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GXG is an e-business … they need to raise 3.2m.
option 1: suspend dividends for 2 years and then pay divs of 25c per share from the end of the third year, increasing annually at 4% per year in subsequent years. div in recent years have grown by 3%. Recent div paid: 1.6m, 10m shares in issue with nominal value of 50c. cost of equity = 9%
what is the value of the company using the DVM
answer in the kit:
divs at end of 3rd year = 10m x .25 = 2.5m
then it says: capital value at end of year two = 2.5/(.09-.04) = 50m
– i dont understand this at all. pls explain, rgards
They are using the dividend valuation formula from the formula sheet that is given in the exam.
However the formula has Do(1+g) on the top of the equation (which is the dividend in 1 year time) and gives the value at time 0.
In this question we know the dividend in 3 year time, and so if you use this on the top of the formula, then because it is 2 years later than if it was in 1 years time, the answer from the formula will also be 2 years later and will be the value on 2 year time instead of the value at time 0 (now).
hmmm….so we r setting 2.5m=D0x(1+g) .. but i am unable to grasp this.
so i tried going forward in time as follows:
pv at t3 = 2.5m x (1.04)/(.09-.04) = 52
now i discount it back to t0 by 52/(1.09)^3 = 40
is this logic correct?
would the examiner throw me out had i done this in the exam?
thanks in advance
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