A company earns $5 per share; it is capitalized at a rate of 10% and has a rate of return on investments of 16%. According to Walter’s model what should be the price per share at 50% dividend pay out ratio?
Is this the optimum pay out ratio according to Walter?
(Moved to math to enable the equation editor)
1 Answer | Add Yours
Let E = earnings per share = $5.00
Let `k_e` = rate of capitalization = 10% = 0.10
Let r = rate of return = 16% = 0.16
Let DP = pay out ratio = 50% = 0.50
Let D = dividend per share
According to Walter's model:
`D = E*DP` and `P=(D+(r/k_e)(E-D))/k_e`
Substituting in what we know:
`D = (5)(0.5)=2.50`
Therefore, according to Walter's model, the price per share should be $65.
Also, according to Walter, when `rgtk_e` the optimum payout ratio is 0. Therefore, $65 is higher than the optimum price per share of $0. Essentially, this means that if the company keeps all of its earnings (no dividend), the shares will be worth the maximum market value.
Thanks very much sir.
We’ve answered 318,955 questions. We can answer yours, too.Ask a question