Question

DirectJet Airline is a major carrier in the US and has an extensive network of operation. DirectJet has borrowed $1,228.92 million from a local bank to expand its fleet of B787s. DirectJet will pay back this loan with payments of $200 million per year for 10 years. Assume that DirectJet Airline pays $500 million at the end of 10 years in addition to annual payments of $200 million.

a-)Draw cash-flow diagram.
b-)Find PW when MARR = 12%. Is this project financially acceptable ?
c-)Determine the IRR. Is this project financially acceptable if the MARR = 12% ?

Answer 1

The borrowed amount is $1228.92 million,i.e the incoming cash flow for year 0,then we have 10 cash outflows of $200 million per year along with a balloon payment of $500 million at end of year 10.

a) Cash Flow Diagram will look something like this

Years	0	1	2	3	4	5	6	7	8	9	10
Cash Flows	+1228.92	-200	-200	-200	-200	-200	-200	-200	-200	-200	-700

b) The PV of the project can be calculated by the given discount rate of 12%

NPV=1228.92-(200/(1+0.12)^1)-(200/(1+0.12)^2)-(200/(1+0.12)^3)-(200/(1+0.12)^4)-(200/(1+0.12)^5)-(200/(1+0.12)^6)-(200/(1+0.12)^7)-(200/(1+0.12)^8)-(200/(1+0.12)^9)-(700/(1+0.12)^10) = $ -55million

As the NPV is less than 0,the project is not viable

c) The IRR is that value for which the NPV =0,hence we will use the following equation

0=1228.92-(200/(1+x)^1)-(200/(1+x)^2)-(200/(1+x)^3)-(200/(1+x)^4)-(200/(1+x)^5)-(200/(1+x)^6)-(200/(1+x)^7)-(200/(1+x)^8)-(200/(1+x)^9)-(700/(1+x)^10)

Solving for x,we get the IRR to be 13%, as the IRR is greater than the 12% rate,the project is not acceptable at 12% discount rate.