Problem 9-12 Calculation of g and EPS Spencer Supplies stock is currently sellin

Question

Problem 9-12

Calculation of g and EPS

Spencer Supplies stock is currently selling at $60 a share. The firm is expected to earn $5.40 per share this year and pay a year end dividend of $3.60.

a. If investors require a 9% return what rate of growth must be expected for Spencer?

b. If Spencer reinvests earnings in projects with average returns equal to the stock's expected rate of return then what will be the next years EPS? (hint: g = ROE x Retention ratio.

Answers are:

a. g = 3%

b. EPS1 = $5.562

SHOW ALL WORK AND FORMULAS TO SUPPORT ANSWERS!!!

Explanation / Answer

a) Price , P0                   60.00 Dividend to be paid, D1                     3.60 Required Return, ke 9% ke =D1/P0 +g 9% = 3.6/60 +g g= 9%-6% = 3% b) g = ROE x Retention ratio g= 9%*(1.8/5.4) g= 9%(.3333) g= 3% EPS = 5.40 + 5.4*.03 EPS = $5.562

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