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Cozine Inc.

(a) Cozine Inc. has recently obtained a listing on the Stock Exchange. 90% of the company’s shares were previously owned by members of one family but, since the listing, approximately 60% of the issued shares have been owned by other investors.

Cozine’s earnings and dividends for the five years prior to the listing are detailed below:

Years prior to listing

Profit after tax ($)

Dividend per share (cents)

5

1,800,000

3.6

4

2,400,000

4.8

3

3,850,000

6.16

2

4,100,000

6.56

1

4,450,000

7.12

Current year

5,500,000 (estimate)

 

The number of issued ordinary shares was increased by 25% three years prior to the listing and by 50% at the time of the listing. The company’s authorised capital is currently $25,000,000 in 25¢ ordinary shares, of which 40,000,000 shares have been issued. The market value of the company’s equity is $78,000,000.

The board of directors is discussing future dividend policy. An interim dividend of 3.16 cents per share was paid immediately prior to the listing and the finance director has suggested a final dividend of 2.34 cents per share.

The company’s declared objective is to maximise shareholder wealth.

Required:

i. Comment upon the nature of the company’s dividend policy prior to the listing and discuss whether such a policy is likely to be suitable for a company listed on the Stock Exchange.
ii. Discuss whether the proposed final dividend of 2.34 cents is likely to be an appropriate dividend: о If the majority of shares are owned by wealthy private individuals; and о If the majority of shares are owned by institutional investors.

B. The company’s profit after tax is generally expected to increase by 15% per year for three years, and 8% per year after that. Cozine’s cost of equity capital is estimated to be 12% per year. Dividends may be assumed to grow at the same rate as profits.

Required:

Use the dividend valuation model to give calculations to indicate whether Cozine’s shares are currently under- or over-valued.

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