To: Potential Investor
Subject: Investment Analysis of Stock Offerings of British Petroleum
BP’s stock offering, which is part of the government’s decentralization plan, has come at a time when markets are still feeling the aftermath of what has been the biggest one day drop in history. This has caused detrimental effects on the market which is felt by most, if not all companies. What could have been an attractive offer has turned sour as BP’s stock price dipped dramatically.
Upon analysing this fund-raising issuance along with the current market environment, we have concluded that this offering is not as valuable despite the addition of the repurchase plan (put option) after the first payment. We will be discussing our methodology on how we came up with our conclusion and we will also give several recommendations when this issuance will be worth investing in.
The team decided to value the stock offering through the Binomial tree method in light of its instalment payment scheme feature, instead of using the traditional discounted cash flow methods because the former method is deemed more appropriate since it considers the uncertainty of the stock price and its potential effects.
Vital to the valuation of the offer is the computation of the volatility of BP’s stock price. To get this, we computed for the volatility of the stock price of BP for the last month (October 1987). We decided to get the continuously compounded rate to get the variance and annualized it to get the volatility of 0.6106.
Using this volatility figure we were able to compute the “up” and “down” using the following formulas:
u = eÓ*√T/260
d = e-Ó*√T/260
We came up with two different sets of value (without put on Annex 2 and with put on annexes 3 to 6). These were used to compute the stock prices in the binomial tree after every payment date and when the put becomes available.
In coming up with the value of the...