(Adapted from the Darden School of Business)
This case is set in December 2000, immediately after the merger announcement between PepsiCo, Inc., and the Quaker Oats Company. The case asks students to estimate EVATM (economic value added) from 2001 to 2003. Students also need to determine each company’s weighted-average cost of capital (WACC) to estimate EVA. The primary objective of this case is to introduce students to the concepts and calculation of WACC and EVA.
1. What is the weighted-average cost of capital (WACC) and why is it important to estimate it? Who determines the WACC?
2. Calculate the WACCs for Coca-Cola and PepsiCo. Assume a tax rate of 35%. Be prepared to explain your assumptions for the following components:
e. market risk premium
f. weights of debt and equity capital
3. Interpret the results of your WACC calculations. What observations can you make?
4. Calculate EVA for 2001 to 2003 using the forecasts given in the case and the WACCs you have estimated. What is EVA? What are the advantages and disadvantages of using EVA as a measure of company performance?
5. Examine the historical performances of Coca-Cola and PepsiCo in terms of EVA. What trends do you observe? What are the factors behind those trends? What do you think are the key drivers of EVA?
6. Interpret the results of your EVA calculation. If you had to choose between Coca-Cola and PepsiCo, which one would you choose? Why?
**See the accompanying spreadsheet files (Exhibits and Teaching Notes) for support