Even Better Products has come out with a new and improved product. As a result,

Question

Even Better Products has come out with a new and improved product. As a result, the firm projects an ROE of 20%, and it will maintain a plowback ratio of 0.30. Its projected earnings are $3 per share. Investors expect a 13% rate of return on the stock.

At what price and P/E ratio would you expect the firm to sell? (Do not round intermediate calculations. Round your answers to 2 decimal places.)

What is the present value of growth opportunities? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

What would be the P/E ratio and the present value of growth opportunities if the firm planned to reinvest only 15% of its earnings? (Do not round intermediate calculations. Round your answers to 2 decimal places.)

Even Better Products has come out with a new and improved product. As a result, the firm projects an ROE of 20%, and it will maintain a plowback ratio of 0.30. Its projected earnings are $3 per share. Investors expect a 13% rate of return on the stock.

Explanation / Answer

ROE=20%
EPS=$4
plow back=.3

k(cost of capital)=13%

a)
growth=ROE*plow back=20%*.3=6%

Price= Dividend*(1+g)/(k-g)
=(3*.7)*(1+6%)/(13%-6%)=$31.8
P/E ratio= stock price/EPS
=31.8/3=$10.6

b)Stock price=no growth +pVGO
no growth

g=0
price=(3*0.7)/13%=$16.15
PVGO=31.8-16.15=$15.65

c)
growth=ROE*plow back=20%*.15=3%

Price= Dividend*(1+g)/(k-g)
=(3*.7)*(1+3%)/(13%-6%)=$30.9
P/E ratio= stock price/EPS
=30.9/3=$10.1

b)Stock price=no growth +pVGO
no growth

g=0
price=(3*0.7)/13%=$16.15
PVGO=30.9-16.15=$14.75

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