Discuss the assumptions and relevance of the constant growth dividend valuation model in equity valuation, and calculate the expected dividend next year and the intrinsic value of the share.

Question

Asked on May 11, 2026Business/Management

This business/management problem is solved step by step below, with detailed explanations to help you understand the method and arrive at the correct answer.

Accepted Answer · 2026-05-11T19:50:52.883Z

Hey letitiacassandrawiru — ready when you are. QUESTION ONE a) Discuss the assumptions and relevance of the constant growth dividend valuation model in equity valuation (8 marks) The constant growth dividend valuation model, also known as the Gordon Growth Model, assumes that dividends grow at a constant rate indefinitely. Key assumptions include: • Dividends are expected to grow at a constant rate (g) forever. • The required rate of return (r) must be greater than the growth rate (g), i.e., r > g. • The company pays dividends. • The growth rate (g) and required rate of return (r) are constant. The model is relevant for valuing mature, stable companies with a long history of predictable dividend payments and consistent growth. It provides a simple and quick estimate of a company's intrinsic value, making it useful for initial screening and comparison of similar firms. b) Calculate: i) The expected dividend next year (D1) Step 1: Identify the given values. The dividend paid last year (D_0) is GH¢0.25. The constant growth rate (g) is 6% or 0.06. Step 2: Calculate the expected dividend next year (D_1). D_1 = D_0 × (1 + g) D_1 = GH 0.25 × (1 + 0.06) D_1 = GH 0.25 × 1.06 D_1 = GH 0.265 ii) The intrinsic value of the share using the constant growth model Step 1: Identify the given values and the calculated D_1. The expected dividend next year (D_1) is GH¢0.265. The required rate of return (r) is 14% or 0.14. The constant growth rate (g) is 6% or 0.06. Step 2: Calculate the intrinsic value (P_0) using the Gordon Growth Model formula. P_0 = (D_1)/(r - g) P_0 = GH 0.2650.14 - 0.06 P_0 = GH 0.2650.08 P_0 = GH 3.3125 iii) Interpret whether an investor should buy the share if its current market price is GH¢3.20. Step 1: Compare the intrinsic value (P_0) with the current market price. The intrinsic value (P_0) is GH¢3.3125. The current market price is GH¢3.20. Step 2: Make an investment decision. Since the intrinsic value (GH¢3.3125) is greater than the current market price (GH¢3.20), the share is considered undervalued. Therefore, an investor should buy the share. QUESTION TWO a) Critically explain the concept of the multiple growth (supernormal growth) dividend model and why it is more realistic for growing companies (8 marks) The multiple growth dividend model, also known as the supernormal growth model, assumes that a company's dividends will grow at a high, unsustainable rate (supernormal growth) for a finite period, followed by a stable, lower growth rate indefinitely. This model is more realistic for growing companies because it acknowledges that companies typically experience different growth phases throughout their life cycle. Initially, a company might have rapid growth due to new products, market expansion, or competitive advantages, which cannot be sustained forever. Eventually, as the company matures, its growth rate will slow down to a more stable, long-term rate, often aligning with the industry or economic growth rate. b) Calculate the current intrinsic value of the company's shares using the multiple growth dividend model (12 marks) Given: D_0 = GH 0.60 Supernormal growth rate (g_1) = 15% for 3 years Stable growth rate (g_2) = 7% indefinitely Required rate of return (r) = 16% Step 1: Calculate the dividends during the supernormal growth period (Years 1, 2, 3). D_1 = D_0 × (1 + g_1) = GH 0.60 × (1 + 0.15) = GH 0.60 × 1.15 = GH 0.69 D_2 = D_1 × (1 + g_1) = GH 0.69 × 1.15 = GH 0.7935 D_3 = D_2 × (1 + g_1) = GH 0.7935 × 1.15 = GH 0.912525 Step 2: Calculate the dividend for the first year of stable growth (D_4). D_4 = D_3 × (1 + g_2) = GH 0.912525 × (1 + 0.07) = GH 0.912525 × 1.07 = GH 0.97649175 Step 3: Calculate the terminal value (P_3) at the end of the supernormal growth period (Year 3). P_3 = (D_4)/(r - g_2) P_3 = GH 0.976491750.16 - 0.07 = GH 0.976491750.09 = GH 10.84990833 Step 4: Calculate the present value (PV) of each dividend during the supernormal growth period. PV(D_1) = (D_1)/((1+r)^1) = GH 0.69(1+0.16)^1 = GH 0.691.16 = GH 0.59482759 PV(D_2) = (D_2)/((1+r)^2) = GH 0.7935(1.16)^2 = GH 0.79351.3456 = GH 0.58977408 PV(D_3) = (D_3)/((1+r)^3) = GH 0.912525(1.16)^3 = GH 0.9125251.560896 = GH 0.58460599 Step 5: Calculate the present value of the terminal value (P_3). PV(P_3) = (P_3)/((1+r)^3) = GH 10.84990833(1.16)^3 = GH 10.849908331.560896 = GH 6.95104677 Step 6: Sum the present values to find the current intrinsic value (P_0). P_0 = PV(D_1) + PV(D_2) + PV(D_3) + PV(

Accepted Answer · 2026-05-11T19:50:52.883Z

Hey letitiacassandrawiru — ready when you are. QUESTION ONE a) Discuss the assumptions and relevance of the constant growth dividend valuation model in equity valuation (8 marks) The constant growth dividend valuation model, also known as the Gordon Growth Model, assumes that dividends grow at a constant rate indefinitely. Key assumptions include: • Dividends are expected to grow at a constant rate (g) forever. • The required rate of return (r) must be greater than the growth rate (g), i.e., r > g. • The company pays dividends. • The growth rate (g) and required rate of return (r) are constant. The model is relevant for valuing mature, stable companies with a long history of predictable dividend payments and consistent growth. It provides a simple and quick estimate of a company's intrinsic value, making it useful for initial screening and comparison of similar firms. b) Calculate: i) The expected dividend next year (D1) Step 1: Identify the given values. The dividend paid last year (D_0) is GH¢0.25. The constant growth rate (g) is 6% or 0.06. Step 2: Calculate the expected dividend next year (D_1). D_1 = D_0 × (1 + g) D_1 = GH 0.25 × (1 + 0.06) D_1 = GH 0.25 × 1.06 D_1 = GH 0.265 ii) The intrinsic value of the share using the constant growth model Step 1: Identify the given values and the calculated D_1. The expected dividend next year (D_1) is GH¢0.265. The required rate of return (r) is 14% or 0.14. The constant growth rate (g) is 6% or 0.06. Step 2: Calculate the intrinsic value (P_0) using the Gordon Growth Model formula. P_0 = (D_1)/(r - g) P_0 = GH 0.2650.14 - 0.06 P_0 = GH 0.2650.08 P_0 = GH 3.3125 iii) Interpret whether an investor should buy the share if its current market price is GH¢3.20. Step 1: Compare the intrinsic value (P_0) with the current market price. The intrinsic value (P_0) is GH¢3.3125. The current market price is GH¢3.20. Step 2: Make an investment decision. Since the intrinsic value (GH¢3.3125) is greater than the current market price (GH¢3.20), the share is considered undervalued. Therefore, an investor should buy the share. QUESTION TWO a) Critically explain the concept of the multiple growth (supernormal growth) dividend model and why it is more realistic for growing companies (8 marks) The multiple growth dividend model, also known as the supernormal growth model, assumes that a company's dividends will grow at a high, unsustainable rate (supernormal growth) for a finite period, followed by a stable, lower growth rate indefinitely. This model is more realistic for growing companies because it acknowledges that companies typically experience different growth phases throughout their life cycle. Initially, a company might have rapid growth due to new products, market expansion, or competitive advantages, which cannot be sustained forever. Eventually, as the company matures, its growth rate will slow down to a more stable, long-term rate, often aligning with the industry or economic growth rate. b) Calculate the current intrinsic value of the company's shares using the multiple growth dividend model (12 marks) Given: D_0 = GH 0.60 Supernormal growth rate (g_1) = 15% for 3 years Stable growth rate (g_2) = 7% indefinitely Required rate of return (r) = 16% Step 1: Calculate the dividends during the supernormal growth period (Years 1, 2, 3). D_1 = D_0 × (1 + g_1) = GH 0.60 × (1 + 0.15) = GH 0.60 × 1.15 = GH 0.69 D_2 = D_1 × (1 + g_1) = GH 0.69 × 1.15 = GH 0.7935 D_3 = D_2 × (1 + g_1) = GH 0.7935 × 1.15 = GH 0.912525 Step 2: Calculate the dividend for the first year of stable growth (D_4). D_4 = D_3 × (1 + g_2) = GH 0.912525 × (1 + 0.07) = GH 0.912525 × 1.07 = GH 0.97649175 Step 3: Calculate the terminal value (P_3) at the end of the supernormal growth period (Year 3). P_3 = (D_4)/(r - g_2) P_3 = GH 0.976491750.16 - 0.07 = GH 0.976491750.09 = GH 10.84990833 Step 4: Calculate the present value (PV) of each dividend during the supernormal growth period. PV(D_1) = (D_1)/((1+r)^1) = GH 0.69(1+0.16)^1 = GH 0.691.16 = GH 0.59482759 PV(D_2) = (D_2)/((1+r)^2) = GH 0.7935(1.16)^2 = GH 0.79351.3456 = GH 0.58977408 PV(D_3) = (D_3)/((1+r)^3) = GH 0.912525(1.16)^3 = GH 0.9125251.560896 = GH 0.58460599 Step 5: Calculate the present value of the terminal value (P_3). PV(P_3) = (P_3)/((1+r)^3) = GH 10.84990833(1.16)^3 = GH 10.849908331.560896 = GH 6.95104677 Step 6: Sum the present values to find the current intrinsic value (P_0). P_0 = PV(D_1) + PV(D_2) + PV(D_3) + PV(

Discuss the assumptions and relevance of the constant growth dividend valuation model in equity valuation, and calculate the expected dividend next year and the intrinsic value of the share.

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Discuss the assumptions and relevance of the constant growth dividend valuation model in equity valuation, and calculate the expected dividend next year and the intrinsic value of the share.

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