Question

Chapter 2 Assignment Q Search this cou 12. Market value ratios Ratios are mostly calculated based on the financial statements of a firm. However, another group of ratios, called market-based ratios, relate to a firm's observable market value, stock prices, and book values, integrating information from both the market and the firm's financial statements. Consider the case of Atlantic Northern Inc.: Atlantic Northern Inc. just reported a net income of $9,000,000, and its current stock price is $34.00 per share. Atlantic Northern is forecasting an increase of 25% for its net income next year, but it also expects it will have to issue 1,700,000 new shares of stock (raising its shares outstanding from 5,500,000 shares to 7,200,000 shares). If Atlantic Northern's forecast turns out to be correct and its price-to-earnings (P/E) ratio does not change, what does management expect its stock price to be one year from now? (Hint: If you choose to compute the firm's price/earnings ratio, round its value to four decimal places. $32.34 per share $34.00 per share $24.26 per share $40.43 per share One year later, Atlantic Northern Inc.'s stock is trading at $41.75, and the company reports its common equity value as $46,569,600. What is Atlantic Northern Inc.'s market-to-book(M/B) ratio? _ negative FPS and thus a negative P/E ratio?

Answer 1

1.
EPS = Net income / Number of shares outstanding
= $9,000,000 / 5,500,000
= $1.6364

PE ratio = Price / EPS
= $34 / $1.6364
= 20.7778

Next year net income = $9,000,000 * (1 + 25%) = $11,250,000

Next year EPS = $11,250,000 / 7,200,000 = $1.5625

Price of the share = EPS * PE ratio
= $1.5625 * 20.7778
= $32.34 per share

2.
Market to book ratio = Market value / Book value
= ($41.75 * 7,200,000) / $46,569,600
= 6.45