Financial Management

CASE STUDY: Encore International

In the world of trendsetting fashion, instinct and marketing savvy are prerequisites to
success. Jordan Ellis had both. During 2019, his international casual-wear company, Encore,
rocketed to $300 million in sales after 10 years in business. His fashion line covered the young
woman from head to toe with hats, sweaters, dresses, blouses, skirts, pants, sweatshirts, socks, and
shoes. In Manhattan, there was an Encore shop every five or six blocks, each featuring a different
color. Some shops showed the entire line in mauve, and others featured it in canary yellow.
Encore had made it. The companys historical growth was so spectacular that no one could
have predicted it. However, securities analysts speculated that Encore could not keep up the pace.
They warned that competition is fierce in the fashion industry and that the firm might encounter
little or no growth in the future. They estimated that stockholders also should expect no growth in
future dividends.
Contrary to the conservative securities analysts, Jordan Ellis felt that the company could
maintain a constant annual growth rate in dividends per share of 6% in the future, or possibly 8%
for the next 2 years and 6% thereafter. Ellis based his estimates on an established long-term
expansion plan into European and Latin American markets. Venturing into these markets was
expected to cause the risk of the firm, as measured by the risk premium on its stock, to increase
immediately from 8.8% to 10%. Currently, the risk-free rate is 6%.
In preparing the long-term financial plan, Encores chief financial officer has assigned a
junior financial analyst, Marc Scott, to evaluate the firms current stock price. He has asked Marc
to consider the conservative predictions of the securities analysts and the aggressive predictions of
the company founder, Jordan Ellis. Marc has compiled these 2019 financial data to aid his analysis:
Data item 2019 value
Earnings per share (EPS) $6.25
Current Market Price per share of common stock $40.00
Book value of common stock equity $60,000,000
Total common shares outstanding 2,500,000
Common stock dividend per share $4.00
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REQUIRED:
a. What is the firms current book value per share?
b. What is the firms current P/E ratio?
c. (1) What is the current required return for Encore stock? (Assume a beta of 1)
(2) What will be the new required return for Encore stock assuming that they expand into
European and Latin American markets as planned? (Assume a beta of 1)
d. If the securities analysts are correct and there is no growth in future dividends, what will be the
value per share of the Encore stock? (Note: Use the new required return on the companys stock
here.)
e. (1) If Jordan Elliss predictions are correct, what will be the value per share of Encore stock if
the firm maintains a constant annual 6% growth rate in future dividends? (Note: Continue
to use the new required return here.)
(2) If Jordan Elliss predictions are correct, what will be the value per share of Encore stock if
the firm maintains a constant annual 8% growth rate in dividends per share over the next 2
years and 6% thereafter? (Note: Continue to use the new required return here.)
f. Compare the current (2019) price of the stock and the stock values found in parts a, d, and e.
Discuss why these values may differ. Which valuation method do you believe most clearly
represents the true value of the Encore stock?
Instructions:
The deadline for the assignment is on the 1
st of May, 2020. Please submit your assignment
electronically by uploading it on the Moodle server by the end of the day. No late submissions will
be accepted unless extenuating circumstances.
The course assignment should be completed by each student individually.
The font of the assignment should be 12pt (tables, graphs or appendices, if used, should be at least
10pt), with 1.5 spacing. There is no word limit and marks will be awarded to the appearance of the
assignment.
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Make sure you use references correctly and my advice is not to use Wikipedia, Investopedia,
Dikipedia or any other unsound website as a source of reference. Wikipedia is a starting point for
gathering information, and should be used just for that, and not as a valid source of reference.

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