Ameritrade Case Study
When choosing our risk free rate, we decided to base it off of the assumption that the project would last 5-10 years. The 5 year bond yield is 6.22% and for 10 years 6.34% (Exhibit 3) which averages out to a risk free rate of 6.28%.
Prevailing Yields on U.S. Government Securities (August 31, 1997) | | Annualized Yield to Maturity | | | | | 3-Month T-Bills | 5.24% | | 1-Year Bonds | 5.59% | | 5-Year Bonds | 6.22% | | 10-Year Bonds | 6.34% | | 20-Year Bonds | 6.69% | | 30-Year Bonds | 6.61% | |
In order to find the value for the expected excess return on the market, we looked at the historical averages of annual returns on small and large company stocks (Exhibit 3). After averaging the large company stock return and small company stock return and subtracting the risk free rate we found above of 6.28% we realized 9.62% would be an appropriate number. Historic Average Total Annual Returns on U.S. Government Securities and Common Stocks (1950-1996) | | Average Annual Return | Standard Deviation | | | | T-Bills | 5.2% | 3.0% | Intermediate Bondsa | 6.4% | 6.6% | Long-term Bondsb | 6.0% | 10.8% | Large Company Stocksc | 14.0% | 16.8% | Small Company Stocksd | 17.8% | 25.6% |
Next we had to find appropriate values for Beta D and Beta E. For Beta D, we assumed that Ameritrade holds a Corporate A debt rating for their bonds which is 0.21 (Journal of Financial Economics, July 1963-December 1991).
After this, the BE (PROJECT) needed to be computed. Charles Schwab and Quick & Reilly were used as comparable for determining the BE (company) for TD Ameritrade. After running a Regression in Excel, it was determined that both Charles Schwab and Quick & Reilly had BE’s of about zero.
Next, the BA (company) for the project had to be determined. Using the BD and BE mentioned above, we used the capital structures given (D/V = 0, 0.25, and 0.5) to solve for BA (company). The formula used is shown below, with the
Prevailing Yields on U.S. Government Securities (August 31, 1997) | | Annualized Yield to Maturity | | | | | 3-Month T-Bills | 5.24% | | 1-Year Bonds | 5.59% | | 5-Year Bonds | 6.22% | | 10-Year Bonds | 6.34% | | 20-Year Bonds | 6.69% | | 30-Year Bonds | 6.61% | |
In order to find the value for the expected excess return on the market, we looked at the historical averages of annual returns on small and large company stocks (Exhibit 3). After averaging the large company stock return and small company stock return and subtracting the risk free rate we found above of 6.28% we realized 9.62% would be an appropriate number. Historic Average Total Annual Returns on U.S. Government Securities and Common Stocks (1950-1996) | | Average Annual Return | Standard Deviation | | | | T-Bills | 5.2% | 3.0% | Intermediate Bondsa | 6.4% | 6.6% | Long-term Bondsb | 6.0% | 10.8% | Large Company Stocksc | 14.0% | 16.8% | Small Company Stocksd | 17.8% | 25.6% |
Next we had to find appropriate values for Beta D and Beta E. For Beta D, we assumed that Ameritrade holds a Corporate A debt rating for their bonds which is 0.21 (Journal of Financial Economics, July 1963-December 1991).
After this, the BE (PROJECT) needed to be computed. Charles Schwab and Quick & Reilly were used as comparable for determining the BE (company) for TD Ameritrade. After running a Regression in Excel, it was determined that both Charles Schwab and Quick & Reilly had BE’s of about zero.
Next, the BA (company) for the project had to be determined. Using the BD and BE mentioned above, we used the capital structures given (D/V = 0, 0.25, and 0.5) to solve for BA (company). The formula used is shown below, with the