Question

In an effort to capture the large jet market, Airbus considers developing its A380, which is capable of carrying 800 passengers. The project requires an initial investment of $13 billion but no additional capital spending or change in net working capital after year 0. It will be entirely financed by equity thus incurs zero interest expense. In discussing the project, Airbus stated that the company would break even when 249 A380s were sold. The break-even sales figure given is the accounting break-even.

a. What is the free cash flow per plane at the break-even sales quantity?

b. Airbus promised its shareholders a 20% rate of return on the investment. If sales of the plane continue in perpetuity, how many planes must the company sell per year to deliver on this promise?

c. Suppose instead that the sales of the A380 last for only 10 years. How many planes must Airbus sell per year to deliver the same rate of return?

Answer 1

a.Free cash flow per plane at break even sale = 13,000,000,000/ 249 = $52,208,835.34

b. Cash flow required to earn 20% return in perpetuity = 13,000,000,000* 20% = 2,600,000,000

No of planes = 2,600,000,000/ 52,208,835.34 = 49.8 or 50 planes (rounded off)

c. Present value of cash flows = 13,000,000,000 / PVIFA(20% ,10) = 3,100,795,839.48

Number of planes to deliver same rate of return = 3,100,795,839.48 / 52,208,835.34 = 59.39 or about 60 planes

Workings:

PVIFA (20%,10)

Year	PV factor
1	0.833333333
2	0.694444444
3	0.578703704
4	0.482253086
5	0.401877572
6	0.334897977
7	0.279081647
8	0.232568039
9	0.193806699
10	0.161505583
	4.192472086