Question

Taco Time Corporation is evaluating an extra dividend versus a share repurchase. In either case, $22,000 would be spent. Current earnings are $3.70 per share, and the stock currently sells for $91 per share. There are 4,000 shares outstanding. Ignore taxes and other imperfections. What will the company’s EPS and PE ratio be under the two different scenarios? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

Answer 1

Answer:

Under extra dividend:

EPS = $3.70

PE ratio = 23.11

Under Share Repurchase:

EPS = $3.94

PE ratio = 23.10

Explanation:

These can be calculated as follows:

Under extra dividend:

Dividend per Share = Amount to spend / Number of shares outstanding = $22,000 / 4,000 = $5.50

Stock Price per share after Dividend payment = Current stock price per share - Dividend per share = $91  - $5.50 = $85.50

EPS = Current EPS = Current Earning per share = $3.70

PE ratio = Price Earning ratio = Stock Price per share after Dividend payment / Current EPS = $85.50 / $3.70 = 23.11

Under Share Repurchase:

Shares repurchased = Amount to spend / Current stock price per share = $22,000 / $91 = 241.758241758242 shares

Current EPS before Share repurchase = $3.70

Total Earnings = Current EPS before Share repurchase * Number of shares outstanding = $3.70 * 4,000 = 14,800

Earnings per Share after Share repurchase = Total Earnings / (Number of shares outstanding - Shares repurchased) = $14,800 / (4,000 - 241.758241758242) = $3.94

P/E Ratio = Current stock price per share / Earnings per Share after Share repurchase = $91 / $3.94 = 23.10