Finance Organization and Long-Term Planning Discussion Question
Considering Genesis Energy's aggressive growth plan, Sensible Essentials suggested that its client should broaden the scope of financing beyond short-term loans and consider long-term financing options. These options would greatly enhance the ability of the operations management team to fund the capital investments and growth in operating expenses.
One option is selling more equity in the company. A public stock offering might be a possibility; however, a company as young and small as Genesis Energy might be hard to value. Sensible Essentials believes that another private investor might require preferred stock dividends in order to mitigate some of the financial risk. Another option is a long-term bank loan.
Acting as the finance expert for Sensible Essentials, respond to the following:
• Determine the cost of debt and equity for Genesis Energy and its weighted average cost of capital.
• Identify the sources of long-term financing for Genesis Energy.
• Analyze the potential costs and benefits of each option.
• Explain how relative risk (from the investor's perspective) impacts the cost of capital for Genesis Energy.
• Determine the cost of debt and equity for Genesis Energy and its weighted average cost of capital.
• Calculate the required rate of return for Genesis Energy using the capital asset pricing model (CAPM). What is the required return for Genesis Energy shareholders?
The cost of the individual equity and debt has already been entered into the spreadsheet. This is the interest rates for each of the items. The formula is also in the spreadsheet so all you need to do is determine the weights for each item of debt and equity.
The calculation for this is to divided each of the items by the total debt and equity, which is this example is $4,000,000 found in cell C17.