AES Case Presentation

7/25/2019 AES Case Presentation

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Globalizing the Cost of Capital andCapital Budgeting at AES

GR

AleM


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AES Corporation

Electrical power generation and distribution company

ounded in !"#! in the $S

Company goes public in !""!

%nternational e&pansion started in !""!'!""(

)rganized around four lines of business*

Contract generation

Competiti+e supply

Large utilities

Growth distribution

)perating in !, countries across four continents


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GE)G-A./%C .-ESE0CE 1 L)B

-E2E0$ES

Lines of Business 34 o

-e+enues5


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/istorical Capital Budgeting Method

6he Capital Budgeting method used by AES followed a simple sassumptions*

7 All nonrecourse debt was deemed good7 A pro8ect was e+aluated by the e9uity discount rate for the di+id

from the pro8ect7

All di+idend flows were considered e9ually ris:y7 Applied to all pro8ects was a discount rate of !(4

7 AES undertoo: mainly domestic contract generation pro8ects7 %nternational e&pansion of AES .roblems started


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.roblem Description

.-)S

7 Easy to compute and use in pro8ect appraisals

7 Ma:es all pro8ects seem comparable to one

another

C)0S

7 Method is detached from reality

7 Subsidiaries will ha+e different cost

7 Di+idend ris: is assumed constant i

7 %gnores business specific ris: 3e;g;

mar:et ris:< regulatory ris:< credit ris:

7 %gnores the country ris: 3e;g; politica


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If Venerus implements the suggested methodol

what would be the range of discount ratesthat A

would use around the world?


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S$GGES6ED ME6/)D)L)G>

!; Ad8ust beta*

(; Calculate cost of e9uity 3?e5

@; Calculate cost of debt 3?d5

; Add So+ereign Spread 3SS5 to both ?e 1 ?d

; Compute ACC

; Add Business'specific ris: 3BS-5 ad8ustment


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B$S%0ESS'S.EC%%C 3$0D%2E-S%%ABLE5

-%S?

!; )perational6echnical

(; Counterparty Credit.erformance

@; -egulatory

; Construction

; Commodity

; Currency

,; Contractual EnforcementLegal

RiskScore

Added Ri(% equival

1 5%

2 10%

15%


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Does this make sense as a way to do capital budgeting?

PROS !O"S

7 0eed to assess +arious ris: dimensions for

different pro8ects in locations with +arying ris:

profiles

7 $niform !(4 discount rate was

unsustainable

7 Most foreign pro8ects 0.2 would be

systematically o+er+alued or under+alued

otherwise

7 BS- methodology double'counts =

regulatory ris:

7 So+ereign Spread 3SS5 already captu

sources of country specific ris:; All pro

the ris: of being slightly under+alued

7 Assumes ris: dimensions can be reli

9uantified


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What is the value of the Pakistan Projectusing

cost of capital derived from the new methodolog

this project were located in the US, what would

value be?


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NPV(SS) 413.41 ProjectYear 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 20

NPV(SS&BSR) 290.08 Unlevere!" 63.2 63.6 64 64.4 64.8 65.2 65.7 66.1 66.5 66.9 67.3 67.7 68.2 68.6 69 69.4 6

#$%conte!"(SS) 55.04 48.24 42.27 37.04 32.46 28.44 24.96 21.87 19.16 16.79 14.71 12.88 11.30 9.90 8.67 7.60 6

#$%conte!"(SS&BSR) 51.82 42.76 35.29 29.12 24.02 19.82 16.38 13.51 11.15 9.19 7.58 6.26 5.17 4.26 3.52 2.90 2

NPV(SS) 804.36 ProjectYear 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 20

NPV(SS&BSR) 623.12 Unlevere!" 63.2 63.6 64 64.4 64.8 65.2 65.7 66.1 66.5 66.9 67.3 67.7 68.2 68.6 69 69.4 6

#$%conte!"(SS) 60.00 57.32 54.75 52.30 49.96 47.72 45.65 43.60 41.64 39.77 37.98 36.26 34.68 33.12 31.62 30.19 28

#$%conte!"(SS&BSR) 58.23 53.99 50.05 46.40 43.02 39.88 37.02 34.32 31.81 29.48 27.32 25.32 23.50 21.78 20.18 18.70 17

'$%tor$cal!! 0.12 ProjectYear 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 20

NPV 490.55 Unlevere!" 63.2 63.6 64 64.4 64.8 65.2 65.7 66.1 66.5 66.9 67.3 67.7 68.2 68.6 69 69.4 6

#$%conte!" 56.43 50.70 45.55 40.93 36.77 33.03 29.72 26.70 23.98 21.54 19.35 17.38 15.63 14.04 12.61 11.32 10

P*+S,NPR-./!,(%$nrev$%e!!)

USPR-./!,(%$nrev$%e!!)

USPR-./!,(%$n$%tor$cal!!)


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How does the adjusted cost of capital (WA!for the a!istan

reflect theprobabilities of real e"ents? What does the discount

adjustment imply about e#pectationsfor the roject because it is lo

a!istan and not in the "S?


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C)0CL$S%)0S

7 -e+ised methodology suggests ma8or differences between the ris: profiles

these countries

7 .a:istan more li:ely to suffer from regulatory< construction and = and lega

while not in the $S

7 Country specific ris: would include real e+ents li:e currency fluctuations

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