A firm earns a return on investment at the rate of 20%, earning per share is Rs. 15, the payout ratio is 50%, and the cost of equity is 12%; the market price per share as per Walter’s model is:

The correct answer is - Rs. 166.67

Key Points

• Walter’s Model Formula
  • Market Price (P) = D + (r / ke)(E − D) / ke
  • D = Dividend per share = 50% of Rs. 15 = Rs. 7.5
  • E = Earnings per share = Rs. 15
  • r = Return on investment = 20% or 0.20
  • ke = Cost of equity = 12% or 0.12
• Calculation Steps
  • Step 1: Find retained earnings = E − D = 15 − 7.5 = Rs. 7.5
  • Step 2: Multiply retained earnings with (r / ke) → (0.20 / 0.12) × 7.5 = 1.6667 × 7.5 = 12.5
  • Step 3: Add dividend → 7.5 + 12.5 = Rs. 20
  • Step 4: Divide by ke → 20 / 0.12 = Rs. 166.67
• The correct market price per share using Walter’s Model is therefore Rs. 166.67.

Additional Information

• Assumptions of Walter’s Model
  • The firm finances all investments through retained earnings only; no external financing is used.
  • The internal rate of return (r) and cost of equity capital (ke) remain constant.
  • The firm has an infinite life.
  • All earnings are either reinvested internally or paid out as dividends immediately.
• Interpretation of Walter’s Model
  • If r > ke, the firm should retain earnings (growth firm).
  • If r < ke, the firm should distribute earnings (declining firm).
  • If r = ke, dividend policy is irrelevant and does not affect market value.
• Exam Tip: Always apply Walter’s formula directly for numerical questions where all variables are provided. Avoid conceptual shortcuts unless asked theoretically.