Reference no: EM133638072

Question

OMNIA Airlines is considering an important decision regarding their fleet. There current Bombardier Turboprops, which number 35 aircraft, have suffered tail damage due to an autopilot malfunction on landings. The planes are still flying safely but need expensive repairs on their tails and fuselage at a cost of $4.2m per plane. Repairs would be conducted on a rotating basis, so there will be no significant fleet reduction impairing ongoing operations. The repairs would allow these planes to serve for 10 more years. After 10 years their salvage value would be $2m per plane. Maintenance costs are $280,000 per plane each year. Each plane carries a passenger load of 45 passengers, with a 100% load factor, as well as 2,000 lbs. of freight at a fee of $2.45 per pound paid by the shippers. The average ticket price per flight is $67 and each plane flies 1250 missions per year. Each mission has a fuel burn of $4300. An alternative open to OMNIA Air is to sell the damaged Bombardiers for $3m per plane and purchase 35 Mitsubishi Fanjets at $18m per plane. The planes carry 5 additional passengers compared to the turboprops, burn 5% more fuel, but require 20% less in maintenance costs per year. Each pane flies 1450 missions per year. After 10 years they would be retired and each plane would have a salvage value of $5m. The capital structure of OMNIA consists of $400m in stock with a required return of 14% and 1.2b in bonds with a current yield to maturity of 8.5%. Assume the corporate tax rate is 21%. Also assume that the firm will have to spend $800,000 on pilot/mechanic training when any new aircraft are introduced. What is your recommendation to OMNIA, should they repair the Bombardiers or buy the new Mitsubishis. Show all your work and explain the rationale for your decision.