ACCA Applied Skills · Financial Management · Models for the valuation of shares
Delta Co has 4,000,000 shares and is valued using the earnings yield method. Its after-tax earnings are $2,400,000. A comparable company has an earnings yield of 15%. Delta then expects to retain more earnings, but there is no change in earnings. What is the value of Delta's equity?
Equity is worth $16,000,000. Under the earnings yield method, value equals earnings divided by the yield, so $2,400,000 divided by 15% gives $16m, or $4 per share. The retention change does not alter current earnings, so it does not affect this calculation.
- A$16,000,000Correct
- B$36,000,000
- C$14,400,000
- D$9,600,000
Explanation
Equity value = earnings / earnings yield = 2,400,000 / 0.15 = $16,000,000. Multiplying by 0.15 gives $360,000, and multiplying by 15 is wrong. Dividing by the shares ($4.00 per share) confirms 4,000,000 x $4.00 = $16m. The retention policy is irrelevant to this earnings-based valuation.
Did you get it right without looking?
One question tells you little. A timed set on Models for the valuation of shares shows your real accuracy, how long you take and where you lose marks.
More Models for the valuation of shares questions
- Helix Co has non-current assets with a book value of $8.0m, expected to sell for $6.5m, and inventory and receivables of $4.0m, expected to …
- Which of the following is a recognised weakness of valuing a company using the dividend valuation model?
- Which of the following is the main weakness of valuing a going-concern company on its net asset value alone?
- Kappa Co has just paid a dividend of $0.40 per share. Dividends are expected to grow at 5% a year indefinitely. Kappa's cost of equity is 13…
- Zeta Co expects free cash flow to equity (FCFE) of $2.40 million next year, growing at a constant 4% a year indefinitely. Its cost of equity…
- Orion Co has earnings of $1,500,000 and 3,000,000 shares in issue. A similar listed company trades on a P/E ratio of 12. Orion is unquoted, …