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 anticipated heavily investment in acquisitions of promising properties. Competition from areas such as the Middle East, Central Asia, Russian and West Africa should be taken into account.
2. Refining and Marketing (R&M) is the largest, however margins had ...view middle of the document...
Calculating WACC for Midland Energy Resources and each of three divisions the following formula is used:
Where:Re = cost of equityRd = cost of debtE = market value of the firm's equityD = market value of the firm's debtV = E + DE/V = percentage of financing that is equityD/V = percentage of financing that is debtTc = corporate tax rate |
Calculating Cost of Debt (Rd) by adding a spread over U.S. Treasury securities of a similar maturity. I used the 30-year maturity for all three divisions and Midland as they take on long term projects.
Rd for E&P: 4.98% +1.60% = 6.58%
Rd for R&M: 4.98% + 1.80% = 6.78%
Rd for Petrochemicals: 4.98% + 1.35% = 6.33%
Rd for Midland: 4.98% + 1.62% = 6.60%
Calculating Cost of Equity (Re) I used CAPM model, provided in the case:
However, in order to solve this equation, I need to find beta for each division. Midland’s beta is 1.25. In order to find beta for the three divisions, I used publicly traded companies provided in the case.
For the E&P Division, the average industry unlevered beta is .93, which produces an Equity beta of 1.41 as follows:
Equity beta for E&P = 0.932 * [1+(1-40%) * 85.2%] = 1.41
For the R&M Division, the average industry unlevered beta is 1.05, so an Equity beta for E&P division is calculated as follows:
Equity beta for R&M = 1.05 * [1+(1-40%) * 44.9%] = 1.33
Note: 85.2% and 44.9% calculated as follows:
Equity beta for Petrochemicals calculated based on taking a weighted average of the three divisions:
Beta for Midland = w1*beta for E&P + w2*beta for R&M + w3*beta for Petrochemicals;
W1, W2, and W3 are taken based on the division total...