ACCT 30s Financial Statements Analysis and Valuation Final Exam (Dividends-Based

Question

ACCT 30s Financial Statements Analysis and Valuation Final Exam (Dividends-Based Valuation) Problem 01: (40 points) Sn analyst wants to value the sum of the detn and equity capital of Beidgetron and s with the following information Total Assets $25.675 $18,525 Debt Aovmse retiny oring ot 925%% Common Equity: Book Value $ 8,950 Market Value Income Tax Rate Market Equity Beta $34,956 35% 1.05 Risk-free Rate Market Premium 3.8% 5.7% Required: 1. An analyst wants to value the common shareholders' equity of Bridgeton, compute the relevant cost of capital that should be used. Provide the rationale for using expected dividends in a valuation model. In what case will using dividends expected to be paid to shareholders yield the same valuatio for the firm as using free cash flows expected to be generated by the firm? plementing a dividend valuation model to determine the value of the common uity requires an analyst to measure three elements. What are the three elements that the ds to measure? sharehol blem 02: (60 points) Dutch Shell is a petroleum and petrochemicals company. It engages primarily ation, production, and sale of crude oil and natural gas and the manufacture, tation, and sale of petroleum and petrochemicals products. The company ately 200 countries in North America, Europe, Asia-Pacific, Africa, So

Explanation / Answer

1) Relevant cost of capita to be used is the WACC

After tax cost of debt = 9.25% * (1-35%)

= 6.01%

Cost of equity = risk free rate + beta * market premium

= 3.8% + 1.05*5.7%

= 9.78%

WACC

b) Expected dividends are used for valuing a stock in the dividend discount model. This model discounts the future cash flows in the form of dividends to the present value using a discount factor to calculate the intrinsic value of a share. The rarionale behind this is that the present value of future cash flows is the value of a share and the cash flows is generally in the form of dividends.

c) Both free cash flow method and dividend discount model are based on the present value of cash flows method of stock price determination. However, basic difference is that free cash flow is the cash available for shareholders while dividends are cash paid to shareholders. In case all the free cash is paid to shareholders in the form of dividend, both the methods will yield the same valuation for the firm as the numerator will be the same.

d) The three elements required in a dividend discount model are expected dividends, the growth rate of the earnings and the required rate of return by the shareholders.

Capital Cost of capital Market value Weight Weighted cost of capital Debt 0.060125 $18,525 0.346 0.021 Equity 0.09785 $34,956 0.654 0.064 $53,481 WACC 8.48%

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