Walter's model VS Market price of the share

Walter model was developed by the professor James E. Walter. He indicates in his model that the choice of appropriate dividend policy affects the value of the enterprise.In a sense,it implies that dividend affects the value of enterprise. He also studied the significance of the relationship between the firm’s internal rate of return (r) and cost of capital (ke) in determining such dividend policy which will accumulate the wealth of the shareholders.

He throws some assumption while dealing with it. These are-  1-Retained earnings should be source of finance which means a company doesn’t depend on external funds.

 2-The business risk should not change with additional investment undertaken that implies cost of capital and internal rate of return are constant.

 3-Earnings per share (E) and dividend per share (D) should be constant as assumed.

4-The firm has long and infinite life.

 Walter’s model for market price per share (p) computation-

P                   = D/ke+[r/Ke(E-D)]/Ke

He draws following conclusion out of the Walter model. These are-

When r> Ke

The value of share is inversely related to dividend payout ratio. As dividend ratio increases, the value of shares decline. if firms retained its earning entirely which will increase the market value of the shares. Here, the optimum payout ratio is zero.

When r<Ke

Dividend payout ratio and value of shares are positively co-related. As the dividend payout ratio increases, the market price of the shares increase. Then dividend payout ratio is hundred percent.

When r=Ke

The market value of shares are constant irrespective to optimum payout ratio.

VALUE ANALYSIS

When company, all of sudden, add or remove any feature of the product making the product even much better in same or some reduced price bring us at a point of confusion. Not even this, product’s sale is also picked up and product stands more competitive. All this happens since the value analysis pioneered. Here, we would get resolved from these confusions and get answered the questions which are blowing our mind.

Since the topic is value analysis which implies that we analyze the value of something i.e. Product or service. But before digging deeper we need to understand that how many ways a value can be defined or classified. Now, we get enough freedom of defining the value which turns the definition of the value in many folds. If we define it as a cost value, it indicates the summation of material, labour, overheads and some other cost to produce the product. But as a consumer, we can value the product by its characteristics, quality and durability. In the market, there are some other products which attract us and create the desire to purchase, having some special characteristics, even though are not useful. They can be called a product’s Esteem value. Sometimes, when product is outdated, even then, some people find it attractive enough and product gets pushed for resale in the market which is called to be an exchange value.

However, one thing has been cleared above that value analysis increases the value of an article or product. But the second thing is blurring that why does it come with the cost reduction? It can be better understood when we would go about the value analysis process even deeper.

In the value analysis process, it is first to find out the scope of the product, and then, problems are given to be emphasized. Once the scope is found, functions of the product and their items are derived as they are of paramount importance that they create the value of the product. Function is further classified as basic and secondary function. Basic function is for what product is being launched in the market. However, secondary function is to make the product more competitive in the market through adding several features. For example, today the cheapest mobile has all the features like camera, mp3, video player, radio and etc. are the secondary functions which make it more competitive in the market. But the basic function is just communication. Without this single function product can lose its identity in the market.

Value analysis matrix plays vital role to identify the high cost function ratio (which means causing high cost) as opportunity for further investigation and improvements. These improvement opportunities are then brainstormed, analyzed and selected. Value analysis matrix finds the cost contribution of each element in the function of the product which guides the team or analyst in selecting function for further improvements. Therefore, value analysis is of two folds, one is, it increases the value of the product, and second, it helps in cost reduction as well.