7. Market value ratios

Ratios are mostly calculated using data drawn from the financial statements of a firm. However, another group of ratios, called market-based ratios, relate to a firms observable market value, stock prices, and book values, integrating information from both the market and the firms financial statements.

Consider the case of Cute Camel Woodcraft Company:

Cute Camel Woodcraft Company just reported earnings after tax (also called net income) of $9,250,000, and a current stock price of $39.5 per share. The company is forecasting an increase of 25% for its after-tax income next year, but it also expects it will have to issue 3,000,000 new shares of stock (raising its shares outstanding from 5,500,000 to 8,500,000).

If Cute Camels forecast turns out to be correct and its price-to-earnings (P/E) ratio does not change, what does the companys management expect its stock price to be one year from now? (Note: Round any P/E ratio calculation to four decimal places and Expected EPS to two decimal places.)

$31.98 per share

$39.50 per share

$23.99 per share

$39.98 per share

One year later, Cute Camels shares are trading at $55.80 per share, and the company reports the value of its total common equity as $54,366,000. Given this information, Cute Camels market-to-book (M/B) ratio is . (Note: Do not round intermediate calculations.)

Can a companys shares exhibit a negative P/E ratio?

No

Yes

Which of the following statements is true about market value ratios?

Companies with high research and development (R&D) expenses, and thus strong growth potential, tend to have low P/E ratios.

Companies with high research and development (R&D) expenses, and thus strong growth potential, tend to have high P/E ratios.

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