The document discusses Walters model for studying the dividend policy of Sensex companies. It provides background on dividend policy and its relationship to the market value of equity shares. Walters model states that a firm's dividend policy depends on the relationship between its return on capital (r) and cost of capital (k). If r>k, the firm should plow back profits for reinvestment. If r<k, the firm should pay out all profits as dividends. The model makes unrealistic assumptions about constant r and k over time. It provides a framework to explain share price movements based on dividend policy but limitations must be considered in real world applications.

1. Dividend And Valuation –
Walters Model
Nayan Satsangi - 46
Reshma Chore - 7
Sneh Shukla - 50
Kandarp Desai -11

2.  To Study the Dividend Policy Of Sensex
Companies using Walters Model

3.  The dividend policy of a company determines what proportion of earnings is
distributed to the shareholders by way of dividends, and what proportion is ploughed
back for reinvestment purposes.
 Since the main objective of financial management is to maximise the market value of
equity shares, one key area of study is the relationship between the dividend policy
and market price of equity shares.
 According to Walter’s Model , the dividend policy of a firm depends upon the
relationship between r(rate of return) & k(cost of capital).
 If r>k (a case of a growth firm), the firm should have zero payout and reinvest the
entire profits to earn more than the investors. If however, r<k, then the firm should
have 100% payout ratio and let the shareholders reinvest their dividend income to
earn higher returns, if ‘r’ happens to be just equal to ke, the shareholders will be
indifferent whether the firm pays dividends or retain the profits. In such a case, the
returns of the firm from reinvesting the retained earnings will be just equal to the
earnings available to the shareholders on their investment of dividend income.

4.  The Walter’s model provides a theoretical and simple frame work to
explain the relationship between policy and value of the firm. As far as
the assumptions underlying the model hold well, the behaviour of the
market price of the share in response to the dividend policy of the firm
can be explained with the help of this model.
 The limitation of this model is that these underlying assumptions are too
unrealistic. The financing of investments proposals only by retaining
earnings and no external financing is seldom found in real life.
 The assumption of constant ‘r’ and constant ‘ke’ is also unrealistic and
does not hold good. As more and more investment is made, the risk
complexion of the firm will change and consequently the ke may not
remain constant.

5.  Dividend refers to the corporate net profits distributed
among shareholders.
 Dividend Policy refers to the explicit or implicit decision of
the Board of Directors regarding the amount of residual
earnings that should be distributed to the shareholders of
the corporation.
 This decision is considered a financing decision because the
profits of the corporation are an important source of
financing available to the firm.

6.  The optimal dividend policy of a firm depends on
 investor’s desire for capital gains as opposed to income
 their willingness to forgo dividend now for future returns
 perception of the risk associated with postponement of returns.
-Various firms adopt dividend policies depending on the
company’s articles of association and the prevailing economic
situation.
-Some make high pay out, while others make low pay out
-Yet others pay stock dividends (bonus issue) in lieu of or in
addition to cash dividend
- While others pay cash only.

7.  Walter’s model supports the doctrine that dividends are
relevant. The investment policy of a firm cannot be
separated from its dividends policy and both are, according
to Walter, interlinked. The choice of an appropriate dividend
policy affects the value of an enterprise.

8.  All financing is done through retained earnings: external
sources of funds like debt or new equity capital are not used.
 With additional investments undertaken, the firm’s business
risk does not change. It implies that r and k are constant.
 There is no change in the key variables, namely, beginning
earnings per share, E, and dividends per share, D. The values
of D and E may be changed in the model to determine
results, but, any given value of E and D are assumed to
remain constant in determining a given value.
 The firm has perpetual (or very long) life.

9. r
D E D
ke
ke
P
r
D E D
ke
P
ke
where
P The prevailing market price of a share
D Dividend per share
E Earnings per share
r The rate of return on the firms investment

11. Sr. Name of the Topic Author Brief about the Paper
No Paper
1. Effects of Rabindra 1.There is a significant effect of dividend policy
Dividends on Joshi on stock prices of the companies in both banking
Stock Prices and non-banking sector.
in Nepal 2.Walter's model has 4 basic assumptions :
a.Retained earnings are only source of finance
available for a firm.
b.Cost of capital and Rate of Returns are
assumed to be constant and thus any additional
investments made by firm will not change its risk
profile.
c.Firm has infinite life.
d.DPS and EPS for a given value of the firm,
remains constant
3.The Walters model explains the three
possibilities :
a.rate of return = cost of equity ->the dividend
policy is irrelevant in deciding the value of the
firm.
b.rate of return < cost of equity -> 100% payout
helps in increasing value of the firm.
c.rate of return = cost of equity -> the firm can
retain the earnings for further investments
4.According to various researches conducted by
taking the stock prices if the companies as
dependent variable and dividends per
share,retained earnings per share,market price per
share as dependent variable, it was found that
dividends have a significant effect on the stock
prices and the value of the firm.
5.Generally, people who come below the income
tax range are interested in higher dividends
whereas those with higher incomes prefer low
dividends for tax purposes.
6.The retained earnings are not taxed until the
earnings are realized.The shareholders enjoy tax
advantage in retained earnings.

12. Sr Name Topic Author Summary
No.
The Level Of To Study Bitok Kibet, Moi The objective of this study was to
Corporate Dividend University, Kenya determine the level of corporate
Dividend Pay Policy of Tenai Joel, Moi dividend payout to stockholders and
out to Sensex University, Kenya establish if the optimal dividend
Stockholders: Companies Cheruiyot policy exists for the firms quoted at
Does Optimal using Walter's Thomas, Moi the Nairobi Stock Exchange.
Dividend Policy Model. University, Kenya The dividend model provides a
Exist For Firms Maru Loice, Moi summary of the factors that
Quoted University, Kenya influenced and continue to influence
At The Nairobi Kipsat Mary, Moi the dividend decisions for this market
Stock University, Kenya. including and not limited to the tax
Exchange? systems, clientele preferences,
signaling, sustainability, low liquidity,
high growth, ownership control and
dividends as residual etc. From the
model it is possible to predict the
likely dividend decisions of the firms
in future.

13. Sr Name Topic Author Summary
No.
Dividend Policy: To Study Husam-Aldin This paper aims at providing the reader
A Review of Dividend Nizar Al- with a comprehensive
Theories and Policy of Malkawi, understanding of dividends and dividend
Empirical Sensex Michael policy by reviewing the main theories and
Evidence. Companies Rafferty, explanations.
using Walter's Rekha Pillai. The Basic Irrelevance Thesis
Model. Bird-In-The-Hand Hypothesis
Tax-EffectHypothesis
This paper began with an overview of the
evolution of corporate dividend policy. It
was noted
that dividend policy has been bound up
with the development and history of the
corporation itself. The
paper also presented the basic argument
and M&M proof of dividend irrelevancy.
The paper then
explored the main theories that counter
the irrelevancy proposition. In order to
provide an
understanding of dividend policy theories,
attempted to explain the basic argument
for each theory followed by the most
important empirical evidence on testing of
these theories.

14. Sr. Name of the Topic Author Brief about the Paper
No Paper
1 THE EFFECT To study Dr. J. J. -The objective of this research paper is to examine the
OF DIVIDEND the dividend Adefila possible effects that a firm’s
POLICY ON dividend policy might have on the market price of its
policy of
THE MARKET common stock and also, those factors that influence
Sensex firm’s dividend policy in general.
PRICE OF
Companies - The objective of the firm is to increase the wealth of
SHARES IN
using its stockholders. Hence the best dividend policy is the
NIGERIA: one that increases shareholders wealth by the greatest
CASE STUDY Walters amount.
OF FIFTEEN model. - Walters Model is a strategy that is used to study the
QUOTED Dividend policy of a company and its effect on the
COMPANIES market share price.
-It is based on : where the reinvestment rate, that is,
rate of return that the company may earn on retained
earnings, is higher than cost of equity then, it would be
in the interest of the firm to retain the earnings.
-If the company’s reinvestment rate on retained
earnings is the less than shareholders’
rate of return, the company should not retain earnings.
-If the two rates are the same, then the
company should be indifferent between retaining and
distributing.

15.  We have taken the sample of the Sensex companies as our
sample which includes 30 companies. We will be taking the
Market share price as the independent variable and the other
variables like dividend per share, earning per share and rate
of return and independent variables.
 We will be analysing the effect of the Walter’s Dividend
Policy on the share prices of these sensex companies.
 Data is obtained from :
Money control
Ace Equity Analyzer

16.  EPS
 Rate of Return
 Cost of Capital
 Dividends Payout Ratio

17.  EPS : Rs. 22.02
 r=17.26%
 D1 = 215%(Face Value = 2 Rs) = Rs. 4.30
 g = 10%
 Po =436.35 (Year 2011)
 Ke= 4.30/436.35 = 0.0098+0.10=.11
r>ke

18. P = 4.30 + .1726/.11(22.02-4.30)
.11
=Rs.291.85
Share Price –Year 2011
= 436.35
Share Price -Year 2012
=Rs. 536

19.  EPS : Rs. 22.02
 r=17.26%
 D1 = 300%(Face Value = 2 Rs) = Rs. 6
 g = 10%
 Po =436.35 (Year 2011)
 Ke=17.26%

20. P = 4.30 + .1726/.1726(22.02-4.30)
.1726
=Rs.127.59
 D=400%
P=Rs. 127.59

21. Share Price : Rs. 2245 (As on 20th May 2012)
EPS : Rs. 119.09
r = 55.43%
D1 = 2250% (Face Value = 2 Rs) = 45 Rs.
g = 22.22%
Po = Rs.2245
Ke = (45/2245) + .2222 = .2024

22.  P = 45+ .5543/.2024(119.09 – 45)
.2024
Expected Price of Share in May 2013 = 887.20

23. The following assumptions do not hold true
always :
1. No External Financing
2. Constant rate of return,
3. Constant Cost of Capital, k

24.  I. M. Pandey “ Financial Management “
 Moneycontrol.com
 Ace Analyzer
 www.money.rediff.com