Financial Statement Analysis and Security Valuation 5th Edition by Stephen H. Penman

Abnormal Earnings Growth Valuation

In the Kimberly-Clark case for Chapter 5, you were asked to convert analysts' earnings forecasts into a valuation using residual earnings methods. You can now do the same using abnormal earnings growth methods. Exhibit 1. 1 in Chapter 1 gives consensus analysts' forecasts made in March 2011 when the stock price stood at $65.24 per share. These earnings forecasts are in the form of point estimates for years 2011and2012 and an estimated five-year earnings growth rate. KMB paid an annual dividend per share of $2.64 in 2010 and a dividend of $2.80 per share was indicated r or 2011 at the time.

Calculate the forward P/E ratio. Also, using the information in the 2010 financial statements in Exhibit 2.2 in Chapter 2, calculate the trailing P/E in March 2011. With the five-year growth rate, you can forecast analysts' EPS estimates for the years 2013- 2015. Do this and, from these forecasts, pro forma the corresponding abnormal earnings growth. Use a required return for equity of 8 percent for the calculations.

Now go ahead and value KMB's shares from this proforma. Assume a long-term growth rate after the five-year forecast period of 4 percent, roughly equal to the average GDP growth rate. What is your intrinsic forward P/E ratio? Did you get the same value as in the residual earnings application in the last chapter?