Question 1. The market consensus is that Analog Electronic Corporation has an ROE = 12%, a beta of 1.25, and it plans to maintain indefinitely its traditional plowback ratio of 2/3. This year’s earnings were $3 per share. The annual dividend was just paid. The consensus estimate of the coming year’s market return is 14% and T-bills currently offer a 6% return.
a. Find the price at which Analog stock should sell.
b. Calculate the P/E ratio (Note: you should compute the ratio of the price to next year’s earnings)
c. Calculate the present value of growth opportunities.
d. Suppose your research convinces you that Analog will announce momentarily that it will immediately increase its dividend policy to 2/3rds of future earnings. Find the new intrinsic value of the stock. The market is still unaware of this decision. Should you buy or sell Analog stock. Why?
Question 2. Using the put-call parity theorem, determine the value of a T period put of the stock described in problem 1 with an exercise price of $110.