- CFA Exams
- CFA Level I Exam
- Topic 5. Equity Valuation
- Learning Module 23. Discounted Dividend Valuation
- Subject 1. Streams of Expected Cash Flows
CFA Practice Question
An investor is attempting to value a company. Use of DDM is appropriate when:
II. The company maintains a steady payout ratio.
III. The investor is trying to know if he can acquire controlling stake in the company.
IV. Free cash flows are expected to be positive.
I. The company maintains a steady (in dollar terms) dividend payments policy (i.e., $1 each quarter), regardless of the company's profitability.
II. The company maintains a steady payout ratio.
III. The investor is trying to know if he can acquire controlling stake in the company.
IV. Free cash flows are expected to be positive.
A. II only
B. II and III
C. I and IV
Explanation: DDM is suitable when dividends are linked to profits (i.e., steady payout ratio), and an investor do not take a control perspective. IV is not relevant in the decision.
User Contributed Comments 1
| User | Comment |
|---|---|
| yxten1 | DDM is applicable even company is not paying dividend. This is due to the fact that dividend is cumulative and it is just a matter of time before company starts paying it out. |