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Nike Inc KKK PDF
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,analysis(CFMCorporateFinanceManagement)
NikeInc.,analysis(CFMCorporateFinance
Management)
Hi,I'mNguyenDinhTien
MSc13,UCD20112012.
I'vedonemymainassignmentandgetgoodresults,soipostmyanalysison
myblog,ifanyoneinterestedinmyassignment,plsenjoyit!)
Case1:NikeInc.,
Summaryofthecasestudy
NorthPoint LargeCap Fund, which invested mostly in Fortune 500 companies,
weighing whether to buy Nikes stock. Nike has experienced sales growth decline,
declinesinprofitsandmarketshare.Nikehasrevealthatitwouldincreaseexposure
inmidpricefootwearandapparellines.Italsocommitstocutdownexpenses.The
marketrespondedmixedsignalstoNikeschanges.KimiFordhaddoneacashflow
estimation,andaskedherassistantJoannaCohentoestimatecostofcapital.The
mistakesappeared.Thisanalysiswilldeterminebasicandgeneraltheoryaboutcost
ofcapitalandrelations,findoutthemistakesincaseanalysisofJoannaCohen,give
the advises for Kimi Ford. Moreover, this analysis also giving some of limitations
whenusingDDM,CAPM,WACCforcalculatingthecostofcapital.
Question 1: Why is it important to estimate a firms cost of capital? What
doesitrepresent?IstheWACCsetbyinvestorsorbymanagers?
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the value and cost of capital by changing the capital structure. It also help predict
risk would be happen with a company (risk management). Moreover, estimate a
firmsorprojectscostofcapitalhelpinvestorscandiversificationtheirinvest,reduce
riskininvest,maximizationprofits:
Secondly, cost of capital also help for Designing the Corporate Finance
Structure. In one side, they always follow the changing of capital market for get
informationandchoosethebestwayforcapitalstructureofcompany.Inthe other
e, managers can use various methods to minimize companys cost of capital,
changingthemarketprice,theearningpershare,bringoutthebenefittocompany
(Pinches, 1982). Many companies before designing their corporate finance
structure,theytrytofigurestheirinformationsuchasaccountingreports,theircost
of capital to market. After that, they listen carefully the marketbefore decide their
corporate finance structure. Eventhey get positive or negative reply from market,
theywillhavetheirdecisionsindesigningtheircorporatefinancestructure:cancelor
investinproject(Kauaetal.,2008).
requirerisingfundsforproject.
find the average cost of capital, we weight individual cost of capital by their
proportionsinthefirmscapitalstructure:
WACCformula:WACC=(KexE)/(D+E)+[Kdx(1Ct)xD]/(D+E)
AsmentionabovethatWACCisrequiredreturnwillreflecttheriskoftheinvestment
and the return of alternatives. Companies need information about the cost of
differentsourcesoffinanceinordertofindtheoverallcostoffinanceandtomake
investment, financing decisions. So, basically, WACC set by investors in the
marketplace.AccordingtoPrattandGrabowski(2008:5)isthatThecostofcapital,
derivedfrominvestorsexpectationandthemarketconsensusofthoseexpectations,
isappliedtoexpectedeconomicincome,usuallymeasuredbyintermofcashflows,
in order to estimate the present value or to compare investment alternatives of
similarofdifferentrisk.WACCsetbyinvestorswhentheycalculateandfindoutthe
decisionsaboutinvestorrejectinvestintoacompany/project.Managers just listen
the market reply and react by estimate their options in invest in a project or
restructuretheircompany,giveitallforboardofmanagement(investors)whohave
the final decisions. Beside that, it also help managers can adjusted share prices,
marketvalueofthefirmforfirmsbenefit.
Question 2: What was your estimate about WACC? What mistake Joana
Cohenmakeinheranalysis?Whichmethodisbestforcalculatingthecostof
equity?
UsingWACCformula:
WACC=(E/V).KE+(D/V).KD.(1T)
V=D+E=TotalCapital
D:AmountofDebt
E:Equity
KD:CostofDebt
KE:Equity
T:Taxrate
Accordingtocasestudywehave:
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T=38%(inExhibit2)1T=0.62
E:Equity2001=$3494.5
D:Debt2001=
=Currentportionoflongtermdebt+Notespayable+Longterm
debt
=$5.4+$855.3+$435.9
=$1296.6
Besidethat,wehave:
E/V=27%(proportionofequity)
D/V=73%(proportionofdebt)
CalculateKE:CostofEquity
*UsingDDM(DividendDiscountModel)forcalculateKe
Ke=D1/Po+g
D1=D0(1+g)
D0=0.48g=5.5%
D1=0.48x(1+0.055)
=0.5064
P0=42.09
Sowehave:
Ke=D1/Po+g
=0.5064/42.09+5.5%
=1.20%+5.50%
=6.70%
BecauseNikedidnotpaydividendforshareholderssinceafterJune30,2001,so
thismodel(DDM)cannotacceptforusingforcalculateKeinthiscasebecauseit
doesnotreflectthetruecostofcapital.
*UsingCAPM(popular)forcalculateKe
KE=KRF+(KMKRF)xBeta
Beta:isseenasanindexofresponsivenessofchangesin
a securitys returns relative to changes in returns on the
market,inthiscaseissportutilityindustry)
(InExhibit4ofNikeInc.,givenfrom1996isAveragebeta
=0.80,betain2001is0.69)
KRF:riskfreerate
(K K ):Riskmarketpremium
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(KMKRF):Riskmarketpremium
KM:Returnonmarket.
UsingKRF=ProfitabilityrateofGovernmentbonds(U.S.Treasury),inExhibit4we
haveU.STreasury20yearKRF=5.74%
According to Joana Cohen, she got risk premium = 5.90% (in Exhibit 4:
geometricmean=5.90%,arithmeticmean=7.50%)
JoannaCohencalculated:KE=5.74%+5.90%x0.80
=10.46%(rounding10.5%)
Cohen uses average beta from 1996 to July 2001, 0.80 to be the measure of
systematicrisk,butweneedtofindoutabetathatismostrepresentativetofuture
beta.Assuch,mostrecentbetaisthebestchoiceinthissituation(Sharpe,1995).
Somostrecentbetaestimateisrecentbetaat06June2001is0.69.
Wehave:KE=5.74%+5.90%x0.69
=9.81%
CAPMmodelofWilliamSharpe(1964)andJohnLintner(1965)hastheadvantage
of simplicity and can be applied in practice. However, like many other models,
CAPM inevitable limitations and criticism (Vintila, 2006). Maybe the attraction of
CAPMissimplicityandeasytoapply,butmaybeCAPMtoosimpletoapply,itlead
toreflectnotreallytruehappen,itsnormallyjustamodel(Fama & French, 2003).
There is only limited discussion highlights some of the CAPM model. These
abnormalitiesinclude:
Theeffectoffirmsizeitwasdiscoveredthatthefirmsshareshavesmallmarket
value(marketcapitalization=pricepersharexnumberofshare)mightgethigher
profitability of the firms stock value market, if other factors the same (William,
1983).EffectofPEandMBratiositwasfoundthatthestocksofcompanieswith
PEratios(price/earningratio)andtheratioofMB(markettobookvalueratio)might
gethigherprofitabilitysharesofcompanieswithPEratiosandhighMB.
JanuaryEffectThosewhoholdsharefortheperiodfromDecembertoJanuary
usually have higher margins than other months. However, it was also noted that
although the January Effect was found in January in many years but not always
occur(Thaler,1987).
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elementsofchangeingeneralmarket(Ngetal.,1992),soifotherfactorsaddingto
theriskfactorstoexplaintheprofitriskismuchricherthanjustrelyingonasingle
factorsuchasCAPMmodel.
oCalculateKD:CostofDebt
According to Joanna Cohen: Total interest expense (2001) divide by companys
averagedebtbalance(WithdebtbalanceofMay31,2000is$1444.6millionsand
2001is$1296.6millions)
TheWACCisusedfordiscountingcashflowsinthefuture(Lloyd&Davi,2007),
thus all components of cost must reflect firms concurrent or future abilities in
raisingcapital.ButJoannaCohenusesthehistoricaldatainestimatingthecostof
debt>Shedidamistakehere.Shedividedtheinterestexpensesbytheaverage
balanceofdebttoget4.3%ofbeforetaxcostofdebt.ItmaynotreflectNikes
currentorfuturecostofdebt.
Coheniswrongtousebookvaluesasthebasisfordebtandequityweightsthe
market values should be used in calculating weights. The reasoning of using
market weights to estimate WACC is that it is how much it will cause the firm to
raisecapitaltoday.Thatcostisapproximatedbythemarketvalueofcapital,notby
the book value of capital. Cost of capital based on market value not book value
(Pratt&Grabowski,2008).
Formarketvalueofequity=CurrentSharePricexAverageSharesOutstanding
=$42.09x273.3m
=$11,503m.
Duetothelackofinformationofthemarketvalueofdebt,bookvalueofdebt,
$1,291m,isusedtocalculateweights.
Thus,themarketvalueweightforequityis
=1[11,503/(11,503+1,291)]
=189.9%=10.1%
So,theweightfordebtis10.1%.
Thecostofdebt,ifitisintenttobeforwardinglooking,shouldbeestimatedbyyield
maturityofbondoraccordingtocreditrating.
The more appropriate cost of debt can be calculated by using data provided in
Exhibit 4. We can calculate the current yield to maturity of the Nikes bond to
representNikescurrentcostofdebt.
PV=95.60
n=40
FV=100
I=3.375%(semiannual)6.75%(annual)
95.6=Ix[1/(1+r)+1/(1+r)2+1/(1+r)3++1/(1+r)40]+100/(1+r)40
<>95.6={3.375x[1(1+r)40]/r}+100/(1+r)40
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Ifr=4%>NPV1=3.375x[1(1+0.04)40/0.04]+100/(1+0.04)40
=87.65
Ifr=3%>NPV1=3.375x[1(1+0.03)40/0.03]+100/(1+0.03)40
=108.65
IRR=3+(43)x[87.65/(108.6587.65)]
=7.16%
>Costofdebt(aftertax)is:7.16%(138%)=4.44%(Tax=38%)
KDdoJoannaCohencalculated(wrong)=4.3%
oApplyintoformulaWACC:
WACC=(E/V).KE+(D/V).KD.(1T)
JoannaCohencalculated:
WACC=10.5%x73.0%+4.3%x0.62x27%
=10.5%x73.0%+2.7%x27.0%
=8.4%
Wehave:
WACC=10.1%x4.44%+89.9%x9.81%
=0.45%+8.82%
=9.27%
TodiscountcashflowsinExhibit2withthecalculatedWACCis9.29%,thepresent
value of Nike approximately $58.13 per share, which is much higher (1.38times)
than Nikes current market price of $42.09. So Nike shares price is underestimate
and undervalued by $16.04 as Nike is currently trading in 2001. Some might think
this value is still understated, due to that current growth rate (6% to 7%) is much
lowerthanthatestimatedbymanageris9.27%(8%to10%).Moreover,Nikealso
changedtheirbusinessstrategybymoreconcentrateinmidpricedsegment,which
isNikelessconcentrateforalongtimebefore.Thatsmeantheirtotalofsalesmight
increase, lead to avenue increase, lead to profit increase, of course, Nikes share
pricesanddividendwillbeincreaseinlongterm.
ing this data, we found that NorthPoint LargeCap Fund should buy Nike Inc.,
sharesatthistimebecausethestockisundervaluedbecauseithasgrowthpotential
thatwouldbebeneficialtothefund.Alongwiththisfact,managementhasgoalsfor
thenearfuturethatcouldprovideagreatdealofprofitforNikeInc.Asweknowthat
inconference,Nikewasshowedthatthecompanyisheadingontherecoverypath
with new strategy and there is potential for abnormal profits given the growth
capacitythatNikehasgotaselaboratedbyratioanalysis. And the set targetsby
the management are easily achieved if they stay focused since they have the
capacity. Technical analysis also supports a buy decision, because looking on
thepastperformanceoftheNikeInc.,shareagainstthemarketindex.Ithasshown
thatNikecanoutperformthemarketreturnsandnowthatithadgowndown,itisleft
withtheupsidegivenplansthatarebeingputinplace.
Moreover, Look in to exhibit 8 we can see that P/E of Nike Inc., in 2012 is 19.8,
higherthanothercompetitorssuchasAdidas(14.8),higherthanIndustryAverage
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(14.0),higherthanS&P500(13.1).AtthesamecompareP/Ein2013(future),Nike
alsohigherthanothersfactorsandsoon.Inotherhand,Nikescurrenttrailing12
monthearningsmultipleis20.9comparedwiththe22.9industryaverageand17.2
ofS&P500.Overthelastfiveyears,Nikesshareshavetradedintherangeof10.9x
to21.8xtrailing12monthearnings.So,WecanseethatNikeInc.,sharesnotonly
areveryinterestshareatpresent,italsoareverypotentialsharesinfuture.
Inaddition,EPSEarningSurpriseandEstimateRevisionHistorygiventhatfrom20
March2007to25October2011,EPSnearlythesamewithmarketpredictorifhad,
almost time are positive EPS surprise, justhave three time EPS negative surprise.
So, basically, almost predict about Nike is right in long term market and Nikes
shares have a little bit undervalue by market estimated. Beside that, consensus
index also proved that EPS from 13 March 2007 to 18 November 2011 is nearly
stableinayearperiodandincreaseddramaticallyinfiveyearsperiod.
Inconclusion,basedonalldataincludinghistorydata,recentlydataandfuturedata,
itisclearlythatdecisionisKimiFordshouldbuyNikessharesbecauseitquitesafe,
underestimate of market and growth dramatically compare with its history, other
companiesinindustryandothersharesinS&P500.Overall,Nikessharesarevery
potential. In details, Kimi Ford also should consider before buy Nikes shares
dependonsomeofreasons.Firstofall,asweknowthatJanuaryEffectnotreally
happeneveryyear,butitcanbehappenanytime,atthattime,almosteveryshares
become better by investors feeling and habit. If Kimi Ford buy Nikes share in this
moment, he should be careful because he might spend much more time than
normal market prices. Secondly, Nikes shares longterm always is wonderful
investment, but shorttime buying also shouldbe careful because of the changing
fastofindustry,thechangingofNike,thechangingoftrendinfootwearindustryand
so on. Beside that, Kimi Ford also dont forget monitor its activities very closely. If
NorthPoint LargeCap Fund want to invest in Nikes shares in shortterm, they
shouldbuyNikessharesattheendoftheyear,whileothersnotreallypayattention
tomuchinmarketandsellitinthefirstmonthofnextyear.InJanuary,whenpeople
have a little overestimate, NorthPoint LargeCap Fund can sell for achieve their
profit.
Exhibit5:
NikeAnnualDataSheet(20012011)
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Free Cash
Flows to 764.1 663.1 777.6 866.2 1014 1117.6 1275.1 1351.7 1483.7 1572.7
Firm
Terminal
25835.42265
Value
Cashflows 764.1 663.1 777.6 866.2 1014 1117.6 1275.1 1351.7 1483.7 27408.12265
The Firm
$17,079
Value
Less:
Current 1296.6
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debt
Equity
$15,782
Value
Shares
271.5
Number
Equity
Value per 58.13052469
share
Terminal
25835.42265
Value
2012Cash
1619.881
Flow
Permanent
0.03
Growth
WACC 0.0927
StockMarketline
(source:http://finance.yahoo.com)
Exhibit6:
NikeAnnualDataBalanceSheet(20052011)
(Source: http://finapps.forbes.com/finapps/jsp/finance/compinfo/FinancialIndustrial.jsp?
tkr=NKE [http://finapps.forbes.com/finapps/jsp/finance/compinfo/FinancialIndustrial.jsp?tkr=NKE]
)
Allnumbersinthousands
BalanceSheetAssets
FinishedGoods * * 2,357,000 *
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Accumulated Depreciation
2,791,000 2,457,900 2,298,000 2,211,900
&Depletion
NonCurrent Deferred
894,000 873,600 897,000 520,400
IncomeTaxes
BalanceSheetLiabilities,StockholdersEquity
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Other NonCurrent
* * 300 *
Liabilities
Cumulative Translation
* * * 356,400
Adjustment
*=Datanotavailable
Exhibit7:
NikeQuarterlyDataBalanceSheet(2011)
(Source: http://finapps.forbes.com/finapps/jsp/finance/compinfo/FinancialIndustrial.jsp?
tkr=nke&period=qtr
[http://finapps.forbes.com/finapps/jsp/finance/compinfo/FinancialIndustrial.jsp?tkr=nke&period=qtr]
)
All numbers in
QuarterlyData
thousands
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BalanceSheetAssets
Land&Improvements * * 237,000 *
Building&Improvements * * 2,055,000 *
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ConstructioninProgress * * 127,000 *
Accumulated Depreciation
2,887,000 2,868,000 2,791,000 2,747,000
&Depletion
NonCurrent Deferred
930,000 858,000 894,000 970,000
IncomeTaxes
BalanceSheetLiabilities,StockholdersEquity
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*=Datanotavailable
Exhibit8
NikeIndicators
(Findoutmoreathttp://www.stockresearchwiki.com/Ticker/NKE/overview/
[http://www.stockresearchwiki.com/Ticker/NKE/overview/] )
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Posted3rdMay2012byTienNguyen
5 Viewcomments
HowWaiTeoh March18,2013at9:18PM
GoodeveningTienNguyen,Ihadreadyourassignmentanditisbrilliant
casestudywork.
Iwishtogetthebibliographyforthiscasestudyformyfurtherstudyon
theintextcitationthatyouhadused.
thanks.
Reply
TienDinhNguyen August5,2013at4:37AM
DearHowWaiTeoh,
I so sorry bcs of my late support. I hope it still can be help you even i
thinkimlate.
Reply
TienDinhNguyen August5,2013at4:38AM
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TienDinhNguyen August5,2013at4:39AM
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Reply
ErickAdiprawira September2,2015at11:44PM
Hi,Tien
IhaveasameassignmentwithyouaboutNikeInc.howevermygoalis
knowing about if nike. inc approach a credit to bank, will it approved by
bank to give Nike an investment ? And knowing about its financial
structure and investment structure. I just want to know about your
opinion with that question. Thank you Tien, hopefully you have a
prediction.
Reply
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