Western Airlines is considering a new route that will require adding an additional Boeing 777 to its
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a. As a one-year decision, does purchasing or leasing the plane have higher NPV?
b. Suppose the funds to purchase or lease the plane will come from equity holders (for example, by reducing the amount of Western’s current dividend). Western also has one-year debt outstanding, and there is a 10% (risk-neutral24) probability that over the next year Western will declare bankruptcy and its equity holders will be wiped out. Otherwise, the debt will be rolled over at the end of the year. Is purchasing or leasing the plane more attractive to equity holders?
c. At what (risk-neutral) probability of default would equity holders’ preference for leasing versus purchasing the plane change?
Cost Of Capital
Cost of capital refers to the opportunity cost of making a specific investment . Cost of capital (COC) is the rate of return that a firm must earn on its project investments to maintain its market value and attract funds. COC is the required rate of...
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