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Earnings Multiplier Model

P0/E1= (D1/E1)/ (k-g) = Payout ratio /(k-g)

Question:
An investor is analyzing a firm that has a historical earning retention rate of 60%, which is projected to continue into the future, & a constant ROE of 15%. The stock's beta is 1.2. The nominal risk free rate is 8%, & the expected market return is 13%. If the investor thinks that next year's earnings will be $3 per share, the stock's value is closest to:

Ans:
g = 0.6*0.15 = 9%, k = 0.08 + 1.2 (0.13-0.08) = 14%,
P0 = ($3*0.4) / (0.14-0.09) = $24




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