Dividend Discount Model Assignment Report

Running head: REPORT 0
RIO TINTO
APRIL 15, 2020
STUDENT DETAILS

REPORT 1
Contents
Rationales for selection of company and selection of Dividend Discount Model (DDM) –...................2
Brief overview of Rio Tinto............................................................................................. 2
Suitability of Dividend Discount Model (DDM) for Rio Tinto..................................................2
Justification for the decision on the number of stages of dividend growth.....................................3
Determination of dividend growth rate -................................................................................. 4
Method of estimating dividend growth rate..........................................................................4
Workings of deriving dividend growth rate..........................................................................5
Estimation of required rate of return using OLS method and interpretation of estimation results –.........6
Specification and estimation of the model...........................................................................6
Discussion of the estimated results.................................................................................... 8
Calculation of Intrinsic value of Rio Tinto –............................................................................8
Discussion and conclusion.................................................................................................. 9
Summary of estimation results......................................................................................... 9
Analysis of CAPM and Dividend Discount Model...............................................................10
References................................................................................................................... 12

REPORT 2
Rationales for selection of entity and selection of DDM –
The rationales for choosing Rio Tinto as a company and dividend discount model are discussed
below:
Brief overview of Rio Tinto
Rio Tinto is listed mining as well as exploration organisation in Australia and United Kingdom.
Rio Tinto operates its business of mining, finding and processing mineral sources. It is second
biggest metal & mining company of the world, after BHP Billiton. The entity is registered
at London Stock Exchange as well as ASX. It has joint headquarters in both
Melbourne (‘Limited’ in Australia) as well as London (international & ‘PLC’). The divisions of
the organisation include aluminium, energy and minerals, Iron Ore, Copper, and Diamond, along
with different functions. It can see that the company also runs the business of the By-products,
such as gold, lead along with silver. It runs business of iron ore and supplies international sea
borne iron ore trade. The operations related to Iron Ore are placed in Pilbara area of Western
Australia. It can see that operations cover about 5 iron ore products along with 4 port terminals.
The business of aluminium covers alumina refinery, aluminium smelters, as well as bauxite
mines. The bauxite mines are situated in Brazil, Guinea along with Australia. The Copper &
Diamond division has managed several operations in Canada, Mongolia, USA, and Canada.
Additionally, the company runs its non-administrated operations in Indonesia along with Chile.
On the other hand, the energy and minerals segment contains refining, mining, as well as
marketing processes through the subdivisions involving borates, pellets, titanium dioxide, iron
ore concentrate along with uranium (Reuters, 2019).
Suitability of Dividend Discount Model for Rio Tinto
Dividend discount model is considered as quantitative methodology. This method is useful to
determine the stock’s price based on assumption that current price is worth sum of
upcoming dividends while discounted again to PV. This model helps to determine FV of stock
regardless unusual marketing condition and considers dividend pay out elements along with
expected return of marketplace. In a case while value determined from DDM is less in
comparison of current stock price, in that case the stocks are overvalued. In this way, the
overvalued stocks are qualified for purchase, and vice-versa (Bask, 2019).

REPORT 3
Further, DDM is suitable valuation methodology for Rio Tinto. It uses DDM for calculating its
intrinsic value because of theory that stock’s price is weighty of amount of discounted future
payment of dividend. It can see that at a time of making long-term investment, this can be
rationally found that only cash flow received from publicly traded company like Rio Tinto would
be dividends, until selling of stocks. The DDM is appropriate model for a company to determine
worth of the stocks. In different terms, the dividend discount model is considered as method of
valuation method to get intrinsic value through discounted expected dividend that Rio Tinto
would be providing (to shareholder in upcoming period) to the PV (Agosto, Mainini and
Moretto, 2019).
Furthermore, by using the dividend discount model, Rio Tinto discusses that stock’s value has to
be PV of expected dividend above the period. In this way, this model can be seen as strength of
company. This model is useful method for Rio Tinto to evaluate the stocks, for the reason that it
is direct as well as easy method of the valuation of stocks. It states how value of stock can be
determined by easy approach of discounting future cash flow.
Justification for choice regarding number of dividend growth’s level
It can see that three-stage model utilises the expected rate for discounting future income of
dividends. It renders the present value. Three-stage dividend discount model is much like its
unpretentious complements, like two-stage model, H-Model along with Gordon Growth Model.
In actual, three-stage model is fundamentally the mixture of the above-discussed three models,
which is aimed at eliminating certain drawbacks essential to these formulas (Gacus and Hinlo,
2018).
The Gordon Growth Model is the basis for all of these discount formulas. However, the main
shortcoming of Gordon Growth Model is its inherent straightforwardness. It is found that this
model is not specifically correct for the reason that it supposes that dividend grows at the
constant rate continually. On the other hand, the H-Model as well as two-stage model permits to