Mile High Airlines Valuation

Valuation of Mile High Airlines

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Question

A portfolio manager with Churn Brothers Brokerage is trying to determine whether shares of Mile High Airlines are fairly valued. In his analysis, the portfolio manager is using the two-stage dividend discount model, and has ascertained the following information:

Mile High Airlines is expected to grow at a rate of 20% per year for the next four years.

At t5, Mile High Airlines is anticipated to return to its long-term growth rate of 10% per year. D0 = $0.44 r = 15.75% per year

Common shares outstanding = 1,500,000

Given this information, what is the value of Mile High Airlines? Use the two-stage dividend discount model.

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Explanations

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A. B. C. D. E. F.

E

The multi-stage dividend discount model is a more realistic way of valuing fast-growing companies that pay dividends. With this model, it is necessary to estimate the above average, or "supernormal," rate of growth, as well as the long-term rate of growth. Once these growth rates have been determined, they are used to calculate the anticipated annual dividends leading up to the point at which the growth rate decelerates to the long-run rate of growth.

Incorporating the given information into the two-stage dividend discount model will yield the following

P = {[$0.44 * 1.20) / 1.1575] + [($0.528 * 1.20 / 1.33981] + [($0.6336 * 1.20) / 1.55083] + [($0.76032 * 1.20) / 1.79508] + [($0.91238 * 1.10) / (.1575 - .1)]/1.55083} which can further be developed into:

P = {$0.45616 + $0.4729 + $0.49027 + $0.50827 + $9.72} = $11.65

As you can see, the number of common shares outstanding was not necessary in this instance, and was provided largely as a distraction. However, in some cases knowing the number of common shares outstanding will be necessary in order to convert a company's dividends paid to a per-share basis.

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