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Teletech Corporation Case Study

Page 1 of 4

Group 5

Due: February 28, 2018

Teletech Corporation, 2005

Mackenzie Carswell, Steven Christiansen, Christopher Christos, Madison Sam & Maria Zuniga

Currently, Teletech Corporation uses 9.30% as their hurdle rate; this rate is based on the average WACC rate over the past 10 years. Teletech uses the hurdle rate as their required rate of return on potential investments as well as a factor to determine economic profit. It is important, however, to consider the relationship between risk and return when making investment decisions. Presently the Telecommunications segment has a return on capital (ROC) below the current hurdle rate at 9.10% and Products and Systems (P+S) segments ROC is above the current hurdle rate at 11%, but the company is not considering the risk of the individual segments.

The WACC of the Telecommunications and P+S segments were determined to be 8.47% and 11.40% respectively (Exhibit 2). Some assumptions were required while making these calculations. To determine the beta and the allocation of debt and equity, the averages of peer firms in case Exhibit 3 were used, but it was also necessary to use the information provided to determine how to apply those averages. For example, the 27.10% weight of debt used for the Telecommunications segment uses the average of the peers in case Exhibit 3. Whereas, for P+S 9.20% was used, which was extrapolated from the 13.1% average weight of the telecommunications-equipment peers and the 5.3% average weight of the computer and network peers. These assumptions were made this way to be consistent with each other as well as the fundamentals of the business analyzed.

When interpreting Rick Phillips’ graph (Case Figure 1), it is apparent that the P+S segment is riskier than the Telecommunications segment. The graph is representative of inherent pitfalls when using the constant hurdle-rate system. The implications of the firms’ allocation strategy are that constant hurdle-rates can lead to the company accepting bad investments (P+S) and rejecting potential value generating investments (Telecommunications). Constant hurdle rates can also lead to unnecessary risk-taking in the pursuit of higher-return investments due to the inflated corporate hurdle rate. Using a risk-adjusted hurdle rate takes each segments’ individual risk into consideration and can help prevent these pitfalls.

Given the specifics of Teletech, we would disagree with the statement that “all money is green” which implies that all money is the same. Though in theory, all revenues are counted equally, there are different strategies for obtaining them. The statement also implies that investors expect the same outcome regardless of the level of risk and different strategies implemented for certain projects. Having risk-adjusted rates allows the company to look at more projects with long-term potential and will give the company more opportunities for growth in market share and an increased company valuation. However, there are some arguments in favor of the statement that all money is “the same”. The assumption that all money is green would simplify the calculation of the company’s WACC. This is advantageous because the company is ultimately not composed of two independent segments. Having risk-adjusted rates can also create further separation within the company and can influence office politics adversely.

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