Project Part 1 Cost of Capital 12 Marks

Note: You can choose any company from S&P 500 listed firms except the Disney Corporation.

Suppose you are about to start your job in your favourite S&P 500 company as a manager corporate finance and treasury department and have just been assigned to the team estimating its WACC. You must estimate this WACC in preparation for a team meeting later today. You quickly realize that the information you need is readily available online.

1. Go to http://finance.yahoo.com. Under Market Summary, you will find the yield to maturity for ten-year Treasury bonds listed as 10 Yr Bond(%). Collect this number as your risk-free rate.

2. In the box next to the Get Quotes button, type your companys ticker symbol, and click Search. Once you see the basic information for your company, find and click Key Statistics on the left side of the screen. From the key statistics, collect your companys market capitalization (its market value of equity), enterprise value (market value equity + net debt2) cash, and beta.

3. To get your companys cost of debt and the market value of its long-term debt, you will need the price and yield to maturity on the firms existing long-term bonds. Go to http://www.finra.org, click on Investors and then under Market Data, click on Bonds. Under Quick Bond Search, click Corporate, type your companys ticker symbol, and click Search. A list of companys outstanding bond issues will appear.

Assume that your companys policy is to use the yield to maturity on non-callable ten-year obligations as its cost of debt. Find the non-callable bond issue that is as close to ten years from maturity as possible. (Hint: You will see a column titled Callable; make sure the issue you choose has No in this column.) You may have to choose a bond issued by one of its subsidiaries. Find the yield to maturity for your chosen bond issue (it is in the column titled Yield) and enter that yield as your pre-tax cost of debt into your spreadsheet. Next, copy and paste the data in the entire table into Excel.

4. You now have the price for each bond issue, but you need to know the size of the issue. Returning to the Web page, go to the row of the bond you chose and click the Issuer Name in the first column (this will either be your Company or its another subsidiary). This brings up a Web page with all of the information about the bond issue. Scroll down until you find Amount Outstanding on the right side. Noting that this amount is quoted in thousands of dollars (e.g., $60,000 means ), record the issue amount in the appropriate row of your spreadsheet. Repeat this step for all of the bond issues.

5. The price for each bond issue in your spreadsheet is reported as a percentage of the bonds par value. For example, 104.50 means that the bond issue is trading at 104.5% of its par value. You can calculate the market value of each bond issue by multiplying the amount outstanding by (Price/100). Do so for each issue and then calculate the total of all the bond issues. This is the market value of your companys debt.

6. Compute the weights for your companys equity and debt based on the market value of equity and companys market value of debt, computed in step 5.

7. Calculate companys cost of equity capital using the CAPM, the risk-free rate you collected in step 1, and a market risk premium of 5%.

8. Assuming that company has a tax rate of 35%, calculate its effective cost of debt capital.

9. Calculate companys WACC.

10. Calculate companys net debt by subtracting its cash (collected in step 2) from its debt. Recalculate the weights for the WACC using the market value of equity, net debt, and enterprise value. Recalculate firms WACC using the weights based on the net debt. How much does it change?

11. How confident are you of your estimate? Which implicit assumptions did you make during your data collection efforts?

Project Part 2 Working capital policy 13 Marks

Choose any listed company of your choice. Make sure that the financial data (Balance Sheet and Income Statement) of that company is available on yahoo finance or through financial reports. For purpose of understanding, Lets assume that we have chosen the company British Petroleum BP (Note: Each of you are supposed to choose different company other than BP). You are the Chief Financial Officer (CFO) of BP. This afternoon you played golf with a member of the companys board of directors. Somewhere during the back nine, the board member enthusiastically described a recent article she had read in a leading management journal. This article noted several companies that had improved their stock price performance through effective working capital management, and the board member was intrigued. She wondered whether BP was managing its working capital effectively and, if not, whether BP could accomplish something similar. How was BP managing its working capital, and how does it compare to its competitors? Upon returning home, you decide to do a quick preliminary investigation using information freely available on the Internet.

1. Obtain BPs financial statements for the past three years from Yahoo! Finance (finance. yahoo.com).

a. Enter the stock symbol (BP) in the box and click Get Quotes.

b. Under Financials, click Income Statement. Copy and paste the statement into Excel (if

using Internet Explorer, place the cursor in the statement and right-click the mouse, then

choose Export to Microsoft Excel from the menu).

c. Go back to the Web page and under Financials, click Balance Sheet; repeat the download procedure for the balance sheet.

d. Copy and paste the balance sheet so that it is on the same worksheet as the income statement.

2. Obtain the competitors ratios of two firms for comparison from Yahoo! Finance (finance.yahoo.com). For this case we have chosen for instance ExxonMobil Corporation and Chevron Corporation (CVX).

a. Enter ExxonMobil Corporations stock symbol (XOM) in the box at the top and click Get

Quotes.

b. Follow the steps in Part 1 to obtain net receivables and inventory from the most recent annual balance sheet, and total revenue and cost of revenue from the most recent annual income statement.

c. Repeat the two steps above for Chevron Corporation (CVX).

3. Compute the cash conversion cycle for BP for each of the last three years.

a. Compute the inventory days using cost of revenue as cost of goods sold and a 365-day year.

b. Compute accounts receivable days using a 365-day year.

c. Compute accounts payable days.

d. Compute the cash conversion cycle for each year.

4. How has BPs CCC changed over the last few years?

5. Compare BPs inventory and receivables turnover ratios for the most recent year to those of its competitors.

a. Compute BPs inventory turnover ratio as cost of revenue/inventory.

b. Compute BPs receivable turnover ratio as total revenue/net receivables.

c. Compute the average inventory turnover ratio and average receivable turnover ratio of Chevron and ExxonMobil. How do BPs numbers compare to the average ratios of its competitors? Do they confirm or refute your answer to Question 4?

6. Determine how BPs free cash flow would change if BPs inventory and accounts receivable balances were adjusted to meet the industry averages.

7. Determine the amount of additional free cash flow that would be available if BP adjusted its accounts payable days to 75 days.

8. Determine the net amount of additional free cash flow and BPs cash conversion cycle if its inventory and receivables turnover ratios were at the industry average and its payable days were 75 days.

9. What are your impressions regarding BPs working capital management based on this preliminary

analysis? Discuss any advantages and disadvantages of bringing the cash conversion cycle more in

line with the industry averages.