This question uses WACC = R to find P/E. Correct me but I thought 1/WACC was required return to all shareholders whereas calculating the franchise / instrinsic p/e has r=required return to equity holders.
Joseph Mathias, an analyst for GIRI, is putting together a research report detailing the competitive environment of the toy manufacturing industry in India. In preparation for his report and analysis, Mathias has compiled the following data on the five toy manufacturing firms in India:
Figure 1: Toy Manufacturing Industry Data for India
Firm
Market Share
Return on Equity (ROE)
Dividend Payout
Weighted Average Cost of Capital (WACC)
Dividends Paid(000s)
A 0.15 0.25 0.20 0.12 1,000
B 0.10 0.22 0.35 0.15 1,500
C 0.05 0.18 0.00 0.18 0
D 0.30 0.25 0.25 0.13 3,500
E 0.40 0.26 0.30 0.11 5,000
Inflation rate in India = 6%; Inflation flow-through rate in India = 80%
Inflation rate in Canada = 4%; Inflation flow-through rate in Canada = 80%T
Your answer: A was correct!
Tangible P/E value = 1 / r = 1 / 0.15 = 6.667
Franchise factor = FF = (1 / r) − (1 / ROE)
= (1 / 0.15) − (1 / 0.22) = 6.667 − 4.545 = 2.122
Sustainable growth rate = g = ROE × b
= 0.22(1 − 0.35) = 0.143
Growth factor = G = g / (r − g)
= 0.143 / (0.15 − 0.143) = 20.429
Franchise P/E value = FF × G
= 2.122(20.429) = 43.350
The franchise P/E reflects the growth in the P/E value.
Intrinsic P/E value = Tangible P/E value + Franchise P/E value = 6.667 + 43.35 = 50.02. The intrinsic P/E is the sum of the static, or tangible P/E value and the growth in the P/E value (franchise P/E).
Joseph Mathias, an analyst for GIRI, is putting together a research report detailing the competitive environment of the toy manufacturing industry in India. In preparation for his report and analysis, Mathias has compiled the following data on the five toy manufacturing firms in India:
Figure 1: Toy Manufacturing Industry Data for India
Firm
Market Share
Return on Equity (ROE)
Dividend Payout
Weighted Average Cost of Capital (WACC)
Dividends Paid(000s)
A 0.15 0.25 0.20 0.12 1,000
B 0.10 0.22 0.35 0.15 1,500
C 0.05 0.18 0.00 0.18 0
D 0.30 0.25 0.25 0.13 3,500
E 0.40 0.26 0.30 0.11 5,000
Inflation rate in India = 6%; Inflation flow-through rate in India = 80%
Inflation rate in Canada = 4%; Inflation flow-through rate in Canada = 80%T
Your answer: A was correct!
Tangible P/E value = 1 / r = 1 / 0.15 = 6.667
Franchise factor = FF = (1 / r) − (1 / ROE)
= (1 / 0.15) − (1 / 0.22) = 6.667 − 4.545 = 2.122
Sustainable growth rate = g = ROE × b
= 0.22(1 − 0.35) = 0.143
Growth factor = G = g / (r − g)
= 0.143 / (0.15 − 0.143) = 20.429
Franchise P/E value = FF × G
= 2.122(20.429) = 43.350
The franchise P/E reflects the growth in the P/E value.
Intrinsic P/E value = Tangible P/E value + Franchise P/E value = 6.667 + 43.35 = 50.02. The intrinsic P/E is the sum of the static, or tangible P/E value and the growth in the P/E value (franchise P/E).