Rotman School of Management

RSM5302
Summer 2016, Budapest

Southport Minerals Group Case

1) Briefly discuss the pros and cons of each of the four proposed valuation approaches.
(You will not necessarily use any of these approaches for your own analysis.)

2) Should Southport Minerals make the investment? Support your recommendation with
the appropriate calculations using the APV method.

In order to start you out, note that Southport Minerals (the parent company) has an rA of
15%. That should be your starting point. Assume that if SI attempted to raise debt funds on
the open market absent government guarantee, they would have to pay a market rate of
12% for the entire debt amount. The government guarantees can be viewed as loan
subsidies. Make any further reasonable assumptions as necessary. Use sensitivity analysis
as appropriate. Write an executive summary.

3) In order for me to better understand how you solved the problem, please answer (with
explanations) the following questions:

a) Why is APV more appropriate than WACC in this case?

b) What did you choose as rA for the project?
c) How did you adjust for “Indonesia risk”?
d) Table B lists the cost of equity as 20%. Do you think it is reasonable to assume 20%
through the life of the project?
e) How did you value the subsidized debt?
f) What price of copper did you assume?
g) Which of the two repayment schedule should be assumed? (See discussion for approach
4)
h) What other issues (if any) affect your decision?

NOTE: There are a few typos/inconsistencies in the case. You should make the necessary
assumptions and work it out the way with the numbers that YOU think are correct. For
example, there may be mistakes in the way that the exhibits show interest expense
(including showing no interest for the first few years). You should work out what you think
the correct interest cash flows are. There is also a minor typo for the last year of
depreciation.

Table B shows a pre-tax cost of equity of 33% and an after-tax cost of equity of 20%. Of
course, there is no such thing as a pre-tax cost of equity. They meant a cost of equity of
20% (which would have been analogous to 33% if there was such thing as a pre-tax cost of
equity.)

In general, make reasonable assumptions as necessary; and be very clear about why you
are making the assumptions that you do, and what your arguments are.