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Financial Management EnvironmentFinancial management environmentEMHSection B

This question is part of a case study — click to read the full scenario(Case 21)

Section B - Case 2: Helios Co

Helios Co operates wind farms across Europe. It is looking to acquire a smaller competitor, Aura Ltd. To assess the acquisition, Helios needs to calculate its own Weighted Average Cost of Capital (WACC) and value Aura Ltd.

Helios Co Data:
Current share price: $4.50
Recent dividend paid (D0): $0.30
Historical dividends:
4 years ago: $0.24
3 years ago: $0.25
2 years ago: $0.27
1 year ago: $0.28

Using the historical dividend growth rate, what is Helios Co's estimated Cost of Equity (Ke) using the Dividend Valuation Model?

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ACCA · Question 24 · Financial Management Environment

Section B - Case 2: Helios Co

Helios Co's directors are debating when to announce the acquisition of Aura Ltd to the stock market. The Finance Director states: "Our share price will only react on the day we publicly announce the acquisition, because the market already reflects all publicly available historical data, but it does not yet know about our secret negotiations."

Which form of the Efficient Market Hypothesis (EMH) is the Finance Director assuming the stock market follows?

Answer options:

Weak form

Semi-strong form

Strong form

Perfect market form

How to approach this question

Match the director's description to the three forms of EMH: Weak (historical data only), Semi-strong (all public data), Strong (all public and private data).

Full Answer

B.Semi-strong form✓ Correct

The Efficient Market Hypothesis (EMH) has three forms: 1. Weak form: Prices reflect all past price movements. 2. Semi-strong form: Prices reflect all publicly available information. Prices react quickly and accurately to new public announcements. Insider information can still be used to make abnormal gains. 3. Strong form: Prices reflect all information, public and private. The director believes the market will react to the public announcement but hasn't reacted to the secret negotiations, which perfectly describes a semi-strong form efficient market.

Common mistakes

Confusing semi-strong with strong form. If it were strong form, the secret negotiations would already be priced in.

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