Marriott Corporation
Marriott Corporation: The Cost of Capital
April 2012
Executive Summary
Determining the appropriate cost of capital for new investment projects for a diversified company like the Marriott Corporation is not an easy endeavor. However, it is an important exercise because the more effective the process, the better it can help to support the company’s growth objective with its financial strategy.
The four components of the financial strategy are:
manage rather than own hotel assets invest in projects that increase shareholder value optimize the use of debt in the capital structure repurchase undervalued shares
Each of these aspects of the financial strategy support Marriott’s growth objective, except for the repurchasing of undervalued shares, which is not based on feeling of significant undervaluing of the stock by the market, but based on an internally generated intrinsic value of the company.
Marriott’s cost of capital estimation process involves consideration of debt capacity, cost of debt and cost of equity. This data, plus consideration of capital structure and effective tax rate, is then applied to the Capital Asset Pricing Model, using the U.S. Government 10-year bond as the risk-free rate and the spread between the
S&P 500 composite and the U.S. Government 10-year bond rate. Beta is based on the last five years of monthly return data. The resulting corporate WACC is 10.22%.
However, new investments in the different divisions requires the application of a hurdle rate that reflects the business risk of that particular unit, rather than the overall corporate hurdle rate, which is primarily applicable to corporate capital expenditures, such as headquarters and IT support systems. The table below summarizes the WACC for each Marriott division based on its mix fixed and floating rate debt, capital structure, and applicable unlevered beta for its industry.
Lodging
8.72%
Restaurant
8.72%
Contract
Services
April 2012
Executive Summary
Determining the appropriate cost of capital for new investment projects for a diversified company like the Marriott Corporation is not an easy endeavor. However, it is an important exercise because the more effective the process, the better it can help to support the company’s growth objective with its financial strategy.
The four components of the financial strategy are:
manage rather than own hotel assets invest in projects that increase shareholder value optimize the use of debt in the capital structure repurchase undervalued shares
Each of these aspects of the financial strategy support Marriott’s growth objective, except for the repurchasing of undervalued shares, which is not based on feeling of significant undervaluing of the stock by the market, but based on an internally generated intrinsic value of the company.
Marriott’s cost of capital estimation process involves consideration of debt capacity, cost of debt and cost of equity. This data, plus consideration of capital structure and effective tax rate, is then applied to the Capital Asset Pricing Model, using the U.S. Government 10-year bond as the risk-free rate and the spread between the
S&P 500 composite and the U.S. Government 10-year bond rate. Beta is based on the last five years of monthly return data. The resulting corporate WACC is 10.22%.
However, new investments in the different divisions requires the application of a hurdle rate that reflects the business risk of that particular unit, rather than the overall corporate hurdle rate, which is primarily applicable to corporate capital expenditures, such as headquarters and IT support systems. The table below summarizes the WACC for each Marriott division based on its mix fixed and floating rate debt, capital structure, and applicable unlevered beta for its industry.
Lodging
8.72%
Restaurant
8.72%
Contract
Services