Financial Management- related Includes sums

2. JAMES E WALTER MODEL
• Dividend influences share prices and also value of the firm
• He holds a relation between r (internal rate of return) i.e. investment
opportunities of the firm and k(cost of capital)
• R>k – retain the earnings (growth firm) (optimum dividend policy)
• R<k – distribute earnings (declining firm)
• R= k (normal firm)(investors are indifferent)

3. ASSUMPTIONS
• Retained earnings only source of finance
• Return on investment is constant
• Cost of capital is constant
• Firm has infinite life
• All earnings are distributed or reinvested in the firm
• EPS and dividend remains constant in determining the value of the firm

4. FORMULA
Market price of the share =D +r/k (E-D)
k
D- dividend per share
R-rate of return on investment
k – cost of capital
E- EPS

5. CRITICISM
No external financing
Constant rate of return
Constant opportunity cost

6. GROWTH FIRM ( R>K)
• The cost of capital and rate of return on investment of R ltd are 10% and 18%
respectively. The company has 5 lakh equity shares of Rs 10 each outstanding and
EPS are 20/-. Compute the market price per share and value of firm in the
following situations.
Use Walter model and comment
1)No retention
ii) 40% retention
iii) 80% retention

7. NORMAL FIRM (WALTER MODEL)
• EPS of N ltd is Rs 15 and rate of capitalization applicable to the company is 12%.
The productivity of earnings (r ) is 12%
Compute the market value of the companys share if the payout is a)20% b)50%
c)70%. Which is the optimum payout?

8. DECLINING FIRM (WALTER MODEL)
• The EPS of W ltd are RS 12. k is 15% and r is 9%. Compute the market price per
share using Walter formula if dividend payout is
A)25%
b)50%
c)100%
Which is ideal payout?

9. • Details regarding three companies are given below
• By using Walter model, you are required to
a)Calculate the value of equity share of each of these companies when dividend
payout is a)30% b)60% c)100%
b)Comment on result drawn
Nels Ltd Mel Ltd Gel Ltd
R=18% R=20% R=8%
K=15% K=20% K=10%
E=Rs 30 E=Rs 20 E=Rs 20

10. • Chetan ltd earns Rs 50 per share
The capitalisation rate is 15% and return on investment is 18%
Under Walter model determine
a)Optimum payout
b) The market price of the share at this payout
c)The market price of the share if payout is 40%
d)The market price of the share if payout is 80%

11. GORDON MODEL
• Relevance model
• Assumptions:
The firm is a equity firm, no external financing is used and investment financed by
retained earnings
R and k are constant
Firm has infinite life
Corporate tax doesn’t exists
Retention ration (b) once decided is constant and growth rate (g) (g=br) is constant
K>g

12. • Market Value of share(P)= D/k-g OR E(1-b)/k-br
D-dividend per share
K-cost of capital
G- growth rate = b*r
E- earnings per share
B- retention ratio
R=rate of return
Implication:
• R>k – retain the earnings (growth firm) (optimum dividend policy)
• R<k – distribute earnings (declining firm)
• R= k (normal firm)(investors prefer for current dividend exists

13. • The following data relates to dividend policy
EPS=Rs 14
Capitalisation rate-15%
Rate of return -20%
Determine market price per share under Gordon model if retention is a)40% b)60%
c)20%
• Xyz gives the following information
EPS=45/-
Cost of capital=18%
Return on investment=18%
Ascertain the market value per share using Gordon model if payout is
a)30% b)60% c)90%

14. • Perkins Ltd. Earns a profit of Rs 35 per share. The Rate of capitalisation is 15% and
the productivity of retail earnings is 10%. Using Gordon model determine the
market price per share if the pay-out is a) 20% b)40% c)70%

15. • The following data relates to Bailey Limited
Rate of Return =12%
Earnings per share = Rs.60
Find out the market share per share in the following cases using Gordon model
Dividend Pay out Retention Cost of Capital
(i) 25 75 20 %
(ii) 50 50 15 %
(iii) 80 20 10 %

16. • Calculate the market price of share of ABC ltd under
a)Walters Model
b)Dividend Growth Model
EPS- Rs 75
Dividend per share – Rs 45/-
Cost of Capital -15%
Rate of return on investment- 18%
Retention ratio – 40%