a. What is the firm's current book value per share? b. What is the firm's current P/E ratio? c. (1) What is the current required return for Encore stock? (2) What will be the new required return for Encore stock, assuming that the firm expands into European and Latin American markets as planned?
a. What is the firm's current book value per share? b. What is the firm's current P/E ratio? c. (1) What is the current required return for Encore stock? (2) What will be the new required return for Encore stock, assuming that the firm expands into European and Latin American markets as planned?
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Transcribed Image Text:Encore International
n the world of trendsetting fashion, instinct and marketing savvy are prerequisites
pany, Encore, rocketed to $300 million in sales after 10 years in business. His fash-
ion line covered young women from head to toe with hats, sweaters, dresses,
blouses, skirts, pants, sweatshirts, socks, and shoes. In Manhattan, an Encore shop
was found every five or six blocks, each featuring a different color. Some shops
showed the entire line in lapis blue, and others featured it in grenadine.
Encore had made it. The company's historical growth was so spectacular that
no one could have predicted it. However, securities analysts speculated that Encore
could not keep up the pace. They warned that competition is fierce in the fashion
industry and that the firm might encounter little or no growth in the future. They es-
timated that stockholders also should expect no growth in future dividends.
Contrary to the conservative securities analysts, Jordan Ellis believed that the
company could maintain a constant annual growth rate in dividends per share of
6% in the future, or possibly 8% for the next 2 years and 6% thereafter. Ellis based
his estimates on an established long-term expansion plan into European and Latin
American markets. Venturing into these markets was expected to cause the risk of
the firm, as measured by the risk premium on its stock, to increase immediately from
8.8% to 10%. Currently, the risk-free rate is 6%.
In preparing the long-term financial plan, Encore's chief financial officer has as-
signed a junior financial analyst, Marc Scott, to evaluate the firm's current stock
price. He has asked Marc to consider the conservative predictions of the securities
analysts and the aggressive predictions of the company founder, Jordan Ellis.
Marc has compiled the following 2019 financial data to aid his analysis.
Data item
Earnings per share (EPS)
Price per share of common stock
Book value of common stock equity
Total common shares outstanding
Common stock dividend per share
TO DO
a. What is the firm's current book value per share?
b. What is the firm's current P/E ratio?
2019 value
$6.25
$40.00
$60,000,000
2,500,000
$4.00
c. (1) What is the current required return for Encore stock?
(2) What will be the new required return for Encore stock, assuming that the
firm expands into European and Latin American markets as planned?
d. If the securities analysts are correct and there is no growth in future dividends,
what will be the value per share of the Encore stock? (Note: Use the new
required return on the company's stock here.)
343
Transcribed Image Text:89263 916109
e. (1) If Jordan Ellis's predictions are correct, what will be the value per share of
Encore stock if the firm maintains a constant annual 6% growth rate in
future dividends? (Note: Continue to use the new required return here.)
(2) If Jordan Ellis's predictions are correct, what will be the value per share of
Encore stock if the firm maintains a constant annual 8% growth rate in divi
dends per share over the next 2 years and 6% thereafter?
f. Compare the current (2019) price of the stock and the stock values found in
parts a, d, and e. Discuss why these values may differ. Which valuation method
do you believe most clearly represents the true value of the Encore stock?
PART THREE Valuation of Securities
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