In order to calculate WACC, we need to first start with the beta of equity. We are given the beta of equity of 1.06 of Dixon as a firm in Exhibit 7. However, the beta given is not an appropriate measure of the systematic risk of the Collinsville Plant, because Dixon produces many other chemical products other than Sodium Chlorate. Therefore, in order to accurately capture the systematic risk of the plant which only produces Sodium Chlorate, we decided to calculate the beta of equity with comparable firms’ beta.
Selection of Comparable Firms: We use “Brunswick Chemical” and “Southern Chemicals” as the comps to calculate the βE ,because they are firms that only produce Sodium Chlorate that have similar capital structure as Dixon and are located in the Southeastern region.
Static or Dynamic Debt: We determine that Dixon has dynamic debt to keep a relative constant D/E ratio from the data available in the financial statements of Dixon Corporation (Exhibit 7); therefore, the “tax term” is removed from our calculation of WACC. More specifically, Calculation Process: 1. Unlever Comp βEβUA(Brunswick) = (1.10)/(1+17/83) = 0.9130βUA(Southern) = (1.20)/(1+(24.5)/(75.5)) = 0.9060 2. Average Comp βUA(0.9130+0.9060)/2 = 0.9095 3. Relever Comp βUA with project D/EThe Collinsville Plant does not have any current debt, so we can value the plant as an all-equity project. The debt that Dixon incur as a firm in order to make this acquisition will affect the valuation of the firm as whole, but not the project itself. Therefore, βE= βUA
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Calculate the estimated cost of equity (rE) with βE(Collinsville) = 0.9095, Risk-free rate of 9.5% (Long-term government treasury bill rate, since the project duration is longer than 1 year.), market risk premium of 5% (See attached.) rE=rf + βE (rM – rf)
and now we have, rE = 9.5% + 0.905 * 5% = 14.05%
Finally, we have all the inputs needed to calculate WACC,
To be consistent with the assumption we made when we are re-levering the βof comps to βof the plant that plant itself has no debt; therefore, WACC(Collinsville) = rE + 0 * (rD) = 14.05%.
All Equity Cost of Capital Calculation for APV Valuation In order to conduct an APV valuation, we need to first find the all-equity cost of capital using the average βUA of comparable firms. The selection of comps is the same as for the WACC calculation as the concern that firm’s systematic risk differs from that of the project still holds.
We can start with Average Comp βUA = 0.9095 since it is the same result that we have already calculated for in the previous section for WACC. Unlike WACC, we do not need to re-lever the Average Comp βUA, because APV values the project as if it is all-equity financed with no leverage. Calculate the unlevered cost of capital with the inputs (rf = 9.5% ; βUA = 0.9095 ; rM – rf = 5%) and the following formula, rUA=rf + βUA (rM – rf) Our final calculation is 14.05%
Case Two Analysis Dixon Corporation: The Collinsville Plant
October 1,2013 WACC Calculation In order to calculate WACC, we need to first start with the beta of equity. We are given the beta of equity of 1.06 of Dixon as a firm in Exhibit 7. However, the beta given is not an appropriate measure of the systematic risk of the Collinsville Plant, because Dixon produces many other chemical products other than Sodium Chlorate. Therefore, in order to accurately capture the systematic risk of the plant which only produces Sodium Chlorate, we decided to calculate the beta of equity with comparable firms’ beta.
Selection of Comparable Firms: We use “Brunswick Chemical” and “Southern Chemicals” as the comps to calculate the βE ,because they are firms that only produce Sodium Chlorate that have similar capital structure as Dixon and are located in the Southeastern region.
Static or Dynamic Debt: We determine that Dixon has dynamic debt to keep a relative constant D/E ratio from the data available in the financial statements of Dixon Corporation (Exhibit 7); therefore, the “tax term” is removed from our calculation of WACC. More specifically, Calculation Process: 1. Unlever Comp βEβUA(Brunswick) = (1.10)/(1+17/83) = 0.9130βUA(Southern) = (1.20)/(1+(24.5)/(75.5)) = 0.9060 2. Average Comp βUA(0.9130+0.9060)/2 = 0.9095 3. Relever Comp βUA with project D/EThe Collinsville Plant does not have any current debt, so we can value the plant as an all-equity project. The debt that Dixon incur as a firm in order to make this acquisition will affect the valuation of the firm as whole, but not the project itself. Therefore, βE= βUA
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In response it is to your previous E-mail with the attention of the projects of Juniper, Palomino and Stargazer. The team is found and analyzed the three projects, assessed the risk that each project contains as well as returns on investment (ROI). There are many aspects one should think over when performing an investment decision. These may include the hypothesis of underlying the potential ...
Calculate the estimated cost of equity (rE) with βE(Collinsville) = 0.9095, Risk-free rate of 9.5% (Long-term government treasury bill rate, since the project duration is longer than 1 year.), market risk premium of 5% (See attached.) rE=rf + βE (rM – rf)
and now we have, rE = 9.5% + 0.905 * 5% = 14.05%
Finally, we have all the inputs needed to calculate WACC,
To be consistent with the assumption we made when we are re-levering the βof comps to βof the plant that plant itself has no debt; therefore, WACC(Collinsville) = rE + 0 * (rD) = 14.05%.
All Equity Cost of Capital Calculation for APV Valuation In order to conduct an APV valuation, we need to first find the all-equity cost of capital using the average βUA of comparable firms. The selection of comps is the same as for the WACC calculation as the concern that firm’s systematic risk differs from that of the project still holds.
We can start with Average Comp βUA = 0.9095 since it is the same result that we have already calculated for in the previous section for WACC. Unlike WACC, we do not need to re-lever the Average Comp βUA, because APV values the project as if it is all-equity financed with no leverage. Calculate the unlevered cost of capital with the inputs (rf = 9.5% ; βUA = 0.9095 ; rM – rf = 5%) and the following formula, rUA=rf + βUA (rM – rf) Our final calculation is 14.05%
