SHARE VALUATION PRACTICAL APPLICATION_S1_2018

VARIABLE-GROWTH MODEL (1)

Beer Sparkles (BS) has not paid dividend during the past 10 years. However, at the
end of this year, the company plans to pay R1,50 dividends and a R2 dividend
the following year (Year 2). Starting in three years, the dividend will begin to grow
by 5% each year for as long as the firm is in business. If the investors require an 11%
rate of return to purchase Beer’s common stock, what should be the market value
of its stock today?

Dt = D0 × (1 + g1 ) =

D0 = 3,40 COMPUTE THE VALUE OF THE

DIVIDENDS THAT EXPERIENCE NON-
D1 = 1,50 CONSTANT GROWTH

D2 = 2

D3 = 2 (1 + 0,05) = 2,1

THEN FIND THE PV OF THESE DIVIDENDS.

CF0 = 0

CF1 = 1,50

CF2 = 2,00

i=11

NPV=2,97
 D3 FIND THE PRICE OF THE SHARES AT THE
P2 =
rs - g END OF THE NON-CONSTANT
s
GROWTH PERIOD, AT WHICH TIME IT
2,1 HAS BECOME A CONSTANT GROWTH
P2 = SHARE
0,11 - 0,05

= R 35

THEN DISCOUNT THIS PRICE BACK TO

FV = 35 THE PRESENT

N = 11

I=2

PV = 28,41

ADD THE TWO COMPONENTS TO FIND

THE INTRINSIC VALUE OF THE SHARE
P2 = 28,41 + 2,97
P2.
P2 = 31,38
SHARE VALUATION

Poppy is planning to purchase a share of ECS Consult and expects it to pay a

dividend of R7,30 per share. On the basis of a review of similar risk investment
opportunities, Poppy expects to earn a 20% rate of return. Poppy is uncertain
about the purchase of ECS Consult shares so she decides to estimate the share
value using several possible assumptions about the growth rate of its dividend.

What is ECS Consult share value if the dividends are expected to grow at an
annual rate of 0% from now to infinity?

7,30 ZERO GROWTH MODEL

P0 = = 36,5
0,20 - 0,00

What is ECS Consult share value if the dividends are expected to grow at a
constant annual rate of 15% from now to infinity?

7,30 (1+ 0,15)

P0 = = 167,9 CONSTANT GROWTH MODEL
0,20 - 0,15

What is ECS Consult share value if the dividends are expected to grow at an
annual rate of 12% for the first two years, followed by a constant annual rate of
10% from year 3 to infinity?

STEP1: FIND THE VALUE OF THE CASH DIVIDENDS FOR THE FIRST TWO YEARS:

D0 = 7,30

D1 = 7,30 × (1 + 0,12) = 8,18 VARIABLE GROWTH

MODEL
D2 = 8,18 × (1 + 0,12) =9,16
STEP 2: FIND THE PRESENT VALUE OF THE CASH DIVIDENDS:

Cf0 = 0

CF1 = 8,18

CF2 = 9,16

I = 20

NPV = 13,18

STEP 3 THE VALUE OF THE SHARE AT THE END OF ITS GROWTH PERIOD:

9,16 ×(1+0,10)
P0 = = 100,76
0,20 - 0,10

THE SHARE VALUE OF R100,76 SHOULD BE DISCOUNTED BACK TO THE PRESENT VALUE

FV = 100,76

N=2

I = 20

PV = 69,97

STEP 4 ADD THE PRESENT VALUE FOUND IN STEP 2 AND STEP 3

= 13,18 + 69,97

= 83,15

VARIABLE-GROWTH MODEL (2)

Home Grown Hotels, Ltd is entering into a 3-years remodelling and expansion
project. The construction will have a limiting effect on earnings during that time,
but when it is complete, it should allow the company to enjoy much improved
growth in earnings and dividends. Last year, the company paid a dividend of
R3.40. It expects zero growth in the next year. In years 2 and 3, 5% growth is
expected in year 4, 15% growth. In year 5 and thereafter, growth should be
constant 10% per year. What is the maximum price per share that an investor who
requires a return of 14% should pay for Home Grown Hotels’ ordinary share?

STEP 1: CALCULATE THE DIVIDENDS DURING THE HIGH-GROWTH PERIOD

Dt = D0 × (1 + g1 ) =

D0 = 3,40

D1 = 3,40 (1+ 0,00) = 3,40

D2 = 3,40 (1 + 0,05) = 3,57

D3 = 3,57 (1 + 0,05) = 3,75

D4 = 3,75 (1 + 0,15) = 4,31

D5 = 4,31 (1 + 0,10) = 4,74

STEP 2: CALCULATE THE PV OF THE HIGH-GROWTH DIVIDENDS

USING FINANCIAL CALCULATOR

CF0 = 0

CF1 = 3,40

CF2 = 3,57

CF3 = 3,75

CF4 = 4,31

i=14

NPV=10,81

** ALTERNATIVE METHOD CAN BE USED FOR THIS STEP

STEP 3: DETERMINE THE VALUE OF ALL THE CONSTANT DIVIDENDS THAT WILL OCCUR
AFTER THE HIGH-GROWTH PERIOD

APPLY THE CONSTANT GROWTH MODEL

D5
P4 =
rs - g
s

4,74
P4 =
0,14 - 0,10

= R 118,5

STEP 4: DETERMINE THE PV OF THE CONSTANT DIVIDENDS AFTER THE HIGH-GROWTH

PERIOD

USING FINANCIAL CALCULATOR

FV = 118,5

N=4

I = 14

PV = 70,16

STEP 5: FIND THE SUM OF ALL THE PVs (i. e those calculated in step 2 and 4)

P4 = 70,16 + 10,81

P4 = 80,97

VARIABLE GROWTH MODEL (3)

Georgetown Company expect to pay dividends (per share) of R0,60; R0,90; R2,40
and R3,50 during the next four years. Beginning in the fifth year, the dividend is
expected to grow at a rate of 4% indefinitely. If investors require a 20% return to
purchase Georgetown shares, what is the current value of the company’s shares?
STEP 1: CALCULATE THE DIVIDENDS DURING THE HIGH-GROWTH PERIOD

Dt = D0 × (1 + g1 ) =
THE VALUE OF THE CASH
D1 = 0,60 DIVIDEND ARE GIVEN

D2 = 0,90

D3 = 2,40
CONSTANT GROWTH RATE
D4 = 3,50 = 4% PER YEAR FOREVER

D5 = 3,50 × (1 + 0,04) = 3,64

STEP 2: CALCULATE THE PV OF THE HIGH-GROWTH DIVIDENDS

CF0 = 0

CF1 = 0,60

CF2 = 0,90

CF3 = 2,40

CF4 = 3,50

i=20

NPV=4,20

STEP 3: DETERMINE THE VALUE OF ALL THE CONSTANT DIVIDENDS THAT WILL OCCUR
AFTER THE HIGH-GROWTH PERIOD

D5
P4 =
rs - g D5 = 3,50 × (1 + 0,04) = 3,64
s

3,64
P4 =
0,20 - 0,04

= R 22,75
STEP 4: DETERMINE THE PV OF THE CONSTANT DIVIDENDS AFTER THE HIGH-GROWTH
PERIOD

FV = 22,75

N=4

I = 20

PV = 10,97

STEP 5: FIND THE SUM OF ALL THE PVs (i. e those calculated in step 2 and 4)

P4 = 4,20 + 10,97

P4 = 15,17

VARIABLE DIVIDED GROWTH THE

DIVIDEND IS EXPECTED TO CHANGE
OVER TIME.

YOU SHOULD REMEMBER THESE

STEPS WHEN DEALING WITH
VARIABLE GROWTH QUESTION