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Consider a firm with existing assets that generate an EPS of $5. If the firm does not invest except to maintain existing assets, EPS is expected to remain constant at $5 per year. However, starting next year the firm has the chance to invest $3 per share a year in developing a newly discovered geothermal steam source for electricity generation. Each investment is expected to generate a permanent 20% return. However, the source will be fully developed by the fifth year. (a) What will be the stock price and price-earnings ratio assuming that investors require a 12% rate of return? (b) What is the price-earnings ratio if the required rate of return is 20%?

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Basic Finance, Finance

Category:- Basic Finance
Reference No.:- M952599

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