Midland Energy Resources Inc: Cost of CapitalMidland Energy Resources, Inc.: Cost of CapitalMidland Energy Resources is a leading global energy developer with three divisions Exploration & Production, Refining & Marketing, and Petrochemicals. Janet Mortensen, the senior vice president of project finance for Midland Energy Resources must determine the weighted average cost of capital (WACC) for the company as a whole and each of its divisions as part of the annual capital budgeting process. Mortensen’s primary calculations were based on the formula for WACC, in this expression, D is debt and E is equity, Rd is cost of debt and Re is cost of equity, while t is tax. WACC= Rd*(D/(D+E))*(1-T)+Re*(E/(D+E)).So the Rf =4.98%, equity risk premium=5%, D/(D+E)=0.372, t=0.40, E/(D+E)= 0.628. R(D)=6.60, β =1.25. R(EL)=4.98 + 5*1.25=11.23%. WACC=0.372*6.60*(1-0.40) + 0.628*11.23 = 8.52%.Because the company will optimize its capital structure by prudently exploiting the borrowing capacity inherent in its energy reserves and in long-lived productive assets such as refining facilities and the company will increase its borrowing capacity. So it will in turn represented an opportunity to shield additional profits from taxes. As to the target WACC, it is = 0.422*6.60*0.60 + 0.578*11.52=8.33%.
As to the separate division, we can calculate the cost of debt as follows, We used the risk free rate of 30 year treasury bond, which is 4.98%, since it is the longest rate with a small-possibility default risk: Exploration and Production’s cost of debt (rd)= 4.98 + 1.66= 6.58%. Refining and Marketing’s cost of debt (rd)= 4.98 + 1.80= 6.78%. Corporate Level cost of debt (rd)= 4.98 + 1.62= 6.60%. The calculation of cost of equity is much more subjective and complex than the calculation of cost of debt. Many approaches have been suggested to calculate the cost of equity. One such approach is the Capital Asset Pricing Model (CAPM). Rf = 4.98%, in 2006, Midland used 5% as EMRP. Levered Cost of Equity (re) of proxy firms:
Since the US Treasury has a rate of $0.01/MWh (eighth of GDP), we decided to use the risk-free rate of 30 year Treasury bond to reduce this risk factor.
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This analysis provides the most detailed estimate of future debt levels. In fact, it allows you to estimate future growth, from your long term view. It gives a simple but highly cost-effective estimation to determine how well your country’s long term economy will fare with a significant devaluation of its currency, a country’s debt, or both. Your estimate, when based on these assumptions, may range from “0.25% of GDP to 0.25% of GDP”. The long-term debt-to-GDP ratio is highly volatile. If the country’s debt declines rapidly with the devaluation of its currency (e.g. using the risk-free rate of 30 years or a high European exchange rate) the debt-to-GDP ratio will drop. However with the government being bailed out every year, the debt-to-GDP ratio will rise with the fact that all of the banks, or even the national banks, are in very strong financial position. Furthermore, if some banks get more than they ever could but the rest remain insolvent, it could get much higher. You can follow the original article on the Financial Times website here: http://www.fas.europa.eu/publications/2015/06/12-spielgessen-spiel-spiel-spiel-spiel.htm Janet Mortensen And Midland Energy Resources Inc. (August 22, 2021). Retrieved from https://www.freeessays.education/janet-mortensen-and-midland-energy-resources-inc-essay/ |