Valuation of Dragon PLC using Price Earnings Ratio, Discounted Cash Flow and Dividend Valuation Method

Learn how to value Dragon PLC using Price Earnings Ratio, Discounted Cash Flow and Dividend Valuation Method. Understand the problems associated with each technique and which method is recommended for Dragon PLC.

FINANCE MANAGEMENT

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................3
MAIN BODY...................................................................................................................................3
CONCLUSION................................................................................................................................3
REFERENCES................................................................................................................................4

Question: 3
Valuation of Dragon PLC
a. Price / earnings ratio
P/E ratio = Market price per share / Earnings per share
Market price per share = Current ex-dividend share price = £2.45
Earnings per share = £0.29
P/E ratio = 2.45 / 0.29 = 8.45
Value of Dragon PLC based on Price earnings multiple
= P/E ratio * Distributable earnings
= 8.45 * £40.4 = £341.38
b. Discounted cash flow method
Value of Dragon PLC can be calculated through the following formula:
Discounted Cash flow = Distributable earnings * (1 + growth rate) / cost of equity – growth rate
Distributable earnings = 40.4
Growth rate = 2.5%
Cost of equity = ?
Cost of equity = Rf (Risk free rate) + Beta * (Market risk premium – Risk free rate)
Risk free rate = 5.5%
Beta = Dragon's equity Beta = 1.05
Market risk premium = 6%
Cost of equity = 5.5% + [1.05 * (6% - 5.5%)]
Cost of equity = 5.5% + [1.05 * 0.5%]
Cost of equity = 5.5% + 0.525% = 6.025%
Discounted cash flow = 40.4 * (1 + 2.5%) / 6.025% - 2.5%
Discounted cash flow = 40.4 * 1.025 / 3.525%
Discounted cash flow = 41.41 / 3.525% = £1174.75
Therefore, value of Dragon PLC determined on the basis of discounted cash flow method is
£1174.75.
c. Dividend valuation method
Latest dividend payment D0= £14P
Dividend to be paid in year 1 D1= D0 * (1 + g) = 14 * (1 + 2.5%) = 14.35P or £0.1435

Cost of equity = Ke = 6.025%
Growth rate g = 2.5%
Value of Dragon's share P0 = D0 * (1 + g) / Ke – g
P0 = 0.1435 / 6.025% - 2.5% = 0.1435 / 3.525% = £4.07
Value of Dragon PLC = Value of share * Number of shares outstanding = £4.07 * 145 = £590.15
b.
Problems associated with above techniques are as follows:
 P/E method doesn't have any element of growth and also not take into consideration the
issues and risks associated with debt as the calculation is based on equity price only.
 With regard to DCF method, the uncertainty increases for the projection made for cash
flow when number of years are considered. Here, the valuation is done for perpetual
growth, therefore, uncertainty is much higher (Fazzini, 2018).
 Also, the constant dividend growth model used for valuation is considered to be
conservative as it does not take into account the stock buybacks.
From the above techniques, constant dividend growth model is to recommended to the
board of Dragon PLC as this method is suitable for those companies that are paying dividend at a
rising rate for many years and the same condition can be proved in case of Dragon PLC as it is
also paying dividend at a rising rate for past four year and also the latest dividend is at increasing
rate (Saksonova, Abramishivi and Papiashvili, 2020).

REFERENCES
Fazzini, M., 2018. Business valuation: Theory and practice. Springer.
Saksonova, S., Abramishivi, N. and Papiashvili, T., 2020. Business valuation: classical and
advanced methods.