1. ABC Inc. is currently trading at a P/E ratio of 11. Analysts project its earnings per...

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Question:

1. ABC Inc. is currently trading at a P/E ratio of 11. Analysts project its earnings per share for the year ending December 2018 at $2.10.

A. Using a perpetuity model, calculate the cost of capital of ABC Inc.

B. The book value of ABC Inc.'s equity at the end of fiscal year 2017 was $15 per share. Calculate abnormal earnings for the fiscal year ending in 2018.

C. Assuming perpetuity in abnormal earnings, calculate the expected stock price of ABC Inc. using the residual income valuation model.

2. The following table lists the most recent 10K financial information for Cisco Systems. Use this information to answer the following questions.

Valor 2005

EBIT 7.416

Net Income 5,580

Capital Expenditures 4,014

Depreciation 1,009

Acquisition Expenses 911

Change in working capital -420

Tax Rate 29.0%

Debt-Equity Ratio 20.6%

A. Calculate Cisco's free cash flow for the enterprise (FCFF) in 2005

B. Calculate the free cash flow to equity (FCFE) for Cisco in 2005.

3. ABC Inc. is a stable growth dividend paying company and is expected to pay 60% of its expected earnings per share of $1.50 next year as dividends. If earnings are expected to grow 3% per year in perpetuity and the cost of capital is 9%. What P/E ratio would you expect the company to have?

4. You are reading an analyst's reports that banks as a whole are cheap, because they trade at 0.80 times book value of equity. You think the truth is that banks are perceived as riskier than they used to be. If the current return on capital for banks is 10% and the expected growth rate in perpetuity is 2%, what is the cost of capital that investors attribute to banks? Assume that the banks collectively are in stable growth.

5. Solve the below problems:

A. If NOPAT is $5,000, r = 15%, and BVt−1 is $50,000, what is AE?

B. If NOPAT is $25,000, r = 18%, and BVt−1 is $125,000, what is AE?

C. Suppose that the firm in (B) can increase the NOPAT to $30,000 by introducing some cost-cutting measures. What is the new AE?.