1) What is the WACC and why is it important to estimate a firm’s cost of capital? Do you agree with Joanne Cohen’s WACC calculations? Why or why not?WACC, the weighted average cost of capital, which is the minimum return required by the finance providers for investing in an asset, project or the entire company. It needs to reflect the capital structure used to finance the investment. WACC is also used as the discount rate to appraise new investments for a company. Using WACC we can calculate the interest a company has to pay on the finances it makes. A firm’s WACC is the overall required return on the firm as a whole and used by the firm to determine the economic condition of the company for near future opportunities. We do not agree with Joanne Cohen’s WACC calculations because of three factors: a) For Cost of Debt, she used the book value of interest expense divided by the average book value of debt, which is wrong. Cost of debt is the actual yield that NIKE is paying on their issued debt (bonds) on the market. b) For Cost of Equity, Joanne is using the yield rate of 20year treasury bonds, but her projections of cash flows are done for 10 years, so she should be using the 10year treasury bonds rate. c) For WACC, Joanne calculating the weights of cost and debt using book values, but this is wrong; Joanne should be using the market values of both equity and debt. However, with the information given in the case she can only determine equity’s market value, because the case is not presenting how much debt has been issued by Nike, to calculate the market value of debt, but doing it this way will give Joanne a better estimate of the real market weights. 2) If you do not agree with Cohen’s analysis, calculate your own WACC for Nike and justify your assumptions. After modifying the problems we observed with Joanne’s calculations, we presented the following reviewed results for Nike’s WACC:
...Cohen calculated the weight of debt to be 27% and equity to be 73% based on the book values found in Nike’s consolidated balance sheet from May 31, 2001 (see Exhibit 1). Total debt was found by adding together all interestbearing debt on the balance sheet, which we agree is the most accurate way to estimate its weight. However, using book values for equity is not the most accurate way to measure the capital weights; instead we used market value based on the share price ofNike on July 5, 2001and number of shares outstanding, which resulted in the weights of debt and equity of 10.2% and 89.8% respectively (see Exhibit 2).
Cost of Debt:
Cost of debt was calculated by Ms. Cohen by finding the historical interest rate of 2.7% and tax rate of 38%. We agree with her estimation of the tax rate of 38%, but calculated a cost of debt of 7.17% based on the market price of Nike bonds and finding their yield to maturity (see Exhibit 3). This cost of debt is more accurate for estimating the cost of capital for Nike, while Cohen’s estimation identifies a past cost of debt, ours reflects current and future figures better.
Cost of Equity:
There are total three methods to evaluate Cost of equity, Dividend discount model (DDM Model), Capital assets pricing model (CAPM Model) and the Earnings Capitalization Model (EPS/ Price).
The dividend discount model (DDM) is a simple model to evaluating equity. It is good for investor to...
...Corporate Finance
Nike, INC: Cost of capital
1. What is the WACC and why is it important to estimate a firm’s cost of capital? Do you agree with Joanna Cohen’s WACC calculation? Why or why not?
Definition of WACC (Weighted Average Cost of Capital):
WACC is basically the average of the cost of finance (debt and equity). Since a company’s assets can be financed by debt or equity, WACC can show the averages of the costs involved in the sources of financing. These costs are then weighted by the users of the information as required in a specific situation. This shows how much both debt holders expect to pay in interest and how much return the shareholder can expect to receive, for each dollar of financing (Investopedia, ND).
The calculation of the cost of capital is one of the important elements that decide the enterprise value. The value of the enterprise can significantly change when the percentage of cost of capital changes in the business model, with the cost of capital representing the expected return for shareholders.
We disagree with Joanna’s WACC calculation for following reasons: The calculations of WACC and DCF can be effected as they are subjective by her human judgment. Even though there are no right answers to make these decisions, our team disagrees with some of the assumptions Joanna Cohen made.
i. ‘Ratio of debt financing’ and ‘Ratio of equity financing’
It has to be applied the market value because...
...the company has to pay for every dollar it finances. Basically, the WACC is the minimum required return that the company must earn to satisfy its creditors, owners, and other providers of capital, or they will invest in another company that has higher returns. In this case, I will first address the issues with Cohen’s calculation, and then analyze an new WACC to decide whether we should invest in Nike Inc.
Many issues should be addressed regarding Joanna Cohen’s WACC calculation. First, to calculate the debt cost of capital, Cohen divided the total interest expense by the company’s average debt balance. This is an issue because she did not take into account the current yield on publicly traded Nike debt. Another issue that should be addressed is the calculation of the equity cost of capital. Using CAPM, Cohen took a 20 year Treasury bond as her risk free, the average Beta for the last 6 years, and a geometric mean for market premium. Also, Cohen calculated the book value of equity and debt instead of using market values.
In my analysis, I will argue about choosing different numbers than Cohen to get a more accurate WACC. For the calculation of debt cost of capital, I used the current yield on publicly traded Nike debt to get a market value for the debt and not the book. Having the 6.75% coupon rate paid semiannually, 20 years to maturity, and the current price of $95.60, the debt cost of capital would be estimated...
...NIKE, INC.: COST OF CAPITAL
Professor Meiberger
By Sebastian Gomez
Team 5
Cohort: Front
The portfolio manager for NorthPoint Group, Kimi Ford was deciding if she should pitch in and draw Nike within NorthPoint LargeCap Fund. Nike, which did not have the strongest fiscal year results in 2001, was implementing new strategies to heighten its revenue and income. Kimi Ford, after having carefully read reports by analyst, and their input within this publicly traded company decided to emphasize its attention in the cost of capital and the financial stability of the company. Before one invests in a company, it is important for the investor to be aware of the company’s cost of capital, and to know what is the firm weighted average cost of capital (WACC).
Within this report I emphasize the importance of WACC and why it is an important financial mechanism that all investors should utilize before investing in a company. I calculated Nike’s weighted average cost of capital into two separate parts to truly understand the pros and the cons within this firm. Having deeply analyzed the company’s cost of capital into different segments, I will make a recommendation if it is a wise decision for NorthPoint Group to include Nike within its outperforming portfolio.
A company finances its assets either by debt or equity. The Weighted Average Cost of Capital (WACC) is a financial estimate that equally evaluates the...
...Jordan Hirsch
AF 495
October 18, 2012
Nike
Executive Summary
Executive summary
In this report I will focus on Nike's Inc. Cost of Capital and its financial importance for the company and future investors. The management of Nike Inc. addresses issues both on topline growth and operating performance. The company's cost of capital is a critical element in such decisions and it is important to estimate precisely the weighted average cost of capital (WACC). In my analysis, I will examine why WACC is important in decisionmaking and I will show how WACC for Nike Inc. is calculated correctly. Also, I will calculate the company's cost of equity using three different models: the Capital Asset Pricing Model (CAPM), the Dividend Discount Model (DDM) and the Earnings Capitalization Model (EPS/ Price), I can analyze their advantages and disadvantages and finally conclude whether or not an investment in Nike is recommended. My analysis suggests that Nike Inc.'s common stock should be added to the North Point Group's Mutual Fund Portfolio
Calculations
Debt
Current Long term $5.4
Notes Payable $855.30
Long Term (discounted) $416.72
$1,277.42 = 10.05% weight
Equity $11,427.44 = 89.95% weight
Cost of Debt
YTM on 20 year Nike Inc. Bond
= 7.51%
Cost of Equity (CAPM)
Rf + B(Rf Rm)
*Rf= 5.74% (20 year yield in US Tbill)
*Beta= .8
= 10.46%
WACC...
...Ford, a portfolio manager of a large mutual fund management firm, is looking into the viability of investing in the stocks of Nike for the fund that she manages. Ford should base her decision on data on the company which were disclosed in the 2001 fiscal reports. While Nike management addressed several issues that are causing the decrease in market sales and prices of stocks, management presented its plans to improve and perform better. Third party sources also gave their opinions on whether the stock was a sound investment.
PROBLEMS:
1. What is the WACC and why is it important to estimate a firm's cost of capital? Do you agree with Joanna Cohen's WACC calculation? Why is it important to estimate a firm's cost of capital? What does it represent?
2. Calculate the costs of equity using CAPM and the dividend discount model. What are the advantages and disadvantages of each of these methods? Are they any other methods you could use?
3. What should Kimi Ford recommend regarding an investment in Nike? Is the price of Nike overpriced, underpriced, or fairly priced?
ASSUMPTIONS
Corporate tax rate of 38%
20 year bond is 5.745
The arithmetic mean of 7.50% for Equity Risk Premium
Average Beta of 0.80
AN ALYSIS
In our analysis, we examine why WACC is important in decision making and we show how WACC for Nike Inc. is calculated correctly. Also, we calculate...
...Nike, Inc.:
Cost of Capital
EXECUTIVE SUMMARY
Kimi Ford, a portfolio manager of North Point Group a large mutual fund management firm, is looking into the viability of investing in the stocks of Nike for the fund that she manages. Ford should base her decision on data on the company which were disclosed in the 2001 fiscal reports. While Nike management addressed several issues that are causing the decrease in market sales and prices of stocks, management presented its plans to improve and perform better. Third party sources also gave their opinions on whether the stock was a sound investment.
I. Objective
The objective of this report is to give recommendation for Kimi Ford whether North Point Group should invest on Nike or not. The recommendation is based of Nike’s Cost of Capital.
II. Analysis
* Cost of Debt
Joanna mistakenly used the historical data in estimating the cost of debt. She divided the interest expenses by the average balance of debt to get 4.3% of before tax cost of debt. We believed the cost of debt should be estimated by yield to maturity of bond. We can calculate it by using data provided in exhibit 4.
Calculation
Data input: PV = 95.60
FV = 100
n = 40
Pmt = 6.752 (as it pays semi annually)
= 3.375
By using spreadsheet we got before tax cost of debt = 3.58% (semiannual) or 7.16% (annual). Using 38% of tax rate we can calculate after tax cost of debt:...
...
NIKE, INC.: COST OF CAPITAL 





Introduction
Our report aims to help Kimi Ford make a decision on her investment of Nike. We choose WACC as our method to estimate the cost of capital, which can be used as a discount rate to verify whether Nike is correctly valued in current market.
We have mainly four steps to calculate WACC: I. Identify the type of cost of capital; II. Figure out the weights of debt and equity; III. Calculate the cost of debt and equity respectively; IV. Get WACC.
After our analysis, we conclude that Nike is undervalued at its current share price and recommend buying this stock.
I. Single or multiple costs of capital
We decide to apply single cost of capital, because all segments of Nike are in sportsrelated industry and have similar risk premiums.
II Methodology for calculating the cost of capital
While we agree that the WACC is appropriate for calculating cost of capital, we think it is better to apply market value of cost and debt than book value. Book value is certainly accessible and not volatile, but cost of capital under book value is much conservative and cannot reflect the real economic trend. The market value of equity is $11,427.44, which is a multiple of current share price ($42.09) and current shares outstanding (271.5) .To calculate MV of debt, we assume that all longterm debt are publicly traded and get their present value...
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