F523 - SPRING 2013 BOEING CASE
1. What is the appropriate required rate of return against which to evaluate the prospective IRR's from the B ANSWER:The appropriate rate of return against which to evaluate the IRR is the risk-free rate, plus the market risk
1a. Please use the capital asset pricing model to estimate the cost of equity. At the date of the case, the 74 over T-bonds. Which beta, risk-free rate, and risk premium did you use? Why? Financing Components Debt Equity Market Values Weight Cost of Capital (After Tax) $ 6,823,736,197 0.85 3.72% $ 1,176,263,803 0.15 28.18% Total: $ 8,000,000,000 1.00 WACC WACC Inputs: Beta: Risk-Free Rate: Market Risk Premium: Pre-tax Cost of Debt: Income Tax Rate:
Exhibit 2 - 2002 Balance Sheet Information: Debt (Current+Long-Term Liabilities): Shareholders Equity: Boeing Debt/Equity Ratio:
44,646,000,000 7,696,000,000 5.80
ANSWER:We've used a beta of 2.72, a risk-free rate of 5.33%, and a risk premium of 8.4%. The Beta is the Comm duration of Boeing bond) as of July 29, 2004, which is the date of the case according to the intro tab. The Market R
1b. Which capital-structure weights did you use? Why? ANSWER:We used a capital structure that consists of 85% debt, and 15% equity. This was done to maintain the d metrics such as Beta.
2. Under what circumstances is the project economically unattractive? ANSWER:There are many circumstances which would render the project economically unattractive. Of those repre development costs would be the largest deterrants. Additional economically unattractive situations would be 20-yea
2a. What does sensitivity analysis reveal about the nature of Boeing's gamble on the 7E7? ANSWER:The sensitivity analysis reveals that there are many, many levers that could ultimately make this project u significant cause for concern with the data representing so many posssible points of failure. History has obviously p eventually unit volume degredation because of mechanical issues and slower-than-expected production.
2b. Is there anything else that the Board should consider in assessing the financial appeal of this project?
ANSWER:At the moment, they're evaluating this project in a vaccuum, assuming that: (a) there are no other projec should also consider alternative projects that these scarce capital resources could be applied to (calculating opportu the project.
JASON FO ROB EVER POLINA FE
Boeing 7E7? k premium. According to historical data (noted below under WACC Inputs), that would have been roughly 13.77% in
4-year equity market risk premium (EMRP) using arithmetic means was estimated to be 8.4% over T-bills and
Weighted Cost of Capital 3.18% 4.14% 7.32%
2.72 5.33% 8.40% 5.73% 35%
mercial Beta releveraged for Boeing on the Exhibit 10 sheet. The Risk-Free Rate is the yield on a 20-yr T-bill (expect Risk Premium is a plug that is pulled from Question 1a in the case assignment.
ebt-to-equity ratio that Boeing had prior to any new project financing issues, which should limit the deviations from st
esented in the sensitivity analysis in Exhibit 9, the inability to control product costs as a percentage of sales or to con ar unit volumes far below expectations, or the inability to charge a price premium, as expected in their models.
unsuccessful. The quote on page five, which indicates that "each new aircraft [is] a 'bet the ranch' proposition", gives proven that they were unsuccessful with many aspects of the project, including development cost overruns, project d
ts for which this capital could be put to use, and (b) their 2% inflation rate is set with certainty. With that in mind, the unity costs of those projects), and an evaluation of how a change in rates of inflation and MRP would impact the prof
OSTER RETTS ELDMAN
s some delays, and
e board fitability of
Boeing 7E7 v. 4.3.xls Revised July 29, 2004
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