Expected Growth Rate of Melton Industries | CFA® Level 1 Exam Prep

Calculating the Expected Growth Rate of Melton Industries

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Question

A portfolio manager with Mally, Feasance, & Company is examining shares of Melton Industries, a large industrial firm. Assume the following information:

Annual Dividend: $0.70 -

EPS: $1.65 -

Tax Rate: 35%

Discount Rate: 13.15%

ROE: 16%

Using this information, what is the expected growth rate of this firm? Assume that the discount rate, tax rate, and ROE are expected to remain stable.

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

B

To calculate the dividend growth rate, assuming a stable ROE figure, use the following equation: {g = ROE(1 - Dividend Payout Ratio)}. While the ROE figure has been provided, the Dividend Payout Ratio must be calculated manually. To find the Dividend Payout Ratio, divide the annual dividend by the EPS figure, giving the following: {Dividend Payout Ratio = ($0.70/$1.65)}. From this equation, we determine that the Dividend Payout Ratio for this firm is 42.42%. Imputing this figure into the Dividend Growth Rate Equation will yield a growth rate of 9.21% for this firm. As you can see, neither tax rates nor discount rates are incorporated into the calculation.

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