A stock selling at $50 has a P/E multiple of 20 on the basis of the current year’s earnings. An analyst estimates that next’s earnings per share will be 10% higher and that the stock should be valued on a forward looking basis at the industry average P/E of 18. Based on the analyst’s assessment, it is most likely that the stock is currently:
The stock is currently overvalued by $0.50 as its intrinsic value is $49.50 compared to the price of $50: Next year’s EPS = ($50 / 20) × 1.10 = $2.75; Intrinsic value = $2.75 × 18 = $49.50.