Question 2 The net income of Novis AS is 32,000 kroner (DKr). The company has 10

Question

Question 2 The net income of Novis AS is 32,000 kroner (DKr). The company has 10,000 outstanding shares and a 100 per cent payout policy. The expected value of the firm one year from now is DKr1,545,600. The appropriate discount rate for Novis is 12 per cent, and the dividend tax rate is zero. Assuming MM dividend irrelevance hold, (a) what is the current value of firm assuming the current dividend has not yet been paid? (b) What is the ex-dividend price of Novis's equity if the board follows its current policy? (c) At the dividend declaration meeting, several board members claimed that the dividend is too meagre and is probably depressing Novis's price. They proposed that Novis selleough new shares to finance a DKr4.25 dividend. (i) Comment on the claim that the low dividend is depressing the share price. Support your argument with calculations. (ii) If the proposal is adopted, at what price will the new shares sell? How many will be sold? (Assume MM world still exists!

Explanation / Answer

Novis AS What is the current value of ±rm assuming the current dividend has not yet been paid? V = 32,000 + 1,545,600/1.12 = 1,412,000 Price: 141.20 What is the ex-dividend price of Novis’s equity if the board follows its current policy? V = 1,412,000 – 32,000 = 1,380,000 Ex-dividend price: 138.00 If the proposal is adopted, at what price will the new shares sell? How many will be sold? They proposed that Novis sell enough new shares to finance a DKr4.25 dividend. Comment on the claim that the low dividend is depressing the share price. Support your argument with calculations. Suggested dividend 4.25 x 10,000 = 42,500 Net income = 32000 Sale of shares = 32000 - 42500 = -10500 New shareholders want 12% return on investment of 10,500. For this reason one has to pay to new shareholders at t = 1: 10,500 x 1.12 = 11,760 This amount is not available to the old shareholders anymore. The total value for them is: V = 42,500 + (1,545,600 – 11,760) /1.12 = 1,412,000 The value of the firm after the dividend payment is: (1,412,000 – 42,500) = 1,369,500 Ex-dividend price: 1,369,500 /10,000 = 136.95 Number of new shares to be sold: 10,500 /136.95 = 76.67 According to MM, it cannot be true that the low dividend is depressing the price. Since dividend policy is irrelevant, the level oF the dividend should not matter. Any Funds not distributed as dividends add to the value oF the Firm, hence the stock price. These directors merely want to change the timing oF the dividends (more now, less in the Future). As the calculations below indicate, the value oF the Firm is unchanged by their proposal. ThereFore, the share price will be unchanged.

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