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FIN3320 American Airlines Group Inc Optimal Wacc and Capital Budgeting Paper

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Project – Part II Optimal WACC & capital budgeting Directions to Download Data 1. Log into https://wrds-web.wharton.upenn.edu/wrds/. ID: fin3320 PW:Csulafin2019 2. Go to HOME GET DATA CRSP Annual Update Stock / Security Files Monthly Stock File. 3. Set Data Range as “2013-01 to 2017-12”, apply company code as “TICKER”, and type in your company’s ticker. 2013-01 2017-12 4. Select TICKER, HOLDING PERIOD RETURN, and VW Return (includes distributions) as query variables 5. The query output is in Excel Spreadsheet, select YYMMDDn8 as Date Format, and SUBMIT QUERY. Exercise 1. (3 pts; Cost of equity) Using the downloaded information on your company, complete the following exercises by Excel. (a) Based on the monthly return series of your company and the value-weighted return as the market return, run a regression to find the beta of your company. (b) Using beta from (a), what is your company’s cost of equity, according to the CAPM? • Risk-free rate: Use the 1-year U.S. treasury yield from https://www.treasury.gov/resource-center/data-chart-center/interestrates/Pages/TextView.aspx?data=yield. • historical market risk premium: 7.5% per annum. (c) With your beta from (a) as equity beta (βL), compute the asset beta (βU) of the firm. Compute the current debt-to-equity ratio with information from Part I. (d) Create a table of the company’s levered beta (β𝐿𝐿) at different levels of debt ratio from 0%to 99% at 10%p intervals. (e) Using different levels of betas from (d), continue to create a table of cost of equity for each level of debt ratio, according to the CAPM. Apply the most recent effective corporate tax of your firm found on the Internet. 2. (3 pts; Cost of debt) Cost of Debt; Ex-ante cost of debt (a) Compute your company’s cost of debt based on the “synthetic” ratings and default spreads from the tables available from Ch 11. Use the 1-year U.S. treasury bond yield as the long-term bond yield. (https://www.treasury.gov/resource-center/data-chart-center/interestrates/Pages/TextView.aspx?data=yield) Use the relevant information on financial statements from Part I. (b) Create a table of cost of debt for each level of debt ratio based from 0%to 99% at 10%p intervals. Make sure you turn on iterative calculation and run iteration. (HINT: Your initial value for the ex-ante cost of debt should be equal to the minimum cost of debt found on the synthetic rating table.) 3. (3 pts; WACC & optimal WACC) Suppose your company tries to figure out the weighted-average cost of capital. (a) Create a table of WACC for each level of debt ratio. (b) Based on (a), what is your firm’s lowest WACC? What is your firm’s optimal or target debt ratio? 4. (3 pts; Free cash flows) Suppose your company is contemplating a new investment project based on the following information. (Hint: 2018 is “Year 0.”) o o o o o o The project requires purchase of a new equipment in 2018 (=Year 0) worth the larger between 200% of the 2017 capital expenditure and 10% of the 2017 total assets. Equipment purchase price is the larger between (1) 200%* the capital expenditure in 2017 and (2) 10%*the total assets in 2017. See below for the formula. Equipment purchase price = max(200%*2017 capex, 10%*2017 total assets) With this new project, in 2019 (=Year 1), the project will generate as much as 25% of the 2017 revenue (=25%*sales of 2017). From 2020 to Year 2028, the revenue from this project will grow by 1% every year (= (100%+1%)*sales of previous year). Assume your COGS will be 70% of revenue in the same year, and all other operating costs (excluding depreciation) will remain constant at 5% of the new equipment purchase price. Assume the equipment will be depreciated based on a straight-line method for 12 years, 2 years more than the project years. (Hint: This means the salvage book value is 2/12 of the original purchase price.) At the end of project years, the salvage market value of the equipment will be 30% of the original purchase value. Your investment requires net working capital investment of 5% of the revenue in the subsequent years, and (a) Compute the free cash flows from 2018 to 2028. Continue to assume the same effective corporate tax bracket and no loss carryover for tax purposes, i.e. a negative taxable income will result in a corporate tax of $0. (b) Using the WACC from 3-(b), compute the NPV, IRR, and PI of this project. Do you think the company should choose to invest in this project? Why or why not? AMERICAN AIRLINES GROUP INC (AAL) CashFlowFlag INCOME STATEMENT Fiscal year ends in December. USD in millions except per share data. 2017-12 2016-12 2015-12 Revenue 42,207 40,180 40,990 Cost of revenue 32,609 29,648 29,332 Gross profit 9,598 10,532 11,658 Operating expenses Restructuring, merger and acquisition Other operating expenses Total operating expenses Operating income Interest Expense Other income (expense) Income before income taxes Provision for income taxes Net income from continuing ops Net income Net income available to common shareholders EBITDA (a)Diluted (b) Average shares outstanding (c) Close prices (d) Annual effective tax rates 527 4,413 4,940 4,658 1,053 (521) 3,084 1,165 1,919 1,919 1,919 6,154 14 4,511 4,525 6,007 991 (717) 4,299 1,623 2,676 2,676 2,676 7,108 4 52 492 0 5 47 556 0 29 4,345 4,374 7,284 880 (1,788) 4,616 (2,994) 7,610 7,610 7,610 7,105 11 42 687 0 AMERICAN AIRLINES GROUP INC (AAL) CashFlowFlag BALANCE SHEET Fiscal year ends in December. USD in millions except per share data. 2017-12 2016-12 2015-12 Assets Current assets Cash: Cash and cash equivalents 295 322 390 Short-term investments 4,771 6,037 5,864 Total cash 5,066 6,359 6,254 Restricted cash Receivables Inventories Prepaid expenses Total current assets Non-current assets Property, plant and equipment Gross property, plant and equipment Accumulated Depreciation Net property, plant and equipment Goodwill Intangible assets Deferred income taxes Other long-term assets Total non-current assets Total assets Liabilities and stockholders’ equity Liabilities Current liabilities Short-term debt Accounts payable Accrued liabilities Deferred revenues Other current liabilities Total current liabilities Non-current liabilities Long-term debt Deferred revenues Pensions and other benefits Other long-term liabilities Total non-current liabilities Total liabilities 318 1,752 1,359 651 9,146 638 1,594 1,094 639 10,324 695 1,425 863 748 9,985 49,802 (15,646) 34,156 4,091 2,203 427 1,373 42,250 45,353 (14,194) 31,159 4,091 2,173 1,498 2,029 40,950 40,654 (13,144) 27,510 4,091 2,249 2,477 2,103 38,430 51,396 51,274 48,415 2,554 1,688 3,953 2,791 3,978 14,964 1,855 1,592 3,724 2,789 3,912 13,872 2,231 1,563 3,539 2,525 3,747 13,605 22,511 22,489 526 7,842 2,760 33,617 47,489 18,330 667 7,450 2,728 29,175 42,780 7,497 2,498 32,506 47,470 Stockholders’ equity Common stock Additional paid-in capital Retained earnings Accumulated other comprehensive income Total stockholders’ equity 5 5,714 3,361 (5,154) 3,926 5 7,223 1,640 (5,083) 3,785 6 11,591 (1,230) (4,732) 5,635 Total liabilities and stockholders’ equity 51,396 51,274 48,415 Ratios 1 Liquidity Ratios Current Ratio Quick Ratio 2 Financial Leverage Ratios Total Debt Ratio Debt-equity Ratio 3 Efficiency Ratios Inventory Turnover Receivables Turnover Total Asset Turnover 4 Coverage Ratios Interest Coverage Ratio 5 Profitability Ratios Gross Profit Margin Net Profit Margin Return on Assets Return on Equity 6 Valuation Ratios Price-Earnings Ratio Market-to-book Ratio 2017 0.61 0.34 2016 0.74 0.46 2015 0.73 Bad 0.46 Bad 92.36% 12.09 92.62% 12.55 88.36% Bad 7.59 Bad 23.99 24.09 0.82 27.1 25.21 0.78 33.99 Bad 28.76 Bad 0.85 Bad 5.84 7.17 8.07 Bad 22.74% 4.55% 3.73% 48.88% 26.21% 6.66% 5.22% 70.70% 19.93 0.15 10.04 0.15 28.44% 18.57% 15.72% 135.05% Bad Bad Bad Bad 0.09 Excellent 0.19 Excellent
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