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Indigo Pte Ltd, a company operating in the retail clothing industry, is an all equity company

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Indigo Pte Ltd, a company operating in the retail clothing industry, is an all equity company. When the company was launched on the London Stock Exchange, management issued 20 million $1 shares. Over the past years, annual dividends per share have been as follows:

Dividends year (cents)

Two years ago 24.94

Last year 26.20

Current year 27.50

Management has announced that the rate of growth in dividend payments is expected to continue into the foreseeable future. The beta value for the retail clothing industry has been estimated at 1.25 and the risk-free rate of interest and the expected return on the market portfolio are currently 4% and 12% respectively.

Required:

(a) Discuss the relevance of the cost of equity for listed companies like Indigo Pte Ltd (4 marks)

(b) Calculate the fundamental value of Indigo’s equity. (6 marks)

(c) Eagle Pte Ltd operates in the tourism industry. It plans to pay dividends of £10m next year. Dividends are expected to grow at a rate of 5% per year forever. The current market value of Eagle Pte Ltd is $100m. What is your best estimate of Eagle’s equity beta? (6 marks)

(d) Discuss the strengths and drawbacks of two models of calculating the cost of equity. (9 marks)