Corporate Finance

CORPORATE FINANCE
PROJECT REPORT9/12/2009
TATA STEEL[pic]COMPILED BY:ANISHA MALHOTRA (91067)
GAURAV MALIK (91079)
Md. WASI (91091)
RUCHI VARMA (91103)
SWATI GUPTA (91115) INDEX|S No. |Topic |Page No |
|1. |Executive Summary |3 |
|2. |About Tata Steel |4 |
|3. |Annual Report 2008-2009 |5 |
|4. |Cost of Equity |8 |
|5. |Cost of Preference Shares |10 |
|6. |Cost of Debt |11 |
|7. |WAAC |13 |
|8. |References |14 |Executive SummaryWACC is a calculation of a firms cost of capital in which each category of capital is proportionately weighted. All capital sources -? common stock, preferred stock, bonds and any other long-term debt -? are included in a WACC calculation. All other factors kept equal, the WACC of a firm increases as the beta and rate of return on equity increases, as an increase in WACC notes a decrease in valuation and a higher risk.The WACC equation? is the cost of each capital component? multiplied by its proportional weight and then summing: [pic]Where:
Re = cost of equity
Rd = cost of debt
E = market value of the firms equity
D =? market value of the firms debt
V = E + D
E/V = percentage of financing that is equity
D/V = percentage of financing that is debt
Tc =? corporate tax rateThe cost of capital for Tata Steel comes out to be 9.43% as per book value weights and 7.493% as per market value weights.About Tata SteelTata Steel, formerly known as Tata Iron and Steel Company Limited (TISCO), is the worlds sixth largest steel company, with an annual crude steel capacity of 31 million tonnes. It is the largest private sector steel company in India in terms of domestic production. Ranked 258th on Fortune Global 500, it is based in Jamshedpur, Jharkhand, India. It is part of Tata Group of companies. Tata Steel is also Indias second-largest and second-most profitable company in private sector with consolidated revenues of Rs 1,49,984 crore and net profit of over Rs 4,850 crore during the year ended March 31, 2009.Its main plant is located in Jamshedpur, Jharkhand, with its recent acquisitions; the company has become a multinational with operations in various countries. The Jamshedpur plant contains the DCS supplied by Honeywell. The registered office of Tata Steel is in Mumbai. The company was also recognized as the worlds best steel producer by World Steel Dynamics in 2005. The company is listed on Bombay Stock Exchange and National Stock Exchange of India, and employs about 82,700 people (as of 2007).Tata Steel annually produces 18 million tonnes of steel in India and 52.32 million tonnes overseas, making it the fifth largest steel producer in the world. It produced a record-breaking 10.32 million tonnes of saleable steel in its Jamshedpur works in 2009-10. The companys gross revenue in that financial reporting year was Rs. 20196.24 crores. Its PBT was Rs.621261.65 crores and PAT was Rs.422212.15 crores in the same year.Tata steel holds stakes in Corus, NatSteel, Millennium Steel, SSE Steel Ltd, Vinausteel Ltd etc. situated in various parts of the world.Annual Report 2008-09Relevant Schedules[pic][pic][pic][pic][pic][pic][pic]Cost of EquityThe cost of equity is the minimum rate of return a firm must offer shareholders to compensate for waiting for their returns, and for bearing some risk. The return consists both of dividend and capital gains, e.g. increases in the share price. The returns are expected future returns, not historical returns, and so the returns on equity can be expressed as the anticipated dividends on the shares every year in perpetuity.Under the Capital Asset Pricing Model Approach, the cost of equity is defined as,re = rf + (rm ??“ rf)*?Where,rf = Risk free return (Obtained from 364 days Treasury bills of Government)rm = Average return of market? = Risk FactorThe risk factor has been calculated by applying regression on daily return of BSE METAL index and Tata Steel (closing price). The time period considered is from August 2004 to March 2009. In the regression, return on Tata Steel closing price has been taken as the dependent variable and the return on BSE METAL index is taken as the independent variable. The regression output is shown below:[pic]As can be seen from the output, ? comes out to be 1.140094. Hence, the relationship between return on BSE METAL index and return on Tata steel share price can be described by the following equation: rs = -0.000278 + 1.140094 rm??™Where, rs = Return on Tata steelrm??™ = Return on BSE METAL indexThe risk free return has been calculated by taking average of the last five years data of the return on 364 days treasury bills. It has come out to be 6.556%. The market return has been calculated by using the data of BSE SENSEX for the period August 2004 to March 2009. The value has come out to be 18.6858% by taking the average of the daily return on BSE SENSEX for the above-mentioned period and multiplying it by 250 (since there are 250 working days in a year). Now applying the formula for the cost of equity we have,Ke = rf + (rm ??“ rf)*?Ke= 6.556 + 1.140094 (18.6858 ??“ 6.556) = 20.3851122%Cost of Preference SharesThe measurement of cost of preference capital poses some conceptual difficulty. In case of debt, there is binding legal obligation on? the firm? to pay interest & interest constitutes basis to calculate cost of debt. However, in case of preference capital, payment of dividends is not legally binding on? the firm? & even if the dividends are paid, it is not a charge on earnings, rather it is? a distribution? or? appropriation? of earnings to preference share holders.Cost of Preference share is not adjusted for taxes because preference dividend is paid after corporate taxes have been paid. Preference dividends do not save any taxes. Thus cost of Preference share is automatically computed on an after tax basis. Since interest is tax deductible & preference dividend is not, the after tax cost of preference is substantially higher than after tax cost of debt.Cost of Irredeemable Preference Shares:-The preference share may be treated as a perpetual security if it is irredeemable Thus, its cost is given by following equation:-Kp? = Dp/P0(1-f)Where ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  kp? = Cost of Preference Capital
? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  d = Constant Annual Dividend Payment
? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  P0? = Expected Sales Price of Preference Shares
? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  F = Flotation Costs as a percentage of Sales PriceRedeemable Preference Share:-The cost of redeemable preference shares is given as follows:P0(1-f) = ?nt=1? ? Dpt/(1+kp)t? + Pn/(1+kp)n

Where ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  P0 = Expected Sales Price of Preference Shares
? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  F = Floatation Cost a percentage of Preference Shares
? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  D = Dividends paid on Preference Shares
? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ?  P? n? = Repayment of Preference Capital AmountFor Tata Steel, the preference shares are being redeemed on September 1, 2009. Thus, it is a short term source of funding and will be ignored to calculate the WACC of the company.
? Cost of DebtThe cost of debt is the rate of interest actually paid by the company to the parties which provide the capital to the company in lieu of a fixed return to them. So it is 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 companys capital structure, which also includes the cost of equity.A company will use various bonds, loans and other forms of debt, so? this measure is useful? for giving an idea as to the overall rate? being paid by? the company? to use debt financing. The measure can also give investors an idea as to the riskiness of the company compared to others, because riskier companies generally have a higher cost of debt. The following tables show the calculation for cost of debt.|Particulars |Loan |Interest |Rate |
|Foreign Loans |16204.21 |569.42 |3.514 |
|10.5% NCD |3328.33 |349.47 |10.5 |
|14.25% NCD |8.5 |1.21125 |14.25 |
|Interest Free Loans |0.45 |0 |0 |
|Cash Credits + Government of India Loans + |1443.51 |222.19 |15.39 |
|Working Capital Loans + Assets Under Lease | | | |
|Fixed Loans |38915.5 |2744.0988 |7.05 |
|Total(Secured + Unsecured) |59900.50 |3886.39 | |Of these, 14.25% Non convertible debentures and 10.5% Non convertible debentures worth Rs. 33.33 crores will be repaid in the next year. Thus, weights will be calculated as follows:|Particulars |Loan |Weight |Rate |Weighted Rate |
|Foreign Loans |16204.21 |0.27 |3.514 |0.94878 |
|10.5% NCD |3295 |0.06 |10.5 |0.63 |
|Cash Credits + Government of |1443.51 |0.02 |15.39 |0.3078 |
|India Loans + Working Capital | | | | |
|Loans + Assets Under Lease | | | | |
|Fixed Loans |38915.5 |0.65 |7.05 |4.5825 |
|Total |59858.22 | | |6.47 |Pre Tax Cost of Debt = 6.47%Tax Rate= 33.99%Post Tax Cost of Debt=Pre-Tax Cost (1-t) =6.47 (1-0.3399) =4.27%WACCIn the last three subsections, the cost of each contributing part is calculated. In this section, the proportion of each part to the total, i.e., the weight of each part will be calculated and each will be multiplied with the respective costs to get the final WACC.This is shown in the next table as per the Book Value Weights:|Particulars |Total |Weight |Cost |Weighted Cost |
|Equity Share |6,202.78 |0.07 |20.385 |1.43 |
|Debentures and Loans |59858.22 |0.68 |4.27 |2.90 |
|Retained Earnings |21,511.50 |0.25 |20.385 |5.10 |
|Total |87572.50 |1 | |9.43 |The weight and cost of each part is shown in the table. Noteworthy, Share Capital, Equity Share Warrants and Reserve and Surplus is taken in same cost that of equity. As the preference shares have been converted into equity Sep1, 2009, we have not considered its rate in the calculation of weighted average cost of capital.Weighted Average Cost of Capital for Tata Steel comes out to be 9.43%.The calculation as per Market Value Weights is as follows:|Particulars |Total |Weight |Cost |Weighted Cost |
|Equity Share |3365.32 |0.04 |20.385 |0.8154 |
|Debentures and Loans |59858.22 |0.80 |4.27 |3.416 |
|Retained Earnings |11671.05 |0.16 |20.385 |3.2616 |
|Total |74894.59 |1 | |7.493 |Share price as on 31/3/2009 =Rs. 206Market price of equity = 729921016*206 = Rs. 15036.37 croresDivided in proportion of Equity : Retained earnings = 6202.78 : 21511.50Market value of equity = Rs. 3365.32 croresMarket value of retained earnings = Rs. 11671.05 croresDebentures are privately placed and not listed. Thus, market value is taken as book value.Weighted Average Cost of Capital for Tata Steel comes out to be 7.493%.References ??? Website of BSE -http://www.bseindia.com ??? Website of Tata Steel- http://www.tatasteel.com ??? Website of Wikipedia- http://en.wikipedia.org ??? Capital Line Database ??? Website of Investopedia http://www.investopedia.com ??? Website of Equity Bulls- http://www.equitybulls.com ??? Rajiv Srivastava and Anil Misra, ???Financial Management???, 2009

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