This website uses cookies to ensure you have the best experience. Learn more

Midland Energy Essay

1661 words - 7 pages

QUESTIONS FOR THE OVERALL ASSIGNMENT

1. What is the best way to estimate the company and divisions’ cost of capital?

Answer:
The best way to estimate the cost of capital is by using the CAPM (Capital Asset Pricing Model) where the Weighted-Average Cost of Capital (rwacc) is given by the formula
[pic]
Where,
D is the market value of the net debt
E is the market value of the total equity
V is the total market value of debt and equity = D + E
T is the corporate tax rate
rd is the appropriately calculated discount rate for debt (cost of debt)
re is the appropriately calculated discount rate for equity (cost of equity)

...view middle of the document...

However, the equity market value of the division can be estimated from the present value of its future equity cash flows discounted at an appropriate rate. This equity discount rate for the division (re) can be estimated from observing the stock prices and market values of other companies (‘pure play’ approach) engaged in similar business as the division with similar risk.

2. Should it be calculated differently for different purposes?
The cost of capital should be calculated differently for different purposes. It should be based on actual interest rates paid on debt for tax accounting purposes (tax accounting does not recognize the concept of cost of equity so there is no rate that can be applied for the cost of equity). The cost of capital for financial accounting purposes will need to be calculated based on financial accounting rules using actual interest rates for debt and the accounting return on equity. The cost of capital for all other ‘internal business decision purposes’ Capital budgeting, Performance assessments, Merger & Acquisition proposals, and Stock-repurchase decisions should be based on the CAPM model and appropriate market-value based and risk-based estimated discount rates for debt and equity. The risk levels and hence the risk premiums required could differ for different decisions and purposes. For example, the risk premium required for a M&A proposal (Merger and Acquisition) should be based on the estimated incremental market value due to the M&A whereas the risk premium required for capital budgeting should be based on the company’s established operations in the current and future lines of business and investments.

Questions to specifically address

1. What is the appropriate risk-free rate to use in the WACC calculations? How did you arrive at this number?
The appropriate risk-free rate to use in the 2007 WACC calculations is 4.98%, the rate of 30-year U.S. Treasury bonds in 2007. The rate is specified in the case, in Table 2. Team 1 compared the rate to U.S. Treasury data online (See Exhibit 1); while the rate from the case is slightly different than the average rate found online for the January 2007 average (4.85%), the Team will use the rate specified in the case. The 30-year rate is used for the risk-free rate because the majority of large firms and financial analysts report using long-term yields for bonds to determine the risk-free rate[1].

The appropriate risk-free rate to use for the Exploration and Production division is also the 30-year Treasury rate of 4.98%.

2. What is the Market Risk Premium (EMRP) that is most appropriate to use in the calculation for the cost of equity? How did you arrive at that number?

The appropriate EMRP to use in the 2007 WACC calculation is 6.0% as listed in Table 2. Team 1 compared this rate to real-world data using the average annual total return on common stocks from Yahoo! Finance and the risk free rate from Exhibit 1.

EMRP= rm-rf
...

Other Papers Like Midland Energy

Midland Energy Resources Essay

1904 words - 8 pages Executive Summary Midland Energy Resources is a leading global energy developer dedicated to providing advanced power systems and energy services around the world. Midland Energy Resources has three divisions Exploration & Production, Refining & Marketing, and Petrochemicals. They have been incorporated more than 120 years previously and they have 80,000 employees in 2007. Janet Mortensen, the senior vice president of project finance for

Midland Energy Resources Essay

1904 words - 8 pages Executive Summary Midland Energy Resources is a leading global energy developer dedicated to providing advanced power systems and energy services around the world. Midland Energy Resources has three divisions Exploration & Production, Refining & Marketing, and Petrochemicals. They have been incorporated more than 120 years previously and they have 80,000 employees in 2007. Janet Mortensen, the senior vice president of project finance for Midland

Midland Energy Resource

1172 words - 5 pages Message Our team has performed thorough analysis surrounding the questions of cost of capital for Midland Energy Resources, Inc. (Midland). Here are the results of our research: 1. Ms. Mortensen estimates Midland’s cost of capital for a variety of reasons including use for capital budgeting, financial accounting, performance assessments, stock repurchase estimations, and potential “M&A” opportunities. In addition, Midland relies on

Midland Energy Case Analysis

953 words - 4 pages Midland Energy Resource Case Analysis 1. Describe Midland, its capital planning model and Janet Mortensen's role in the case. Midland Energy Resource, Inc. has three major divisions: Exploration & Production (E&P), Refining and Market (R&M), and Petrochemicals. E&P division provides the most profit for Midland. R&M is the largest division in Midland by revenue. Petrochemicals is the smallest division in Midland

Case Analysis Midland Energy

1591 words - 7 pages Cost of Capital Estimate for Midland Energy Resources, Inc. In the first section of my report, I list out the main models and methods applied to estimate the cost of capital for Midland’s three divisions, general assumptions made and the corresponding justifications. In the second section, Calculations, I not only compute the cost of capital based on the general assumptions previously made, but also discuss specifics of each division and the

Midland Energy Resources Case Study

2660 words - 11 pages BRIEF INFORMATION ABOUT MIDLAND ENERGY RESOURCES Midland Energy Resources was a global energy company with operations in oil and gas exploration and production (E&P), refining and marketing (R&M), and petrochemicals. It had been incorporated more than 120 years and had more than 80,000 employees in 2007. Its consolidated operating revenue, operating income and total assets were $248.5 billion, $42.2 billion and $262.4 billion respectively in

Midland Energy Resources Inc.: Cost of Capital

1059 words - 5 pages Introduction Midland Energy Resources have a senior vice president, Janet Mortension, of project finance. She was preparing her annual cost of capital for midland as well as for each of its following three divisions: * Exploration & production (E&P) * Refining & Marketing (R&M) * Petrochemicals Midland was a global company with operations in oil and gas. Midland corporate treasury had began analysis and preparation

Midland Case

1266 words - 6 pages Midland Energy Resources, Inc.: Cost of Capital May 28, 2014 1. For what purposes dose Mortensen estimated Midland’s cost of capital? What would be the potential consequences of a too high estimate compared to the firm’s “true” cost of capital? What about a too low estimate? Estimates of Midland’s cost of capital are used in many analyses, including asset appraisals for both capital budgeting and financial accounting

Gap Analysis: Kuiper Leda

1571 words - 7 pages must decide whether to outsource to meet the demands of Midland. Kuiper Leda has never has such a large order and so the company must decide whether to outsource to meet the demands of Midland “Outsourcing is subcontracting a process, such as product design or manufacturing, to a third-party company. The decision to outsource is often made in the interest of lowering firm costs, redirecting or conserving energy directed at the competencies of a

Case For C Of C

605 words - 3 pages has to meet. In the case, Janet Mortensen prepared the annual cost of capital estimates for Midland Energy Resources Inc. and each of its three divisions. Estimates of the cost of capital were used in many analyses within Midland, including asset appraisal for both capital budgeting and financial accounting, performance assessments, M&A proposal, and stock repurchase decisions. No, they were using the formula for WACC to estimate the

Applied Research Project

1794 words - 8 pages 1865 and Shanghai (one month later.) HSBC Holdings acquisition of Midland Bank gave HSBC Group a substantial market presence in the United Kingdom which was completed in 1992. As part of the takeover conditions for the purchase of Midland Bank, HSBC Holdings plc was required to relocate its world headquarters from Hong Kong to London in 1993. Major acquisitions in South America started with the purchase of the Banco Bamerindus of

Related Essays

Midland Energy Essay

973 words - 4 pages MIDLAND ENERGY Overview: Midland and Midland’s Divisions: E&P, R&M, and Petrochemicals. Midland Energy Resources Inc. is the global energy company with a broad array of products and services. The company has been in business for over 120 years. The company operates within three different operations: 1. Exploration and Production (E&P) is the most profitable segment. With oil prices at historic highs in 2007, Midland

Midland Energy Essay

1228 words - 5 pages [pic] Midland Energy Resources, Inc. Cost of Capital Table of Contents I. Executive Summary II. Introduction III. Cost of Capital IV. Risk & Tax Rate V. Capital Structures VI. WACC VII. Conclusion VIII. References I. Executive Summary Midland Energy Resources is a global energy company with operations in oil and gas exploration and production(E&P) providing a broad array of products

Midland Energy Essay

4003 words - 17 pages 4129 JUNE 19, 2009 TIMOTHY A. LUEHRMAN JOEL L. HEILPRIN Midland Energy Resources, Inc.: Cost of Capital In late January 2007, Janet Mortensen, senior vice president of project finance for Midland Energy Resources, was preparing her annual cost of capital estimates for Midland and each of its three divisions. Midland was a global energy company with operations in oil and gas exploration and production (E&P), refining and marketing (R

Midland Energy Resources Essay

3942 words - 16 pages 4129 JUNE 19, 2009 TIMOTHY A. LUEHRMAN JOEL L. HEILPRIN Midland Energy Resources, Inc.: Cost of Capital In late January 2007, Janet Mortensen, senior vice president of project finance for Midland Energy Resources, was preparing her annual cost of capital estimates for Midland and each of its three divisions. Midland was a global energy company with operations in oil and gas exploration and production (E&P), refining and marketing (R&M