Aveneu Park, Starling, Australia

Nowadays, this time. Free trade agreement (FTA)

business cooperation among countries becomes more common, and companies from
different nations start to collaborate for mutual benefit. The trade barriers
for international business are likely to be thinner at this time. Free trade
agreement (FTA) aims to help the countries to maximize their benefit, and
strengthen their competitive edges. With the help of FTA, the regional economic
in Australia is enhanced within these years, and bring a lot of opportunities
to the local market (Department of Foreign Affairs and Trade, n.d).

a reliable vitamins and related products provider, Australia’s health care
supplements are extremely popular in China, and the products are reputable due
to the superior quality. Menza Group Ltd is a local producer for vitamins, baby
formula, and other necessities of life. FTA brings a lot of chances to Menza,
because the tariffs are eliminated by the agreement, and as a multinational
company, Menza could expand its business into foreign markets with less

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Weighted Average Cost of
Capital (WACC) is generally used as a discount rate for evaluating the
company’s projects. As Menza operates in the global market, the manager notice
that the current WACC is not appropriate at the moment. Therefore, Menza is
required to have a new WACC by using Capital Asset Pricing Model (CAPM) to
calculate the WACC of an Australian company which is in the same industry.

Blackmores is a suitable proxy because it also offers health care supplements
as Menza, and it has a similar capital structure.


2. Product

With the increasing attention
are paid to health in China, Chinese people are craving for products that
enhance their beauty or their inner health, such as cranberry slices, hair,
skin and nails (Taylor,2015). The group
collective awakening of health and well-being has been proved by the huge
profit made by the manufacturers of vitamins Blackmores(Desloires, 2016). In January
2016, Blackmores shares price soared to $220 as the Chinese consumer demanded
the purchase of a high-quality “clean and green” brand from Australia
(Evans,  2017).

Additionally, the Chinese government currently has opened up official
distribution channels, businesses can sell their products over the Internet
without tax, and competition to enter the market and protection of
 potential buyers is still continuing (Taylor,2015). It is reported that the value
of vitamin supplements in Australia is between 1 billion U.S. dollars and 2
billion U.S. dollars, which have been fostered a thriving market by Australia’s
close business relationship to China (Taylor, 2015). After researches demonstrated
above, the vitamins industry fulfill the requirement of that might successfully
be ‘exported’ to China and also related to the considering projects in vitamins
market of Menza.


3. Company
choosing and justifying


Blackmores company information

In the healthcare supplement
industry, Blackmores is Australia’s leading natural health company. Blackmores
was founded in 1930, has nearly 87 years of history. After 87 years of hard
work, the high-quality range of vitamins, minerals, herbs and nutritional
supplements, as well as continuing support for our community and the
environment, make Blackmores have grown to be the most trusted lifestyle
technology health food company in Australia and the rest of the world. In May
1985, Blackmores officially became a listed company. With a strong naturopathic
heritage, now Blackmores is an ASX 200 publicly-listed company with a market
capitalisation of $1.5 billion and currently  is headquartered in Sydney,
Australia. The Group employs 1,000 people across Asia-Pacific.



According to Andrew Page, an
equities analyst at the Motley Fool, cited in Stewart (2016), the profits soared by about 80%
in their full-year results last year and most of profit growth of Blackmores
comes from China. And chief Christine Holgate of Blackmores is confident about
up forwarding  increase on profit in China because each regulatory
environment of evolution in China is familiar to Blackmores since they’ve been
in China for 40 years (Sarah
& Jane, 2016).

In additional, the company’s
annual financial report (2017, p49) demonstrated that the percentage of debt is
43.09% ?detailed calculation process shown in
following parts), and the percentage of equity is 56.91% (detailed calculation
process shown in following parts), which means the capital structure is similar
as that of Menza noted as 40% 10-year bonds and 60% ordinary shares.

These data could prove that
Blackmores successfully export vitamins product to China and could be to
provide valuable and crucial information that make valuation of business of
risk of this Menza’s project of healthcare supplement products could be easier
and more accurate.

4. Calculating CAPM

4.1 Assumptions of CAPM(capital asset
pricing model)

As Blitz (2014, p2) said “the CAPM can
be mathematically derived from a set of assumptions, it follows that an
empirical CAPM failure must be attributable to a violation of one or more these
assumptions in practice.” So, before calculating the risk and returns, we need
to keep assumptions as follows:

Investors are risk averse, which means they
want to maximize the expected wealth and care only about the mean and variance
of return.

Markets are perfect (there are no transaction
cost and no taxes)

There is only single period.

Investors have homogeneous expectation to all

All unsystematic risk can be diversity.

Calculating beta

i: Sampling interval

The sampling interval to calculate
beta are chosen from 10 years’ period monthly data. In “Research design issues
in the estimation of beta”, Brailsford (1997, p11) suggested that the common
choices of sampling interval are daily, weekly, monthly and quarterly, but
researcher will usually be stuck by the availability of data. Monthly data is
more commonly use than daily or weekly data; in the meanwhile, quarterly data
are unlikely to be sufficient if observations do not include at least ten
years’ data. On the other hand, the beta is sensitive to the return interval,
longer period will make the calculating result be more accurate than shorter
time interval.

ii. Calculation

To obtain beta estimates, returns are
required for the Blackmore stock asset and market index proxy (Brailsford,
1997). ? is the slop of
linear regression of excess market returns and excess stock return, which Y-
axis is the excess market returns (Blackmores stock rate of return – risk free
rate of return) and the X- axis is excess market returns (market rate of return
– risk free rate).

As for Blackmores’ stock rate of return, the
adjust closing price is used to calculate in equation:


 is the Blackmores rate of return
in month t.

 is the adjust closing price in
the month t

 is the adjust closing price in
month t-1



The reason to use adjust price is that it adjusted for both dividend and
splits. The data obtain the end of every month’s stock price from January 2008
to December 2017 download from Yahoo Finance. After using equation above to
calculate the Blackmores stock rate of return, the number need to multiple 12
to adjust as annualized data in order to pair with the risk free rate. The risk
free rate download from Reserve Bank of Australia website, which is the 10
years yield to maturity of government bond, which is already annualized.

As for market rate of
return, the data is accumulated index from S/ASX from Jan 2008 to Dec
2017, which use the increased rate of index as the market rate of return.

Calculated by the same equation as the stock rate of return, the number still
need to multiple 12 to ensure the monthly increasing rate annualized.

After dealing with those data, using EXCEL to calculate the slope (Ri – rf, Rm– rf) to get ?=0.304 as follow:

iii. sensitivity analysis

From public sources (Returns website), the
beta of Blackmores is 0.54, which is bigger than our estimated. As observing
the graph above, there are some points are far from main area may influence the
result of beta. So some data need to be adjusted to make the beta more
accurate. After adjusting, the new ?=0.4020:

iiii. Adjustment of beta

In the
adjustment of number for any differences in the capital structure between the
Blackmores and that of Menza, if we assume that debt of carries no market risk
(has a beta of zero), the beta of equity alone can be written as a function of
the unlevered beta and the debt-equity ratio

?L = ?u (1+ ((1-TC) D/E))


Tax effect
would be considered by influence of company tax rate in Australia. In relation
to Australia tax office of Australia Government, the full company tax rate
is TC =30%,

company’s annual financial report (2017, p49) shows that the book value of debt
is $44,717,000; it also reveals that the volume of outstanding share is
17,266,000, and the price for each share on 2017 balance sheet date is $3.42,
thus the market value of equity is $59,049,720. Thus, the percentage of debt is
DB =43.09% (44,717,000/(44,717,000+59,049,720)), and the percentage
of equity is EB= 56.91% (59,049,720/(44,717,000+59,049,720)).

according to ?u B we calculated from historical data in the excel

?u B =0.4020


?LB= 0.4020 (1+ ((1-30%) 43.09%/56.91%))=0.6151


According to
public resources from Yahoo Finance 2017, the publicly released beta is 0.54,
which means the ?LB has subtle difference.

And since
the Blackmores and the Menza have similar capital structure, and DM=40%,
EM=60%, ?LB could be assumed as same as ?LM =


?u M=0.6151?1+?1-30%?40%/60%=0.4194

? = 1 means
share as risky as market

? < 1 means share less risky than market ? > 1
means share less risky than market

beta equals to 0.4194 show Blackmore is less risky than market.


4.3 Calculating CAPM

Zopounidis (2014) explained that the capital asset pricing model(CAPM)
related to portfolio theory to provide solutions of risk and returns. CAPM
calculated the rate of return of equity by following equation:




(Ri – rf, Rm– rf)

is the expected return on the market


According to market-risk-premia website, in
the end of  December 2017 risk free rate(equal to 2.86, risk premium (4.31. After calculating the expected return of Blackmore( is 4.43.

5. Rate of return on debt


The rate of return on debt of Blackmores is 3.33%. This
value is obtained by adding risk free rate in Australia and the credit spread
up together. The formula is shown below:


Rate of return on debt= Risk free
rate + credit spread


In this report, the securities issued by Menza Group is
assumed to have a credit rating of A. In order to calculate the U.S credit
spread, it is important to find out the YTM of 10-year corporate bond with
credit rating of A. This value is 3.12% obtained from the S website.

(‘S/ASX Corporate Bond A Rating Band Index’, 2018)



The rate of return on 10-year treasury bond is used as the
risk free rate. According to the data from Bloomberg website, the risk free
rate of Australia is 2.86%, and the risk free rate of America is 2.65%. Thus,
the US credits spreads equals 0.47% by using 3.12% minus 2.65%. The rate of
return on debt for Australia companies is 3.33% obtained by adding 0.47% and
2.86% up.


6. Weighted Average Cost of Capital (WACC)


generally stands for discount rate for companies. However, for Menza the
existing rate is no longer applicable for the company’s operation. As
Blackmores and Menza belong to the same industry and have similar capital
structure, so Menza’s WACC could refers to the WACC of Blackmores.


advance, the task has been pointed out using the imputation tax system to analysis
the case. Therefore, the formula of calculating WACC is:



Re: expected rate
of return on equity

Rd: expected rate
of return on debt

T=30% (company tax
in Australia

?: proportion if
franking credits valued by the company’s shareholders; generally approximately
to 1

E,D,V: market value
of equity, debt and the firm, respectively

            If using the formula of WACC, some assumptions should be
satisfied. Then, the value of debt is equal to book value instead of real
market value, because not all bonds are actively traded in public market and
value of debt is relatively stable (Titman, 2016).

            The first step to calculate WACC is to determine the ratio
of debt and equity respectively in the total capital of Blackmores. The Menza
has a capital structure 40% 1o-year corporate bonds and 60% ordinary shares.

Thus the value of D/V is 0.4, and the value of E/V is 0.6

to the part 4 and 5, the rate of return on debt is 3.33% and the rate of return
on equity is 4.43%. Therefore, the weighted
average cost of capital (WACC) of Blackmores is:


            Under the method of WACC, the tax shield brought by the
debt has been concerned. In addition, if the firm does not change its capital
structure policy, the WACC would be stable for a period. Since Menza owns a
similar capital structure, rate of debt and rate of equity to Blackmores, Menza
could refer to the discount rate of Blackmores. However, when the project has a
greater risk than the average level of the company’s previous operation, the
calculated WACC is not suitable to be used as a discount rate. If the company
use the WACC for a risky project, the discount rate may bias the investment
decisions made by the company, thus the project may become risky.


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