Argo Airlines, a privately held firm, is looking to buy additional gates at its home airport for $635,000 Argo has $200,000 in the bank but that money may not be spent as it is used to pay salaries, suppliers, and equipment Argo asked its bank for a loan but the bank refused saying that Argo's interest-bearing debt to equity was too high at 3.1 The bank said that Argo needed to lower that ratio below 2.3 in order to get the loan Separately, SkyBlue Airlines has approached Argo to see if Argo will buy it.

Argos CFO hired you to help with the following task:

1. You were given SkyBlue's 2019 income statement (IS) and balance sheet (BS), along with forecasts of the revenue growth and tax rates You must forecast the IS and BS for the next 3 years..

IMPORTANT: SHOW FORMULAS USED TO CALCULATE

INFORMATION FROM PREVIOUS QUESTIONS BELOW

E 1 B . Actual 2018 359 85 D Projected 2019 2020 2021 Notes Calculation (Use for Free Cash Flow valuation!) Hold level Calculation Use implicit rate of 2018 Calculation 274 58 216 Increase at average growth rate 2 Income Statement 10 EBIT 11 - Interest 12 EBT 13 - Taxes 14 = Net Income 15 Balance Sheet 16 Cash 17 Notes and Acc. Rec. 18 Inventory 19 Prepaid 20 Current Assets 21 Other 22 Total Assets 23 24 Bank Loan 25 Payables 26 CPLTD 27 Other 28 Current Liabilities 29 LTD 30 Equity 31 Total Liabilities & Equity 32 33 Working Capital 230 1,126 965 75 2,396 1,000 3,396 Leave flat 830 55 50 75 Plug to make balance sheet balance Increase at average growth rate Leave flat Leave flat 1,010 550 1,836 3,396 LTD of previous year minus CPLTD of current year Equity of previous year plus net income of current year Exclude Bank Loan A B 1 6 Component 1 Net Income (MS) 2 Earings per share 3 # of shares (M) 4 Price per share 5 Market Value - Equity (M) 6 Market Value - Debt (M) 7 Market Value - Total (M) 8 -% Debt 9 -% Equity 10 Beta (levered) 11 Beta (unlevered) 12 Average Beta (unlevered) Caledonian 22.00 0.80 27.50 11.00 303 230 533 43% 57% 1.20 0.68 D E Laker Source 20.00 Given 1.23 Given 16.26 Net Income / Earnings per share 11.00 Given 179 # of shares x Price per share 44 Given 223 Market Value - Debt + Equity 20% Market Value - Debt/Market Value - Total 80% 1-% Debt 0.80 Given 0.64 Beta (levered) x % Equity 0.64 Average 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 Values for combined Argo/SkyBlue airline: % Debt 33.0% % Equity 67.0% Beta (relevered) 0.96 Risk free rate 3.0% Market risk premium 5.5% Expected equity return 8.3% Expected cost of debt 5.0% Tax rate 21.0% WACC 6.864% Given 1- % Debt Average Beta (unlevered) / % Equity Assumption Historical figure CAPM calculation Given Statutory rate Weighed average of costs of equity and debt B D E F G H I J K L M N 0 Q R S 1 2 Here the initial; cost is 635,000 3 4 working capital investment is = 200,000.00 5 6 assuming that the working capital is recovered in the last year 7 8 9 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 7 10 Initial investment working capital 0 Year 1 (635,000.00) (200,000.00) 11 12 13 operating cash flow 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 555,000.00 (working capital recovery is added) 14 15 Total (835,000.00) 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 555,000.00 16 17 Here we first calculate the IRR by using the excel IRR formula 18 IRR 19 20 21 IRR(D15:K15) 39.25% 22 the discount rate is not given, so we are assuming that the discount rate is 15% 23 24 NPV @ 15% NPV(15%, E15:K15) + D15 25 26 717,136.41 27 28 29 30 E 1 B . Actual 2018 359 85 D Projected 2019 2020 2021 Notes Calculation (Use for Free Cash Flow valuation!) Hold level Calculation Use implicit rate of 2018 Calculation 274 58 216 Increase at average growth rate 2 Income Statement 10 EBIT 11 - Interest 12 EBT 13 - Taxes 14 = Net Income 15 Balance Sheet 16 Cash 17 Notes and Acc. Rec. 18 Inventory 19 Prepaid 20 Current Assets 21 Other 22 Total Assets 23 24 Bank Loan 25 Payables 26 CPLTD 27 Other 28 Current Liabilities 29 LTD 30 Equity 31 Total Liabilities & Equity 32 33 Working Capital 230 1,126 965 75 2,396 1,000 3,396 Leave flat 830 55 50 75 Plug to make balance sheet balance Increase at average growth rate Leave flat Leave flat 1,010 550 1,836 3,396 LTD of previous year minus CPLTD of current year Equity of previous year plus net income of current year Exclude Bank Loan A B 1 6 Component 1 Net Income (MS) 2 Earings per share 3 # of shares (M) 4 Price per share 5 Market Value - Equity (M) 6 Market Value - Debt (M) 7 Market Value - Total (M) 8 -% Debt 9 -% Equity 10 Beta (levered) 11 Beta (unlevered) 12 Average Beta (unlevered) Caledonian 22.00 0.80 27.50 11.00 303 230 533 43% 57% 1.20 0.68 D E Laker Source 20.00 Given 1.23 Given 16.26 Net Income / Earnings per share 11.00 Given 179 # of shares x Price per share 44 Given 223 Market Value - Debt + Equity 20% Market Value - Debt/Market Value - Total 80% 1-% Debt 0.80 Given 0.64 Beta (levered) x % Equity 0.64 Average 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 Values for combined Argo/SkyBlue airline: % Debt 33.0% % Equity 67.0% Beta (relevered) 0.96 Risk free rate 3.0% Market risk premium 5.5% Expected equity return 8.3% Expected cost of debt 5.0% Tax rate 21.0% WACC 6.864% Given 1- % Debt Average Beta (unlevered) / % Equity Assumption Historical figure CAPM calculation Given Statutory rate Weighed average of costs of equity and debt B D E F G H I J K L M N 0 Q R S 1 2 Here the initial; cost is 635,000 3 4 working capital investment is = 200,000.00 5 6 assuming that the working capital is recovered in the last year 7 8 9 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 7 10 Initial investment working capital 0 Year 1 (635,000.00) (200,000.00) 11 12 13 operating cash flow 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 555,000.00 (working capital recovery is added) 14 15 Total (835,000.00) 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 355,000.00 555,000.00 16 17 Here we first calculate the IRR by using the excel IRR formula 18 IRR 19 20 21 IRR(D15:K15) 39.25% 22 the discount rate is not given, so we are assuming that the discount rate is 15% 23 24 NPV @ 15% NPV(15%, E15:K15) + D15 25 26 717,136.41 27 28 29 30