Finc2011 Major Assignment Essay

Executive summaryWoolworths Limited (WOW), which is one of the listed companies in Australian Security turn (ASX) (ASX 200), is the largest super grocery in Australia (Kruger 2013), it specializes in the groceries, food and retailing (WOOLWORTHS LIMITED (WOW) 2013). The contain of this report is to estimate and determine the dividend growth commit, stock travel by and current share price of Woolworths. Methods used for the estimation include dividend growth model, Capital summation Pricing Model (CAPM) and Gordons Growth Model. The results of the estimation indicate that the dividend payments willing continuous increasing in the future, the return on the companys assets is likely and its share price is expected to rise.In addition, recommendations associated with the enthronization decision will be provided to the public couchors regarding to the take a chances in the market by comparing with companies within the corresponding industry. However, there are still a number of limitations of the report such as a few assumptions are made for calculations and limitations due to the difference of adventure free yard.Calculation of Growth RateThe approach used to estimate the growth ordinate (g) for dividend payments of Woolworths is g = Ploughback Ratio x flow on justice (ROE)Ploughback Ratio = 1 Payout RatioIn which, payout ratio refers to the ratio of dividends to earnings per share (EPS) (Brealey, Myers and Allen 2011). Souce http//www.woolworthslimited.com.au/annualreport/2012/pdf/WW_AR12_Full.pdfBased on the figures above, the growth rate (g) for the 2012 should be g = (1 0.8528) x 0.2722 = 4.01%In order to figure out a more accurate growth rate, the honest should be taken from 2008 to 2012. As it is shown in the table, the average g = 7.68%.According to Woolworths annual report (2012), the payout ratio is quite stable, despite there is a sudden increase in 2012 hence, we could assume that the dividend payout ratio is constant. Meanwhile, altho ugh Woolworths Return on Equity (ROE) shows a slight decrease from 2008 to 2012, it is still fairly steady close to 28%. Since both of two assumptions constant dividend payout and return on equity are satisfied (Mellare 2013), g = Ploughback x ROE is suppose to be an appropriate method to estimate the dividend growth rate for Woolworths.Calculation of involve return using CAPMCapital Asset Pricing Model (CAPM) is a method used to measure the take chances and return of an asset, which describes that each expected take chancesiness premium of an asset should rise in proportion to its beta (Brealey, Myers and Allen 2011)In which, ri refers to the return on asset, rf refers to the risk free rate of return, beta is the covariance and (rm-rf) is the market risk premium (Brealey, Myers and Allen 2011).To begin with, risk free rate (rf) should be determined. Generally, 10 years judicature bonds rate is considered to be risk free rate as it is commonly believed that a government wou ld be unlikely to default on its obligations (McNickle 2011). However, it does not mean that government bonds face no risks, it still recreate inflation and interest rate risk (Brealey, Myers and Allen 2011).Source http//www.rba.gov.asu/statistics/tables/xls/f02d.xls?accessed=2013-05-22-21-18-20According to the Capital Market Yields 10 years Government Bonds provided by Reserve Bank of Australia (2013), the 10-year government bond rates in 21th May 2013 is 3.26%, which should be used as the risk free rate (rf) for the calculation of CAPM.Sourcehttp//www.ato.gov.au/super/content.aspx?menuid=0& atomic number 101=/content/60489.htm&page=36&H36However, those may argue that based on the historical data from Australian Taxation Office (2013) the table above, the average of risk free rate from 2003 to 2012 is calculated to be 5.34%, which should be the risk free rate for the calculation instead of 3.26%. Nevertheless, since the risk free rate is always changing, in order to estimate the return for asset more accurately, the current risk free rate 3.26% is supposed to be taken for the estimation.In this stage, the risky needful return (rm), the same as market return, should be calculated. Stock market indication is an approach to evaluate the value of stock market and S&P/ASX 200 is the most significant stock market index which tracks the performance of two hundred big Australian corporations (Australia Stock Market (S&P/ASX 200) 2013). Currently, S&P/ASX 200 is a primary share market index in Australia which replaced the All Ordinaries in April 2000 and has become the benchmark for investment for the Australian Securities Exchange (ASX) (ASX 200 2013). Therefore, S&P/ASX 200 is the best indicator of the market return and used to determine the market return. Sourcehttps//blackboard.econ.usyd.edu.au/bbcswebdav/pid-636137-dt-content-rid-201558_2/courses/FINC2011_SEM1_2013/All%20Ords%20Accumulation%20Indices.xlsBased on the data from S&P/ASX 200 Accumulation index ( daily), which is provided by Mellare (2013), the yearly index could be calculated by averaging all of the daily indexes for that year. periodic market return (rm) can be determined byIn which, old market index refers to the index for year t and new index is the index for year (t+1).A table for the calculation of market return will be created in a similar way with the S&P/ ASX200 table (see Appendix 1) for the periods of 10years in order to comply with ASX.Due to the prices in 2013 is not completed, the market return for financial year (FY) 2012 cannot be estimated reliably. Importantly, averaging rm for 10 years from FY 2002 to FY 2011 is significant for the purpose of determining a more accurate figure. As a result, rm = 8.31%. Because rm is the sum of the risk free interest rate (rf) and a premium for risk (Brealey, Myers and Allen 2011), the risk premium, as a part of CAPM equation, can be calculated through rm = rf + risk premium risk premium = rm rfBased on the previous anal ysis, rf = 3.26% and rm = 8.31%, risk premium = 8.31% 3.26% = 5.09%. According to the report from last year, the market risk premium is estimated to be 6.0% in October (Michael, Blake and Zolotic 2012), the estimated value of 5.09% is reasonable.According to the financial information from Reuters (2013), Woolworths beta () = 0.34. Therefore, by applying CAPMCalculation of Next Dividend PaymentThe next dividend payment should be determined by usingIn which, d0 is the current dividend payment, d1 is the dividend for the next financial year and g is the growth rate.Soucehttp//datanalysis.morningstar.com.au.ezproxy1.library.usyd.edu.au/af/company/dividendhistory?ASXCode=WOW&xtm-licensee=datThe table above shows the dividend history of Woolworths (Morningstar 2013). Since, the full(a) dividend payment in 2012 is $67+59 = $126 cents/$1.26 per share, which should be d0, and the growth rate is estimated to be 7.68% in the previous calculations, d1 = 1.26*(1+7.68%) = $1.36, which is the to tal dividend payment for 2013. As the interim dividend for 2013 has already paid on 26/04/2013, the final dividend for 2013 which is the next dividend payment should be $1.360.62=$0.74 per share.Determination of Expected Current Share PriceThe constant divident growth model, which is Gordons Growth Model, is used for estimating the current share price In which, P0 refers to the current share price, d1 is the divident payment for the next year, re is the required rate of return and g is the growth rate.In order to calculate the current price P0, firstly, d1 need be calculated which should be the dividend for the next year 2014. Hence, d1 = 1.36*(1+7.68%) = $ 1.46As required rate of return (re) consists of both capital gains and dividend yields (Mellare 2013) and capital gains is the same as g (Mathis 2001), re = capital gains (g) + dividend yields.Souce http//www.woolworthslimited.com.au/annualreport/2012/pdf/WW_AR12_Full.pdfAccording to the historical data from annural report of Wo olworth (2012), taking the average of all of the dividend yields for the last five years from 2008 to 2012, the dividend yield = 3.8808%. Therefore, re = 7.68% + 3.88% = 11.56%Lastly, the expected current share price in 2013 isP0 = 1.46/(11.56%-7.68%) = $ 37.63Recommodation and DiscussionInvestment decisions are rely on the return and risk associated with a security. According to CAPM, actural returns are measured by beta, which is defined as a securitys sencitivity relative to the changes in the value of the market portfolio (Brealey, Myers and Allen 2011), over the long run. Beta of Woolworths Limited is 0.34 (Reuters 2013), which is a good sign as it indicates that the company is insensitive to the market risk.Comparing it with former(a) companies, Wesfarmers Limited (WES), the Perth-based conglomerate which selling food to customers (Greenblat 2013), has same situation with Woolworths in terms of growing trend of dividend payment andsharing market risk as they operates within the same industry food industriy. Beta of Wesfarmers is 0.96 (Reuters 2013),which means that Wesfarmers is more risky than Woolworths as it is as risky as the market porfolio (Brealey, Myers and Allen 2011). As well, beta of Goodman Fielder (GFF), another food company, is 0.98 (Reuters 2013), which means it shares almost the same risk with the market porfolio (Mellare 2013) realtively in the same situation with Wesfarmers. Therefore, when concerning with the risks, it is recommended to invest in Woolworths.However, under CAPM, high-beta securities will result in high return ri = rf + *(rm rf)As all of these three companies are in the same market, they share the same market risk but the proportion is different based on their beta. Although, securities of Wesfarmers and Goodman Fielder are more risky than Woolworths due to higher(prenominal) beta, they provide higher return to investors. Since investment decisions are depend on personal interests (Mellare 2013), it cannot be denied that there are a few investors prefer higher returns with higher risks. Moreover, the higher returns compensate investors for higher risk, hence, it is unlikely to determine whether invest in Woolworths is a better option.Nevertheless, investing in Woolworth is still recommended. Investing in low-risk securities provides constant and stable returns. Investing in Woolworths is worthwhile not only because Woolworths provides quite constant returns, but also its potential to growth due to its strong profitability and cash flows (WOW Woolworths Limited 2012).Overall, it is recommended to invest in Woolworths.It is important to notice that there are a number of limitations for this report. Firstly, the method used for calculating dividend growth is based on the assumptions constant dividend payout and return on equity, but in reality, both dividend payout and return on equity are unlikely to be constant. Consequently, the calculation of g may not be accurate. As well, since the 10-yea r government bond rate, which is considered as risk free