Question

Question 6

Zoy plc is listed on the Hong Kong Stock Exchange and currently has 1m issued ordinary shares.

Over the last 5 years the following dividends have been paid at the end of each year:

Year	Net Dividend Per Share (cents)
2016	15.7
2017	17.4
2018	18.8
2019	20.1
2020	21.4

The dividends are expected to increase from 2020 at the same rate as they have historically and then by 4% per annum for periods after 2023.

The cost of equity of Zoy is unknown but the company has a beta of 0.9 and the rate of return on government securities is 0.6% per annum. The equity risk premium is estimated to be 6% per annum.

Required:

1. Calculate the value of Zoy plc using the dividend valuation model. Assume the 2020 dividend has just been paid.

(12 marks)

2. Discuss whether using future cash flows to value a company is more useful than using the net asset value from the balance sheet.

(8 marks)

Answer 1

Requirement-(a)-

Comppunded Annual Growth rate of dividend or CAGR =

V begin = dividend at the begin = 15.70 (2016 end)

V end = Dividend at end = 21.40 (2020 end)

t= time = 4 years (2016 end to 2020 end)

hence Growth rate =

Growth rate of divided = 0.08051 or 8.05%

As per CAPM , Ke or cost of equity = Risk free rate + Beta* market risk premium

Ke or cost of equity = 0.60% + 0.90*6% = 6% or 0.06

Value of the share = Present value of the expected dividend + Present value of the Terminal value.

Year	Dividend	growth rate
2020	21.400
2021	23.123	8.05%
2022	24.984	8.05%
2023	26.995	8.05%
2024	28.075	4% or 0.04

Terminal Value at the end 2023 =

	A		B		A*B
Year	Cash flow	Nature	PVF@Ke or6%		Present value of cash flow
2021	23.123	Dividend	0.9433962	1/(1.06)^1	21.813868
2022	24.984	Dividend	0.8899964	1/(1.06)^2	22.235740
2023	26.995	Dividend	0.8396193	1/(1.06)^3	22.665771
2023	1403.75	Terminal value	0.8396193	1/(1.06)^3	1178.615569
				Total	1245.330947

Hence value of one share at the end on 2020 = 1245.330947

Total number of share outstanding = 1 million

value of Zoy plc = Total number of share * Value of one share = 1,245,330,947

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Requirement-(b)

Valuation by company by future cash flows is more reliable and useful than the net asset value.

Because Net asset value method of valuation will value the company based upon the historical baule of the net assets, where as the Future cash flow methos will reflect the true value of the company based upon its earning capability.

Moreover, from the invetor or shareholder point of view the true value of a share depends upon its dividend cash flow.

hence Cash flow mathod of valuation is more useful.