In doing a five-year analysis of future dividends, the Dawson Corporation is considering the following two plans. The values represent dividends per share. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods.
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| Year | Plan A | Plan B | ||||||
| 1 | $ | 1.80 | $ | .30 | ||||
| 2 | 1.80 | 2.00 | ||||||
| 3 | 1.80 | .50 | ||||||
| 4 | 2.20 | 6.00 | ||||||
| 5 | 2.20 | 1.50 | ||||||
| a. |
How much in total dividends per share will be paid under each plan over five years? (Do not round intermediate calculations and round your answers to 2 decimal places.)
|
| Total Dividends | ||
| Plan A | $ | |
| Plan B | $ | |
| b-1. |
Mr. Bright, the Vice-President of Finance, suggests that stockholders often prefer a stable dividend policy to a highly variable one. He will assume that stockholders apply a lower discount rate to dividends that are stable. The discount rate to be used for Plan A is 12 percent; the discount rate for Plan B is 15 percent. Compute the present value of future dividends. (Do not round intermediate calculations and round your answers to 2 decimal places.)
|
| Present Value of Future Dividends | ||
| Plan A | $ | |
| Plan B | $ | |
| b-2. | Which plan will provide the higher present value for the future dividends? |
| Plan A |
Explanation:
a.
| Plan A total dividends | = | $1.80 + 1.80 + 1.80 + 2.20 + 2.20 |
| = | $9.80 | |
| Plan B total dividends | = | $.30 + 2.00 + .50 + 6.00 + 1.50 |
| = | $10.30 |
b-1.
| PV Plan A | = | $1.80 / 1.121 + $1.80 / 1.122 + $1.80 / 1.123 + $2.20 / 1.124 + $2.20 / 1.125 |
| = | $6.97 | |
| PV Plan B | = | $.30 / 1.151 + $2.00 / 1.152 + $.50 / 1.153 + $6.00 / 1.154 + $1.50 / 1.155 |
| = | $6.28 |
b-2.
Plan A will provide the higher present value of future dividends. Shareholders generally prefer certainty to uncertainty and Plan A provides more predictability than Plan B. This is reflected in the higher discount rate for B.
|
Calculator Solution:
| b-1. |
| Plan A |
| Press the following keys: CF, 2nd, CLR WORK. |
| Calculator displays CF0, enter 0, press the Enter key. |
| Press down arrow, enter 1.80, and press Enter. |
| Press down arrow, enter 3, and press Enter. |
| Press down arrow, enter 2.20, and press Enter. |
| Press down arrow, enter 2, and press Enter. |
| Press NPV; calculator shows I = 0; enter 12 and press Enter. |
| Press down arrow; calculator shows NPV = 0. |
| Press CPT; calculator shows NPV = 6.97 |
| Plan B |
| Press the following keys: CF, 2nd, CLR WORK. |
| Calculator displays CF0, enter 0, press the Enter key. |
| Press down arrow, enter .30, and press Enter. |
| Press down arrow, enter 1, and press Enter. |
| Press down arrow, enter 2.00, and press Enter. |
| Press down arrow, enter 1, and press Enter. |
| Press down arrow, enter .50, and press Enter. |
| Press down arrow, enter 1, and press Enter. |
| Press down arrow, enter 6.00, and press Enter. |
| Press down arrow, enter 1, and press Enter. |
| Press down arrow, enter 1.50, and press Enter. |
| Press down arrow, enter 1, and press Enter. |
| Press NPV; calculator shows I = 0; enter 15 and press Enter. |
| Press down arrow; calculator shows NPV = 0. |
| Press CPT; calculator shows NPV = 6.28 |
| Appendix Solution: |
b-1.
Plan A
| Dividend per Share | × | PVIF (12%) | PV | |||||||
| 1 | $1.80 | .893 | $ | 1.61 | ||||||
| 2 | 1.80 | .797 | 1.43 | |||||||
| 3 | 1.80 | .712 | 1.28 | |||||||
| 4 | 2.20 | .636 | 1.40 | |||||||
| 5 | 2.20 | .567 | 1.25 | |||||||
| Present value of future dividends | $ | 6.97 | ||||||||
Plan B
| Dividend per Share | × | PVIF (15%) | PV | |||||||
| 1 | $ | .30 | .870 | $ | .26 | |||||
| 2 | 2.00 | .756 | 1.51 | |||||||
| 3 | .50 | .658 | .33 | |||||||
| 4 | 6.00 | .572 | 3.43 | |||||||
| 5 | 1.50 | .497 | .75 | |||||||
| Present value of future dividends | $ | 6.28 | ||||||||
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