Consider Pacific Energy Company and US Bluechips Inc both of

Consider Pacific Energy Company and U.S. Bluechips, Inc., both of which reported earnings of $962,000. Without new projects, both firms will continue to generate earnings of $962,000 in perpetuity. Assume that all earnings are paid as dividends and that both firms require a return of 12 percent a. What is the current PE ratio for each company? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) PE ratio M ] times b. Pacific Energy Company has a new project that will generate additional earnings of $112,000 each year in perpetuity. Calculate the new PE ratio of the company. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g.., 32.16.) PE ratio [ 1 times c. U.S. Bluechips has a new project that will increase earnings by $212,000 each year in perpetuity. Calculate the new PE ratio of the company. (Do not round intermediate calculations and round your answer to 2 decimal places, e.g. 32.16.) PEratio times

Solution

a.

Current PE ratio = Total Market value / Total earnings

Total market value = Total dividends / Required rate of return

= $9,62,000 / 12%

= $80,16,667

Current PE ratio = $80,16,667 / $9,62,000

= 8.33 times

b.

PE ratio = Total Market value / Total earnings

Total market value = Total dividends / Required rate of return

= ($9,62,000 + $1,12,000) / 12%

= $89,50,000

PE ratio = $89,50,000 / $9,62,000

= 9.30 times

C.

PE ratio = Total Market value / Total earnings

Total market value = Total dividends / Required rate of return

= ($9,62,000 + $2,12,000) / 12%

= $97,83,333

PE ratio = $97,83,333 / $9,62,000

= 10.17 times