National Railroad Passenger Corporation (“Amtrak”): Acela Financing Teaching Note
In the late 1990s, the National Railroad Passenger Corporation (Amtrak) faced a rude awakening as the U.S. Congress stipulated that Amtrak eliminate its reliance on federal subsidies by 2002. In response, Amtrak drew up a plan for self-sufficiency, the centerpiece of which was a new, high-speed passenger service that it hoped would boost revenue enough to make Amtrak self-sufficient by 2002. To run this new service, Amtrak needed to purchase $750 million worth of new locomotives and train cars in 1999. Three alternatives were available for funding the purchase: debt financing, lease financing, or reliance on federal sources. The case opens in April 1999, with Amtrak’s Chief Financial Officer (CFO) Arlene Friner instructing her staff to review a leveraged-lease proposal that has just been submitted by BNY Capital Funding LLC (BNYCF). The objectives of the case are to: Introduce students to financial leases as a financing alternative. Explore the lease-versus-buy decision and the conditions under which financial lease arrangements make sense. Exercise skills in the valuation of financial leases.
Suggested Advance Study Questions
What is a financial lease? What advantages or disadvantages does it have over debt? What are the pros and cons of each of the three financing alternatives given in the case? Which alternative did you choose? Why? Provide quantitative support for your answer.Hypothetical Teaching Plan What is the problem in the case?
The opening question takes the discussion directly to the heart of the matter. Amtrak’s CFO needs to choose among three financing options. This opening allows the instructor to transition smoothly to question 2. Alternatively, the instructor could open the discussion by taking a vote on the three financing alternatives. The instructor could then call on students from each camp to explain their votes. It is advisable, however, that the instructor keep the early part of the class focused on the conceptual issues and deal with the quantitative analysis later. What is a financial lease? How does it work?
The discussion at this point should focus on the conceptual issues. Students need to understand the basic differences between lease and debt financing before the discussion moves into quantitative analysis. It is helpful to use case Exhibit 4 to illustrate how a lease works. Which alternative did you choose? Provide quantitative support. What does a sensitivity analysis show? What are the key bets in the decision? The quantitative analysis involves both a net present value (NPV) and options analysis. For beginning finance students, instructors may choose to focus on the NPV calculations; however, students must understand that there is an inherent value in the early-buyout option. What, in your view, are the advantages of leasing over debt and vice versa? This discussion allows the instructor to highlight instances in which leasing makes sense. The instructor can tie this section to the discussion in questions 3 and 4. Supporting Spreadsheet Files
The Microsoft Excel spreadsheet file, Case_37.xls, may be handed out to students prior to the case discussion in order to facilitate analysis. The instructor’s file, TN_37.xls, should not be shared with students. Suggested Supplementary Readings
For a background on the topic of leases: Richard A. Brealey, Stewart C. Myers, and Franklin Allen, Principles of Corporate Finance, 8th ed. (New York: McGraw-Hill/Irwin, 2006), 698–717. For a theoretical/mathematical discussion of lease pricing: W. G. Lewellen, M. S. Long, and J. J. McConnell. “Asset Leasing in Competitive Capital Markets.” Journal of Finance 31 (June 1976): 787–798. For a discussion of options embedded in leases: J. J. McConnell and J. S. Schallheim. “Valuation of Asset Leasing Contracts.” Journal of Financial Economics 12 (August 1983): 237–261. Case Analysis and Discussion
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