Question

REPLACEMENT CHAIN Rini Airlines is considering two alternative planes. Plane A has an expected life of 5 years, will cost $95 million, and will produce after-tax cash flows of $35 million per year. Plane B has a life of 10 years, will cost $112 million, and will produce after-tax cash flows of $25 million per year. Rini plans to serve the route for 10 years. The company’s WACC is 9%. If Rini needs to purchase a new Plane A, the cost will be $105 million, but cash inflows will remain the same. Should Rini acquire Plane A or Plane B? Explain your answer.

Answer 1

Taking a common life period of 10 years. NPV of A is higher at 61.38 million and so acquire Plane A.

Q1	Year	Cash flows-A in Million $	Cash flows-B in Million $
	0	-95	-112
	1	35	25
	2	35	25
	3	35	25
	4	35	25
	5	-70	25
	6	35	25
	7	35	25
	8	35	25
	9	35	25
	10	35	25
	NPV	61.38	48.44