Your company has just reported EPS of $4.00 per share. Despite an economic downturn, it is confident regarding its current investment opportunities, but due to the current financial crisis, it does not wish to fund these investments externally. The board has therefore decided to suspend its stock repurchase plan and cut its dividend to $1 per share (from its current level of $2 per share) and retain these funds instead. Your company just paid its current dividend of $1.00 per share and expects to keep its dividend at $1 per share next year as well. In subsequent years, it expects its growth opportunities to slow, and it will still be able to fund its growth internally with a target 40% dividend payout ratio, and reinitiating its stock repurchase plan for a total payout rate of 60%. All dividends and repurchases occur at the end of each year.
Your company’s existing operations are expected to generate the current level of earnings per share in the future. Assume that the return on new investments is 16% and that reinvestments will account for all future earnings growth. Its current equity cost of capital is 12%.
2. If you have forecast the expected EPS in two years, what would it be?
3. If you have to estimate the current stock price, what would it be?