Module 3. Lier la conception des projets, la programmation ...
Lier Corporation Report
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Transcript of Lier Corporation Report
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Cost of Capital report – FIN 503
Submitted by: Amandeep Arora (1441665), Abhineet Kansal (), Avrojit Roy (), Maaz Gabbur ()
Introduction to Lear Corporation
Assumptions for WACC calculation:
1.
Risk free rate of return for a given time horizon is taken from yield on government bonds for that
time horizon
2. Estimated market risk premium is assumed as 6.5% for calculation purposes
3. The company hasn’t further bifurcated cash and cash equivalents in schedules to balance sheet.
But it mentioned that it has invested some part of cash equivalents in money market instruments.
Hence we assumed the excess cash as 25% of the total cash and cash equivalents which is
deducted to total debt to calculate net debt.
4. Lear Corporation has credit rating of Baa3 from Moody’s. The synthetic credit spread for Baa3
rating is taken as 2.25%.
5.
Tax rate is assumed as 30%.
Weighted average cost of capital (WACC)
WACC of Lear Corporation = Cost of Lear’s debt + Cost of Lear’s equity (for a particular time horizon)
Cost of Debt
It is referred as the effective rate that a company pays on its current debt. This can be measured in either
before- or after-tax returns; however, because interest expense is deductible, the after-tax cost is seen
most often. This is one part of the company's capital structure, which also includes the cost of equity.
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Cost of Lear ’s debt
Risk free rate for 10 years time horizon is 3.61%. The synthetic credit spread for Baa3 rating is assumed as
2.25%. Hence, cost of debt for 10 year horizon for Lear ’s Corporation is computed as summation of risk
free rate and synthetic credit spread i.e. 5.86% (3.61% + 2.25%). The detailed calculations of cost of debt
for various time horizons can be referred in Appendix.
Alternate way: Cost of debt can also be defined as the ratio of interest expense and total net debt. Hence
the calculation of cost of debt using this method is shown in Appendix. The cost of debt for 2013
calculated using this formula i.e. 6.04% is very close to cost of debt calculated by using 10 years risk free
rate as mentioned above.
Cost of Equity
Cost of equity refers to a shareholder's required rate of return on an equity investment. It is the rate of
return that could have been earned by putting the same money into a different investment with equal
risk.
Cost of Lear ’s equity
Cost of equity is calculated as:
As assumed in calculation of debt cost, risk free rate for 10 years time horizon is 3.61%. The beta for the
Lear’s stock is calculated by using regression analysis of the weekly returns of NYSE composite index and
Lear’s stock that is traded on NYSE. Beta is the value of coefficient of X in regression output.
Alternate way: Beta can also be calculated using a slope function.
Beta = “=SLOPE(H4:H159,E4:E159)”
where values in column ‘H’ represents weekly returns on Lear’s stock and values in column ‘E’ represents
weekly returns on NYSE Composite Index.
Weighted average cost of capital (WACC)
WACC = {(Debt/Debt+Equity)* Cost of debt} + {(Equity/Debt+Equity)* Cost of equity}
Total debt during the end of 2013 for Lear Corporation is $792.82 mn and total equity at this time is
$3045.1 mn. The values of cost of debt and equity for various time horizons are plugged in the above
formula to calculate the weighted average cost of capital for various capital horizons.
WACC for 10 year time horizon = {(792.83/792.83+3045.1)* 5.86} + {(3045.1/792.83+3045.1)* 3.61}
= 11.62%
E,t rf,t m rf
Market Risk Premium
r r r r
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Appendix
Regression output for calculation of Beta
Cost of Debt Alternate calculation:
Risk free rate assumption 3.61%
Synthetic credit spread 2.25% For Baa3 rating
Years (Time Horizon) Risk free rate Cost of debt
1 0.30% 2.55%
2 0.79% 3.04%
3 1.36% 3.61%
5 2.34% 4.59%10 3.61% 5.86%
SUMMARY
OUTPUT
Regression Statistics
Multiple R 0.698937847
R Square 0.488514115
Adjusted R
Square
0.485192778
Standard
Error
0.023964556
Observatio
ns
156
ANOVA
df SS MS F Significance
F
Regression 1 0.084470087 0.08447009 147.083577 3.4702E-24
Res idual 154 0.088442188 0.0005743
Total 155 0.172912275
Coefficients Standard
Error
t Stat P-value Lower 95% Upper 95% Lower
95.0%
Upper
95.0%
Intercept 0.002942323 0.001931585 1.52326891 0.12974229 -0.0008735 0.00675815 -0.0008735 0.00675815
X Variable
1
1.463610792 0.120682281 12.1278018 3.4702E-24 1.22520439 1.70201719 1.22520439 1.70201719
Beta
Cost of Debt 2013
Total interest
incurred
68.4
Total debt (A) 1057.1
Excess cash (B) 264.275
Net debt (A-B) 792.825
Cost of debt 8.63%
After tax cost ofdebt (tax rate
30%)
6.04%
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Cost of equity
Beta for Lear = 1.463610792 (Coefficient of X in regression output)
Market risk premium = 6.50% (Estimated equity risk premium)
Years (Time
Horizon)
Risk free
rate
Cost of
equity
1 0.30% 9.81%
2 0.79% 10.30%
3 1.36% 10.87%
5 2.34% 11.85%
10 3.61% 13.12%
Weighted average cost of capital (WACC)
Total Debt in 2013 (D) = $ 792.825 mn net of excess cash
Total Equity in 2013 (E) = $ 3045.1 mn
Therefore, D/(D+E) = 0.207 and E/(D+E) = 0.793
Years (Time
Horizon)
Cost of debt Cost of
equity
WACC
1 2.55% 9.81% 8.31%
2 3.04% 10.30% 8.80%
3 3.61% 10.87% 9.37%
5 4.59% 11.85% 10.35%
10 5.86% 13.12% 11.62%