Question

Solve the problem below:

Use this information for questions 1-4:
Boucher Service Company’s EPS is $3.00. The payout rate is 60%, the growth rate of earnings and dividends is 4%, and required return on equity is 7%. Boucher’s ROE is 10% and the firm’s net profit margin (NPM) is 5%. Assume the constant growth model is appropriate.

What is Boucher’s justified price/sales ratio (P0/S0)?

Answer 1

Given about Boucher Service,

Earning per share E0 = $3

Payout ratio = 60%

growth rate g = 4%

So, Current dividend D0 = E0*payout ratio = 3*0.6 = $1.8

required return on equity r = 7%

=> Current stock price using constant dividend growth model is

P0 = D0*(1+g)/(r-g) = 1.8*1.04/(0.07-0.04) = $62.40

Net profit margin = 5%

So, Sales per share S0 = E0/Net profit margin = 3/0.05 = $60

So, price/sales ratio, P0/S0 = 62.40/60 = 1.04

So, Boucher’s justified price/sales ratio (P0/S0) is 1.04