invic

What is the appropriate price-to-sales (P/S) multiple of a stock that has a retention ratio of 45%, a return on equity (ROE) of 14%, an earnings per share (EPS) of $5.25, sales per share of $245.54, an expected growth rate in dividends and earnings of 6.5%, and shareholders require a return of 11% on their investment?

A) 0.158.

B) 0.227.

C) 0.278.

---

Recall that profit margin is measured as E0 / S0. In this example, the profit margin is (5.25 / 245.54) = 0.0214. Thus:

P0 / S0 = [(E0 / S0)(1 − b)(1 + g)] / (r − g) = [0.0214(0.55)(1.065)] / (0.11 − 0.065) = 0.278

invic

A firm’s return on equity (ROE) is 15%, its required rate of return is 12%, and its expected growth rate is 7%. What is the firm’s justified price to book value (P/B) based on these fundamentals?

A) 1.60.

B) 1.71.

C) 0.63.

---

P0/B0 = (ROE – g) / (r – g) = (0.15 – 0.07) / (0.12 – 0.07) = 1.60

invic

Industrial Light had earnings per share (EPS) of $5.00 past year, a dividend per share of $2.50, a cost of equity of 12%, and a long-term expected growth rate of 5%. What is the trailing price-to-earnings (P/E) ratio?

A) 7.50.

B) 3.75.

C) 7.14.

---

P/E =
1 − b = 1 − (2.50/5.00) = 0.50P5 / E5 = (0.50 × 1.05) / (0.12 − 0.05) = 7.50

invic

An analyst is valuing a company with a dividend payout ratio of 0.55, a beta of 0.92, and an expected earnings growth rate of 0.07. A regression on comparable companies produces the following equation:
Predicted price to earnings (P/E) = 7.65 + (3.75 × dividend payout) + (15.35 × growth) − (0.70 × beta)What is the predicted P/E using the above regression?

A) 11.43.

B) 10.14.

C) 7.65.

---

Predicted P/E = 7.65 + (3.75 × 0.55) + (15.35 × 0.07) − (0.70 × 0.92) = 10.14

invic

An analyst is valuing a company with a dividend payout ratio of 0.35, a beta of 1.45, and an expected earnings growth rate of 0.08. A regression on comparable companies produces the following equation:
Predicted price to earnings (P/E) = 7.65 + (3.75 × dividend payout) + (15.35 × growth) − (0.70 × beta)What is the predicted P/E using the above regression?

A) 7.65.

B) 11.21.

C) 9.18.

---

Predicted P/E = 7.65 + (3.75 × 0.35) + (15.35 × 0.08) − (0.70 × 1.45) = 9.1755

invic

An analyst is valuing a company with a dividend payout ratio of 0.65, a beta of 0.72, and an expected earnings growth rate of 0.05. A regression on comparable companies produces the following equation:
Predicted price to earnings (P/E) = 7.65 + (3.75 × dividend payout) + (15.35 × growth) − (0.70 × beta)What is the predicted P/E using the above regression?

A) 10.35.

B) 7.65.

C) 11.39.

---

Predicted P/E = 7.65 + (3.75 × 0.65) + (15.35 × 0.05) − (0.70 × 0.72) = 10.35

invic

Proprietary Technologies, Inc., (PTI) has a leading price-to-earnings (P/E) ratio of 38 while the median leading P/E of a peer group of companies within the industry is 28. Based on the method of comparables, an analyst would most likely conclude that PTI should be:

A) viewed as a properly valued stock.

B) bought as an undervalued stock.

C) sold or sold short as an overvalued stock.

---

The price per dollar of earnings is considerably higher than that for the median of the peer group, which implies that it may well be overvalued.

invic

Proprietary Technologies, Inc., (PTI) has a leading price-to-earnings (P/E) ratio of 28 while the median leading P/E of a peer group of companies within the industry is 28. Based on the method of comparables, an analyst would most likely conclude that PTI should be:

A) sold or sold short as an overvalued stock.

B) bought as an undervalued stock.

C) viewed as a properly valued stock.

---

The price per dollar of earnings is the same as that for the median of the peer group, which implies that it is likely properly valued.

invic

Proprietary Technologies, Inc., (PTI) has a leading price-to-earnings (P/E) ratio of 28 while the median leading P/E of a peer group of companies within the industry is 38. Based on the method of comparables, an analyst would most likely conclude that PTI should be:

A) sold as an overvalued stock.

B) sold short as an overvalued stock.

C) bought as an undervalued stock.

---

The price per dollar of earnings is considerably lower than that for the median of the peer group, which implies that it may well be undervalued.

invic

Enhanced Systems, Inc., has a price to book value (P/B) of five while the median P/B of a peer group of companies within the industry is five. Based on the method of comparables, an analyst would most likely conclude that ESI should be:

A) bought as an undervalued stock.

B) viewed as a properly valued stock.

C) sold or sold short as an overvalued stock.

---

The price per dollar of book value is the same as that for the median of the peer group, which implies that it is likely properly valued.