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FINE 332 | Jan ’22 | worldwide.erau.edu
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FINE 332
Corporate Finance I

Module 5 Problem Set
Valuing an Airline for Acquisition

JTM Airlines, a privately held firm, is looking to buy additional gates at its home airport. It has money in the
bank, but that money may not be spent as it is used to pay salaries, suppliers, and equipment. It asked its
bank for a loan, but the bank refused unless the project had a return higher than JTM’s weighed average cost
of capital. Separately, PAN Airways’s CEO approached JTM’s CEO to sell the airline.

As a result of all this, JTM has contracted you to:

1. Calculate JTM’s weighed average cost of capital (WACC) based on two airlines trading in the

capital markets – PDM and GAL. Since JTM does not trade, it has no beta, so you need to use these
two firms as proxies. JTM’s CFO kindly gave you the necessary information on PDM and GAL for you
to do this with some assumptions for the combined entity too.

2. Aside from the purchase price, the gates will require a working capital infusion at purchase. JTM
estimates the gates will generate cash flows over the next 15 years. After that, the gates will revert back to
the airport operator and 100% of the working capital is recovered. Calculate the NPV and IRR of the
gates.

3. You were given PAN’s 2020 income statement (IS) and balance sheet (BS), along with forecasts of the
revenue growth. Forecast the IS and BS for the next 5 years.

4. You must value PAN Airways using free cash flows to see the price of the equity.

5. Last, you will consolidate the calculated balance sheet for PAN and the actual balance sheet for JTM
and calculate the three ratios shown in the JTM balance sheet. All the data you need is in the template
provided for you by JTM’s CEO.

Prob. 1 WACC

(M$)

5

1.50

(M)

% Debt

% Equity

alfonso canella: alfonso canella:
Net Income / Earnings per share

5.5%

%

Component

PDM

GAL

Net Income

3

1.50

2

0.2

Earnings per share

3.00

# of shares (M)

Price per share

24.00

14.00

Market Value –

Equity

Market Value – Debt (M)

100

80

Market Value – Total (M)

–

% Debt

–

% Equity

Beta (levered)

1.20

1.25

Beta (unlevered)

Average Beta (unlevered)

Values for combined JTM/PAN Airways:

50.0%

Beta (relevered)

alfonso canella: alfonso canella: Average Beta (unlevered) / % Equity

alfonso canella: alfonso canella: Net Income / Earnings per share

Risk free rate

2.0%

Market risk premium

5.5%

Expected equity return (CAPM)

Expected cost of debt

Tax rate

2

1.0

Weighed average cost of capital (WACC)

Prob. 2 Gate

NPV

and

IRR

(1,200,000)

Flow

8

,751

NPV
IRR

Start	Year 1	Year 2	Year 3	Year 4	Year 5	Year 6	Year 7	Year 8	Year 9	Year 10	Year 11	Year 12	Year 13	Year 14	Year 15
Investment		(1,200,000)
	Working Capital
Operating		Cash	210,000	216,300	222,789	229,473	236,357	243,	44				250	258,274	266,022	274,002	282,222	290,689	299,410	308,392	317,644
Total Cash Flow

Prob. 3 PAN Airways financials

3.0%

3.0%

Increase at a yearly rate of

Increase at a yearly rate of 2.0%

Increase at a yearly rate of 2.0%

Increase at a yearly rate of 3.0%

Increase at a yearly rate of 4.0%

Increase at a yearly rate of 2.0%

Net Income

and supplies, net

Other

Increase at Operating Revenue growth rate

Increase at Operating Revenue growth rate

44

Other

LTD

of current year

Equity

6,141

Working Capital

		Actual			Projected
Income Statement	(in ‘000 $)		2020			2021			2022			2023		2024		2025		Notes
Operating Revenue growth rate		4.0%	3.8%	3.5%				3.0%
Total Operating Revenues	8,219
Wages, benefits, payroll support, incentives	2,211							Increase at a yearly rate of
Aircraft fuel, incl. hedging gains/losses	1,790	5.0%
Aircraft maintenance/rent	565
Landing fees and other rentals	437
Depreciation/amortization	374
All other expenses	1,300
Total Operating Expenses	6,677
Operating Income	1,542
Total non-operating income/(expense)	(475)
	Income before taxes	1,067
Income tax expense/(benefit)	224
843
		Balance Sheet
Cash and investments	1,244			Increase at Operating Revenue growth rate
Accounts receivable	1,249
		Inventory	645
						Other		192
		Current Assets	3,330
2,811
		Total Assets		6,141
		Bank Loan	2,959	Plug to make balance sheet balance
		Payables	248
CP			LTD
93
		Current Liabilities	3,344
1,877	LTD of previous year minus		CPLTD
920	Equity of previous year plus net income of current year
		Total Liabilities & Equity
Exclude Bank Loan

Prob. 4 PAN Airways valuation

(in ‘000 $) 2021 2022 2023 2024 2025

Income before taxes

PAN Airways Cash Flow Valuation

TV

+ Interest

= Income before interest and taxes (EBIT)

EBIAT

– Change in Working Capital

– Change in Other assets

Free Cash Flow (FCF)

PV of FCF

– Existing Debt

= Value of equity

Prob. 5 JTM Balance Sheet

Actual Projected

Balance Sheet 2020 2021 2022 2023 Notes
Cash

250 250 250

Inventory

192

Current Assets

Other

Total Assets

Bank Loan

Payables

CPLTD

450 450

Other

Current Liabilities

LTD

Equity

Total Liabilities & Equity 16,358 19,290 22,778 27,195

0.1 0.1 0.1

1.0

0.2 0.1

240
	Notes and Acc. Rec.	7,013	8,385	9,998	12,040
5,588	6,630	7,905	9,520
	Prepaid	195	232	280
13,033	15,460	18,385	22,090
3,325	3,830	4,393	5,105
	16,358		19,290		22,778		27,195
600	656	657	680
3,057	3,705	4,417	5,320
433			450
1,477	1,712	1,994	2,350
5,567	6,523	7,518	8,800
2,458	2,008	1,558	1,108
8,333	10,759	13,702	17,287
	Ratios:
	Bank Loan to Receivables					0.1
	Liabilities / Equity	0.8	0.7	0.6
	Debt / Equity	0.4	0.3

Prob. 5 Consolidated BS

Actual Projected
Balance Sheet

Cash
Notes and Acc. Rec.
Inventory
Prepaid
Current Assets
Other
Total Assets
Bank Loan
Payables
CPLTD

Other

Current Liabilities
LTD
Equity
Total Liabilities & Equity

Ratios:

Bank Loan to Receivables
Liabilities / Equity
Debt / Equity

v. JAN ’22

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