Play Doo company is trying to choose between two projects, which both generate perpetual, growing streams of

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Question:

Play Doo company is trying to choose between two projects, which both generate perpetual, growing streams of nominal cash flows. The firm must do one or the other, but cannot do both. Project A will generate a net after-tax cash flow of $5 million at the end of the first year. The cash flow from the project is expected to grow at 6% per year on a nominal basis. Project B will produce an initial net cash flow of only $2 million, but the anticipated growth rate of the cash flows is 8% nominally. Each project costs $150 million dollars to implement.

1). Which project has the higher Internal Rate of Return (IRR)? (Show your calculations.)

2. If you were to use NPV rule, at what costs of capital would you choose to invest in Project B rather than Project A? Recall the firm must do one or the other.