What is Dow bidding for? Which cash flows should be valued and why?
Description of the project (What is Dow bidding for? Which cash flows should be valued and why?
Dow Chemical Company is contemplating whether to bid on 51% of the stake in Petroquimica Bahia Blanca S.A. (P.B.B) which is being offered by the Argentinean government. The acquisition of P.B.B is the first stage in Dow Chemicals project to grow and claim a larger percentage of the overall petrochemicals business in Argentina.
We decided to decrease the future cash flows by 10% to reflect a 10% possible chance of future problems with Dow Chemicals Company’s capital repatriation and a small chance of expropriation. Dow Chemicals also portrays decreasing cash proceeds from the privatization but the FDI is increasing. This detail implies that it has a steady inflow of foreign currency. However, the absence of capital repatriation and free foreign exchange market may come to an end since the country has recently adopted them. We chose not to make any alterations to potential cash flow problems with the economy of Argentina. Dow Chemicals is an experienced international market leader, and Argentina’s economy is starting to boom. However, if something happened to create an economic crisis that cause the Argentinean economy to start to collapse, the steady growing population there would still require certain products and necessities that Dow Chemicals Company could provide to them such as milk, heavy duty trash bags, and other ethylene and polyethylene derived plastic products. Also the cost of ethane is expected to decrease which would in turn increase their revenues by decreasing the capital required to produce their ethylene and polyethylene products. This would prove to be extremely beneficial for Dow Chemicals Company because a large percent of Latin American countries have had an increase in demand for these types of products, but their countries lack the production power to supply enough products to such a high quantity of demand there.
Evaluate the cash flows provided under different scenarios. Not that Dow uses 8%-10% to evaluate similar project in the U.S.
With all of this in mind, you have to remember that this is a type of auction, so it is not a guaranteed acquisition. Dow Chemical Company is required to give the Government of Argentina a pre-determined estimated bid on the Petroquimica Bahia Blanca project. They will of course have to outbid all other competitors while maintaining an economical profitability from there initial investment. This makes thing slightly complex because they would have to weigh various factors about the country of Argentina that could be considered detrimental to their profits and overall bottom line. A few factors that they should take into consideration are problems with their exchange rate stability due to their new rising economy and freedom of capital repatriation. After calculating, Dow Chemicals Company should place a bid of $248.7 million for P.B.B. After deriving present value, this project would allow for increasing the cost of capital 15% opposed to similar domestic (8-10%) projects in the U.S., and the offer has to meet all government requirements which include:
- Project must cost more than $150,000,000
- Company has to have sufficient net assets to cover offer
However it is not all bad because this acquisition would allow for Dow Chemicals Company to expand its company’s reach and make them a key competitor in the Latin American market. Along with this it would greatly increase its appeal to current and potential investors. Now this is not a promised a purchase, but there are no other competitors in this auction that meet the regulations required by the government due to a lack of net worth. There are 10 days left for them to make an offer, and if the competitors haven’t found a partner to increase their worth by then, Dow Chemicals Company will be advised to offer $150,000,000 for P.B.B. increasing their NPV of the project by $98,700,000.
