Case Study: Financial Policy at Fortescue Metals Group Limited

This case study provides a financial analysis of Fortescue Metals Group Limited, focusing on its capital structure and financial policies. The analysis determines the Weighted Average Cost of Capital (WACC) over several years, highlighting its increasing trend and implications for the company'...Read More

Financial Management
Fortescue Metals Group Limited

Introduction
 The presentation highlights the capital structure of the firm Fortescue
Metals Group Limited. It is one of the leading iron ore production and
exploration company which operates in the Pilbara region of northern
Western Australia. Based on the last financial years, the capital structure
of the firm will be determined and on that basis, several
recommendations will be given to the firm.

Determination of WACC
The cost of capital comprises of overall cost of equity and debts fund of a
particular organization. It is also considered as the required rate of return
of the given organizations. Weighted Average Cost of Capital helps in
determining the capital structure of the firm (Robb and Robinson 2014)
It can be inferred that all sources of capital, including debt, equity, bonds
are included in the calculation of Weighted Average Cost of Capital. The
WACC of an organization increases as the rate of return of equity of an
organization increases (Zeitun and Tian 2014). The

WACC of the firm
2017 6.18
2016 4.84
2015 3.98
2015 3.44

Explanation
 From the above analysis, it can be inferred that WACC of the firm has
increased over the past few years. This further implies that rate of
return on equity of the firm has increased, which can be considered as a
positive sign for the firm (Zeitun and Tian 2014). It also implies that the
capital structure of the firm Fortescue Metals Group Limited is less risky
and has improved over the years. However, in comparison to industry
average, WACC is on the lower side, which can be considered as a
negative sign for the firm. In addition to this, it can be also inferred that
the share capital of the firm has increased over the years. This can be
considered as a positive sign for the firm.

Debt equity ratio
2013 2014 2015 2016 2017
Equity 5,702,425,876 8,049,893,842 9,813,802,083 11,319,687,584 12,654,706,188
Debt 13,461,994,609 9,981,953,290 12,257,812,500 8,992,728,252 5,655,226,209
Ratio
2.360748724 1.24001055 1.249038079 0.794432548 0.4468872

Analysis
From the above analysis, it can be inferred that the debt equity ratio of the
firm has declined over the years. In the year 2017, debt equity ratio of the
firm is 0.44. This infers that 44 percent of the total capital is financed by
debt and the rest 66 percent is financed by equity. This infers that firm is
exposed to less amount of risk in 2017 in comparison to previous years.

Determinants of capital structure
 Tax exposure
 Growth Rate
 Financial flexibility

Further analysis
 From the above analysis, it can be deduced that the above factors play
an important role in the determining the capital structure of the firm. In
addition to this, it has been also seen that the percentage of Total
liabilities to shareholders’ equity of the firm has declined. This can also
be considered as a positive sign for the firm.

Conclusion
From the above analysis, it can be inferred that the WACC of the firm has
increased over the years. This reflects the percentage of ownership capital
has also increased and financial leverage of the firm Fortescue Metals
Group has declined considerably. In addition to this, the debt equity ratio of
the organization has declined which provides further financial flexibility to
the organization.

References