Question
You are now trying to value Piedmont Coffee using multiples. A regression of PE ratios against fundamentals for companies in the sector yields the following:
You are now trying to value Piedmont Coffee using multiples. A regression of PE ratios against fundamentals for companies in the sector yields the following: PE = 2.00 + 2.5 (Expected Growth rate : next 5 years) 5.0 (Beta) R2= 50% [For example, the PE for a firm with 10% growth and a beta of 0.8 would be 23 = 2 + 2.5 (10) 5 (0.8)] Piedmont reported earnings per share of $0.60 in the most recent year and the stock currently trades at $12 a share. The beta for the stock is 1.20.
a.If the market price is right and the sector regression holds, estimate the expected growth in earnings per share for Piedmont over the next 5 years.
b. At the end of year 5, Piedmont is expected to become a stable growth firm, growing 4% a year in perpetuity. If the beta for the firm will drop to 1 in stable growth, estimate the expected price at the end of year 5. (You can use the expected growth rate from part a and the sector regression to answer this question)
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