Penn Central Electricity has existing assets that generate $4 in earnings per share. If the firm...

Penn Central Electricity has existing assets that generate $4 in earnings per share. If the firm does not invest except to maintain existing assets, EPS is expected to remain constant at $4 a year. However, Penn Central can start next year with investing $1 per share a year in developing a newly discovered source for electricity generation. Each investment is expected to generate a permanent 25% return. However, the source will be fully developed by the fifth year of investing in it, which means that no more new investments are possible from year 6 onwards. Investors require an 18% rate of return.

A. What is the price-earnings (P/E) ratio?

B. What is the stock price if the firm would have had the same investment opportunity for 5 years, but now while maintaining a 75% dividend payout ratio during these five years?

C. What is the NPVGO if the firm has the investment opportunity in perpetuity maintaining a 25% retention ratio?

Notes: If possible, please provide the formulas and steps. Our class doesn't use a financial calculator either - only using time value of money math. Thank you!

Expert Solution

jeff jeffy answered 2 years ago

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