ACCA Financial Management (F9) Certification Practice Exam

The annual income in the Dividend Valuation Model is represented by what financial instrument?

1. The expected capital gains

2. The expected dividend every year in perpetuity

3. The company's net profit

4. The total revenue generated

The correct answer is: The expected dividend every year in perpetuity

In the Dividend Valuation Model (DVM), the annual income is represented by the expected dividend every year in perpetuity. This model specifically focuses on the cash flows that shareholders receive in the form of dividends, assuming that these payments continue indefinitely. The underlying premise of the DVM is that the value of a stock can be determined by estimating the future dividends and discounting them back to their present value. By focusing on dividends, the model aligns well with how investors typically assess the attractiveness of an equity investment—through the income that they can expect to receive from their investment over time. Other choices, such as expected capital gains or net profit, do not represent the annual cash flows received by shareholders. Capital gains are a result of selling the stock for more than it was purchased and are not guaranteed income. Similarly, net profit reflects the overall profitability of the company, but it may not correlate directly with the amount that is distributed to shareholders in the form of dividends. Lastly, total revenue generated does not provide insight into the actual income received by shareholders, as it includes all sales before accounting for costs and expenses. Thus, option B accurately reflects the focus of the Dividend Valuation Model on the expected dividends, making it the correct answer.