The stock of Cacique Corp., is expected to have earnings per share (EPS) next year of $6 per share. The required return for its stock is 15%.
(a) What is the price of the stock if Cacique retains 50% of its earnings to finance future growth and these funds are invested in projects with a return on equity(ROE) of 15 percent? Assume that right now Cacique has more projects and it has to retain 70% instead of 50%. What is the price of the stock now?
(b) Assume right now that Cacique C.A. can earn a ROE of 18% on its investments. What is the price if the retention ratio is 50%? What is the price if Cacique retains 70%?
(c) Can you explain the difference obtained in the results of (a) and (b)?