E6.13. Valuation of Microsoft Corporation (Medium) In 2006, some fundamental investors believed that Microsoft, after being overpriced in the stock market for many years, was now a firm to bay. Microsoft's shares traded at $27.20 on September 26, 2006, down from a peak of $60 (split-adjusted) in January 2000, Analysts' consensus earnings-per-share forecasts for Microsoft's 2007 and 2008 fiscal years were $1.44 and $1.67, respectively. A dividend of $0.40 per share was indicated for 2007.

a. In order to build in a margin of safety, fundamental investors think of value without growth. Value a Microsoft share using abnormal earnings growth (AEG) methods. under the assumptions that AEG will remain at the forecasted 2008 level after 2008. Use a 9 percent required return for equity investment in Microsoft. What does your calculation tell you about the market's forecast of growth in AEG after 2008?

b. Calculate the traded forward P/E ratio for Microsoft and also the forward P/E implied by your valuation. What is the normal forward P/E for Microsoft?

c. Calculate Microsoft's traded PEG ratio based on analysts' forecasts of earnings for fiscal years 2007 and 2008. Real World Connection Coverage of Microsoft continues in Exercises E1.6, E4.14, E7.7, E8.10, E10.11, E1.10 and E19.4, and in Minicases M8.1 and M12.2.