Welcome to the hotseat. We've prepared a guide if you'd like to read more about how it works.

Module 2, Chapter 5 (Insurance Principles)

+1 vote
45 views
asked Jun 23 in BUS 1003H - Introduction to Financial Risk by Ireneus (410 points)

Exercises for 6.2.1 Insurance companiesĀ 

Ex.6.6

LifeAssure is a proprietary insurance company specialising in life assurance. Their financial year runs from 1 February to 31 January. In the year ending on 31 January 2013, they had the following results: Total premium income R550 million Total claims paid out R200 million Total expenses R50 million The total money needed to be put aside for future claims is R150 million. The directors decide to distribute 80% of the profits to shareholders as dividends. There are 6 million shares in issue, priced at R285.40 per share. Using an assumption of a 5% p.a. dividend growth and a rate of interest of 12.5% p.a., calculate the share price immediately after this dividend payment is made. Ignore tax.


How does one go about answering such a question?

1 Answer

+1 vote
answered Jun 23 by Valentine (520 points)
selected Jun 26 by Richard van Gysen
 
Best answer

The question wants you to price the share immediately after the last dividend payment. In order to do this we need to find the value of the last divided paid, \(D_0\) (or the value of the next dividend), since we have been given the dividend growth rate. The information at the start of the question tells us how to calculate \(D_0\):

First we need to profit

\(Profit = totalPremium Income - total Claims Paid - total Expenses Paid - required Reserve\)

\(Profit=550m-200m-50m-150m=150m\)

Then we need to total amount of dividends paid:

\(totalDividends=150m \times0.8=120m\)

Then we need the dividend per shareholder:

\(dividendsPerShareholder=120m/6m=R 20\)

Now we have \(D_0=20\) , \(i=0.0125\) and \(g=0.05\) so we can price the share as we did in previous sections.


...