Case Study 1 1

Running head: CASE STUDY 2: GETTING OFF THE GROUND AT BOEING

Case Study 2: Getting Off the Ground at Boeing

Conor Riley, Collin Steinke, Ashley Twyman, and Shanna Zimmerman

MGMT 565

Dr. Joel Light

September 27, 2009

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Case Study 1: Getting Off the Ground at Boeing

The Boeing Company is known for their innovative technology when it comes to

aircrafts. When Boeing decides to build a new plane, it proves to be a difficult and complicated

mission. For our discussion, the proposed new plane had already been in the research and

development process for two and a half years. Yet, the question remains whether or not it is in

the best interest of the company to continue this undertaking.

Statement of the Problem

Throughout the two and a half years of research and development on this project, Boeing

had already spent $873 million. Cumulative development cost was projected at between $4 and

$5 million. $1.7 was estimated as working capital and an additional $2 billion for personnel

training and production facilities costs. With a cost of capital at 18%, can the Boeing Company

proceed with their project in a profitable manor?

Potential Options for Management Review

Management essentially has three choices upon review of the case: continue with the

project as planned, modify the project in terms of level of complexity and support, or abandon

the project altogether. When analyzing the data for this case and taking into consideration the

many factors that could affect financial performance, it becomes clear that this project has a

significant chance to increase the profitability of the Boeing Company, and would have a

positive overall impact for its stakeholders. While at first glance, the costs appear to be

substantial, the benefits of such an undertaking may still outweigh them and create a winning

formula for the firm.

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Essential Financial Information

A variety of financial information is available to determine whether the Boeing project

should be continued. First to consider is the initial investment of $873 million in research and

development and that Boeing expected to spend between $4 and $5billion in development of the

new plane. The project also required production facilities and training which would encumber

and addition $2 billion as well as an influx of $1.7 billion in working capital during year six.

Finally, the 30-year project’s cash flows and cost of capital (18%) would need to be reviewed.

Analysis

Calculating the net present value (NPV) determines whether a capital budgeting project’s

worth exceeds its costs (Eade & O'Byrne, 2005). The NPV for this project $357.31 million, a

positive indicator for this project. The profitability index of 1.41 suggests a return of $.41 in

NPV for every $1 invested in the project. Furthermore, the internal rate of return (IRR) is 19.7%.

IRR represents the project’s actual return and is favorable if the IRR exceeds the cost of capital,

or required return, for the project. When considering payback, Boeing’s cash flows (after tax)

indicates that by year 10 they can expect to recover the initial $873 million invested into the

project. Finally, capital expenditures on the project total $5,789.13, within the budgeted $4-6

billion development plus $2 billion for facilities and training.

Recommendations and Conclusion

The end result of Boeing’s project is a product that makes money for the company. The

costs are daunting. While the investments necessary to get the project off the ground are

immediate and very high, the payoffs are small comparatively projected incrementally over

many years and a lot can happen to a company in that time. Demand for this aircraft may falter.

A social trend away from aerial transportation and back to the open road may arise as a result of

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a grassroots political push to earn money for the Eisenhower Highway system. Mid-air collisions

may scare people away from flight at just the wrong time when Boeing needs to sell aircraft such

as after Year 6 once incurring the large amount of debt.

The lesson learned from this exercise is that while risk always exists, research is still

invaluable. Interpretation of the data provided shows that while the costs for Boeing to continue

research and development for this project are high the payoffs more than make up for it. The

internal rate of return exceeds the cost of capital found for the project. The net present value is

high enough to merit its continuation. Barring the unexpected, which can still affect the company

regardless of whether or not Boeing continues to fund the project, this seems like a good

investment for the company. Trust in a company’s research is paramount to its success.

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References

Emery, D. R., Finnerty, J. D., & Stowe, J. D. (2007). Corporate Financial Management (3rd

ed.). Upper Saddle River: Pearson Education, Inc.