Reference no: EM132158704

Assignment: Fleet Replacement Analysis

This assignment has three objectives, to: 1) become familiar with the type and magnitude of mainline aircraft operating costs; 2) understand the operating economics of new versus older aircraft; and, 3) learn how net present value analysis is used in capital acquisition decision- making.

WestJet, Canada's second largest airline behind Air Canada, has engaged the aviation consulting firm IFC International to evaluate whether it should continue its expansion to Europe with used Boeing 767-300s or purchase new Boeing 787-8 aircraft. You are the senior financial analyst with IFC assigned to this project and will prepare a memorandum with your analysis and recommendations to Mr. Harry Taylor, WestJet's Chief Financial Officer.

Note: The assignment has detailed requirements similar to those that would be given to a financial analyst. Read it very carefully before beginning work. Ensure that your submission includes all required elements.

IFC staff have surveyed WestJet's finance staff to arrive at several critical assumptions about aircraft costs and performance.

1. Airlines with solid balance sheets, such as WestJet, can normally purchase new aircraft for about two-thirds (2/3) of list price. After 15 years, a B-787-8 is estimated to be worth about half of the original purchase price (not list price) in the used market whereas a B-767-300 will have only $500,000 in scrap value 15 years hence. Even if WestJet should continue to operate the new planes beyond 15 years, these values still represent an opportunity cost.

2. Because WestJet's segment lengths are relatively long, it believes fuel burns (gallons per block hour) on a new B-787-8 will meet the lowest of any airline and that speed in miles per block will equal the highest of any airline.

3. Although WestJet's business model does not provide for high aircraft utilization, because of the B-787 greater range capability, annual utilization (block hours per year) for the B-787 will be 20% higher than for the B-767. Note: This annual utilization is for one aircraft, not the entire fleet.

4. WestJet plans to outsource its heavy maintenance, so it will pay another airline or maintenance repair facility for both direct and burden (overhead) costs. If it decides to purchase a new fleet type, it believes that its first year maintenance expense will equal the lowest for any airline operating the Boeing 787 but that these costs will increase by 2% per year. However, as the fleet of B-767s age, WestJet believes that maintenance costs for this fleet type will increase by 5% per year.

5. WestJet has a small business class in its 767s, but most of the cabin is configured in high density coach class for a total of 262 seats. It will configure new 787s similarly with the same seating capacity.

6. WestJet does not expect crew expenses to change with the choice of aircraft, so this and other immaterial costs are not included in the analysis.

Task

Enter data into the Excel template. Ensure that the spreadsheet is fully complete; there should be no empty cells. As you will see, this decision is critically dependent on your projection for future fuel costs and the discount rate employed. Run a few "sensitivity" analyses with varying fuel and discount rates to see how the fleet replacement decision changes.

Remember that the net present value obtained is a cost of operation. The spreadsheet computes the cost per available seat mile (CASM).

The aircraft with the lowest net present value CASM is the best financial choice. Prepare a memorandum (not more than 2 pages not including appendices) to Mr. Taylor summarizing your analysis and making a recommendation. Remember that Mr. Taylor and his staff will need to understand how the analysis was conducted. Explain your assumptions and methodology concisely. Insert (copy and paste) and reference Excel worksheets as appendices to support your fleet replacement recommendation. (Not incidentally, if spreadsheets are not attached, it isn't possible to verify that the data were correctly extracted from the Airline Monitor). Use other tables and graphs as appropriate to support your recommendation.

Attachment:- Assignment.rar