Capital Budgeting Information

Present an itemised breakdown (and the total) for each of the following:

Q1. The Cash Flows at the start.

Q2. The Cash Flows over the life.

Q3. The Cash Flows at the end.

Information gathered from various departments:

1. Just prior to the COVID pandemic (approximately one-and-a-half years ago), Kangaroo Airlines undertook its first non-stop test flight of a Skyliner plane from New York to Sydney. The flight took 18 hours to cover the 16,200 kilometre journey. Typically, this route would take approximately 22 hours including a fuel stop in Los Angeles or San Francisco. The Skyliner plane has a fuel tank of 125,000 litres (each plane will be filled with this much fuel per journey), is more fuel efficient, and has less economy seats than existing planes flying the same route. During the test Skyliner flight, scientists and researchers were aboard to analyze the activity, alertness, food and drink, and sleep patterns of passengers, crew, and pilots. Passengers onboard were very satisfied with the increased comfort of the seats, increased space between seats and in the aisles, with the service from the cabin crew, satisfied with the amount of food and drink provided, and were pleasantly surprised that they only experienced similar levels of jet-lag as experienced during the typical one-stop flight. In a post-flight survey, the average score given by passengers for overall satisfaction of the flight was 4.2 out of 5. The test flight cost Kangaroo Airlines $500,000. All operating expenses are tax deductible in the year the expense is incurred and the company tax rate is 30%. Hint: Assume that all operating cash flows occur at the end of the year, unless specified otherwise.

2. Kangaroo Airlines began exploring the idea for introducing a direct flight from Sydney to New York following the results of a market research report provided by an external company Drake Consulting Group. The report indicates that both business and economy passengers would be interested in a direct long-haul flight, if it saved them even a few hours in travel time, if larger seats with more comfortable padding and an increased reclining ability were provided. The market research report cost Kangaroo Airlines $45,000 three years ago.

3. Two years ago, Kangaroo Airlines paid the two largest plane manufacturers (Airtaxi and Eagle Manufacturers) $1 million each to design a Skyliner plane capable of undertaking the direct flight between Sydney and New York. In addition, for the winning design, Kangaroo Airlines will pay the winning plane manufacturer $80 million per year for exclusive rights to use the planes for the first three years of the Skyliner project. Melon and Lebron decided that Kangaroo Airlines will use Airtaxi to manufacturer the Skyliner planes. Rihanna suggests that the $1 million design fee to Airtaxi and Eagle Manufacturers be recorded in the capital budgeting analysis, split evenly during each year of the projects life.

4. Today, Kangaroo Airlines will purchase three Skyliner planes (each with a unique engine number) for a total cost of $600 million. By purchasing three planes, this ensures that Kangaroo Airlines can have one direct flight leaving New York to Sydney each day, and have one direct flight leaving Sydney to New York each day. Historically when Kangaroo Airlines have purchased new planes they have used a useful life equal to 30 years when reporting depreciation in their internal reports

5. Kangaroo Airlines is owned by Aussie News Corporation. Aussie News Corporation is the biggest news, television and media company in Australia, and typically applies a required return of 9% for its capital budgeting projects. Ms Ronaldo-Grande suggests that this required return should be applied to the Skyliner project as it will help increase the net present value of the project. The required return that Kangaroo Airlines applies to projects with a similar risk profile as the Skyliner planes is 12%.

6. Maintenance, safety checks, and cabin cleaning will take place once the Skyliner planes land in Sydney and New York. The total annual maintenance, safety checks, and cabin cleaning costs for Kangaroo Airlines will increase by $6.1 million from $300 million from the introduction of the three Skyliner planes.

7. In order for the immediate operation of the Skyliner planes, Kangaroo Airlines must increase its operating inventory by $2 million per plane, and its total spare parts inventory across the three Skyliner planes by $6 million. The cost of replenishing all inventory is included in the annual maintenance, safety checks, and cabin cleaning cost figure.

8. Due to uncertainty relating to international boarder restrictions and the success of vaccine programs around the world, Kangaroo Airlines will pay for some of the hotel quarantine costs incurred by passengers landing in Sydney during the first two years of operation. In Year 1, it is anticipated that hotel quarantine costs will total $10 million for Kangaroo Airlines, however, only 5% of these costs are related to the Skyliner planes. It is anticipated in Year 2 that total hotel quarantine costs for Kangaroo Airlines will be double that of Year 1, and from this total 7% are attributed to the Skyliner planes. From Year 3 onwards, hotel quarantine is not expected to be required by travellers.

9. It is forecasted that in Year 3 that any airline company that has planes which depart or land in Australia will have to pay a climate change fee to the Australian Government. Irrespective of the number of times each unique plane departs or arrives in Australia, this climate change fee will total $1 million p.a. per plane with unique engine number.

10. Excluding the Skyliner planes, the total current annual fuel costs for Kangaroo Airlines is $7,000 million. It is estimated that a total of 1000 flights will be undertaken across the three Skyliner planes each year. Today jet fuel costs $1.50 USD per gallon, and 1 USD is equal to 1.30 AUD (where USD is United States dollars and AUD is Australian dollars). Accounting for seasonal patterns and macroeconomic changes, it is expected that the price of jet fuel and the USD/AUD exchange rate will be the same over the next ten years.