Question
Alcan Inc., which is a Canadian company and one of the global leaders in aluminum mining and production, is re-examining its capital structure and whether
Alcan Inc., which is a Canadian company and one of the global leaders in aluminum mining and production, is re-examining its capital structure and whether it has any excess debt capacity. In 2015, Alcan had 12 million shares outstanding at $200 per share and debt outstanding of $3 billion (book as well as market value). The debt had a rating of B and an interest rate of 10%. In addition, the firm had leases outstanding, with annual lease payments of $150 million (lease payments are perpetual and made at the end of the year). The beta of the stock is 1.30, and the firm faces a tax rate of 35%. The Treasury bond rate is 6%. The market risk-premium is 5.5%.
a. What is the firm's current debt/equity ratio? [2 marks]
b. Estimate the current cost of capital of Alcan [3 marks]
c. Your analysis shows that the optimal debt ratio (debt/total firm value) should be 30%. At this level of debt, the rating will be BBB and the interest rate on debt will be 8%. Estimate the optimal cost of capital. [5 marks]
d. Alcan is considering acquiring a patent that would allow it to have exclusive rights on aluminum production in South Africa for the next 15 years. The initial investment related to the patent is $500 million and the related increase in cash flow will be $300 million with a standard deviation of 25%. Assume that the risk-free rate is now 4%. What is the maximum price that Alcan would pay for this patent? [5 marks]
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started