Case Study: National Railroad Passenger Corporation
Executive Summary
Statement of the Problem National Railroad Passenger Corporation (Amtrak) is the primary provider of passenger-rail service in the United States. Amtrak has never been profitable in its 30 year history and will lose federal subsidies for operational expenses by 2002 because of the Amtrak Reform and Accountability Act (ARAA). Amtrak is planning to launch the Acela line in the Northeast Corridor of the US to become self-sufficient, which will not only offer faster trip times, premium service to customers, but also bring in $180 million in revenues by 2002. The total cost of the equipment is estimated at $750 million, with current investment need of $267.9 million for six locomotives and seven trains. Amtrak currently has three funding alternatives: borrow and buy, leveraged lease proposal, or federal funding. On April 30, 1999, Arlene Friner, CFO of Amtrak has asked the Treasury staff to evaluate the three funding alternatives based on a discounted cash flow (DCF) analysis using discount rate of 6.75% and tax rate of 0% and 38%.
Discussion
Under the leveraged-lease proposal, Amtrak has the option of an 80/20 debt-to-equity financing structure from Bank of New York Capital Funding LLC (BNYCF). Amtrak will make semi-annual lease payments and can buy the equipment from BNYCF at the end of the lease term. In the scenario with …show more content…
Additionally, Amtrak has continuously faced negative cash flows, and adding on more debt will make the company riskier to investors. If Amtrak gets profitable, and the tax rate is 38%, it should accept the bank loan as it can receive interest and depreciation tax-shield. This option is also $11 million cheaper than the leveraged-lease proposal. Lastly, using the Black Scholes model, the leveraged-lease alternative generates an additional optional value of $2.97
Statement of the Problem National Railroad Passenger Corporation (Amtrak) is the primary provider of passenger-rail service in the United States. Amtrak has never been profitable in its 30 year history and will lose federal subsidies for operational expenses by 2002 because of the Amtrak Reform and Accountability Act (ARAA). Amtrak is planning to launch the Acela line in the Northeast Corridor of the US to become self-sufficient, which will not only offer faster trip times, premium service to customers, but also bring in $180 million in revenues by 2002. The total cost of the equipment is estimated at $750 million, with current investment need of $267.9 million for six locomotives and seven trains. Amtrak currently has three funding alternatives: borrow and buy, leveraged lease proposal, or federal funding. On April 30, 1999, Arlene Friner, CFO of Amtrak has asked the Treasury staff to evaluate the three funding alternatives based on a discounted cash flow (DCF) analysis using discount rate of 6.75% and tax rate of 0% and 38%.
Discussion
Under the leveraged-lease proposal, Amtrak has the option of an 80/20 debt-to-equity financing structure from Bank of New York Capital Funding LLC (BNYCF). Amtrak will make semi-annual lease payments and can buy the equipment from BNYCF at the end of the lease term. In the scenario with …show more content…
Additionally, Amtrak has continuously faced negative cash flows, and adding on more debt will make the company riskier to investors. If Amtrak gets profitable, and the tax rate is 38%, it should accept the bank loan as it can receive interest and depreciation tax-shield. This option is also $11 million cheaper than the leveraged-lease proposal. Lastly, using the Black Scholes model, the leveraged-lease alternative generates an additional optional value of $2.97