The market consensus is that Analog Electronic Corporation has an ROE = 9%, a be

Question

The market consensus is that Analog Electronic Corporation has an ROE = 9%, a beta of 1.65, and plans to maintain indefinitely its traditional plowback ratio of 2/3. This year's earnings were $2.20 per share. The annual dividend was just paid. The consensus estimate of the coming year's market return is 11%, and T- bills currently offer a 6% return. a. Find the price at which Analog stock should sell. (Do not round intermediate calculations. Round your answer to 2 decimal places.) Price b. Calculate the P/E ratio. (Do not round intermediate calculations. Round your answer to 2 decimal places.) P/E Ratio Leading Trailing

Explanation / Answer

a) Growth rate, g = ROE x Plowback Ratio = 9% x 2/3 = 6%

Required return, r = Rf + beta x (Rm - Rf) = 6% + 1.65 x (11% - 6%) = 14.25%

Dividend this year, D0 = Earnings x (1 - plowback) = 2.20 x (1 - 2/3) = 0.73

Price, P = D0 x (1+ g) / (r - g) = 0.733 x (1 + 6%) / (14.25% - 6%) = $9.42

b) Leading P/E = P/E = 9.42 / (2.20 x 1.06) = 4.04

Trailing P/E = P/E1 = 9.42 / 2.20 = 4.28

c) PVGO = P - E1 / r = 9.42 - 2.20 x (1 + 6%) / 14.25% = -6.94

d) If growth rate, g = 9% x 1/3 = 3%

D0 = 2.20 x (1 - 1/3) = $1.467

Intrinsic Value, P = D0 x (1 + g) / (r - g) = 1.467 x (1 + 3%) / (14.25% - 3%) = $13.43

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