The airline industry of Bangladesh is still in its infancy. Especially the domestic routes are not

lucrative enough yet since very few fly on air from one district to another. Currently there are

five major airlines operating in Bangladesh: Biman, NovoAir, Regent, Airastra and US Bangla.

A new airline company named Balaka Airlines is exploring the possibility of starting domestic

flights either for DHK$-$CTG route or DHK$-$RAJ route. Expenses to consider include aircraft

rental cost, gate and landing fees and labor costs such as local baggage handlers and maintenance

workers.

The following table provides a summary of the after$-$tax cash flows associated with two

investment altematives. The after$-$tax cash flows associated with each investment are:

The firm needs to decide now which project it should invest and thus it needs to apply different

capital budgeting tools.

A number of capital budgeting tools need a discount rate. The financial manager of the company

identified that the firm's WACC is the appropriate discount rate for evaluating the projects

applying the capital budgeting tools. But, its WACC is not yet calculated.

So$,$ now the firm is interested in measuring its overall cost of capital. The firm is in the $40\%$tax

bracket. Current investigation has gathered the following data:

Debt: The firm can raise an unlimited amount of debt by selling BDT $1,000$ par$-$value, $10\%$

coupon interest rate, $10-$year bonds on which annual interest payments will be made. Current

market price of the bond is BDT $1,200.$

Preferred stock: The firm can sell $10\%($annual dividend$)$ preferred stock at its BDT $100$ per

share par value. The cost of issuing and selling the preferred stock is expected to be BDT $2\mathrm{.}5$ per

share. An unlimited amount of preferred stock can be sold under these terms.

Common stock $($New issue$)$: The firm's common stock is currently selling for BDT $80$ per

share. The firm expects to pay cash dividends of BDT $6$ per share next year. The firm's dividends

have been growing at an annual rate of $6\%,$ and this rate is expected to continue in the future.

Floatation costs are expected to amount to BDT $3$ per share.

The financial manager of the company is already overwhelmed with enormous workload and

hence hired you as the assistant manager of the finance department for the company and seeing

your competence in the area of finance assigned you to suggest the best route based on the

following calculations

Calculate specific cost of each source of financing $($Round the answer to the nearest two

decimal points percent, like $11\mathrm{.}12\%).$

Calculate WACC $($The firm's optimum capital structure shows $40\%$ Long$-$term debt; $15\%$

Preferred stock, and $45\%$ Common stock equity$).$

Determine the Payback period, net present value, internal rate of return and profitability

index for both of the routes.

Which one is the best route if they are independent or mutually exclusive projects?

Suppose DHK$-$CTG route is risky due to the possible entry of new competitor in the

future. Accordingly, the risk$-$adjusted discount rate for this route will be $7\%$ plus existing

rate. How this will affect your decision? Support your decision by calculation.

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