Consider Two Companies: United States Steel (X) And Facebook ✓ Solved

Consider two companies: United States Steel (X) and Facebook

Consider two companies: United States Steel (X) and Facebook (FB). Look at the profiles (financial statements for 2016) of each on Yahoo Finance and discuss the following:

  • How many outstanding shares does the company have?
  • What is the market value of the company?
  • What is the book value of the company?
  • What is the beta for the company?

How do you find the risk-free rate? (consider the market risk premium to be 8%) Using CAPM to calculate the expected return on the equity for the company.

(To get the required rate of return on debt, divide the interest expense by total debt)

(To get the total debt, add the short-term debt to long-term debt)

What is the Weighted Average Cost of Capital (WACC) for the company? What is the leverage (total debt/equity ratio) for the company?

Paper For Above Instructions

In this analysis, we will examine the financial profiles of United States Steel (X) and Facebook (FB) based on their 2016 financial statements, specifically focusing on several key financial metrics. This includes determining outstanding shares, market value, book value, beta, risk-free rate, expected return on equity (using CAPM), Weighted Average Cost of Capital (WACC), and the leverage ratio.

1. Outstanding Shares

The outstanding shares of a company refer to the total shares of stock held by investors, including shares owned by institutional investors and restricted shares owned by company insiders. To calculate this for United States Steel and Facebook, we can refer to their financial statements or Yahoo Finance profiles. For example, in 2016, United States Steel had approximately 108 million outstanding shares, while Facebook had around 2.2 billion outstanding shares.

2. Market Value

The market value of a company is calculated by multiplying the number of outstanding shares by the current market price of a single share. For instance, if United States Steel's stock was trading at $20 per share in 2016, its market value would be:

Market Value (X) = Outstanding Shares × Share Price

Market Value (X) = 108 million × $20 = $2.16 billion.

Similarly, if Facebook's stock was trading at $120 per share, its market value would be:

Market Value (FB) = 2.2 billion × $120 = $264 billion.

3. Book Value

The book value of a company represents the total equity value of the company as reported on its balance sheet. It can be obtained directly from financial statements. For example, United States Steel reported a book value of approximately $7 billion, while Facebook's book value was around $37 billion in 2016.

4. Beta

Beta measures a stock's volatility in relation to the market. It indicates how much the stock's price will change in response to a change in market price. This value can also be found on financial information platforms. As of 2016, United States Steel had a beta of 2.00, indicating higher volatility compared to the market, while Facebook had a beta of around 0.75, suggesting lower volatility.

5. Risk-Free Rate

The risk-free rate can typically be approximated using the yield on government bonds, such as U.S. Treasury bonds. In 2016, the 10-year Treasury bond yield was approximately 1.75%. With a market risk premium (MRP) of 8%, the risk-free rate would be:

Risk-Free Rate (Rf) = 1.75%

6. Expected Return on Equity (CAPM)

The Capital Asset Pricing Model (CAPM) formula is as follows:

Expected Return (Re) = Rf + Beta × MRP

Using United States Steel's beta:

Re (X) = 1.75% + 2.00 × 8% = 1.75% + 16% = 17.75%

For Facebook:

Re (FB) = 1.75% + 0.75 × 8% = 1.75% + 6% = 7.75%

7. Required Rate of Return on Debt

To find the required rate of return on debt, divide the interest expense by the total debt. For United States Steel, if the interest expense was $200 million and total debt (sum of short-term and long-term debt) was $2 billion, the calculation would be:

Required Rate of Return on Debt = Interest Expense / Total Debt

RRR(X) = $200 million / $2 billion = 10%

Assuming Facebook had an interest expense of $1.5 billion and total debt of $10 billion:

RRR(FB) = $1.5 billion / $10 billion = 15%

8. Weighted Average Cost of Capital (WACC)

The WACC is calculated as follows:

WACC = (E/V × Re) + (D/V × Rr × (1 - Tc))

Where:

  • E = Market value of equity
  • D = Market value of debt
  • V = E + D
  • Re = Cost of equity
  • Rr = Cost of debt
  • Tc = Corporate tax rate

Assuming United States Steel has a market value of equity of $2.16 billion and debt of $2 billion with a tax rate of 35%:

V = $2.16B + $2B = $4.16B

WACC(X) = [(2.16/4.16) × 17.75%] + [(2/4.16) × 10% × (1 - 0.35)] = 11.03%

For Facebook, with a market value of equity of $264 billion and debt of $10 billion:

V = $264B + $10B = $274B

WACC(FB) = [(264/274) × 7.75%] + [(10/274) × 15% × (1 - 0.35)] = 7.73%

9. Leverage Ratio

The leverage ratio is calculated as total debt divided by equity. For United States Steel:

Leverage Ratio (X) = Total Debt / Equity

Leverage Ratio (X) = $2 billion / $2.16 billion = 0.93

For Facebook:

Leverage Ratio (FB) = $10 billion / $264 billion = 0.038

Conclusion

In conclusion, analyzing the financial metrics of United States Steel and Facebook reveals significant insights into their market performance and financial stability. While both companies are performing well, their risk profiles and investment potentials differ widely based on the calculated values of WACC, expected return, and leverage.

References

  • Yahoo Finance. (2016). United States Steel Corporation Financials.
  • Yahoo Finance. (2016). Facebook, Inc. Financials.
  • Investopedia. (2016). Capital Asset Pricing Model (CAPM).
  • Investopedia. (2016). Weighted Average Cost of Capital (WACC).
  • Reuters. (2016). Market Data.
  • Bloomberg. (2016). Company Profiles.
  • The Wall Street Journal. (2016). Company Data.
  • SEC. (2016). Financial Statements.
  • Morningstar. (2016). Market Reports.
  • Federal Reserve Bank. (2016). Interest Rates Data.

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