• Kimi 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.
Cost of Capital Calculations: Nike Inc
Cohen calculated a weighted average cost of capital (WACC) of 8.3 percent by using the capital asset pricing model (CAPM) for Nike Inc. I do not agree with her figure, and the reasons to that are as follows:
Value of equity
The problem with Cohen’s calculations is that she used the book value for both debt and equity. While the book value of debt is accepted as an estimate of market value, book value of equity should not be used when calculating cost of capital. The market value of equity is found by multiplying the stock price of Nike Inc. by the number of shares outstanding.
Market Value of Equity(E) Calculation:
E = Stock Price X Number of Shares Outstanding = $42.09 X 271.5 = $11,427.44
This figure is much different than the book value of equity that Joanna Cohen used ($3,494.50).
Value of Debt
Market value of debt should be used in the calculation of the cost of debt contrary to a book value used by Cohen. She should have discounted the value of long-term debt that appears on the balance sheet. The market value of debt is found by adding the current portion of long-term debt, notes payable, and long- term debt discounted at Nike’s current coupon.
Market Value of Debt D = Current LT + Notes Payable + LT Debt (discounted)
= $5.40 + $855.30 + $416.72
Using these figures, we can now find the market value of Nike Inc.,