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In the answer to this part we have calculated the revised asset beta of the two companies combined it came .351 but when we re geared it we have not included the debt of Anchorage company instead just the debt of Polar company plus the new debt of 2.5 bh, why have we not included the debt of the aquiree?
And also the equity remains the same at 1125 Million, will there not be some additional shares issued or acquired, so shouldn’t be the equity in asset beta formula of combined companies include some higher value of equity?
in short why have we not included the debt and (some) equity of the acquiree when calculating the equity beta of combined companies?
Thanks
The question says that the finance will come from additional borrowing (and existing cash).
So, there will be no new shares issued.
Also, there is no mention of them taking over the existing debt – the existing debt would have been paid off and was taken into account in the total value of the acquiree.
Sir,
Could you please explain why the combined asset beta post-acquisition is estimated as:
(0.8 x 0.285) + (0.2 x 0.614) = 0.351?.From my own understanding, I thought that since Anchorage’s proportion of post-acquisition cash flow is expected to be 20%, meaning Polar Finance will have 80%. The combined asset beta post acquisition supposed to be estimated as:
0.285 + (80% x 0.614) = 0.7762. or (0.285 + 0.614) x 80% = 0.7192.I didn’t understand the logic behind the above estimated combined asset beta post-acquisition by Bpp.
Thank you.
Sir,
Another question is this, in estimating Anchorge WACC, why is the value of P0 = 1?
Again, in (d) part of the question, there is a suggestion (by Bpp), that with 1600 share in issue (at 2.60 share price), this represents a market capitalisation of $4160 million. if dividend payments were capitalised at this return (6.668%) on equity, this will suggest a market capitalisation of $4049 million.”
How did they arrived at market capitalisation of $4049 ?
When two streams are merged together, then the overall beta will be the weighted average of the individual betas (the free lectures on CAPM will help you with this).
Here, Anchorage has an asset beta of 0.614 and is 20%. Polar finance has an asset beta of 0.285 and is 80%.
So the overall beta is (0.2 x 0.614) + (0.8 x 0.285) = 0.351.You can assume any value for Po. If you assume 1 then the dividend is 3.1% x 1 = 0.031.
If you assume 2, then the dividend is 3.1% x 2 = 0.062. Using these two figures will give exactly the same answer.
It is because the dividend is quoted as a % instead of in $’s.Dividend paid in 2009 was 270. If this is capitalised at 6.668% (ignoring any growth) then it gives a market value of 270/0.06668 = 4049. As the answer says, the fact that the actual market value is only sightly higher, it suggests that the market is expecting only little growth.
Ok, that makes sense now. Thank you very Much Mr. John.
I appreciate the assistance.
Sir, please I have one more question. In the answers to part (e) by Bpp, under Anchorage’s viewpoint, it states:
” The alternative would be to borrow directly at SFr LIBOR + 0.75% per a year (5.75% – 5.0%)”.
But according to the information provided, Anchorage can borrow in SFr at a floating rate of between 5.75% and 6% depending upon which form of borrowing is selected)ie in the euromarket or the Swiss domestic markets). SFr LIBOR is currently 5%.
My question is, how did they come up with “SFr LIBOR + 0.75% per a year (5.75% – 5.0%)”? I can’t figure out the logic behind that.
Thank you.
If they borrow at floating rate, then the rate moves up and down from day to day as LIBOR goes up and down.
If they can currently borrow at 5.75% and LIBOR is 5%, then the rate will always be 0.75% more than LIBOR.
I also not fully understad why do we need to combine betas in this question?
From portfolio theory we can calculate wheighted average equity beta for the portfolio of different assets that make sense to me.
There are 2 streams merged together – what do we mean by that? Stake of each company?
It isn’t portfolio theory – its CAPM (and it is covered in the lectures).
In this question Polar has one beta and Anchorage has another – they have different risks. So when they are combined, the overall asset beta will be the weighted average of the individual asset betas – the weighting here will be 80% and 20% (20% is given in the question).
(You can’t take a weighted average of the equity betas unless the gearing is the same throughout)
“Anchorage’s proportion of the total post-acquisition cash flows will be
20%.”Should I interpret it as follows:
Cash flows of Polar Finance will be:
– 80% from Anchorage
– 20% from other sourses ?I sm also confused that if 80% of Anchorage goes to Polar Finance why we apply 80% to the Beta of Polar finance but not to the Beta of Anchorare…
No – you are interpreting wrongly.
20% will be from Anchorage, and therefore the other 80% will be in Polar’s existing operations.
As to how you would estimate it in practice, it would be the same sort of way as you would estimate the cash flows for any investment – they are always estimates and take into account their strategy, their past flows, their estimates of inflation, and so on.
No – you are interpreting wrongly.
20% will be from Anchorage, and therefore the other 80% will be in Polar’s existing operations.
As to how you would estimate it in practice, it would be the same sort of way as you would estimate the cash flows for any investment – they are always estimates and take into account their strategy, their past flows, their estimates of inflation, and so on.
Could you please tell in which particular lecture do you explain principles of combinations of streams and betas? I looked through the lectures but could not find explanations for such cases like this…
It is difficult for me to understand how 80% of Anchor cashflows (and what do we mean by Anchor cash flows in this particular case) can be shifted to Polar existing operations? And why therefore we multiply 0,8 by Beta of Polar but not by Beta of Anchor(these cash flows were generated using Anchor risk and therefore relate to Anchor Beta). I struggle to understand it…
As for me we need to multiply the proportion (weight) of each business in the group (combined company) by the Beta relating to this particular business.
I work through several examples combining betas in the lectures on CAPM. (Not mentioning asset betas because they are in a later lecture, but it obviously has to be the asset betas because the equity betas result from the level of gearing.)
80% of Anchorages cash flows are not being shifted!!
Polar is acquiring Anchorage. Polar will keep their existing cash flows but in addition they will get all of Anchorage’s cash flows. The question specifically says that “Anchorage’s proportion of the total post-acquisition cash flows will be 20%”. So the other 80% of the total must be Polar’s existing cash flows.
Therefore the new asset beta of Polar will be (20% x Anchorages asset beta) + (80% x Polar’s existing asset beta).
I think now I got it.
so:
Compostion of the combined company is the following:
20% relate to Anchor – therefore we apply Beta of Anchor
80% relate to Polar – therefore we apply Beta of Polar.Correct me if I am wrong…
The phrase “It is expected that Anchorage’s proportion of the total post-acquisition cash flows will be 20%” totally confused me, not suffucient to see the whole picture at the moment…
Thank you John! I do not know what whould I do without you tuition!)))
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