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Hydro Aluminum Consolidated (HAC)

This case study analyzes the investment opportunity with CVRD in Brazil for Hydro Aluminum Consolidated (HAC). Risk analysis, country report, ratings, beta calculation, NPV calculation, funding policy, and hedging policy are discussed. The recommendations include borrowing in BRR, balancing inflows and outflows, and hedging against currency risks.

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Hydro Aluminum Consolidated (HAC)

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  1. Hydro Aluminum Consolidated (HAC) FINA 7360 Dr. R. Susmel Presented by: Natalia Mora Aamir Nomani

  2. Case Information • HAC, engaged in production & distribution of Aluminum • CVRD (Companhia Vale do Rio Dolce) • Alunorte, sub-division (Aluminum)

  3. Objectives • Determine the investment opportunity with CVRD • Determine under what terms and conditions should HAC accept CVRD’s offer

  4. Country Report - Brazil • Checklist method • Risk is assessed based on: • Economic Indicators, to evaluate the country’s financial condition • Debt Management, to measure the country’s ability to repay debt • Political factors, to evaluate political characteristics and political stability • Structural factors, to measure socio-economic conditions

  5. Ratings Table

  6. Brazil Risk Analysis

  7. Calculating βi • βiW=βi * βcw • βi = Domestic beta for Alcan and Alcoa • Βiw = Sensitivity of the assets to the world market • βcw = Sensitivity of the domestic market to the world market Domestic Markets: S&P and BVSPA World Market: MSCI World Index

  8. Calculating project’s Beta

  9. FEASIBILITY DATA • 1999 USD/BRR 1.2105 • Costs: USD 160M, USD 22.85/year • Tax rate: 8.78% (From CVRD 98 financial statements) • Long-term Gov. Securities 98: 18.06%

  10. NPV CALCULATION • Discount rate = Long-term Brazilian securities rate + 2.75% (given) • NPV of the project = $7.23M • Since NPV = +ve, we advice HAC to invest

  11. FUNDING POLICY • HAC should borrow as much funds as it can in Brazil to cover the economic exposure. • Debt payments should match with revenues. • Better balance between inflows and outflows denominated in foreign currency (BRR). • Borrow from Brazil’s Government in BRR. • Finance from investors and suppliers in BRR.

  12. HEDGING POLICY i) 5% deposit of the proposed investment: Buy forward BRR for paying the deposit. If we know when CVRD is giving us the money back in case of loosing the contract buy a BRR put option for that time T. ii) In case HAC's bid is accepted it needs to make a substantial investment in BRR denominated assets: For the net revenue amount after paying debt denominated in BRR. Sell 7-year BRR forward and Roll it over, or sell BRR forward today for each of the revenues from 99 to 05.

  13. OPTION’S VALUE The Option: Convert credit to equity by acquiring CVRD’s common shares at a discount of 30% from the price. CVRD's Infromation BRR USD EPS 1998 2.67 3.23 Stock price Dec 98 9.32 11.2 Stock's SD 0.815

  14. TO FIND THE STRIKE PRICE

  15. OPTION’S VALUE P ’05 = P/E ratio * EPS ’05 Strike Price using 1 USD165.4 Strike Price for HAC USD115.8 Strike Price using 2 USD102.2 Strike Price for HAC USD71.6

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