Question

If you look at stock prices over any year, you will find a high and low stock price for the year. Instead of a single benchmark PE ratio, we now have a high and low PE ratio for each year. We can use these ratios to calculate a high and a low stock price for the next year. Suppose we have the following information on a particular company over the past four years:

	Year 1				Year 2				Year 3				Year 4
High price	$	98.40			$	122.00			$	131.40			$	148.03
Low price		73.23				89.34				70.02				116.55
EPS		7.68				9.43				10.51				11.90

  

Earnings are projected to grow at 8 percent over the next year.

a.	What is your high target stock price over the next year? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
b.	What is your low target stock price over the next year? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Answer 1

High PE :

Year 1 = 98.40 / 7.68 = 12.81

Year 2 = 122 / 9.43 = 12.93

Year 3 = 131.40 / 10.51 = 12.50

Year 4 = 148.03 / 11.90 = 12.43

Average = 12.81 + 12.93 + 12.50 + 12.43 / 4

= 12.66

Low PE :

Year 1 = 73.23 / 7.68 = 9.53

Year 2 = 89.34 / 9.43 = 9.47

Year 3 = 70.02/ 10.51 = 6.66

Year 4 = 116.55 / 11.90 = 9.79

Average = 9.53 + 9.47 + 6.66 + 9.79 / 4

= 8.86

a )

EPS Next year = EPS in year 4 ( 1 + growth rate )

= 11.90 ( 1 + 8%)

= 12.852

Average high PE ratio = 12.66

High target stock price = Average high PE ratio *  EPS Next year

= 12.66 * 12.852

= $162.70

b )

Average Low PE ratio =8.86

Low target stock price = Average low PE ratio * EPS next year

= 8.86 * 12. 852

= $113.86