Suppose that a firm's recent earnings per share and dividends per share are $5.00 and $1.00, respectively. Both are expected to grow at 5 percent. However, the firm's current P/E ratio of 18 seems high for this growth rate. The P/E ratio is expected to fall to 10 within five years. Compute a value for this stock by first estimating the dividends over the next five years and the stock price in five years. Then discount these cash flows using a 12 percent required rate.

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The Answer of Suppose that a firm's recent earnings per share and dividends per share are $5.00 and $1.00, respectively. Both are expected to grow at 5 percent. However, the firm's current P/E ratio of 18 seems high for this growth rate. The P/E ratio is expected to fall to 10 within five years. Compute a value for this stock by first estimating the dividends over the next five years and the stock price in five years. Then discount these cash flows using a 12 percent required rate.

Suppose That a Firm's Recent Earnings Per Share and Dividends