Mr. A had gathered the following information for his analysis – (A) A Company pays regular dividend on quarterly basis and the last interim dividend…

CA Intermediate · Financial Management and Strategic Management · RTP · May 2025
Mr. A had gathered the following information for his analysis – (A) A Company pays regular dividend on quarterly basis and the last interim dividend declared for the quarter was 3 per share (B) Owing to a wide market reach and presence, company's turnover has seen an annual compounded growth of 25% (CAGR) in the last 5 years and the turnover is expected to grow at the same rate in the future as well. The company expects the following Rate of Return (ROI) against the probabilities of likely achievement mentioned along with in different situations. Scenario ROI Probability I 20% 0.30 II 15% 0.60 III 12% 0.50 (C) The retention ratio over the last 5 years has been 40%, 65%, 50%, 45%, 30% respectively and company plans to retain based on the past average. (D) The current interest rate on GOI Treasury bond is at 4.5% and the beta of the company is 1.3 and a market return of 12.5% You are required to CALCULATE the theoretical market price of the company's share for Mr. A's decision-making using Gordon's model and Walter's model.

Suggested Answer and Working Notes:

(a) Calculation of the theoretical price (intrinsic price) denoted by 'Po' using Gordon's formula Po = D1 / (Ke-g) So we need to calculate 3 variables i.e g, D1 & Ke (A) g = Retention Ratio x ROI Retention ratio = (40 + 65 + 50 + 45 + 30) / 5 = 0.46 Scenario ROI Probability Expected ROI I 20% 0.30 20 x 0.3 = 6 II 15% 0.60 15 x 0.6 = 9 III 12% 0.50 12 x 0.5 = 6 Expected ROI = 21% Therefore g = 0.46 x 21 = 9.66% (B) D1 = Do + g Do = 3 per quarter x 4 = 12 (Annually) Therefore D1 = 12 + 9.66% = 13.16 (C) Ke will be calculated using CAPM Model and as per CAPM Ke = Rf + (Rm – Rf) x Beta = 4.5 + (12.5 – 4.5) x 1.3 = 14.9% Po = 13.16 / (0.149 - 0.0966) = 251.15 Calculation of the theoretical price (intrinsic price) denoted by 'Po' using Walter's formula As per Walter P = D + [r/Ke * (E-D)] / Ke Where 'D' is constant, so no growth would be added EPS = Dividend / (1 – Retention ratio) = 12 / (1 -0.46) = 22.22 P = 12 + [0.21/0.149 * (22.22-12)] / 0.149 Po = 177.21

Topics: Part-A: Financial Management

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