You are looking at two firms, A and B, with the same operating risks and capital structure. Both firms are expected to earn net operating profits after taxes of $100 in year 1. If the firms do not invest in new assets, they will continue to earn $100 per year forever. The WACC for both firms is 10%. Firm A reinvests at a rate of 30% per year and Firm B reinvests at a rate of 15% per year.a. Suppose that both firms have a 15% return on new investments. Compute the value of each firm. Which firm is worth more? Can you explain why (in economic terms)?
b.Suppose now that both firms have a 10% return on new investments. Compute the value of each firm. Which firm is worth more? Can you explain why (in economic terms)?
c.Suppose now that both firms have an 8% return on new investments. Compute the value of each firm. Which firm is worth more? Can you explain why (in economic terms)?