You have been reading about Maddy Computer Company (MCC), which currently retains 90 percent of its earning

($5 a share this year). It earns an ROE of almost 30 percent. Assuming a required rate of return of 14 percent, how much would you pay for MCC on the basis of the earnings multiplier model? Discuss your answer. What would you payfor Maddy Computer if its retention rate was 60 percent of its ROE was 19%? Show your work

You have been reading about Maddy Computer Company (MCC), which currently retains 90 percent of its earning

($5 a share this year). It earns an ROE of almost 30 percent. Assuming a required rate of return of 14 percent, how much would you pay for MCC on the basis of the earnings multiplier model? Discuss your answer. What would you payfor Maddy Computer if its retention rate was 60 percent of its ROE was 19%? Show your work

You have been reading about Maddy Computer Company (MCC), which currently retains 90 percent of its earning

($5 a share this year). It earns an ROE of almost 30 percent. Assuming a required rate of return of 14 percent, how much would you pay for MCC on the basis of the earnings multiplier model? Discuss your answer. What would you payfor Maddy Computer if its retention rate was 60 percent of its ROE was 19%? Show your work

To calculate the price you would pay for MCC using the earnings multiplier model, you need to use the formula:

Price = Earnings per Share (EPS) / (Required Rate of Return - Growth Rate)

In this case, the EPS is given as $5 and the required rate of return is 14%. To find the growth rate, you can use the formula:

ROE = Retention Rate * Return on Equity

For the first scenario where MCC retains 90% of its earnings and earns an ROE of 30%, the growth rate would be:

30% = 0.9 * Growth Rate
Growth Rate = 30% / 0.9 = 33.33%

Now, let's calculate the price:

Price = $5 / (0.14 - 0.3333) = $5 / (-0.1933) = -$25.86

Based on the earnings multiplier model, you would pay -$25.86 for MCC. However, a negative price does not make sense in this context, so it indicates that MCC is overvalued or the model is not appropriate for this situation.

For the second scenario where MCC retains 60% of its earnings and earns an ROE of 19%, the growth rate would be:

19% = 0.6 * Growth Rate
Growth Rate = 19% / 0.6 = 31.67%

Now, let's calculate the price:

Price = $5 / (0.14 - 0.3167) = $5 / (-0.1767) = -$28.33

Again, we have a negative price indicating that MCC is overvalued or the model is not suitable.

In both scenarios, the earnings multiplier model suggests negative prices, which is not realistic. This indicates that the assumption of constant growth may not be valid for MCC or that the required rate of return is too low for the given growth rate and retention rate. It is important to consider these factors and potentially use other valuation methods to assess the fair value of MCC.

To determine how much you would pay for Maddy Computer Company (MCC) on the basis of the earnings multiplier model, you need to consider the company's earnings, retention rate, ROE, and the required rate of return.

First, let's calculate the current earnings per share (EPS) for MCC. Given that it retains 90 percent of its earnings and earns $5 per share this year, we can calculate the dividend per share (DPS) by multiplying the earnings per share by (1 - retention rate):

DPS = Earnings per share * (1 - Retention rate)
DPS = $5 * (1 - 0.9)
DPS = $5 * 0.1
DPS = $0.50

Next, we need to calculate the expected growth rate of dividends using the return on equity (ROE) and retention rate. The formula to calculate the expected growth rate is:

Expected growth rate = ROE * Retention rate
Expected growth rate = 30% * 0.9
Expected growth rate = 27%

Now, let's calculate the intrinsic value of MCC using the earnings multiplier model formula:

Intrinsic value = DPS / (Required rate of return - Expected growth rate)
Intrinsic value = $0.50 / (14% - 27%)
Intrinsic value = $0.50 / (-0.13)
Intrinsic value = -$3.85 (Negative value)

Since the intrinsic value is negative, it would mean that the current market price of MCC is already below its intrinsic value. In this case, you would not pay anything for MCC based on the earnings multiplier model because it is overvalued.

Now, let's consider the scenario where the retention rate is 60 percent and the ROE is 19 percent.

Calculate the new DPS:
DPS = $5 * (1 - 0.6)
DPS = $5 * 0.4
DPS = $2.00

Calculate the new expected growth rate:
Expected growth rate = 19% * 0.6
Expected growth rate = 11.4%

Calculate the new intrinsic value:
Intrinsic value = $2.00 / (14% - 11.4%)
Intrinsic value = $2.00 / 2.6%
Intrinsic value ≈ $76.92

Therefore, if the retention rate is 60 percent and the ROE is 19 percent, you would pay approximately $76.92 for Maddy Computer Company based on the earnings multiplier model.

It's important to note that the earnings multiplier model is just one method to determine the value of a company. Other factors and models should also be considered before making an investment decision.