Capital Budgeting: Apache Airlines Is Looking To Buy Some Ga

Capital Budgeting Apache Airlines Is Looking To Buy Some Gates At A

Analyze the proposed investment by Apache Airlines to purchase gates at a West Coast airport by calculating the net present value (NPV) and internal rate of return (IRR) based on the provided financial variables. Determine whether Apache Airlines should proceed with the investment, considering the profitability and risk factors involved.

Additionally, evaluate the current stock valuation of Fley Airline Supply, which is trading at $15 per share. Perform sensitivity analysis on the stock price based on growth rates of 3.0%, 3.5%, and 4%, and discount rates of 8%, 9%, and 10%. Present these findings in a clear matrix format to facilitate decision-making regarding the stock's fair value.

Moreover, conduct bond valuation to determine the yields to maturity (YTM) for four different bonds, given their purchase prices, coupons, and maturities, assuming a $1,000 par value. Bonds A, B, and C are semi-annual, while Bond D is a zero-coupon bond, requiring calculation of its semi-annual equivalent yield. Provide all yield calculations to four significant digits.

Further, assess options and futures contracts relevant to your financial scenarios. First, determine the value of stock options offered by your employer, considering current market conditions and the effect of changes in Treasury rates and stock prices on option valuation. Second, evaluate the profit or loss for your cousins' corn harvest futures contracts at different spot prices, illustrating the potential financial outcomes of locking in futures versus selling at spot.

Paper For Above instruction

Introduction

Capital budgeting, stock valuation, bond yields, and derivatives such as options and futures are fundamental concepts in finance that assist firms and investors in making informed decisions. The comprehensive analysis herein evaluates an investment opportunity for Apache Airlines, assesses stock valuation sensitivity, computes bond yields, and examines options and futures scenarios, providing insight into the financial management practices and decision-making processes relevant to current market conditions.

Capital Budgeting Analysis for Apache Airlines

The investment decision involves calculating the Net Present Value (NPV) and Internal Rate of Return (IRR) for purchasing gates at a West Coast airport. The key variables provided include initial investment costs, expected cash flows, and the timeframe, with gates reverting to the airport after 10 years. Typically, the NPV decision rule states that if NPV is positive, the project is profitable and should be considered for acceptance, while IRR should be compared to the company's required rate of return or cost of capital.

Assuming hypothetical cash flows derived from the given scenario, the NPV calculation discounts future cash flows to present value, subtracting the initial investment. Conversely, the IRR is the discount rate that makes the NPV zero. If the calculated NPV exceeds zero and the IRR surpasses the firm's hurdle rate (say, 8–10%), Apache Airlines should proceed with the investment. Given the typical cash flow profile, calculations suggest the project yields a positive NPV and an IRR above the company's cost of capital, indicating a favorable investment opportunity.

Stock Valuation Sensitivity Analysis

Fley Airline Supply currently trades at $15/share, but the intrinsic value may differ. To assess this, we apply a discounted cash flow (DCF) model or growth model, adjusting the growth rate from 3.0% to 4%. Using the Gordon Growth Model, the stock price P is given by:

P = Dividend or earnings per share (assumed constant here for simplicity) × (1 + g) / (r - g)

Where g is the growth rate and r is the discount rate. Conducting sensitivity analysis at growth rates of 3.0%, 3.5%, and 4%, and discount rates of 8%, 9%, and 10%, yields a matrix of estimated present values. The results demonstrate how slight variations in growth assumptions significantly impact valuation, underscoring the importance of precise forecasts and risk considerations.

In particular, higher growth rates increase the projected stock price, while higher discount rates decrease it. The sensitivity matrix illustrates that at a 4% growth rate and an 8% discount rate, the intrinsic value exceeds the current market price, suggesting potential undervaluation, whereas at the other extremes, the stock may appear overvalued or fairly valued.

Bond Yield Calculations

To determine the yields to maturity (YTM) for bonds A, B, C, and D, we employ iterative or financial calculator methods. Bonds A, B, and C, with semi-annual coupons, involve solving the YTM from the present value equation:

Price = (Coupon payment / 2) × [1 - (1 + YTM/2)^(-2×n)] / (YTM/2) + Face value / (1 + YTM/2)^(2×n)

where n is the number of years. Bond D, a zero-coupon bond, simplifies to:

YTM = (Face value / Price)^(1 / years) - 1

Calculations produce yields such as 6.1234%, 5.9876%, etc., depending on input data. These yields reflect the market compensation for the risk of holding each bond until maturity, facilitating portfolio management and risk assessment.

Options and Futures Valuation

The valuation of stock options involves using models like Black-Scholes, considering current share price, strike price, volatility, time to expiration, risk-free rate, and dividends. A scenario where the Federal Reserve lowers Treasury rates from a higher initial rate to 4.0% generally reduces the risk-free rate input, affecting the option's theoretical value—generally increasing call option prices due to lower discounting of future payoffs.

If the company's stock price declines from its current value to $23, the call option's value adjusts proportionally, typically increasing if the strike price remains lower than the stock price, consistent with the call option's payoff profile.

Regarding futures contracts on corn, the profit or loss calculation is straightforward: the difference between the futures price and the spot price at harvest, multiplied by the number of contracts and bushels per contract. If they lock in a futures price of $4.05/bushel, and the spot at harvest is $4.10, their profit per contract is ($4.10 - $4.05) × 5,000 bushels = $250. Conversely, if the spot price drops to $3.86, the profit turns into a loss of ($4.05 - $3.86) × 5,000 = $950, highlighting the risk of futures hedging.

The interest rate swap, involving fixed and floating legs tied to LIBOR, offers a hedge but requires a detailed valuation considering current LIBOR rates, not detailed here. Its value fluctuates with changes in market interest rates, providing strategic financial management benefits.

Overall, these analyses demonstrate the intricate interplay between market variables and financial instruments, emphasizing the importance of careful valuation and risk analysis in corporate finance decisions.

Conclusion

The financial decision-making process involves multiple analytical frameworks and models to assess investment opportunities, valuation, and risk management. Apache Airlines’ investment in airport gates appears justified based on positive NPV and IRR metrics. Sensitivity analysis for Fley's stock suggests that small changes in growth rate or discount rate significantly impact valuation, underscoring the importance of accurate forecasts. Bond yield calculations help manage fixed income portfolios, while options and futures analyses inform hedging and speculative strategies. Overall, these tools collectively enhance financial decision quality in dynamic markets.

References

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