Question 1(30 marks) WACC
It is 5pm on 27th April 2016. You are an intern with an investment fund and working hard to support your colleagues on various tasks. You are keen to demonstrate skills acquired from your finance course to increase the chance to be offered a permanent position. A colleague, Sanjay, is building a model to value Meridian Energy and needs your help to estimate the weighted average cost of capital (WACC). Common practice in this fund is to estimate beta by regressing 5-year monthly total returns to a stock on the monthly total returns to the NZX All index portfolio. However, Meridian has been listed for less than five years. Sanjay suggests that you estimate the equity beta of Contact Energy and use it to derive Meridian’s equity beta. Handing over a dataset that contains the adjusted closing prices of Contact Energy and the levels of NZX AllIndices at the monthly frequency over the past 5 years (see worksheet “Q1” in the Excel file FIN351_2016FC_Assignment2_Data.xlsx), Sanjay asks you to come up with the WACC estimation for Meridian and supply him the sources of information and workings. You are keen to prove that you can work independently on this task.
|Contact Energy’s Equity Beta||
|Closing Price on 27th April 2016(NZD)|
|Shares Outstanding (NZD million)|
|Market Capitalisation (NZD million)|
|Latest balance sheet date|
|Short/Current Long Term Debt (NZD million)|
|Long Term Debt (NZD million)|
|Cash and Cash Equivalent (NZD million)|
|Net Debt (NZD million)|
|E/(D+E) (using net debt and market cap.)|
|D/E (using net debt and market cap.)|
|Meridian Energy’s Equity Beta|
|NZ Market Risk Premium|
|Risk free rate (government stock yield)|
|Estimate date||27th April 2016|
|Cost of equity|
|Estimate date||27th April 2016|
|Cost of debt|
|Final Answer (show your answer in percentage with two decimal points):
Question 2(40 marks). The Cross-border Valuation.
Today is 27th April, 2016. You are a senior financial analyst with IBM in their capital budgeting division. IBM is considering expanding in Australia due to its positive business atmosphere and cultural similarities to the U.S.
The new facility would require aone-off initial investment in fixed assets of $5 billion in Australian andadditional capital investment of 3% of revenueeach year in year 1-4. All capital investments would be depreciated straight-line to zero over five years. Assume thatat the end of the project the sales price of equipment is zero and the tax effect is also zero. First-year revenues from the facility are expected to be $6 billion Australian and grow at 10% per year. The cost of goods sold (COGS) would be 40% of revenue; the other operating expenses would amount to 12% of revenue. Depreciation and amortisation expenses (D&A) are included in COGS and other operating expenses. Net working capital requirements would be 11% of sales and would be required the year prior to the actual revenues. All net working capital would be recovered at the end of the fifth year. Assume that the tax rates are the same in the two countries, and that two markets are internationally integrated, and that the cash flow uncertainty of the project is un-correlated with changes in the exchange rate (hint: you can use the home currency approach to value the Australian business; the home currency is USD). You manager wants you to find the NPV of the project in U.S. dollars using a USD cost of capital of 12%.
You have the following market data:
Question 3(30 marks).Valuing an Abandoned Coking Coal Mine.
You are assessing the value of an abandoned coking coal mine in New Zealand, which still have significant deposits. A mining expert’s report suggests that there might be 10 million tonnes of coking coal in the mine still, and that the cost of reopening the mine will be NZD$100 million.Assume that, if the owner decides to develop this mine, the NZ$100 million will be spent at year 0, and all the operational cash flows occur at the end of each year from year 1 to year 10. The annual production is estimated to be 1 million tonnes, and the nominal price of coking coal is expected to increase by 4% per year. (Hint: assume the asset to be a dividend paying stock with a dividend yield of 10%). The price of coking coal per tonnes is NZD$55 and the average cash production cost is expected to be around NZD$50 per tonne at the end of year 1. You can ignore tax and calculate project cash flows as The production cost is expected to grow at 4% per year, once initiated. The annualised standard deviation in asset values of comparable coking companies is 30% (in New Zealand dollar terms), and the 10-yearNew Zealand riskless bond yield is estimated to be 6% p.a..
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