Question

A firm has 50,000 shares of stock outstanding, net income of $50,000, and a PE ratio of 10. What will the firm’s PE ratio be if the firm repurchases 25,000 shares? Assume all else remains constant. 12.0 13.0 5.0 7.5

Answer 1

The firm's PE ratio is computed as shown below:

PE ratio is computed as follows:

= MPS / EPS

EPS is computed as follows:

= Net Income / shares outstanding

= $ 50,000 / 50,000

= $ 1

So the MPS will be as follows:

10 = MPS / $ 1

MPS = $ 10

So the firm's PE ratio after the repurchase will be as shown below:

PE ratio = MPS / EPS

EPS is computed as follows:

= Net Income / shares outstanding

= $ 50,000 / ( 50,000 - 25,000 )

= $ 2

So the PE ratio will be:

= $ 10 / $ 2

= 5.0

So the correct answer is option of 5.0

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