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), and petrochemicals. On a consolidated basis, the
firm had 2006 operating revenue and operating income of $248.5 billion and $42.2 billion,
Estimates of the cost of capital were used in many analyses within Midland, including asset ...view middle of the document...
Lately she wondered whether they were
actually appropriate for all applications and she was considering appending a sort of “user’s guide”
to the 2007 set of calculations.
Midland Energy Resources had been incorporated more than 120 years previously and in 2007
had more than 80,000 employees. Exhibits 1 and 2 present Midland’s most recent consolidated
financial statements. Exhibit 3 presents selected business segment data for the period 2004-06.
HBS Professor Timothy A. Luehrman and Illinois Institute of Technology Adjunct Finance Professor Joel L. Heilprin prepared this case
specifically for the Harvard Business Publishing Brief Case Collection. Though inspired by real events, the case does not represent a specific
situation at an existing company, and any resemblance to actual persons or entities is unintended. Cases are developed solely as the basis for
class discussion and are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management.
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4129 | Midland Energy Resources, Inc.: Cost of Capital
Exploration & Production
Midland engaged in all phases of exploration, development, and production, though the last of
these, production, dominated the E&P division’s reported operating results. During 2006, Midland
extracted approximately 2.10 million barrels of oil per day—a 6.3% increase over 2005 production—
and roughly 7.28 billion cubic feet of natural gas per day—an increase of slightly less than 1% over
2005. This represented $22.4 billion of revenue and after-tax earnings of $12.6 billion. E&P was
Midland’s most profitable business, and its net margin over the previous five years was among the
highest in the industry.
Midland expected continued global population and economic growth to result in rising demand
for its products for the foreseeable future. Nevertheless, the fraction of production coming from nontraditional sources such as deepwater drilling, heavy oil recovery, liquefied natural gas (LNG), and
arctic technology was expected to increase. Further, the geographic composition of output was
shifting, marked by increases from places such as the Middle East, Central Asia, Russia, and West
With oil prices at historic highs in early 2007, Midland anticipated continued heavy investment in
acquisitions of promising properties, in development of its proved undeveloped reserves, and in
expanding production. In...