Question

The DDM predicts that the intrinsic value of common shares will increase as a result of all of the following except:

		a decrease in the discount rate.
		an increase in the ROE.
		an increase in the plowback ratio.
		an increase in the dividend payout ratio.

Answer 1

DDM : Dividend discount model

P0 = D1/(ke-g)

g = b x ROE , b = plowback ratio

Decrease in discount rate : If discount rate decreases, the denominator will become smaller and so the P0 will increase.

An increase in ROE : If ROE increases, g also increases, which will make denominator smaller and so P0 will increase

An increase in plowback ratio, will increase g , so P0 will increase

An increase in dividend payout will decrease plowback ratio, which will decrease g, which will decrease P0

Answer : An increase in dividend payout ratio [Thumbs up please]