Which of the following formulas regarding the earnings-to-price ratio is true? A)EPS/P₀ = r[1 + PVGO/P₀] B)EPS/P₀ = r[1 - PVGO/P₀] C)EPS/P₀ = [r + PVGO/P₀] D)EPS/P₀ = [1 + r + PVGO/P₀)]/r

Question

Quizplus · Accepted Answer

The earnings-to-price ratio (E/P) can be calculated as EPS/PS, where EPS is earnings per share and PS is the stock price. The Gordon Growth Model can be used to express the E/P ratio as E/P = r/(k-g), where r is the required rate of return, k is the dividend payout ratio, and g is the expected growth rate. Rearranging this formula gives E/P = r/(1-(g/k)). The present value of growth opportunities (PVGO) can be added by factoring in the price of stock in the denominator, giving E/P = r/[1 - (g/k)PVGO/PS]. Therefore, the correct formula is EPS/PS = r[1 - PVGO/PS].

Which of the Following Formulas Regarding the Earnings-To-Price Ratio Is