Homework SourseIf you look at stock prices over any year you will find a hi
If you look at stock prices over any year, you will find a high and low stock price for the year. Instead of a single benchmark PE ratio, we now have a high and low PE ratio for each year. We can use these ratios to calculate a high and a low stock price for the next year. Suppose we have the following information on a particular company: Year 1 Year 2 Year 3 Year 4 High price $ 90.25 $ 105.71 $ 127.73 $ 139.12 Low price 71.37 86.63 75.75 114.50 EPS 6.62 9.04 8.70 10.29 Earnings are expected to grow at 8 percent over the next year. What is the high target stock price over the next year? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) High target price $ What is the low target stock price over the next year? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) Low target price $
Solution
First, we need to find the earnings per share next year, which will be:
EPS1= EPS0(1 + g)
EPS1= $10.29 *(1 + 0.08)
EPS1= $11.11
To find the high target stock price, we need to find the average high PE ratio each year, which is:
PE1= $90.25 / $6.62 = 13.63
PE2= $105.71 / $9.04 = 11.69
PE3= $127.73 / $8.70 = 14.68
PE4= $139.12 / $10.29 = 13.52
So, the average high PE is:
Average PE = (13.63 + 11.69 + 14.68 + 13.52) / 4
Average PE = 13.38
Using the equation to calculate the price of a share of stock with the PE ratio, the high target price is:
P1= Benchmark PE ratio × EPS1
P1= 13.38 *($11.11)
P1= $148.65
To find the low target stock price, we need to find the average high PE ratio each year, which is:
PE1= $71.37 / $6.62 = 10.78
PE2= $86.63 / $9.04 = 9.58
PE3= $75.75 / $8.70 = 8.71
PE4= $114.50 / $10.29 = 11.13
So, the average high PE is:
Average PE = (10.78 + 9.58 + 8.71 + 11.13) / 4
Average PE = 10.05
Using the equation to calculate the price of a share of stock with the PE ratio, the low target price is:
P1= Benchmark PE ratio × EPS1
= 10.05 * (11.11)
= 111.66
