Response to the following problem:
Financial Learning Systems has 2.5 million ordinary shares outstanding and 100 000 preference shares. (The annual preference dividend is $5 a share, and the annual ordinary dividend is 25 cents a share.) Last year, the company generated net profits (after taxes) of $6 850 000. The company's balance sheet shows total assets of $78 million, total liabilities of $32 million, and $5 million in preference shares. The company's ordinary shares are currently trading in the market at $45 a share.
a. Given the preceding information, find the EPS, P/E ratio and book value per share.
b. What will happen to the price of the share if the EPS rises to $3.75 and the P/E ratio stays where it is? What will happen if the EPS drops to $1.50 and the P/E ratio doesn't change?
c. What will happen to the price of the share if the EPS rises to $3.75 and the P/E ratio jumps to 25 times earnings?
d. What will happen if both the EPS and the P/E ratio drop-to $1.50 and 10 times earnings, respectively?
e. Comment on the effect that the EPS and the P/E ratio have on the market price of the share.