Management and Organizational Studies 3311A/B Chapter Notes - Chapter 13: Operating Leverage, Dividend Policy, Risk Premium

• School: Western University
• Department: Management and Organizational Studies
• Course: Management and Organizational Studies 3311A/B
• Professor: Lucas Thung

Document Summary

This chapter is about the appropriate discount rate when cash flows are risky. The dividend growth model approach: using the dividend growth model formula, rearrange to solve for re= (return on equity) o. Estimating g: example: 1) historical method, one method for estimating the growth rate is to use the historical average. Take the percentage change for each year divided by the first year (2d year-1st year)/ first year. Add up all the averages by the number of percent changes. 5 years, you would have 4 percent changes: 2) for companies with stable dividend policies. To use, company must have a stable roe and stable dividend policy and is not planning on raising new external capital then use. If they give you pay out ratio = 35%, then retention ratio would be 1-. 35% Advantages and disadvantages of the dividend growth model: pros: Easy to understand and use: disadvantages. Only applicable to companies currently paying dividends.