Investment Calculations Xiao and Shiao Jing-jian, newlyweds from Laramie, Wyoming, have decided to begin investing for the future. Xiao is a 7-Eleven store manager, and Shiao is a high-school math teacher. The couple intends to take $4,000 out of their savings for investment purposes and then continue to invest an additional $200 to $400 per month. Both have a moderate investment philosophy and seek some cash dividends as well as price appreciation.
Calculate the five-year return on the investment choices in the table below.
Running Paws Eagle Packaging
Current price $27.00 $60.00
Current earnings per share (EPS) $1.80 $2.50
Current quarterly cash dividend $0.16 $0.17
Current P/E ratio 15 24
Projected earnings annual growth rate 15% 15%
Projected cash dividend growth rate 10% 10%
(Hint: When making your calculations you should assume at the end of the first year. At the end of the first year the EPS for Running Paws will be $2.07 with a dividend of $0.70, and the EPS for Eagle Packaging will be $2.88 with a projected dividend of $0.75).
a) Using the appropriate P/E ratios, what are the estimated market prices of the Running Paws and Eagle Packaging stocks after five years?
b) Show your calculations in determining the projected price appreciations for the two stocks over the five years.
c) Determine the average annual dividend for each stock, and use these figures in calculating the approximate compound yields for each.
d) Assume that the beta is 2.6 for Running Paws and 2.8 for Eagle Packaging. If the market went up by 17 percent during the year, what would be the likely stock prices for Running Paws and Eagle Packaging?
e) Assume that inflation is approximately 4 percent and the return on high-quality, long-term, corporate bonds is 8 percent. Given the Jing-jians' investment philosophy, explain which investment alternative you would recommend: (1) Running Paws, (2) Eagle Packaging, or (3) a high-quality, long-term corporate bond, or (4) other growth investment. Support your answer by calculating the potential rate of return using the provided information or by using the Garman/Forgue website. The Jing-jians are in the 25 percent marginal tax bracket.