American Chemical Corporation

Topics: Weighted average cost of capital, Capital, Generally Accepted Accounting Principles Pages: 15 (1874 words) Published: December 11, 2013
Bilal Al- Qureshi, Said Business School, University of Oxford 2010

American Chemical Corporation
HBS Case Number: 9-290-102
Executive Summary
The American Chemical Corporation (AMC) is a large, diversified chemical producer. In 1979, AMC was forced to issue a tender to sell a Sodium Chlorate plant, near Collinsville, Alabama. Dixon, a specialty chemicals company, was willing to purchase the aforementioned plant for $12m with the option to invest a further $2.25m on laminate technology. The subsequent investment in Laminate technology was expected to eliminate graphite costs and reduce power consumption at the Collinsville plant by 15% to 20%.

We will evaluate the acquisition of the Collinsville by Dixon at the proposed price. Table 1 identifies the assumptions that have been used for the evaluation of this acquisition. Table 1
Assumptions

Reference

Laminate Technology reduces power by a
mean of 17.5%
Laminate Technology is depreciated over 10
years
Sodium Chlorate price growth is 8%, per
annum
Power cost (per KWH) growth is 12%, per
annum
Plant Life is 10 years

Pg 3, HBS 9-280-102

Plant Salvage Value is zero

Pg 1, Assessed work Sheet

EBIT is flat after 1984

Pg 1, Assessed work Sheet

Capital Expenditures: $600,000 per annum
after 1984
Net Working Capital Remains flat after 1984

Pg 1, Assessed work Sheet

Definition of “Flat”

Pg 4 http://www.imf.org/external/pubs/ft/wp/2006/wp06218.pdf

6.5% is the Equity Risk Premium

Slide 21, Risk and Return, class notes-

Tax rate is 48.69%

http://www.investopedia.com/articles/04/012104.asp
Exhibit 7, HBS 9-280-102

Pg 3, HBS 9-280-102
Pg 4, HBS 9-280-102
Pg 4, HBS 9-280-102
Pg 1, Assessed work Sheet

Pg 1, Assessed work Sheet

From 1984 to 1989, the following growth
rates are used

Exhibit 8 , HBS 9-280-102

4 year Growth rate is used for Variable Costs
Capital investment is based on figures from
1980-1984
PPE and depreciation is based on figures
from 1980-1984

Exhibit 8, HBS 9-280-102

Beta Debt is zero

Pg 443, Demarzo 2007

Debt to Equity Ratio: 35% : 65%
Plant: Valuation starts in 1980
Laminate Tech valuation starts in 1981

Pg4, HBS 9-280-102

Exhibit 8, HBS 9-280-102
Exhibit 8, HBS 9-280-102

2

Bilal Al- Qureshi, Said Business School, University of Oxford 2010

1. Estimate the Cost of Capital
Reference: Q1.ACC.SBS.xls
a. Dixon Beta
Exhibit 5 identifies the Equity Betas’ of selected Sodium Chlorate producers. Exhibit 7 identifies a beta of 1.06 for Dixon. However, as previously stated, Dixon is not currently a Sodium Chlorate producer thus the suggested Beta fails to provide an insight into the systematic risk of the project vis-à-vis the sodium chlorate industry. We decide against calculating, and thus using the average equity beta of Southern and Brunswick as market representatives, as the cited chemical producers account for 5% of the Southern Eastern US market.

We therefore, calculate the average beta of the sodium chlorate industry by delevering the equity beta of market participants, as identified in Exhibit 7.As a noted market participant; we include American Chemical Corporation (ACC) in our calculations. Specification 11 identifies the formula used to delever:

(1) ßU = ((EQ/EV) * ßE ) +(( DV/EV) * ßE)
Table 2 presents our findings
Table 2
1978
Equity
Debt
Tax rate
ßE
ßD
ßU

ACC
PW
0.61
0.69
0.39
0.31
48.7% 48.7%
1.20
1.33
0
0
0.73
0.92

KM
1
0.00
48.7%
1.06
0
1.06

IMC
0.99
0.01
48.7%
0.81
0
0.80

GP
0.71
0.29
48.7%
1.5
0
1.07

BC
0.85
0.15
48.7%
1.1
0
0.94

SC
0.79
0.21
48.7%
1.2
0
0.95

Based on the figures extracted from Exhibit 1 & 5, a mean ßU of .92 is yielded, suggesting that the related business operations of the selected market participants’ is less volatile than the market thus, in the absence of leverage, the sodium chloride industry has the traits of being low risk / return.

ßU is then...

Bibliography: Copeland et al, 1996, Valuation, Measuring and Managing the Value of Companies,2nd Edition,
Mckinsey & Company, Inc.
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