The Finance 2 course contains 1 group case study which accounts for 10% of the final grade. This document contains the solutions to the case study which was awarded with a 9.5. The document is supplemented with the remarks on the case and improvements for question 6. Please check if the case study ...
Summary AFM book Corporate Finance Berk & DeMarzo - Advanced Financial Management - VU
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Homework set 6 solutions
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Universiteit van Amsterdam (UvA)
Economics and Business Economics
Finance 2 (6012B0457Y)
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Finance 2 Case Study | Apple: Beta, Cost of Capital, Valuation
Deadline: March 11, 2024 | 17:00
INSTRUCTIONS
Please follow the case instructions below.
Students can compose their own groups using the “People” feature on Canvas .
Please go to "People" --> "Case study group" and make sure to self-enroll to one of
the groups. Members do not have to be from the same tutorial group. You could use
"Discussions" on Canvas to find group members or you could ask people in class. The
case needs to be done in groups of 3 or 4 students. Only one submission per group is
required. Individual submission are not allowed. The same goes for groups of 2
people. These submission will get a 1 as a final result for the case study.
Write the name and student number of each group member on the front page.
Submit your solutions as a pdf file in the Canvas case assignment before the deadline.
Only one copy of the solutions needs to be submitted per case group. Any member can
submit but you are all responsible that this group member uploaded the solutions on
time.
Solutions should be typed (i.e. not hand written).
Solutions should include intermediate calculations and explanations so that we
understand how you ended up with the final result.
Solutions should fit on a maximum of 3 single-sided pages A4 format.
Only use the material provided on Canvas or the information found using specific
instructions in the case. So for instance do not add other information from internet
about the company involved. The only exception would be an online source to get to
the market value of equity for Apple.
Submissions will be subject to a Turnitin plagiarism check. Remember plagiarism is a
serious offence and perpetrators will face sanctions.
Introduction
The goal of this assignment is to estimate the cost of capital (WACC) and to do a valuation of
a project based on the WACC and APV method using the financial statements for Apple.
Imagine that it is October 1st 20231 and that you have to do this valuation. In part 1 we ask
you to estimate the Weighted Average Cost of Capital (WACC). In Part 2 you have to value a
project.
Part 1: Calculation of Betas and WACC (55 points)
Question 1 (20 points)
You are asked to estimate the equity beta of Apple. Follow the procedure below to get the
data:
Collect Price information for Apple from Yahoo! Finance (finance.yahoo.com) as follows:
- Enter the stock symbol of Apple (AAPL). On the page for that stock click on
“Historical Data”.
1
Apple’s fiscal year ends on the 30th of September.
1
, - Enter as start date September 30, 2018 and as ending date September 30, 2023 to
cover a five-year period (i.e. you will get data from the 1st of October 2018 to the 29th
of September 2023). Make sure to click “Daily” next to the date to get the daily prices
reported by Yahoo. Hit “Apply” and then download data into a spreadsheet.
- Open this spreadsheet and select the first column. Select “Data” on the menu bar and
select the data column and then select “text to columns” button. Choose delimited and
next, select as delimiters comma and tab. Then select finish. Delete all columns except
Date and Adjusted Close.
- Repeat the steps above in another worksheet for the index: S&P 500 (stock symbol:
GSPC) and copy in the same spreadsheet2. If the website doesn’t offer you a
“download” feature to Excel, you could select all relevant data from Yahoo Finance
and copy paste this to your Excel file. That would also be a way to get to the Apple
data by the way.
Using this data, estimate the equity beta using daily data for this 5-year period. Please use
2 decimal points in your final answer. Hint: do not forget to calculate daily rates of return
first! You could ignore the impact of the risk-free rate.
Question 2 (15 points)
In Question 1 you estimated the beta, which is a levered equity beta. To determine project
risk, we are more interested in the unlevered equity beta or asset beta. Please estimate the
asset beta of Apple on September 30 2023, based on the data from question 1 and
information from the annual report on Canvas for the fiscal year 2023 (ending on 30th of
September) with the following assumptions:
- Assume the debt beta equals 0.
- Ignore the impact of taxes.
- Use the following equation as a (simplifying) proxy for the market value of debt based on
information from the balance sheet: Net Debt = (Term debt short-term + Term debt long-
term) – cash and cash equivalents
- For your calculations, please use the balance sheet values from the annual report, but
please do calculate the market value of equity separately, using a relevant online source.
- Please use 2 decimal points in your final answer.
Question 3 (10 points)
Consider the balance sheet of Apple as of 30-09-2023. Apple held $95,281 million of term
debt (long-term). Assume that this long-term debt is in the form of an AA-rated bond with a
yield to maturity of 6%. Analysts have estimated the recovery rate for AA-rated bonds to be
55%. Use the default probabilities table provided in chapter 12 of the book (page 456, 6th
edition) and calculate the cost of debt for Apple in 2023. Use the average default rate. Please
use 3 decimal points in your final answer.
Question 4 (10 points)
Assume the relevant risk-free interest rate and market risk premium to be 3.5% and 5%,
respectively. What is the cost of equity, pre-tax WACC and after-tax WACC for Apple?
Apply the leverage ratios for the firm in 2023, assume the tax rate is 15% and the cost of debt
for 2023 to be equal to the one you calculated in Question 3. For net debt use the same proxy
as in question 2. Please use 2 decimal points in your final answer.
2
Compare the data you downloaded with the original data in the browser. Make sure to understand which units
are used and what is the decimal point symbol, etc.
2
,Part 2: Valuation (45 points)
For the following questions, please use a value of 9.05% for the pre-tax WACC and 9.00%
for the after-tax WACC (i.e. ignore the values you’ve calculated in part 1).
Question 5 (30 points)
The CEO of Apple is currently (1st of October 2023) considering investing in a new project.
The project will last for 6 years. The development of the project will take one year. It is
expected that the project will raise the annual sales by $385mln in the first year (1st of
October 2024, t = 1) and that these additional sales will grow by 3% annually for two years ( t
= 2 and 3). Subsequently, the sales are forecasted to grow by 7% for the next two years (t = 4
and 5) and will then remain stable for one more year (i.e. no additional growth in the 6th year
compared to year 5). To develop the project, initial R&D expenses of $389mln need to be
made and $128mln worth of equipment needs to be purchased (t = 0). Based on the
accounting rules, the R&D cash outflow needs to be expensed directly. Additionally, $162mln
worth of equipment needs to be bought one year from now (t = 1). Both investments in
equipment are depreciated using the straight-line method in 5 years to a salvage value of $0.
The cost of goods sold is expected to be 37% of the sales and the operating expenses (excl.
depreciation) are estimated at $79mln per year (i.e. constant throughout the project). Accounts
receivable are assessed to be 15% of the sales, whereas the accounts payable and inventory
are 11% and 8% of the cost of goods sold, respectively. Assume no cash requirements are
needed for this project and that the investment in net working capital is not recovered at the
end of the project (i.e. no positive cashflows due to drop in net working capital in year 6). The
corporate tax rate applicable for this project equals 15%. N.B. Assume that a potential
negative EBIT in year 0 would generate a direct cash flow from the tax authority to Apple.
a) What are the Free Cash Flows for this new project? Make a table in which you present
your answers. Include the formulas used. (15 points)
b) What assumptions are needed to use WACC as a discount rate to calculate the value of
the project? (5 points)
c) What is the NPV of the project using the WACC method? (10 points)
Question 6 (15 points)
The management team of Apple decides to invest in the expansion as described in Question 5.
Apple however decides to change the capital structure used for the project so that it has a
constant debt capacity of $400mln during the life of the project. Use a cost of debt of 6% in
this exercise. What is the NPV of the project in this situation according to the APV method?
Assume tax benefits have the same risk as the underlying debt. The tax rate is still 15%. Why
is this answer different compared to the WACC method?
3
,Finance case: Apple
, Question 1
The beta of a stock can be calculated by taking the historical returns of the stock and the
market. The historical prices of both AAPL and GSPC are extracted from Yahoo! Finance
and based on the adjusted close, the daily return is calculated.
The formula used for the calculation of the daily return:
𝑃 −𝑃
∗ 100
𝑃
The beta is then plotted in Excel using the following formula:
𝐶𝑜𝑣(𝑟 ,𝑟 )
𝛽 =
𝑉𝑎𝑟(𝑟 )
This gives:
0,00023326
𝛽 = ≈ 1.24
0,000188748
The equity beta of Apple = 1.24
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