. 189 is the PV value of the dividends from time 3 onwards, but is a PV in 2 years time. To get the PV at time 0 we therefore discount for a further 2 years. We add this to the PV of the dividends at time 1 and time 2 and therefore get the total PV of the future dividends, which is the MV of the shares.

  19. Hi I have question in example 7, the last one in the video. You discuss how after the two years of fixed dividends at 20c, we discount the 189c at the 2 year rate of 15% on the PV table (0.756).

    I would have assumed we discount the amount for the 3rd dividends 189c at PV for 3 years at (0.658), would you mind explaining why this is done.

    Hope you understand my question 🙂

    Really appreciate the help.

    • Because using the formula gives a PV now when the first dividend is in 1 years time.
      When the first dividend is in 3 years time (which is 2 years later than in 1 years time), then the formula gives the PV in 2 years time (again 2 years later) and so needs discounting for 2 years.

      • Sir I understand but 1 confusion ,
        but then why we use discount factor .756 for 2nd year dividend of 20c, why not .870. bcz its is 1 years later than in 1 years time

      • In one year, we’ll get 20c -which we discount at .870
        In two years, we’ll get another 20c that year -which we discount at .756

        However, after two years, the dividend will grow constantly forever/in perpetuity (So in the third year we get 4% more than a 20c dividend). -The PV of That^ at the end of the second year is 189c.

        So we added that 189c to the 20c we receive in year 2 and discounted together at .756

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