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Diamond Chemicals Essay

588 words - 3 pages

Teletech Case

After careful review of the Teletech case I think that Rick Phillips thought on the method to calculate hurdle rate or WACC is the most aligned with industry standards and would be the most financially beneficial to the company overall. The current method that Teletech Corporation is using for hurdle rate is an overall average for the company; all segments combined using an averaged beta for the company, regardless of the risk of each division. If the companies risk level was very similar for each division this would be an appropriate method per industry standards, but due to the varying risk with each division the hurdle rate should be calculated separately for each division and financial decisions for capital investment based upon these hurdle rates.
If you break the hurdle rates out for each ...view middle of the document...

This is what Rick Phillips was trying to express by presenting his graph of constant versus risk adjusted hurdle rates.
The company is also overvaluing the P&S division and under valuing the Services division by utilizing a constant hurdle rate that does not take into account risk. This can be seen by looking at the Economic Profit calculations for each division:
EP = (ROC- Hurdle Rate) X Capital Employed
EP for Services Division – using corporate averaged hurdle rate
9.1% = 1.18 /Capital
Capital = 12.97 billion
EP = (9.1-8.8) X 12.97 billion
= 2.59 billion
EP for services Division – using risk adjusted hurdle rate
9.1% = 1.18/Capital
Capital = 12.97 billion
EP = (9.1-8.8) x 12.97 billion
= 3.89 billion
EP for P&S – using corporate averaged hurdle rate
11% = 480/capital
Capital = 4363.6 million
EP = (11-9.3) X 4363.6 million
= 7418.2 million
EP for P&S – using risk adjusted hurdle rate
11% = 480/Capital
Capital = 4363.6 million
EP = (11-10.4) X 4363.6 million
= 2618.2 million

If you review the data this way you can see why Helen Buono, executive vice president of the P&S division would be in favor of the corporate average use for hurdle rate. The divisions are graded based upon the EP calculated for their division; the current method makes her divisions EP look much better than it actually is. Her statement that “all money is green” is a naïve way of looking at financial investments. Investors want the most that they can get and stating that as long as you are making money it is acceptable would not keep Helen employed long at most companies.
Teletech needs to make the change to separate hurdle rates and start evaluating the segments based on these rates. I don’t think it is to the point that they need to sell off the P&S segment of the business, but they do need to pay closer attention to the financial numbers.

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