Question

P/E and Growth Daisy Pixie Stix pays out 65% of its earnings as dividends. The firm has been earnings $0.17 cents per dollar of equity invested in the firm and investors require a 10.00% return. The last annual earnings were $2.00 per share. What is the P/E ratio of the stock? Multiple Choice 31.78 24.72 Oo oo 16.05 41.87

Answer 1

PE ratio = price per share / expected EPS

price per share = next year dividend / (required return - growth rate)

growth rate = ROE * retention ratio

retention ratio = 1 - dividend payout ratio

growth rate = 17% * (1 - 65%) = 5.95%

next year dividend = current dividend * (1 + growth rate)

next year dividend = ($2 * 65%) * (1 + 5.95%) = $1.37735

price per share =  $1.37735 / (10% - 5.95%) = $34.01

expected EPS = current EPS * (1 + growth rate) = $2 * (1 + 5.95%) = $2.12

PE ratio = $34.01 / $2.12

PE ratio = 16.05