# Question

Financial Learning Systems has 2.5 million shares of common stock outstanding and 100,000 shares of preferred stock. (The preferred pays annual cash dividends of $5 a share, and the common pays annual cash dividends of 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 preferred stock. The firm’s common stock is 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 stock if EPS rises to $3.75 and the P/E ratio stays where it is? What will happen if EPS drops to $1.50 and the P/E doesn’t change?

c. What will happen to the price of the stock if EPS rises to $3.75 and the P/E jumps to 25 times earnings?

d. What will happen if both EPS and the P/E ratio drop—to $1.50 and 10 times earnings, respectively?

e. Comment on the effect that EPS and the P/E ratio have on the market price of the stock.

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 stock if EPS rises to $3.75 and the P/E ratio stays where it is? What will happen if EPS drops to $1.50 and the P/E doesn’t change?

c. What will happen to the price of the stock if EPS rises to $3.75 and the P/E jumps to 25 times earnings?

d. What will happen if both EPS and the P/E ratio drop—to $1.50 and 10 times earnings, respectively?

e. Comment on the effect that EPS and the P/E ratio have on the market price of the stock.

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