Module 1: Dividend Decision

1. M/s Samar Pvt Ltd. earned a PBT of Rs. 84,00,000 for the year ended 31 March 2017.
Corporate tax rate was 30%. Their issued share capital comprised 1 lakh shares of Rs. 10
each, fully paid up. Management decided to payout a total dividend of Rs. 30,00,000 this
year. The shares of the Company were trading at Rs. 140 per share at the balance sheet
date. Compute the dividend rate, dividend yield and dividend pay-out.

2. The earnings per share of a company is Rs.10 and the rate of capitalisation applicable to
it is 10 per cent. The company has three options of paying dividend i.e. (i) 0 %,( ii) 50%
and (iii) 100%. Calculate the market price of the share as per Walter’s model if it can
earn a return of (a) 15, (b) 10 and (c) 5 per cent on its retained earnings.

3. The earnings per share of a company is Rs.10 and the rate of capitalisation applicable to
it is 15 per cent. The company has 2 options of paying dividend i.e. (i) 50 %,( ii) 75%.
Calculate the market price of the share as per Gordon’s model if it can earn a return of (a)
20, (b) 15 and (c) 10 per cent on its retained earnings.

4. XYZ Company which earns Rs.10 per share is capitalized at 10 percent and has a return
on investment of 12 percent. Determine the optimum dividend pay-out ratio and the price
of the share at the payout using Walter’s dividend policy model.

5. The following information pertains to M/S XY ltd.

Earnings of the company= Rs 500,000, Dividend pay-out ratios is 60%, No. of share
outstanding is 100,000, equity capitalisation rate is 12% and rate of return is 15%.
- What is the market value of share as per Walter’s model
- What is the optimum dividend pay-out ratio according to Walter model and the
market value at that pay-out ratio

6. The following figures are collected from the annual report of XYZ Ltd.:
Net profit is 30 lakhs, 12% Preference share capital is 100 lakhs, No. of equity shares is 3
lakhs, rate of return is 20% and cost of equity is 16%. What should be the approximate
dividend pay-out ratio so as to keep the share price at ` 42 by using Walter model?

7. X Ltd has an internal rate of return @ 20%. It has declared dividend @ 18% on its equity
shares, having face value of ` 10 each. The payout ratio is 36% and Price Earnings Ratio
is 7.25. Find the cost of equity according to Walter's Model.

8. Starlight Limited is having its shares quoted in major stock exchanges. The company
distributed dividend at the rate of 20% per annum. The paid-up shares capital of the
company consists of 10 lakh shares of 10 each. Annual growth rate in dividend expected
is 2%. The cost of equity is 15%. Calculate the value of Starlight Limited's share based
on Gordon’s' model.
9. A firm paid dividend at `2 per share last year. The estimated growth of the dividends
from the company is estimated to be either 5% or 8% or 3%. Calculate the value of share
as per Gordon Model, if cost of equity is 15.5%.

10. ABC Ltd had EPS is Rs.11.04 in 2006 and paid out a dividend of Rs.6 per share. The
growth rate in the earnings and dividends in the long term is expected to be 6%. Beta of
the equity share is 0.80, the risk free rate of return is 6%, and the market risk premium is
4%. Find value as per Gordon Model.

11. The equity share of Vishakha Ltd currently sells at Rs.90. The expected EPS is Rs.18.
The company follows a pay-out ratio of 60%. The rate of return is 20%. What is the cost
of equity? Will the market price change if the company announces 100% pay-out ratio?

12. A company belongs to a risk class of which appropriate capitalization rate is 10 per cent.
It currently has 1, 00,000 shares selling at Rs.100 each. The firm is contemplating the
declaration of a dividend of Rs.6 per share at the end of current. Fiscal year, which has
just begun. Answer the following questions on the basis of MM model. What will be the
price of the shares at the end of the year if a dividend is not declared? What will it be if it
is declared? Assuming that the firm pay dividend, has net income of Rs.10, 00,000 and
makes new investment of Rs.20, 00,000 how many new shares must be issued. Use M-M
model

13. ABC Ltd. has 50,000 outstanding shares. The current market price per share is Rs.100
each. It hopes to make a net income of Rs.5, 00,000 at the end of current year. The
Company’s Board is considering a dividend of Rs.5 per share at the end of current
financial year. The company needs Rs.10, 00,000 for approved investment expenditure.
The company belongs to a risk class for which the capitalization rate is 10%. Show, how
the M-M approach affects the value of firm if the dividends are paid or not paid.

14. M Ltd. belongs to a risk class for which the capitalization rate is 10%. It has 25,000
outstanding shares and the current market price is ` 100. It expects a net profit of ` 2,
50,000 for the year and the Board is considering dividend of ` 5 per share. M Ltd.
requires to raise ` 5, 00,000 for an approved investment expenditure. Show, how the MM
approach affects the value of M Ltd. if dividends are paid or not paid.

15. The Balance sheet of Extreme Ltd. As on 31st March,2009 is given as below:
Liabilities Amt. Assets Amt.
Equity share capital ( of 10 10,00,000 Fixed Assets 16,00,000
each)
General Reserve 15,00,000 Current assets 9,00,000

Total 25,00,000 Total 25,00,000

 Net profit after tax is Rs. 9,00,000 during 08-09. On 5th April, 2009 the company has
issued one bonus share for every two shares held. Draw a revised balance sheet after the
bonus issue and also show its impact on EPS.
16. Udhavji Ltd follow residual theory of dividend. In the year just ended, they have made a
net profit of Rs.6,00,000. Their debt equity ratio is 1.50 and they want to maintain it.
- What is the maximum amount they can invest in a project without issuing new equity
shares?
- Suppose they have decided to invest in a project requiring an initial investment of
Rs.12,00,000, can they pay dividend; if yes, amount of dividend?

17. Prahalad Ltd. had a net profit of Rs. 10,00,000 in the year 2002-2003. The company had
been following a payout ratio of 0.25. The income has been growing at an annual rate of
6 % over past so many years and dividend is linearly related with net income. The year
2003- 2004 was an abnormal year and the company made a net profit of Rs.15,00,000.
This abnormal growth in profit is not expected in coming years.
- What should have been the amount of dividend if 2003-2004 was a normal year
- What shall be the amount of dividend for year 2003-2004 if pay-out ratio for this
year is 40 %
- The company follows residual theory of dividend. The investment in the year
2004-2005 has been budgeted at Rs. 20,00,000, the company wants to maintain its
debt equity ratio of 3. What should be amount of dividend for the year 2003-
2004?
- The company follows residual theory of dividend. The investment in the year
2004-2005 has been budgeted at Rs.15,00,000, the required debt equity ratio for
this type of project is 2. What should be amount of dividend?

 Caselet
Two companies X ltd. and Y ltd. are in the FMCG industry with identical EPS for the last 5
years. X ltd. There is disparity between the market prices of the shares of the two companies.
The market price of X ltd. is generally lower than Y even if X pays more dividend than Y ltd.
The details are entailed in the table below:-
Year EPS (X EPS(Y DPS (X DPS (Y MPS (X MPS (Y
ltd.) ltd.) ltd.) ltd.) ltd.) ltd.)
1 4 4 1.6 1.8 12 13.5
2 1.5 1.5 0.6 1.8 8.5 12.5
3 5 5 2 1.8 13.5 12.5
4 4 4 1.6 1.8 11.5 12.5
5 8 8 3.2 1.8 14.5 15

(a) Identify the dividend policy followed by both the companies.

(b) Identify reasons for the market price disparity.
(c) What can be done by X ltd. to increase the market price.