Question

Last year, Big W Company reported earnings per share of $2.50 when its stock was selling for $50.00. If its earnings this year increase by 10 percent and the P/E ratio remains constant, what will be the price of its stock?

Answer 1

Answer:

The price of the stock is $55

Explanation:

Computing the present EPS (Earnings per share)  as:

EPS (Earnings per share) = Last year earnings per share × Increase in EPS by 10%

where

Increase in EPS by 10% = 1 + Growth rate

= 1 + 0.1

= 1.1

= $2.5  × 1.1

= $2.75

Previous P/E ratio is computed as:

P/E ratio = Selling Price / Last year EPS

= $50 / $2.5

= $20

Now,

Computing the current stock price as:

P/E = Market Price per share/ Current EPS

$20 = Market Price per share / $2.75

$20 × $2.75

= $55