PowerPoint Presentation

Case Study: Cost of Capital

Aditya SyamsuIrreza IrrezaBhagas ArgaHanif WidyantoPresented by:

Magister Manajemen Universitas Indonesia

Backstory

Magister Manajemen Universitas IndonesiaPetroleo Brasileiro S.A (Petrobras) is an integrated oil and gas company founded in 1954 by the Brazilian Govt.Listed in Sao Paulo in 1997, and NYSE in 2000 (Govt still the controlling shareholder).December 2001, exchange of operating assets with Repsol YPF of Argentina.October 2002, purchased Perez Company of Argentina.CorporateActions

Problem

Magister Manajemen Universitas Indonesia

Magister Manajemen Universitas IndonesiaWhy Petrobras Cost of Capital is so high?Are there better ways, or other ways, of calculating its WACC?CASE QUESTION 1

Magister Manajemen Universitas IndonesiaPetrobras has high cost of capital because:Country risk factor inherently linked to BrazilReflected in its sovereign risk in KdLack of diversification in its equity market Petrobras only issued its shares in Sao Paolo and NYSECASE QUESTION 1ANSWERS:

Magister Manajemen Universitas IndonesiaDoes this method of using sovereign spread also compensate for currency risk?CASE QUESTION 2

Magister Manajemen Universitas IndonesiaNO. Sovereign Risk is more closely related to Country RiskThere is still Currency Risk factors from difference in Debt Issuance Currency and its Functional CurrencyPetrobras uses R$ as its functional currencyCASE QUESTION 2ANSWERS:

Magister Manajemen Universitas IndonesiaThe final quote that ones view on the direction of the board Brazilian market suggests that potential investors consider the relative attractiveness of Brazil in their investment decision. How does this perception show up in the calculation of the Petrobras cost of capital?CASE QUESTION 3

Magister Manajemen Universitas IndonesiaKd = Risk Free Rate + Sovereign Risk + Corporate (Petrobras) Risk

Sovereign Risk reflects the Country Risk and Potential Returns that Petrobras could provideCASE QUESTION 3ANSWERS:

Magister Manajemen Universitas IndonesiaIs the cost of capital really a relevant factor in the competitiveness and strategy of a company like Petrobras? Does the corporate cost of capital really affect competitiveness?CASE QUESTION 4

Magister Manajemen Universitas IndonesiaCost of capital is a relevant factor in measuring the competitiveness of PetrobrasSuch high cost of capital is not competitive compared to other competitors within the industryCASE QUESTION 4ANSWERS:

Magister Manajemen Universitas IndonesiaPetrobras has issued its shares in Brazil, NYSE, Madrid and Buenos Aires. The last second issuance in Madrid has made Petrobras the 4th largest company in terms of market capitalization in the world.Petrobras has operated in 27 countriesPetrobras Issuance of Debt has increased until 50% debt to equity ratio (up from 33% in 2005)Current Condition

Magister Manajemen Universitas IndonesiaPetrobras decided to decrease its WACC by diversifying its market equity, so the external factors could alter its global market equity premium and its betaPetrobras has increased its debt with lower cost of debt until 2012Conclusion