Page 151 - DCOM504_SECURITY_ANALYSIS_AND_PORTFOLIO_MANAGEMENT

Security Analysis and Portfolio Management

Notes 18. Decision tree considers possible ............... with their ............... and analyses them.
19. ............... is a technique that systematically repeats the application of a rule or formula to
know outcomes indifferent situations.

4.7 Review Questions

1. What are the opportunities and threats in the macro-economic environment? Explain in
detail.

2. Why should a security analyst carry out industry analysis?
3. Why does portfolio manager do the industry analysis?
4. What is the need of company analysis? Do we need the company analysis?
5. Is it possible to estimate historic profitability of the collective set of liquidity providers in
a specific futures market? Why/ why not?
6. How might individual investors extrapolate from the past?
7. How do you estimate future market size of an industry undergoing change?
8. What are the factors that you think influence the industry analysis?

9. Why should one read an annual report?
10. National City Corporation, a bank holding company, reported earnings per share of
2.40 cr in 1993, and paid dividends per share of 1.06 cr. The earnings had grown 7.5% a
year over the prior five years, and were expected to grow 6% a year in the long term
(starting in 1994). The stock had a beta of 1.05 and traded for ten times earnings. The
treasury bond rate was 7%.
(a) Estimate the P/E Ratio for National City Corporation.

(b) What long term growth rate is implied in the firm's current P/E ratio?
11. International Flavors and Fragrances, a leading creator and manufacturer of flavors and
fragrances, paid out dividends of 91 per share on earnings per share of 164 in 1992. The
firm is expected to have a return on equity of 20% between 1993 and 1997, after which the
firm is expected to have stable growth of 6% a year (the return on equity is expected to
drop to 15% in the stable growth phase.) The dividend payout ratio is expected to remain
at the current level from 1993 to 1997. The stock has a beta of 1.10, which is not expected to
change. The treasury bond rate is 7%.
(a) Estimate the P/E ratio for International Flavors, based upon fundamentals.
(b) Estimate how much of this P/E ratio can be ascribed to the extraordinary growth in
earnings that the firm expects to have between 1993 and 1997.
12. Cracker Barrel, which operates restaurants and gift shops, reported dramatic growth in
earnings and revenues between 1983 and 1992. During this period, earnings grew from
8 per share in 1983 to 78 per share in 1993. The dividends paid in 1993 amounted to only
2 per share. The earnings growth rate was expected to ease to 15% a year from 1994 to
1998, and to 6% a year after that. The payout ratio is expected to increase to 10% from 1994
to 1998, and to 50% after that. The beta of the stock is currently 1.55, but it is expected
to decline to 1.25 for the 1994-98 time period and to 1.10 after that. The treasury bond rate
is 7%.
(a) Estimate the P/E ratio for Cracker Barrel.

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