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Dividend growth model and cost of equity

Forums › Ask ACCA Tutor Forums › Ask the Tutor ACCA FM Exams › Dividend growth model and cost of equity

  • This topic has 1 reply, 2 voices, and was last updated 6 years ago by John Moffat.
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  • Author
    Posts
  • September 30, 2018 at 10:45 am #475984
    maxpopper
    Member
    • Topics: 177
    • Replies: 132
    • ☆☆☆

    Sir one thing which confuses me a lot and which I want to ask from you is that In Dec 2013 there was a question that Discuss whether the DGM or CAPM should be used to calculate the cost of equity. In marking scheme, 3 marks were for DGM and 2 marks were for CAPM.

    Examiner answer
    For DGM the examiner wrote that the DGM calculates the apparent cost of equity in the capital market, provided that the current market price of the share, the current dividend and the future dividend growth rate are known. While the current market price and the current dividend are readily available, it is very difficult to find an accurate value for the future dividend growth rate. A common approach to finding the future dividend growth rate is to calculate the average historic dividend growth rate and then to assume that the future dividend growth rate will be similar. There is no reason why this assumption is true

    Studytext answer
    In study text, it is written that there are number of problems with DGM. The model does not explicitly incorporate risk, dividends do not grow smoothly in reality, so g is only an approximation, The model fails to take capital gains into account, No allowance is made for the effects of taxation,It assumes there are no issue costs for new shares and It does not produce meaningful results where no dividend is paid (if d is zero, Ke is 0)

    My question is that in above case, if we do NOT learn and write examiners answer in exam and instead learn and write the answer given in studytext , so would it enable us to obtain full 3 marks by learning and writing answer given in studytext?

    October 1, 2018 at 6:55 am #476044
    John Moffat
    Keymaster
    • Topics: 57
    • Replies: 54719
    • ☆☆☆☆☆

    The examiners answers are only suggested answers and the examiner always write more than is expected from students in the exam.

    You certainly should not ‘learn’ answers to written questions – the questions are there to check your understanding.

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  • The topic ‘Dividend growth model and cost of equity’ is closed to new replies.

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