6 Facebook bought WhatsApp on Feb, 19, 2014 for $19 billion. This was split between $4 billion in cash, $12 billion worth of Facebook shares, and $3 billion in restricted stock units to be paid in four years. Do you think the market capitalization has played a significant role in pricing the valuation. Discuss the Walter’s model assumptions in this context.
Answer:- Prof. James E. Walter considers that dividend pay-outs are relevant and have a bearing on the share prices of the firm. He further states that investment policies of a firm cannot be separated from its dividend policy and both are inter-linked. The choice of an appropriate dividend policy affects the value of the firm.
Walter model clearly establishes a relationship between the firm’s rate of return “r” and its cost of capital “k” to give a dividend policy that maximizes shareholders’ wealth. The firm would have the optimum dividend policy that enhances the value of the firm.
Walter model can be studied with the relationship between r and k.
ï‚· If r>k, the firm’s earnings can be retained, as the firm has better and profitable investment opportunities and the firm can earn more than what the shareholders could earn by re-investing, if earnings are distributed.
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