Please advise on two questions from mock exams -

- An investor gathers the following data to estimate the intrinsic value of a company’s stock using the justified forward P/E approach.

Nest year’s EPS: $3.00

Return on equity: 12.5%

Dividend payout ratio: 60%

Required returns on shares: 10%

The intrinsic value per share is close to:

A. $36

B. $48

C. $72

Answer: A. I sort of understand how they reached the choice A. Per DDM, the P is $12. $12 * next year’s EPS $3 = $36. However, I don’t understand what the equation (the intrinsic value per share = share price * EPS?) means… **Can anyone please explain a little bit more about the concept “intrinsic value per share”?**

- A real estate investment has the following characteristics:

Annual rental income: $1,800,000

Annual operating expenses: $1,200,000

Available mortgage rate: 6%

Financing percentage: 90%

Capitalization Rate: 15%

Estimated holding period: 5 years

Investor’s tax rate: 25%

Based on the income approach, the value of the investment is *closest* to:

A. $4,000,000

B. $5,455,000

C. $6,133,000

The answer is A. The solution is straightforward: using the income approach, (1,800,000 – 1,200,000)/0.15= $4,000,000

Based on my understanding, operating expense doesn’t include tax expenses. Operating income usually equals EBIT, and tax expense is a separate item which is listed under the operating income in the income statement. So here is my question: **why didn’t we take the tax expense into consideration?**