Seminar Questions for The Boeing 7E7 Case

1. What is an appropriate required rate of return against which to evaluate the

prospective IRRs from the Boeing 7E7?
From Case_17_The_Boeing_7E7.xlsb
Product life cycle: 20 years
long life project –> valuation with T-bond
IRR (calculated from 20ys annual cash flow in “Exhibit 8” sheet): 15,66%
Hence the required rate of return should be at least, 15.7% in order to remain in the no
profit and no loss situation.
Please use the capital asset pricing model to estimate the cost of equity. At the date
of the case, the 74-year equity market risk premium (EMRP) was estimated to be
___. Which beta and risk-free rate did you use? Why?
Unlevered beta (a.k.a. Asset Beta) is the beta of a company without the impact of
debt. It is also known as the volatility of returns for a company, without taking into
account its financial leverage. It compares the risk of an unlevered company to the
risk of the market. It is also commonly referred to as “asset beta” because the
volatility of a company without any leverage is the result of only its assets.

From Exhibit 10 of case study:

betaL = 1.62 (I used the highest betaL, the NYSE-60day)
tax rate = 35%
Debt/Equity ratio = 0.525
Calculated betaU = 1.21
Boeing has a commercial and a defense branch, too. Defense segment is a stable,
well financed segment, so I would like to know the commercial beta because
Boeing 7 types are commercial airplanes.
From Exhibit 1 Revenues:
Revenues of Boeing
Commercial 28387 35056 31171 94614 58%
Defense 24957 22815 19963 67735 42%
SUM 162349 100%

defense = 42%
commercial = 58%

1
 From exhibit 10 I calculated Lockheed’s and Northrop’s beta (they are only
defense companies). Average of defense betas = 0.25

1,21 = 0,42*0,25 + 0,58*betacomm

betacomm = 1.90

WACC (based on NYSE) = 12.5%

a. When you used the capital asset pricing model, which risk-premium and risk-
free rate did you use? Why?
It is a long-life-cycle project, I used the 30 year Treasury Bond risk-free rate
(6,56%)
2020 2,150%
2019 2,580%
2018 3,110%
2017 2,890%
2016 2,600%
2015 2,840%
2014 3,340%
2013 3,450%
2012 2,920%
2011 3,910%
2010 4,250%
2009 4,080%
2008 4,280%
2007 4,840%
2006 4,910%
2002 5,430%
2001 5,490%
2000 5,940%
1999 5,870%
1998 5,580%
1997 6,610%
1996 6,710%
1995 6,880%
1994 7,370%
1993 6,590%
1992 7,670%
1991 8,140%
1990 8,610%
1989 8,450%
1988 8,960%
1987 8,590%
1986 7,780%
1985 10,790%
1984 12,410%
1983 11,180%
1982 12,760%
1981 13,450%
1980 11,270%
1979 9,280%
1978 8,490%
Average 6,561%

Source: https://www.macrotrends.net/2521/30-year-treasury-bond-rate-yield-chart

b. Which capital-structure weights did you use? Why?

2. Judged against your WACC, how attractive is the Boeing 7E7 project?
a. Under what circumstances is the project economically attractive?
There are 3 possible scenarios and cases involving Net Present Value (NPV):
 NPV > 0 or positive NPV- the project should be undertaken
 NPV = 0 - we don't gain anything. It's quite easy to go from NPV = 0 to the
negative NPV, hence, should tackle with a great caution.
 NPV< 0 or negative NPV - the project shouldn’t be undertaken

b. What does sensitivity analysis (your own and/or that shown in the case) reveal
about the nature of Boeing’s gamble on the 7E7?
case Exhibit 9 shows that the IRR is very sensitive to development and production
costs. If the percentage of COGS/sales goes from 80% (base case) to 84%, then the
IRR goes from 15.7% to 10.3%.
3. Should the board approve the 7E7?
In view of the above, I would not recommend the project to management
without analyzing the competitors