· Complete the following problems (Do Not repeat the questions):
1. The Monley Corporation of New Jersey has gross profits of $980,000 and $260,000 in depreciation expense. The Majors Corporation of Nebraska also has $980,000 in gross profit, with $60,000 in depreciation expense. Selling and administrative expense is $120,000 for each company.
Compute the cash flow for both companies with a tax rate of 40%. Explain the difference in cash flow between the two firms.
2. Assume Ford Motors had earnings after taxes of 460,000 in 2009 with 200,000 shares of stock outstanding. The stock price was $42.50. In 2010, earnings after taxes increase to $650,000 with the same 200,000 shares outstanding. The stock price was $70.00.
a. Compute earnings per share and the P/E ratio for 2009. The P/E ratio equals the stock price divided by earnings per share.
b. Compute earnings per share and the P/E ratio for 2010.
c. Give a general explanation of why the P/E changed.
3. Assume for Ford Motors discussed in Problem 2, that in 2010, earnings after taxes declined to $300,000 with the same 200,000 shares outstanding. The stock price declined to $50.00.
a. Compute earnings per share and the P/E ratio for 2010.
b. Give a general explanation of why the P/E changed.
Where on earth did those figures come from? Ford's shares haven't traded above $30 since 2000. The average price in 2009 was $5 -- and today it reached its yearly high of about $14.
Give a general explanation of why the P/E ratio changed
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To solve these problems, we need to use the given information and apply relevant formulas. Let's go through each problem step-by-step:
Problem 1: Computing Cash Flow and Explaining the Difference
To calculate the cash flow for each company, we can use the formula:
Cash Flow = Gross Profit - Depreciation Expense - Selling and Administrative Expense - Tax
For the Monley Corporation of New Jersey:
Cash Flow = $980,000 - $260,000 - $120,000 - (40% * $980,000)
For the Majors Corporation of Nebraska:
Cash Flow = $980,000 - $60,000 - $120,000 - (40% * $980,000)
To find the difference in cash flow between the two firms, we simply subtract the cash flow of the Majors Corporation from the cash flow of the Monley Corporation:
Difference in Cash Flow = Monley Corporation Cash Flow - Majors Corporation Cash Flow
Problem 2: Computing Earnings per Share (EPS) and P/E ratio for 2009 and 2010, and Explaining the P/E Change
a. To calculate the Earnings per Share (EPS) for 2009:
EPS = Earnings after Taxes / Number of Shares Outstanding
EPS = $460,000 / 200,000
To calculate the P/E ratio for 2009:
P/E Ratio = Stock Price / EPS
P/E Ratio = $42.50 / EPS
b. To calculate the EPS for 2010:
EPS = $650,000 / 200,000
To calculate the P/E ratio for 2010:
P/E Ratio = $70.00 / EPS
c. The P/E ratio changed because the stock price increased from 2009 to 2010 while earnings per share remained the same. A higher P/E ratio indicates that investors are willing to pay more for each dollar of earnings, possibly reflecting increased confidence in the company's future prospects.
Problem 3: Computing EPS and P/E Ratio for 2010, and Explaining the P/E Change
a. To calculate the EPS for 2010:
EPS = $300,000 / 200,000
To calculate the P/E ratio for 2010:
P/E Ratio = $50.00 / EPS
b. The P/E ratio changed because both the stock price and earnings per share declined from 2010 compared to the previous year. A lower P/E ratio suggests that investors have lower confidence in the company's future prospects, possibly due to lower earnings or other factors affecting its valuation in the market.
By following these steps and calculations, you can find the solutions to the given problems and understand the reasoning behind them.