Question

Stott Plc (Stott) has £150 million in excess cash and no debt. The firm expects to generate additional free cash flows of £105 million per year in subsequent years and will pay out these future free cash flows as regular dividends.

Stott’s unlevered cost of capital is 6% and the company presently has 6 million shares outstanding. Stott's board is meeting to decide whether to pay out its £150 million in excess cash as a special dividend or to use it to repurchase shares of the firm's stock.

As some preliminary calculations to assist the board meeting you have been tasked with answering the following: -

1. What is the cummulative dividend price, the regular future annual dividend and the current market value of Stott?
2. Assume that Stott uses the entire £150 million in excess cash to pay a special dividend. What will Stott Plc’s ex-dividend price be?

c) Assume that Stott uses the entire £150 million to repurchase shares at the cummulative div price calculated in (a) and answer the following: -

i. What is the number of repurchased shares?

ii. What is the number of outstanding shares?

iii. What is the amount of regular yearly dividends in the future?

iv. Calculate the share price after the repurchase.

d) The board of Pawson plc is considering changing from its current dividend policy of paying out what is left over from its available cash after making investments. The forecast dividends if the company continues with its current policy and the forecast dividends if it changes to the new policy are shown below.

Forecast dividend payments 1 – If current dividend policy continues

Year	2020	2021	2022	2023	2024
Dividend per share (pence)	20	36	42	47	48

Forecast dividend payments 2 – If new policy is employed

Year	2020	2021	2022	2023	2024
Dividend per share (pence)	20	25	31	39	48

Explain which dividend policy Pawson is currently using and the advantages and disadvantages of the policy. Explain which policy is being employed in the new proposal and explain the advantages and disadvantages of the policy.

Answer 1

Answer A

Current market value

Stott Plc (Stott) total market value is £1900 (before declaring dividend).

Stott Plc (Stott) has £150 million in excess cash at present. It expects to generate additional free cash flows of £105 million per year in subsequent years and its unlevered cost of capital is 6%. The Value of firm at present = (additional free cash flows / rate of cost of capital) + Present excess cash = (105/0.06) + 150 = 1750 + 150 = £1900

Cummulative dividend price

Assuming that Stott Plc (Stott) uses the entire £150 million in excess cash to pay a special dividend. Stott Plc (Stott) cummulative dividend price is £316.67.

Market value of Stott Plc (Stott) before dividend is £1,900 and there are 6 million shares outstanding. Cum-dividend price per share = 1900 / 6 = £316.67

Regular future annual dividend

Assuming that Stott Plc (Stott) uses the entire £150 million in excess cash to pay a special dividend. The amount of the regular yearly dividends in the future is £17.5

Firm expects to generate additional free cash flows of £105 million per year in subsequent years and will pay out these future free cash flows as regular dividends.

Dividend £105 million and there are 6 million shares outstanding. Dividend per share = 105/6 = £17.5

Answer B

Stott Plc’s ex-dividend

Assuming that Stott Plc (Stott) uses the entire £150 million in excess cash to pay a special dividend. Stott Plc (Stott) ex-dividend price is £291.67

Market value of Stott Plc (Stott) after dividend is £1,750 (1,900-150) and there are 6 million shares outstanding. Ex-dividend price per share = 1,750 / 6 = £291.67

Answer C

1.Number of repurchased shares

Assuming that Stott Plc (Stott) uses the entire £150 million in excess cash to repurchase shares. The number of shares that they repurchase is 473,679 shares

Cummulative dividend price is £316.67. Total number shares purchased = £150 million / £316.67 = 473,679 shares

2. Number of outstanding shares

Number of Outstanding Share will be (6,000,000-473,679)= 5,526,321

3. Regular yearly dividends in the future

Assuming that Omicronâs uses the entire £150 million in excess cash to repurchase shares. The amount of the regular yearly dividends in the future is £19

Total number of shares after repurchase = 6 million shares outstanding less 473,679 shares repurchased = 5,526,321 shares outstanding

The firm expects to generate additional free cash flows of £105 million per year in subsequent years and will pay out these future free cash flows as regular dividends.

Dividend £105 million and there are 5,526,321 shares outstanding. Dividend per share = 105,000,000/5,526,321 = £19