5: Valuing SharesexampleBHP Billiton, a global mining company with its primary origins in Australia, announced in mid-2012 that it
would be paying a final dividend that represented an increase of 11% on its dividend for the previous year. The
company noted that it had achieved a compound annual dividend growth rate of 26% over the previous
10 years.
BHP Billiton is, clearly, a long-surviving, successful company, but its size as the world’s largest miner, and its
maturity, tend to suggest that it will not be able to grow at the same rate as its dividend over time. Indeed, for
the year 2011–12, its profits fell relative to the previous year, due in part to some substantial write-offs.
We can use the BHP Billiton data to see how the capital markets are valuing this company relative to the
value implied by its dividend growth.
Let’s assume that investors require a 10% return on BHP Billiton shares, and that they expect the company
to continue to increase dividends by 20% per year for a time. However, let us suppose that eventually, annual
dividend growth will settle down to 4%. During 2012, a share in the company was selling for an average of $33.
If the 2012 dividend was $0.68 per share, how long would BHP Billiton have to sustain a 20% growth rate to
justify the $33 share price?
We will apply Equation 5.5 by using a trial-and-error approach to estimate how long investors expect the
20% growth rate to continue. For example, suppose they expect dividends to continue growing at that rate to- The expected dividend stream would be as follows.
Year Dividend calculation(^2012) $0.68(1 + 0.20)^1 = $0.82
(^2013) $0.68(1 + 0.20)^2 = $0.98
(^2014) $0.68(1 + 0.20)^3 = $1.18
(^2015) $0.68(1 + 0.20)^4 = $1.41
(^2016) $0.68(1 + 0.20)^5 = $1.69
(^2017) $0.68(1 + 0.20)^5 (1.04) = $1.76
Plugging these values into Equation 5.5, we have:
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Given these assumptions, the estimated price of BHP Billiton shares is two-thirds of its average market
value in 2012; so investors may be anticipating a more prolonged period of rapid dividend growth than
assumed in our calculation. We could repeat this process, extending the rapid-growth phase by a few years
each time, until the estimated price is close to the actual market price. For example, if we assume that BHP
Billiton dividends will grow at a 20% rate for 15 years, then the estimated share price is $65.41.^7P=
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An investor who believes that BHP Billiton is unlikely to achieve 20% growth in dividends for such a long
period of time may conclude that in 2012, the company’s shares were overvalued. Of course, some investors
may believe that the company’s dividends will grow rapidly for a longer period of time, and in that case, the
shares may seem like a bargain at $33.Source: http://www.bhpbilliton.com/home/investors/reports/Documents/2012/120822_BHP%20Billiton%20Results%20for%20the%20Year%20Ended%2030%20
June%202012.pdf: from BHP Billiton. Accessed 2 January 2013.7 Notice in this equation that the dividend in the fifteenth year equals $0.68(1.20)^15 , and the first dividend in the constant-growth period – i.e.,
the year 16 dividend – is just 4% more than the previous year’s dividend.