Computing Apples WACC

this assignment, the goal is for you to compute Apples weighted average cost of capital (WACC) and to appreciate the issues involved. We will compute the WACC using information contained in Apples most recent annual report. Apples most recent 10-K filing (i.e., annual report) is available here: https://www.sec.gov/Archives/edgar/data/320193/000162828016020309/a201610-k9242016.htm Note that as Apples fiscal year ends in September, we are using Apples annual report for the fiscal year that ends in September 2016 (and not Apples most recent quarterly report issued February 1 st, 2017). Also note that Apple released its annual report to the market towards the end of October 2016. Information needed for Apples equity weight (wE) and equity required rate of return (RE) To ensure we all use the same information, use the following data: Share Price: $113 (roughly the closing price towards the end of October 2016) Shares Outstanding: 5,500,281,000 (from the annual report) Risk-Free Rate: 2% (this is approximately the 10-year risk-free rate and is appropriate if we assume that the WACC will be used to evaluate projects that have a 10-year lifespan) Market Risk Premium: 6% (this is an estimate, recently the risk premium has been fluctuating between 5% and 6%) I have created an Excel spreadsheet that contains Apples monthly adjusted closing price for the past five years along with the S&P 500s monthly adjusted closing value (see course website). 1 Use this information to compute Apples beta and then use the Capital Asset Pricing Model (CAPM) to compute Apples required rate of return on equity (RE). The following video may help you estimate beta if you are not sure how to do so: https://www.youtube.com/watch?v=8-MaljhswA4. Note that while we are using five years of monthly data, there is no right or wrong in using two versus three versus five years of data, daily versus weekly versus monthly returns, etc.. There are empirical issues with whatever range and/or frequency you choose. Also, there are issues regarding the choice of market used to compute market returns (I have used the S&P 500 stock index). It is important to understand that whatever value for beta you obtain, it will be an estimate and a noisy one at that. Thus, it is important to understand that your final answer is better understood more in terms of a range rather than a single value, making sensitivity analysis, as always, crucially important (note that I am not asking you to do the sensitivity analysis or compute a range but just for you to be aware of the issues involved). 1 The closing prices have been adjusted to account for dividends and stock splits.

Information needed for Apples weight of debt (wD) and required rate of return on debt (RD) Marginal Corporate Tax Rate: 35% As we do not have information pertaining to the market value of Apples debt or Apples target capital structure, we will use the information in the annual report (i.e., the book values) to compute the weight for debt. Note 6 of the annual report provides detailed information about Apples debt obligations. We will focus on Apples long-term debt, the $78.384 billion reported below and taken from the table provided in Note 6 (Note 6 begins on page 58 and ends on page 60 of the annual report). Thus we will use $78.384 billion as our estimate for the value of debt. Apples Long-Term Debt Structure To compute the required rate of return on debt, I want you to compute the weighted average effective interest rate of all the maturities listed in the table. When the effective interest rate is a range, be conservative and use the upper value. For example, the second entry in the table states that Apple has $12,500 million (i.e., $12.5 billion) in debt with maturities between 2018-2043. The effective interest rate on this debt ranges from 1.08%-3.91%. So 3 | P a g e use the 3.91% in your computation of the weighted average effective interest rate of all the maturities. The first two entries and the last entry in your weighted average computation for the required rate of return on debt will look like the following: br> span style="font-family: ;font-size:12pt;color:rgb(0,0,0);font-style:normal;font-variant:normal;"> 2,000 78,384 1.10% + 12,500 78,384 3.91% + + 2,000 78,384 3.86% It is important to note that we could be arrested by the WACC police for doing it this way. We should be using the market value of Apples debt to back out the required return on debt whenever possible. If a firms debt is not publicly traded or the market prices are not reliable (because the bonds rarely trade, for example), then an alternative approach is to use the current required return on bonds for firms with the same credit rating as Apple. We have not done either so once you compute your value for RD, see if it makes sense (e.g., compare it to the risk-free rate we used in the CAPM above).

Tasks: 1. In general, when computing beta does it make sense to use the most data possible? For example, as General Electric Company (GE) has been a public company for more than 100 years, does it make sense to use 100 years of data when computing GEs beta?

2. Compute Apples beta and Apples required rate of return on equity (RE).

3. Compute Apples required rate of return on debt (RD). Comment on whether the value you computed makes sense by comparing it to the risk-free rate you used in the CAPM.

4. Compute the weights of debt and equity in Apples capital structure (i.e., wD and wE).

5. Compute Apples WACC. 6. If Apple were considering investing in a new project, say iMoon that flies people to the moon and back, would it make sense for Apple to use the WACC you computed to evaluate that project (i.e., does it make sense for Apple to use the WACC you computed to discount the projected cash flows from the iMoon project)

Month	S&P 500 Adjusted Close	Apple Adjusted Closing Price
Oct-2011	1253.30	52.44
Nov-2011	1246.96	49.52
Dec-2011	1257.60	52.47
Jan-2012	1312.41	59.14
Feb-2012	1365.68	70.28
Mar-2012	1408.47	77.68
Apr-2012	1397.91	75.66
May-2012	1310.33	74.85
Jun-2012	1362.16	75.66
Jul-2012	1379.32	79.13
Aug-2012	1406.58	86.56
Sep-2012	1440.67	86.80
Oct-2012	1412.16	77.46
Nov-2012	1416.18	76.50
Dec-2012	1426.19	69.56
Jan-2013	1498.11	59.54
Feb-2013	1514.68	58.03
Mar-2013	1569.19	58.20
Apr-2013	1597.57	58.21
May-2013	1630.74	59.52
Jun-2013	1606.28	52.48
Jul-2013	1685.73	59.89
Aug-2013	1632.97	64.91
Sep-2013	1681.55	63.51
Oct-2013	1756.54	69.63
Nov-2013	1805.81	74.51
Dec-2013	1848.36	75.17
Jan-2014	1782.59	67.08
Feb-2014	1859.45	70.93
Mar-2014	1872.34	72.35
Apr-2014	1883.95	79.54
May-2014	1923.57	85.80
Jun-2014	1960.23	88.18
Jul-2014	1930.67	90.71
Aug-2014	2003.37	97.74
Sep-2014	1972.29	96.07
Oct-2014	2018.05	102.98
Nov-2014	2067.56	113.90
Dec-2014	2058.90	105.71
Jan-2015	1994.99	112.20
Feb-2015	2104.50	123.51
Mar-2015	2067.89	119.64
Apr-2015	2085.51	120.33
May-2015	2107.39	125.78
Jun-2015	2063.11	121.10
Jul-2015	2103.84	117.11
Aug-2015	1972.18	109.36
Sep-2015	1920.03	106.98
Oct-2015	2079.36	115.90
Nov-2015	2080.41	115.23
Dec-2015	2043.94	102.52
Jan-2016	1940.24	94.81
Feb-2016	1932.23	94.69
Mar-2016	2059.74	106.73
Apr-2016	2065.30	91.80
May-2016	2096.95	98.39
Jun-2016	2098.86	94.19
Jul-2016	2173.60	102.67
Aug-2016	2170.95	105.10
Sep-2016	2168.27	111.99
Oct-2016	2126.15	112.47