1. What are the theories, models and implementation in financial management and how the theories will help in practice?
2. Malaysian Airlines Bhd (MAS) is considering a proposal to buy two new passenger aircrafts in order to increase their service capacity. The aircrafts that are being considered are from model Airbus MH370. The price for each aircraft is RM279, 000,000. Generally, it takes two years for Airbus to construct each MH370 aircraft ordered.
The buying process requires MAS to pay down payment, which is 35% of the total aircraft price upon placing the order. The remaining 65% will be paid once the construction process has completed, before the delivery could take place. This is scheduled to be two years from the date where the order is placed. Below is the general information for one Airbus MH370 aircraft:
MAS Airlines Bhd.
Accounting & Financial Department
Aircraft Model – Airbus MH370
COSTS TOTAL AMOUNT REMARKS
Maintenance cost RM5,760,000 per year
All costs are projected to increase by 2% per annum throughout the project’s life.
Salary:
Pilot RM240,000 per year
Air crews RM240,000 per year
Fuel cost RM16,000,000 per year
Insurance RM9,600,000 per year
Aircrafts will be depreciated using simplified straight line depreciation method down to zero.
Each aircraft has 10 years economic life.
Each aircraft is expected to be able to increase MAS’s revenues by RM72, 900,000 during the first year of its operation. The revenue then is projected to increase by 4% per annum throughout the project’s life. Since the aircrafts is the latest model in its class, the company will need to train their pilots and air crews on the aircrafts’ operational aspect. The training which will cost the company RM250, 000 will be conducted in Airbus Training Facility in France only if the aircrafts are purchased.
MAS will finance RM300, 000,000 from the total aircraft price through a loan from one of the local banks at 8.4% per annum. At the end of the project’s life, each of the aircrafts is expected to be sold as used aircraft at prices tabulated as below:
Probabilities
0.20
0.30
0.35
0.15
Aircraft Price (RM)
218,000,240
219,000,420
218,240,240
219,840,460
Two months ago, MAS hired Wong Business Consulting Services Sdn. Bhd. to advise them on the proposal to buy the aircrafts. The consultation cost was RM44, 000 and had already being paid. If the two aircrafts are purchased, MAS will need to rent two hangars owned by Malaysia Airport Bhd. (MAB) for the purpose of aircraft maintenance and repairs. The rental costs for each hangar is RM200, 000 a year. The hangar rental costs will be revised every two years. Based on the discussions with MAB, the hangar rental costs are likely to increase by 2% every time the revision is made.
The corporate tax rate is 24% while the company’s required rate of return is 14%.
A. Based on the information given,
(i) calculate the project’s total initial outlay.
(ii) calculate the annual project cash flows.
(iii) calculate the project’s terminal cash flow.
(iv) how terminal value growth assumptions affect a project’s overall value with the interactive tool: What is your cost of capital?
B. Calculate net present value (NPV) and profitability index (PI) for the project.
C. Calculate the internal rate of return (IRR) for the project.
D. Should MAS proceed with the project? Explain your answer.
E. Assume there is a delay in the aircrafts’ construction process and the delivery could only take place afterthree years (instead of two years) after the order is placed. Could this project still be a viable project for MAS? Explain your answer.
F. Will Pandemic COVID-19 increase the Cost of Capital in the MAS Airlines Bhd and why? Explain by your strategies.
Answers
1.A theory of corporate financial management is summarized from the broad flow of finance literature. Within this, contributions to a normative theory, amenable to corporate financial modeling, are reviewed in some detail. The central propositions of a normative theory are isolated to provide a basis of comparison for the practice of financial modeling, as observed through a field research study. Differences between theory and practice are identified and discussed.
Compared with the experience of ten years ago, computer-based financial modeling systems are today gaining much greater acceptance in business organizations. Despite this, a wide gap seems to exist between the information and logic structures programmed into financial models, and the precepts and algorithms derived from a normative theory of corporate financial management.
Implementation difficulties in three main, but interdependent, areas are identified as causing the gap between theory and practice. First, there is the difficulty of constructing relevant information in a form which would be meaningful in a normative framework. Within the braod set of managerial activities of an organization, there are several relevant logic structures, including: a financial accounting structure; an economic structure dealing with cash flow, economic value, and marginal rates of return to investment: operating information structures dealing with the conduct of an organization's work; and strategic information structures dealing with an assessment of the external and internal human needs which provide a rationale for an organization's present and future existence. The systematic provision of information in each logical mode, and the translation between modes, poses a considerable intellectual and practical challenge. Then there is the problem of dealing satisfactorily with strategic uncertainty, and the way that uncertainty is distributed within the managerial organization. Finally, multiple and conflicting goal dimensions pose considerable problems in terms of an explicit modeling of a corporate objective function. Beyond the intellectual difficulties, moreover, there are political dimensions which cause a reluctance to address an objective function explicitly and directly.
Normative finance theory provides a powerful logic for designing information and decision-making structures to support corporate planning. At present, however, the research reported in this survey paper suggests that the finance model is incomplete, particularly with regard to inclusion of behavioral and political dimensions of organizational processes under uncertainty. Finally, the reader should be forewarned that the literatures referenced in this survey are somewhat disjoint, involving different concepts, language and paradigms. This means that the paper's jargon level to most readers will remain high, even after the authors' attempts to minimize it.
2.
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Question: Dirgahayu Airlines Bhd. (Dirgahayu) Is Considering A Proposal To Buy Two New Passenger Aircrafts In Order To Increase Their Service Capacity. The Aircrafts That Are Being Considered Are From Model Airbus A380. The Price For Each Aircraft Is RM279,000,000. Generally, It Takes Two Years For Airbus To Construct Each A380 Aircraft Ordered. The Buying Process ...
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Dirgahayu Airlines Bhd. (Dirgahayu) is considering a proposal to buy two new passenger aircrafts in order to increase their service capacity. The aircrafts that are being considered are from model Airbus A380. The price for each aircraft is RM279,000,000. Generally, it takes two years for Airbus to construct each A380 aircraft ordered. The buying process requires Dirgahayu to pay down payment, which is 35% of the total aircraft price upon placing the order. The remaining 65% will be paid once the construction process has completed, before the delivery could take place.
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