I was going to end this reading session by saying to myself to just remember the following statement and not to worry about the intricacies of why, but on the way home from the library it started to bother me: So I understand the basic concept that an “overestimated Wacc” will lead to having a high hurdle rate therefore potentially rejecting possible lucrative projects. = STANDARD WACC PENSION ADJUSTED WACC = Incorporate Pension Assets and Pension Liabilities therefore leading to a lower wacc. 1) WHY ? 2) and is this the outcome for both scenarios ( i.e when pension assets are greatewr than pension liabilities, or when pension liabilities are greater than assets) ? The way I see it is if a firm has larger pension liabilities than its assets, than this means the firm is at greater risk therefore I would see a firm increasing its wacc to potentially ward off potentially unfavorable projects since the firms is riskier now that we take into account the pension liabilities ??
- the asset beta of the pension plan is the weighted avg of the betas of the equity and debt securities it holds as assets. The debt has a zero contribution, therefore if the pension assets include 60% equity (assume beta 1.0) and 40% debt (assume beta of 0), the asset beta of the fund is (60% x 1.0 + 40% x 0) = 0.6. Therefore the WACC using the weighted avg asset beta (both balance sheet assets and pension assets) is less than the beta of the firms balance sheet alone. This could be utter rubbish, but im just throwing it out there!
Hughsey Wrote: ------------------------------------------------------- > 1) the asset beta of the pension plan is the > weighted avg of the betas of the equity and debt > securities it holds as assets. The debt has a zero > contribution, therefore if the pension assets > include 60% equity (assume beta 1.0) and 40% debt > (assume beta of 0), the asset beta of the fund is > (60% x 1.0 + 40% x 0) = 0.6. > > Therefore the WACC using the weighted avg asset > beta (both balance sheet assets and pension > assets) is less than the beta of the firms balance > sheet alone. > > This could be utter rubbish, but im just throwing > it out there! I agree with you. Not sure about assets > liabilities or liabilities > assets. I imagine it still applies that the WACC is lower once you take the plan assets and liabilities into account.
Make sure you can calculate the WACC including the impact of pension assets.
landrybj Wrote: ------------------------------------------------------- > Make sure you can calculate the WACC including the > impact of pension assets. I am using the curiculum, and there was’nt a formula for wacc anywhere in the reading and there were no EOC questions on it. I know it was on the exam last year ( and lots of people couldnt get it because they didnt think it was going to be tested, but now that im curious, I wonder if the calcualtion popped up in last years reading in the CR ??? _____________________________________________________________________ Re: Incorporating Pension Risk into Wacc Posted by: Hughsey (IP Logged) [hide posts from this user] Date: January 18, 2010 06:04AM 1) the asset beta of the pension plan is the weighted avg of the betas of the equity and debt securities it holds as assets. The debt has a zero contribution, therefore if the pension assets include 60% equity (assume beta 1.0) and 40% debt (assume beta of 0), the asset beta of the fund is (60% x 1.0 + 40% x 0) = 0.6. Maybe if I saw the calculation for Wacc it would make more sense to me. But I assume beta is a multiplier in the wacc formula, therefore a lower beta, lowers the wacc. ***** SO it doesnt matter if the pension plan is 100% bonds or 100% fixed income, these are all considered “assets” for the purpose of the wacc calculation. So these “assets” increase the weighted avg of the betas. But when we add the “liabilities” i.e pension obligations. these have an asset beta of 0, which lowers overall beta and therefore the wacc ?
3rdtimesacharm? Wrote: > I am using the curiculum, and there was’nt a > formula for wacc anywhere in the reading and there > were no EOC questions on it. I know it was on > the exam last year ( and lots of people couldnt > get it because they didnt think it was going to be > tested, but now that im curious, I wonder if the > calcualtion popped up in last years reading in the > CR ??? If possible, you should work out the example in the CFAI text to see make sure you can do what the LOS requires
The calculations are embedded in the text. There are calculations and comparisons also. I have to say that for this topic, CFAI text does a better job than Schweser. Read it carefully and you will get it.
3rdtimesacharm?, no, the LOS in no way referred to the calculation of the WACC, it was more of a describe or define command word but it was still on the exam. Luckily, I BSed my way through that one.
If i remember right , this question did have some WACC calculations on the exam last year .