Midland Energy Resources, Cost of Capital

interior Energy Resources, Cost of Capital The issue is about how Janet Mortensen, senior vice president of project finance for Midland Energy Resources, prepare her annual be of capital estimates for midland and apiece of its three divisions for her company. Midland was a global energy company with operations in oil and gas exploration and production (E&P), refining and marketing(R&M), and petrochemicals. Estimates of address of capital prepared by Mortensen were utilize in many analyses in spite of appearance Midland, including asset appraisals for both capital bud haveing and financial accounting, performance assessments.Since her calculations had been widely utilise in various areas and became influential, she was considering appending a sort of users designate to the 2007 set of calculations for reference to different applications. Mortensen used WACC formula to estimate cost of capital, compute the cost of debt by adding a premium over US exchequer securities of a simi lar maturity, and bet the cost of equity by using the CAPM formula. After reviewing the case and tables given, we cypher the companys heterogeneous WACC and WACCs for individually division respectively. The companys composite WACC is 8. 19%. The inputs we used are spread to treasury of 1. 2%, debt ratio of 42. 2%, Treasury bond yields of 4. 98% at a 30-year maturity, the 2006 tax lay of 39%, beta of 1. 25, and EMRP of 5%. However, we do not think that EMRP given in the case is appropriate. Instead, we recommend 3. 3%, which is the most recent EMRP estimate agree the survey results in the Exhibit 6. Midland shtupnot use the same WACC for all told divisions. It has three different divisions with different risk or Beta, which is given in Exhibit 5. If midland uses same WACC for all division it can carry risky investment or some time it may pervert by giving up profitable investment.It should use corporate WACC but for corporate level decision. WACC for E&P and R&M is calcula ted by using cost of debt by adding risk free rate plus spread to TB. From the Exhibit 5, weights for debt and Equity are calculated. WACC of E&P is 8. 82 and R&F is 9. 83. Both WACC are different to each other because they have different risk level, leverage and credit rating. reckoning Part WACC (E&P)=rd(D/V)(1-t)+re(E/V)=6. 58*0. 2847(1-0. 39)+10. 73*0. 7153=8. 8178 rd=rf+spread =4. 98+1. 6=6. 58, re=rf+B(EMRP)=4. 98+1. 15*5=10. 73 D/E=0. 398 or V-E/E=0. 398 or E/V=0. 7153D/V=1-E/V=1-0. 7153=0. 2847 WACC (R&M)=rd(D/V)(1-t)+re(E/V)=6. 78*0. 1687(1-0. 39)+10. 98*0. 8313=9. 8253 rd= rf+spread =4. 98+1. 8=6. 78re= rf+B(EMRP)=4. 98+1. 2*5=10. 98 D/E=0. 203orV-E/E=0. 203orE/V=0. 8313, D/V=1-E/V=1-0. 8313=0. 1687 For Petrochemical division, since we dont have sufficient information of that division. We cannot compute our Beta so that we cannot get an exact number of WACC for the division. If the managers want to have a rough estimate, they can use the overall Beta as an average for thr ee divisions and calculate the Beta for Petrochemical division. Then they can get the WACC.