Even Better Products has come out with a new and improved pr

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.) Price $ P/E ratio What is the present value of growth opportunities? (Do not round intermediate calculations. Round your answer to 2 decimal places.) PVGO $ 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.) P/E ratio PVGO $

Solution

a)

g = ROE × b = 0.20 × 0.30 = 0.06 = 6.0%

D1 = $3(1 – b) = $3(1 – 0.30) = $2.10

P = 2.10 / [0.13 - 0.06] = 30

P/E = 30 / 3 = 10

b)

PVGO = P - E/K = 30 - [3 / 0.13] = 6.92

c)

g = ROE × b = 0.20 × 0.15 = = 0.03 = 3.0%

D1 = $2(1 – b) = $3(1 – 0.15) = $2.55

P = 2.55 / (0.13 - 0.03 ) = 25.5

P/E = 25.5 / 3 = 8.5

PVGO = 25.5 - [3/0.13] =2.42