Maryam Ehsan Assignment 2

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Q # 01:

a) Omnia foods currently pay a dividend of Rs 2. The growth rate which is currently 20 % is
expected to decline linearly over the next 10 years to a stable rate of 5 %. The required rate
is 12 %. Calculate the current value of Omnia Foods Company.

b) You have recently joined UOL Financial Brokerage Firm as an analyst. Your manager is
interested in understanding Fama French Three Factor Model. He knows the following
formula of Fama French Three Factor Model. Kindly write a brief note which explains the
model for better understanding of your manager. He also wants to know the applicability
of model for valuation.

RRR = Rf + beta1 x ( Rm - Rf ) + beta2 x SMB + beta3 x HML

Ans (b) . This is an asset pricing model that expands on the capital asset pricing model
by adding the size risk and value risk factors to the market risk factor. This model aims to
describe returns through 3 factors:

1. Market Risk
2. Company Size (Outperformance of small-cap companies relative to large-cap
companies. )

3. The difference between high book value companies and low book value companies.

In the given formula;

Market risk premium (Rm-rf) provides the investor with an excess return above risk free
rates.

SMB: is commonly known as the size effect. The side effect is based on the market
capitalization of a company, that is SMB. This can have negative or positive values as it is
calculated through regression analysis. The point of adding this in the formula is to know
whether larger returns come from small-cap or large-cap companies.

HML: this factor shows that in the long run, growing companies have lower returns than
value companies. The HML factor is used to evaluate short term and long term profit
margins.