Cost of Capital for Ingersoll Motors Inc.

You have recently been hired by Ingersoll Motors, Inc. (IMI) in its relatively new treasury manage- ment department. IMI was founded eight years ago by Gef Boycott. Gef found a method to manufacture a cheaper battery that will hold a larger charge, giving a car powered by the battery a range of 700 km before requiring a charge. The cars manufactured by IMI are midsized and carry a price that allows the company to compete with other mainstream auto manufacturers. The company is privately owned by Gef and his family, and it had sales of $97 million last year. IMI primarily sells to customers who buy the cars online, although it does have a limited number of company-owned dealerships. Most sales are online. The customer selects any customization and makes a deposit of 20% of the purchase price. After the order is taken, the car is made to order, typically within 45 days. IMI's growth to date has come from its prft. When the company had sf- cient capital, it would expand production. Relatively little formal analysis has been used in its capital budgeting process. Gef has just read about capital budgeting techniques and has come to you for help. For starters, the company has never attempted to determine its cost of capital, and Gef would like you to perform the analysis. Because the company is privately owned, it is dfcult to determine the cost of equity for the company. Gef wants you to use the pure play approach to estimate the cost of capital for IMI, and he has chosen Tesla Motors as a representative company. The following questions will lead you through the steps to calculate this estimate.

1. Most publicly traded corporations are required to submit quarterly (10Q) and annual reports (10K) to the SEC detailing the financial operations of the company over the past quarter or year, respectively. These corporate filings are available on the SEC website at sec.gov. Go to the SEC website; follow the Search for Company Filings link and the Companies & Other Filers link and search for SEC filings made by Tesla Motors (TSLA). Find the most recent 10Q or 10K, and download the form. Look on the balance sheet to find the book value of debt and the book value of equity.

2. To estimate the cost of equity for TSLA, go to finance.yahoo.com and enter the ticker symbol TSLA. Follow the links to answer the following questions: What is the most recent stock price listed for TSLA? What is the market value of equity, or market capitalization? How many shares of stock does TSLA have outstanding? What is the most recent annual dividend? Can you use the dividend discount model in this case? What is the beta for TSLA? Now go back to finance.yahoo.com and follow the "bonds" link. What is the yield on 30-year Treasury Bonds? Using the historical market risk premium, what is the cost of equity for TSLA using CAPM? 3. You now need to calculate the cost of debt for TSLA. Go to finra-markets.morningstar.com, enter TSLA as the company, and find the yield to maturity for each of TSLA's bonds. What is the weighted average cost of debt for TSLA using the book value weights and using the market value weights? Does it make a difference in this case if you use book value weights or market value weights?

4. You now have all the necessary information to calculate the weighted average cost of capital for TSLA. Calculate this using book value weights and market value weights, assuming TSLA has a 35% marginal tax rate. Which number is more relevant?

5. You used TSLA as a pure play company to estimate the cost of capital for IMI. Are there any potential problems with this approach in this situation?