FINANCE Boeing 7 E 7 Professor Andr Farber

FINANCE Boeing 7 E 7 Professor André Farber Solvay Business School Université Libre de Bruxelles Fall 2004 MBA 2004

The Boeing Co (BA) – early 2003 • • • Stock price (June 16, 2003): $36. 41 Number of shares: 800 m (Yahoo) Market Cap: $29. 1 b (Book Equity $7. 7 b) Debt: $14. 4 b (Exhibit 2) Enterprise value: $43. 5 b MBA 2004 2

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The Boeing 7 E 7 decision • Investment 2004 -2007 • R&D expense: • Capital expenditure: (Exhibit 8) $5, 100 m $1, 700 m MBA 2004 4

FCF calculation (Exhibit 8) After-tax profit + Depreciation -Change in WCR -Capital Expenditure = Free Cash Flow MBA 2004 5

Decision rule Internal Rate of Return IRR: 15. 66% MBA 2004 6

Payback period MBA 2004 7

Cost of Capital Calculation Commercial Beta Debt Beta Asset Defense Beta Equity Beta MBA 2004 8

Step 1: Boeing’s Unlevered Beta Exhibit 10 60 months beta against S&P 500 MBA 2004 9

Step 2: Boeing’s Commercial Beta MBA 2004 10

Cost of capital calculation (all equity) • Risk-free interest rate rf: TBill 0. 85% / TBond 4. 56% • Market risk premium r. M – rf: 8. 4% / 6. 4% (see next page) • Beta (asset): 0. 88 / 1. 02 TBill: TBond MBA 2004 11

Total returns US 1926 -2002 Arithmetic Mean Standard Deviation Risk Premium 12. 2% 20. 5% 8. 4% Small Company Stocks 16. 9 33. 2 13. 1 Long-term Corporate Bonds 6. 2 8. 7 2. 4 Long-term government bonds 5. 8 9. 4 2. 0 Intermediate-term government bond (1926 -1999) 5. 4 5. 8 1. 6 U. S. Treasury bills 3. 8 3. 2 Inflation 3. 1 4. 4 Common Stocks Source: Ross, Westerfield, Jaffee (2005) Table 9. 2 MBA 2004 12

Weighted Average Cost of Capital • Motivation: • Project partially funded with debt • Interest payments are tax deductible Tax shield • V = VU + VTS WACC < r. Asset • If constant debt level: • If constant debt ratio L=D/V • (Miles Ezzel with continous rebalancing) MBA 2004 13

Using the WACC • Suppose • Cost of capital unlevered r. Asset = 10% (NPV=$3, 561 m) • Cost of debt r. Debt = 5. 18% (Weighted average YTM) • Tax rate TC = 35% • L = D/V = 30% MBA 2004 14