Royal Mail plc: Cost of Capital Case Study Solution

Abstract

The report sets out to evaluate the significance of using the weighted average cost of capital in capital budgeting, financial dictions, projection of future profitability and assessment of the performance of the top management. The report also deals with the principles of cost of capital which are of paramount importance for the appropriate valuation of the project and company. Royal Mail Plc is a provider of national postal service & is responsible for mail delivery and collection in the UK confronted with the issue of the cost of capital because of the privatization and deregulation. The estimations were incorrectwhich led to the wrong cost of capital. With the use of the appropriate assumptions and principles, the correct cost of capital is calculated to be 5.4 percent.

About Royal Mail Plc

Royal Mail Plc is a leading and valuable national postal service responsible for mail delivery and collection in the UK. It is an international business, developing anefficient, modern and optimized network to deliver new products, parcels, and letters. The ambition of the company is to build a more diversified, more balanced, parcel-led, international business. Additionally, for 500 years, the company has served the diverse and changing needs of the customers by adapting, innovating and pioneering. The company has real strengths as it continually transforms to further leverage those key strengths, hence becoming leading as well as the pre-eminent delivery company in its key markets or segments. By combining the efforts of the Royal Mail and GLS & via a partnership with the national posts and operators, the company offers postal solutions for any customer to anywhere throughout the world.

Emerging Issues

For the company, the key emerging issues are about assessing as well as evaluating the cost of capital for the British postal service company in the fiscal year 2015. There are some reasons due to which the cost of capital became an issue within an organization such as; due to the privatization, the company was shed its government based policies for decisionmakingof the past for more market-based orientation. A cost of capital is not set by managers but by investors as a market-based measure. Thegovernment regulators, Royal Mail and Office of Communications (Ofcom) have been adjusting to privatize their ownership after 500 years of the ownership of government. In addition to this, the deregulation of the private postal service is common and highly experimental in the UK. As the competition was rigorous and intense, Ofcom was reevaluating and reassessing the current regulatory policies.

Cost of Capital and its Importance

The weighted average cost of capital (WACC) is the most widely used concepts in finance. It is the minimum acceptable return rate that new investments should yield. Additionally, the cost of capital tends to represent the long term fund’s opportunity cost used by the organization. In the case of management decision to make a considerable amount of investment in the project with the projected rate of returns above the weighted average cost of capital, the value of the company goes up. On the other hand, if the company invests in the project (with the probability of having the positive returns) with the projected returns below the weighted average cost of capital, the value of the company goes down and destroys value……………………………….

 

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