Which combination of the following represents the assumptions of the Walter’s dividend model ? I. The company has a very long or perpetual life. II. All earnings are either reinvested internally or distributed as dividend. III. There is no floatation cost for the company. IV. Cost of capital of the company is constant. Codes :
Walter's Dividend Model Assumptions
The Walter's dividend model evaluates the impact of dividend policy on the value of a firm. It relies on several key assumptions to function:
Core Assumptions
- I. Perpetual Life: The model assumes the company operates indefinitely, having a very long or infinite lifespan. This allows for the long-term impact of reinvestment decisions to be considered.
- II. Complete Earnings Allocation: It is assumed that all company earnings are either distributed to shareholders as dividends or reinvested back into the business. There are no other uses or outcomes for the earnings.
- IV. Constant Cost of Capital and Return Rate: The model assumes that both the cost of capital for the company (denoted as $k_e$) and the rate of return the company earns on its investments (denoted as $r$) remain constant over time. The relationship between $r$ and $k_e$ determines whether the firm should retain or distribute earnings to maximize shareholder value.
Other Considerations
Assumption III, regarding the absence of flotation costs, is not a fundamental assumption inherent to the basic Walter's model formulation. The model primarily focuses on the internal reinvestment of earnings and its effect on valuation, implicitly assuming that necessary funds for reinvestment come from retained earnings without incurring external financing costs like flotation costs.
Therefore, the assumptions represented by statements I, II, and IV are the core tenets of the Walter's dividend model.
Important Questions from Dividend decision
Declared and paid dividend Rs. 7,00,000 is
Which of the following assumptions form the basis of the MM Hypothesis in stating irrelevance of capital structure regarding the weighted average cost of capital remaining constant?
(A) Perfect capital markets
(B) Heterogenous risk class
(C) Absence of taxes
(D) Full dividend payout
(E) Same expectation of firm's EBIT with which to evaluate the value of a firm
Choose the correct answer from the options given below
The formula \(P_0=\frac{D}{K}+\frac{\frac{R}{K}(E-D)}{K}\) (Where P0 is market price of shares, E is earning per share, D is dividend per share, R is rate of Return and K is cost of equity) for determining the dividend of the firm has been given by: :
Given below are two statements, one labelled as Assertion (A) and the other labelled as Reason (R). Read the statements and choose the correct answer using the code given below.
Assertion (A): As per M-M hypothesis the value of the levered firm is equal to the value of the unlevered firm.
Reason (R): The process of arbitrage becomes applicable in such situations.
- The earning per share for Avanti corporation is Rs. 4.0. The rate of return on investments is 16 per cent and the return required by its shareholders is 12 percent. What will be the price per share as per the Walter model, if the payout ratio is 40 per cent?
