to first start with the beta of equity. We are given the beta of equity of 1.06 of Dixon as a firm in Exhibit 7. However‚ the beta given is not an appropriate measure of the systematic risk of the Collinsville Plant‚ because Dixon produces many other chemical products other than Sodium Chlorate. Therefore‚ in order to accurately capture the systematic risk of the plant which only produces Sodium Chlorate‚ we decided to calculate the beta of equity with comparable firms’ beta. Selection of Comparable
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1 – Methodological Approach In this case‚ American CC – the intended acquirer of AirThread Connections- will use leveraged buyout (LBO) model‚ which means the company will finance the acquisition through bank loan or some other borrowing methods. Hence‚ the debt-to-equity ratio will change in time. Since we will need to estimate the discount rate any time the capital structure changes‚ neither WACC nor APV would be reliable alone. Therefore‚ Ms. Zhang should use the combination of WACC and APV
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Case Study on Nike Inc. What is the WACC and why is it important to estimate a firm’s cost of capital? The WACC is a firm’s overall cost of capital‚ taking into account the weighted average of its equity and debt costs of capital. A firm’s WACC is the minimum return (hurdle rate) required by its capital providers to stay invested. Therefore managers of a firm should only invest in projects that generate returns exceeding the firm’s cost of capital. For the company’s owners the WACC is the minimum
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Discounts the cash flows after tax by the levered equity rate | | | | | | B) | Discounts the cash flows after tax by the WACC | | | | | | C) | Discounts the earnings after tax by the unlevered equity rate | | | | | | D) | Discounts the cash flows after tax by the unlevered equity rate | | | | | | | | 3 | INCORRECT | | The APV method to value a project should be used: | | | | | A) | When the project’s level of debt is known over the life of
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project the reinvestment necessities for the company. 2. In order to discount those free cash flows‚ we had to find the discount rate of the company using a weighted average unlevered Beta‚ and the risk free rate vs. the market risk premium: a. Beta: This was determined by using the three comparable companies and their unlevered betas as a percentage of what product lines they relate to. b. The risk free rate was taken from the standard 30 year T-bonds rate of 5.85%. c. The risk premium used was the
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risk-free security plus a risk premium. The formula is: R = Rf + *(E(Rm)-Rf) Rf = Risk free rate of return‚ usually U.S. treasury bonds ( ) β = Beta for a company E(Rm) = Expected return of the market (commercial airlines market) E(Rm)-Rf = Sometimes referred to as the risk premium The beta and risk-free rate should be selected as required according to the Boeing 7E7 case study. For the CAPM the risk free rate of return for a given period is taken to be
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year 2. Pure Play approach bL = bU[1 + (1 – T)(D/E)] bL = levered beta bU = unlevered beta T = tax rate D/E = debt to equity ratio 3. Firm value Rs = Cost of equity G = cash flow growth rate 4. rRF = the risk-free interest rate RPM = the expected market risk premium on an average stock = rM – rRF rM = the expected return on the market portfolio bi = the beta coefficient for the ith security wd = the % of debt in the capital structure
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Problems (15-3) Ethier Enterprise has an unlevered beta of 1.0. Ethier is finance with 50% debt and has a levered beta of 1.6. If the risk-free rate is 5.5% and the market risk premium is 6%‚ how much is the additional premium that Ethier’s shareholders require to be compensated for financial risk? - No debt RsU = RF + βU(RM - RF) = 5.5% + 1.0(6%) = 11.5% - With debt RsL = RF + βL(RM - RF) = 5.5% + 1.6(6%) = 15.1% - The additional premium required for financial risk = Rs‚L- Rs‚U =
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every division Then based on Target D/E we have unlevered and levered the Beta value to arrive at new Beta which is aligned to Target D/E Beta consolidated 1.37 Exploration and Production 1.55 Refining and Marketing 1.40 For calculating cost of capital for each division we have taken the Beta for each division and after levering and unlevering we have taken average to arrive at Beta for particular division and calculated cost of capital Beta of Petrochemical business β consolidated
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choice questions. Please select the most correct answer for each question. Each question in Part A is worth 3 marks. Record your answers on the computer readable answer sheet. Question 1: Treasury bonds currently have a return of 5%. A stock has a beta of 0.5 and the market return is 10%. What is the expected return of the stock? (a) 5% (b) 7.5% (c) 10% (d) 12.5% (e) 20% Question 2: You want to buy an apartment worth $500‚000. You have saved a deposit of $50‚000. The bank has agreed to lend you
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