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Sir, Have you explained this question anywhere on your Revison lectures? This question is confusing me a lot . Although i have studied dividend growth model with your lectues Please help
I have not recorded a lecture working through this question – sorry!
However everything needed is covered in our normal lectures – they are a complete course for F9 and cover everything that is needed to pass the exam well.
If you say which bit of the answer to the question is confusing you, then I will do my best to help 🙂
Part A is terribly confusing first and second year no dividends. these years are confusing me. can u please briefly explain part a to me what he is asking exactly 😛
The MV of a share is the present value of future dividends.
Usually we simply use the dividends valuation formula from the formula sheet. However this gives the MV (the PV) assuming the dividends start growing immediately.
In this question however, instead of the first dividend being in 1 years time it will be in 3 years time – i.e. 2 years later.
So using the formula gives a value in 2 years time instead of a value now.So we need to discount the answer from the formula for 2 years to get a MV now.
(you can use either 5% or 3% as the growth rate – the examiner allowed either)
Thank you so much for your reply 🙂 i went through the solution of this question the examiner has subtracted the present value and the number he got after using the formula why has he done that? and whats the 2.5/.09-.04 ? is that using annutiy or something i am not getting this at all 😛
Have you explained this concept anywhere in your lectures i can go through it and grasp the real concept of whats happening:P
Btw dont you think this is bit confusing for students i mean in exam a student can get real twisted by this sort of quesiton how do we overcome this?
The question asked whether option 1 would be acceptable to shareholders, so he has subtracted the current market value from the new market value. It is acceptable to shareholders if they are worth more.
To get the market value he has used the dividend valuation model formula from the formula sheet.
g = 5% for one and 3% for the other.
Re is 9%
The first dividend is 25c per share (or 2.5M is total) and this is the equivalent of D0(1+g).If the first dividend had been in 1 years time, then this would then give you the market value.
Because the first dividend is in 3 years time (i.e. 2 years later) then the figure from the formula is the MV in two years time, and so needs discounting for 2 years at the shareholders required return on 9%.This is quite a common thing for him to ask at F9 because it is his way of checking that you understand and are not just learning rules.
The only way to overcome the problem is to practice. I hope that you have a Revision Kit from one of the ACCA approved publishers, because they contain lots of exam standard questions to practice on.
You mean 4% and 3% right? not 5%?:P So 2.5m is the equivalent for D(1+G) Because its the market value after 2 years? a bit expalnation on it will be very helpful for me 🙂
and yes i do have a revison kit of bpp but its for exams in 2009 i havent worked on it complelly but i never came across a question like this in business valuations. i am working through past exams from acca website dont u think thats sufficient for practice?
Thank you so much for the help you are providing to students. God bless you 🙂
Sorry, I did mean 4% and 3%.
Usually when we are using the formula we know what the current dividend is (which is Do in the formula). But Do(1+g) is the same as the dividend in 1 year.
In this question, if you pretend that you are at time 2, then Do would be the dividend at time 2 and Do (1+g) would be the dividend at time 3. So if we put the time 3 dividend as the top of the formula, then the formula will give a value at time 2 (which we then need to discount for 2 years to get a value ‘now’.
Working through past questions is fine (and do use our free Study Guide because it suggests after each chapter of our notes (and lectures) which past questions to try.
The only problem with your Revision Kit is that it will not have MCQ’s in it. We have online MCQ tests for each chapter, and we also have a mock exam for the MCQ’s, so do try all of them.
It all depends how much time you have for studying, but the more questions that you practice the better (which is why a current edition of a Revision Kit would be a good idea).Thanks a lot for your final comment 🙂
Sir just one last bit on this question the reason it made a bit difficult to understand:P why will the time 3 dividend give us the value of time 2. is it because current dividneds are always last year dividends? and thn howcome the discounting can give us the value of ‘now’? as u said . and i also dont understand the mechaincs of discounting he has done 50/1.09 . i know i am being very silly here but its has confused me a lot i hope this one will be the last to it 🙂 Thank you for being patient
Ok sorry about the mechaincs of discounting he has used 9% as discount factor and 50 as the value i somehow get the mechanics now:P but thn why has he done it?:P
Usually using the formula, the top of the equation (Do (1+g)) is the dividend in 1 years time, and the answer from the formula is the market value now.
If we use the same formula but on the top of the equation have the dividend in 3 years time (which is 2 years later than in 1 years time), then the answer from the formula will be the market value 2 years later than usual – instead of a market value now, it is a market value in 2 years time.
Therefore we need to discount by 2 more years in order to get a market value now.The discount factor is at 9% because that is the shareholders required rate of return (and as I said at the start, the market value is the present value of dividends discounted at the shareholders required rate of return).
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