Question

Wentworth Farms recently announced that it would make a share issue at $9.80 a share. The
company has been paying an annual dividend on its shares of $0.25 per annum since it was
established five years ago. The company recently announced that higher profits to be generated
by improvements to several farm properties it has been undertaking over the last two years
would result in higher earnings and dividends in the future. The capital raised from the share
issue would assist in funding further improvements in existing farm properties. As a shareholder
in the company you have been monitoring the company’s performance closely and are
considering subscribing to the new share issue. You expect the company will increase dividends
by 20% in the coming year, then by 40% in the following year, 30% in the third year, and 15% in
the fourth year. Thereafter, you expect dividends to grow at 7% per annum for the foreseeable
future reflecting the long-term average growth rate for agricultural businesses.What value would
you place on the company’s shares given you require a return of 12% per annum? Would you
subscribe to the new share issue?

Answer 1

Value=Present Value of Dividends=0.25*(1.2/1.12)+0.25*(1.2/1.12)*(1.4/1.12)+0.25*(1.2/1.12)*(1.4/1.12)*(1.3/1.12)+0.25*(1.2/1.12)*(1.4/1.12)*(1.3/1.12)*(1.15/1.12)+0.25*(1.2/1.12)*(1.4/1.12)*(1.3/1.12)*(1.15/1.12)*(1.07/(12%-7%))=9.929846939

As the share is issued at lesser price, one would subscribe to the new share issue