Miguel Garcia is updating research reports on two well-established consumer companies before first quarter 2023 earnings reports are released. 

• True Home is a major U.S. home builder.  The home building industry is extremely cyclical; the industry was recently adversely affected by higher interest rates, rising inflation, and a decline in new home sales.
• BevTown is a manufacturer and distributor of soft drinks and recently acquired a major water bottling company to offer a broader product line. The acquisition will have a significant impact on BevTown's future results.

His supervisor, Sharolyn Rittenhouse, has asked Garcia to use market-based valuations when updating the reports.  Before approving Garcia's work, Rittenhouse wants to discuss the calculations and choices of ratios used in the valuation of True Home and BevTown. The data used by Garcia in his analysis are summarized in Exhibit 1.

Exhibit 1: Select Financial Data for True Home and BevTown

	True Home	BevTown
2022 earnings per share (EPS)	$1.90	$3.63
2023 estimated EPS	$2.43	$3.84
Long-term earnings growth	7.50%	10.10%
Book value per share	$15.55	$67.80
Current share price	$41.45	$77.30
Sales ($ billions)	$79.43	$39.13
Shares outstanding	1,543,200,000	2,147,600,000

Garcia advises Rittenhouse that he is considering three different price-to earnings ratio (P/E) approaches to value the shares of True Home:

Approach 1-P/E using leading earnings.
Approach 2-P/E using trailing earnings.
Approach 3-P/E using normalized earnings.

Garcia tells Rittenhouse that he calculated the price-to-sales ratio (P/S) for True Home but chose not to use it in the valuation of the shares. Garcia states to Rittenhouse that it is more appropriate to use the P/E than the P/S because:

Reason 1-P/S does not reflect differences in cost structures among different companies.
Reason 2-Earnings are less easily manipulated by accounting methods than are sales.
Reason 3-Surveys show P/E ranks first among price multiples used in market-based valuation.

One of Garcia's co-workers, Martina Diaz, has gathered additional data for True Home which is shown in Exhibit 2.  After Garcia brings this data to Rittenhouse's attention, Rittenhouse asks Garcia to also determine whether True Home is overvalued, fairly valued, or undervalued based on its justified price-to-book ratio (P/B) and dividend yield, assuming constant growth.  

Exhibit 2: Capital Market Assumptions for True Home

Beta	0.95
Equity risk premium (stocks over T-bills)	6.0%
91-day T-bill yield	4.2%

Rittenhouse provides Garcia with financial data on three close competitors for BevTown as shown in Exhibit 3. She asks Garcia to determine, based on the P/E-to-growth (PEG) ratio, whether BevTown's shares are overvalued, fairly valued, or undervalued.  

Exhibit 3: Beverage Sector Data

	Forward P/E	EV/EBITDA	EV/S	Forecasted EPS growth
BevTown	---	---	---	10.10%
Iced Green Tea Company	15.89	12.83	5.13	8.76%
Go-Go Drink Corporation	15.64	12.55	4.81	10.19%
Nature's Soda	17.13	10.43	4.60	9.11%
Beverage sector average	---	---	---	---

Garcia agrees to perform the analysis requested by Rittenhouse, but he is concerned about the accuracy of the growth forecasts in Exhibit 3.   Garcia suggests to Rittenhouse that he also calculate the enterprise value-to-EBITDA ratio (EV/EBITDA) for BevTown to cross-check the PEG ratio results.  Garcia tells Rittenhouse that the EV/EBITDA approach might be useful for the following reasons:

Reason 1-EV/EBITDA is less sensitive to differences in financial leverage than is P/E.
Reason 2-EV/EBITDA is easier to calculate than forward P/E.
Reason 3-EV/EBITDA is the most widely used enterprise value ratio.

Garcia also recommends calculating the enterprise value-to-sales ratio, EV/S.  Rittenhouse asks Garcia why the EV/S ratio is higher for Go-Go Drink Corporation than it is for Nature's Soda, but its forward P/E ratio is lower.  Garcia offers Rittenhouse the following possible reasons for this difference:

Possibility 1-Go-Go Drink Corporation has more debt in its capital structure than does Nature's Soda.                                                                            Possibility 2-Go-Go Drink Corporation's profit margins are higher than Nature's Soda.                                                                                                              Possibility 3-Go-Go Drink Corporation has invested more in capital projects than has Nature's Soda, so its depreciation expense is higher.

Rittenhouse agrees with Garcia and requests that he incorporate their discussion points before submitting the reports for final approval.  Garcia has Diaz gather the additional data shown in Exhibit 4 for BevTown.

Exhibit 4: Additional Financial Data for BevTown

Depreciation and amortization	$743,640,068
Interest expense	$3,289,933,960
Taxes	$3,341,052,000
Market value of debt	$46,405,327,225
Book value of debt	$43,865,786,130
Cash and short-term investments	$5,406,097,524

Question 1 (1 point)

Based on the information in Exhibit 1, P/S for True Home is _____.

Question 1 options:

	0.81
	0.66
	0.52

 

Question 2 (1 point)

Which valuation approach would be most appropriate in valuing True Home?

Question 2 options:

	Approach 1
	Approach 2
	Approach 3

 

Question 3 (1 point)

Garcia's preference in using the P/E over the P/S in valuing True Home is supported by all the reasons he gave except _____.

Question 3 options:

	Reason 1
	Reason 2
	Reason 3

 

Question 4 (1 point)

Based on the information in Exhibit 1 and for the purpose of calculating justified P/B for True Home, ROE is _____.

Question 4 options:

	15.63%
	16.41%
	12.22%

 

Question 5 (1 point)

Based on the information in Exhibit 1 and Exhibit 2, Garcia would conclude that True Home's shares are _____ based on justified P/B.

Question 5 options:

	undervalued
	overvalued
	fairly valued

 

Question 6 (1 point)

The justified dividend yield for True Home's shares is _____ based on the information in Exhibit 1 and Exhibit 2.

Question 6 options:

	3.2%
	2.8%
	3.0%

 

Question 7 (1 point)

Based on the information in Exhibit 1 and Exhibit 2, expected return for True Home based on its earnings yield, earnings growth rate, and market P/B ratio is _____.

Question 7 options:

	9.40%
	13.15%
	10.17%

 

Question 8 (1 point)

Based on the information in Exhibit 1, the price-to-earnings ratio to add to Exhibit 3 and use in the valuation of BevTown is _____.

Question 8 options:

	21.29
	20.13
	22.14

 

Question 9 (1 point)

 After calculating its PEG ratio, Garcia would most likely conclude that BevTown's shares are _____ based on the PEG ratio and the information in Exhibit 3.

Question 9 options:

	overvalued
	undervalued
	fairly valued

 

Question 10 (1 point)

Based on the PEG ratio information in Exhibit 3 for Ice Green Tea Company, Go-Go Drink Corporation, and Nature's Soda, the beverage company most likely to be considered undervalued is _____.

Question 10 options:

	Nature's Soda
	Go-Go Drink Corporation
	Ice Green Tea Company

 

Question 11 (1 point)

Garcia's request to use EV/EBITDA to value BevTown is supported by all the reasons he gave except _____.

Question 11 options:

	Reason 1
	Reason 2
	Reason 3

 

Question 12 (1 point)

 The possibilities Garcia gave to explain the differences in EV/S for Go-Go Corporation and Nature's Soda are all valid except for _____.

Question 12 options:

	Possibility 1
	Possibility 2
	Possibility 3

 

Question 13 (1 point)

Based on the information in Exhibit 4, net debt for BevTown is _____.

Question 13 options:

	$49,271,883,654
	$38,459,688,606
	$40,999,229,701

 

Question 14 (1 point)

Based on the information in Exhibit 1 and Exhibit 4, the EV/EBITDA ratio for BevTown is _____.

Question 14 options:

	13.65
	12.13
	13.48

 

Question 15 (1 point)

Based on the information in Exhibit 1 and Exhibit 4, the EV/S ratio for BevTown is _____.

Question 15 options:

	4.92
	4.86
	5.17

Answer rating: 100% (QA)

Question 1 Based on the information in Exhibit 1 PS for True Home is 052 Question 2 The most appropr... View the full answer