Question

Marc Dodier is a recent university graduate and a security analyst with the Kansas City brokerage firm of Lippman, Brickbats and Shaft. Marc has been following one of the hottest issues on Wall Street, C & I Medical Supplies, a company that has turned in an outstanding performance lately and even more important, has exhibited excellent growth potential. It has five million shares outstanding and pays a nominal annual dividend of $0.05 per share. Marc has decided to take a closer look at C & I to assess its investment potential. Assume the company’s sales for the past five years have been as follows:

YEAR SALES ($ Millions) 2012 $10.0 2013 $12.5 2014 $16.2 2015 $22.0 2016 $28.5

Marc is concerned with the future prospects of the company, not its past. As a result, he pores over the numbers and generates the following estimates of future performance:

Expected net profit margin: 12%

Estimated annual dividends per share: $0.05

Number of common shares outstanding: no change

P/E ratio at the end of 2017: 35

P/E ratio at the end of 2018: 50

Determine the average annual rate of growth in sales over the past five years. (Assume sales in 2011 amounted $7.5 million)

1.Use this average growth rate to forecast revenues for next year (2017) and the year after (2018).

2.Now determine the company’s net earnings and EPS for each of the next two years. (2017 and 2018)

3.Finally, determine the expected future price of stock at the end of this two-year period.

B.Because of several intrinsic and market factors, Marc feels that 25% is a viable figure to use for a desired rate of return.

1.Using the 25% rate of return and the forecasted figures you came up with in question a, compute the stock’s justified price.

If C&I is currently trading at $32.50 per share, should Marc consider the stock a worthwhile investment candidate? Explain.

Answer 1

Computation of average annual growth in sales.

Year	Sales($ in million)	Growth(%)
2011	7.5
2012	10	33.33
2013	12.5	25
2014	16.2	29.6
2015	22	35.80
2016	28.5	29.55
Total		153.28
Average		30.66

1. Forecasted revenue for next year

Particular	2017 ($ in million)	2018 ($ in million)
Sales of Previous year	28.5	37.24
Growth rate	30.66%	30.66%
Forecasted Revenue	37.24	48.66

2. Company’s net earnings and EPS for each of the two years

Particular	2017 ($ in million)	2018 ($ in million)
Sales	37.24	48.66
Expected net profit margin	12%	12%
Net Earnings	4.47	5.84
Number of shares outstanding	5 million	5 million
EPS	$0.894 per share	$1.168 per share

3. Expected price of stock.

Particular	2017	2018
EPS	0.894	1.168
PE Ratio	35	50
Expected price of stock	$31.29	$58.4