On a certain day in February 2008, Hasbro's forward P/E was reported to be 12.56 and its beta was 1.71. The relevant risk-free rate at the time was 3%. Assume that 5% is a reasonable
Equity premium to use. What does this data suggest Hasbro's expected eternal earnings
Growth rate was? Round your answer to the nearest tenth of a percent.

Question

Quizplus · Accepted Answer

First, we need to use the capital asset pricing model (CAPM) to calculate the expected return on Hasbro's stock. 
Expected Return = Risk-free rate + Beta * Equity premium 
Expected Return = 3% + 1.71 * 5% 
Expected Return = 11.55%

Next, we can use the Gordon growth model to calculate the expected eternal earnings growth rate. 
Expected Return = (Expected Earnings / Price) + Expected Eternal Earnings Growth Rate 
11.55% = (Expected Earnings / Price) + Expected Eternal Earnings Growth Rate

We can rearrange this equation to solve for the expected eternal earnings growth rate: 
Expected Eternal Earnings Growth Rate = 11.55% - (Expected Earnings / Price)

We don't have the current price or current earnings information for Hasbro, so we can't solve for the exact expected eternal earnings growth rate. However, we can make an estimate based on the reported forward P/E ratio of 12.56.

If we assume that Hasbro's earnings are expected to remain the same over the next year, then the forward P/E ratio tells us that investors are willing to pay $12.56 for every $1 of earnings. This implies an earnings yield of 1 / 12.56 = 7.96%.

Using this estimate for the earnings yield, we can solve for the expected eternal earnings growth rate: 
Expected Eternal Earnings Growth Rate = 11.55% - 7.96% 
Expected Eternal Earnings Growth Rate = 3.59%

Therefore, the best choice is C as it is the nearest answer. To calculate the expected eternal earnings growth rate, we can use the following formula:

Expected Earnings Growth Rate = (Forward P/E / Beta) * (Risk-Free Rate + Equity Premium)

Substituting the given values, we get:

Expected Earnings Growth Rate = (12.56 / 1.71) * (0.03 + 0.05) = 3.57%

Rounding this to the nearest tenth of a percent, we get 3.6%. Therefore, the best choice is C.

On a Certain Day in February 2008, Hasbro's Forward P/E