Page 104 - DMGT405_FINANCIAL%20MANAGEMENT

Financial Management

Notes 2. Calculation of the current dividend yield

3rd year dividend 11.575

11.575
Current dividend yield = ×105 = 12.154
100
Growth in dividend is [12.154 – 11.575] = 0.579
0.579
Current dividend yield ×100 = 5 per cent
11.575
In simple words, current dividend yield is equal to growth rate in dividends.
3. Mr. A’s required rate of return

D
K = +g
e Expected sales price (MP)

12.154
= + 0.05
243.10
= 0.050 + 0.05 = 0.10 × 100 = 10 per cent
Illustration 11: (Variable growth rates)
A textile company’s dividends have been expected to grow in the following manner.

1 – 2 years 15 per cent
3 – 5 years 10 per cent
6 year and beyond 5 per cent
The company currently pays a dividend of 2 per share, which is currently selling at 75 per
share. What would be the cost of equity capital assuming a fixed dividend pay out ratio?
Solution:

n D 1+gr  t D 1
NP =  0 t + n+1 n × n
e
t=1 1+K e  K - g 1+K e 
2.3 2.645 2.9095 3.200 3.52 3.52(1+0.05) 1
75 = 1 + 2 + 3 + 4 + 5 + 5 × 5
1+K e  1+K e  1+K e  1+K e  1+K e  1+K e  1+K e 



= 2.3  PVIF 1.K e  +2.645 PVIF 2.K e  +2.9095 PVIF 3.K e  +3.2 PVIF 4.K e  +
3.696  PVIF 6.K 
3.52  PVIF 5.K  + e
e
K - 0.05
e
By trial and error method using PV tables, we find Ke = 14%
First trial at 14%
3.696
75 = 2.3(0.877)+2.645(0.769)+2.909(0.675)+3.2(0.592)+3.52(0.519)+ ×(0.456)
0.14-0.05
75 = 2.02 + 2.03 + 1.96 + 1.89 + 1.83 + 18.73
75 = 28.5

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