The firm is expected to maintain these values in
perpetuity.- Thefirmpaidout10%ofitsearningsasdividends,
resultinginaretentionratioof90%.Assumealsothat
thefirmpaysoutitsFCFEasdividendsandthatitis
expectedto maintain thispayout ratiofor thenext
five years. - Theexpectedgrowthrateinnetincomeoverthenext
fiveyearscanbecomputedfromtheretentionratio
and the return on equity: - Afterthefifthyear,wewillassumethattheexpected
growthrateinnetincomewilldropto4%.Sincethe
return on equity continues to be 20%, the stable
period payout ratio is 80%: - Wewillassume thatthebeta forequityis 1.00in
perpetuity.Witharisk-freerateof5%andamarket
risk premium of 4%, the cost of equity is 9%.
We can now estimate the price-earnings ratio for this firm:
TheestimatedP/E ratioforthis firmis25.38andthePEG
ratio for the firm is 1.41: