a portfolio manager at North point Group.  Now Kim has to take decisions based on the last fiscal year results and other analyst reports. Inc. .  Kimi Ford..CASE BACKGROUND…. a mutual Fund management firm is in a dilemma that whether to buy the Stocks of Nike.  Recently Nike disclosed the fact that their Net Income and market share has come down.  Also communicated about new strategies and measures in order to improve this current situation.. or not.

  Rate of return expected by capital providers.COST OF CAPITAL…   Central concept in financial management. A company’s cost of capital is the weighted average of various sources of finance used by it. determining the capital structure etc.   Provides Benchmark. and debt. preference . viz. equity. Reflects the business risk of the existing assets and the capital structure currently employed. It’s the average cost of various capital components employed by it. .  Also used for evaluating investment projects.

of the cost of after tax debt and equity. not by managers. we can only estimate it. we cannot observe the true WACC. at target leverage. Act as a critical input for evaluating investment decision. Benchmark for operating performance.     . and typically the discount rate for NPV calculation. relative to the opportunity cost of capital employed to create value.WACC…  Weighted Average Cost of Capital is a market weighted average. The WACC is set by the investors or markets. Therefore.

SINGLE HURDLE RATE…  I agree with the use of the single cost instead of multiple costs of capital.  Because WACC is calculated to determine the value of capital of the entire firm. .  So I think there is no point in calculating the cost of capital of each business segments of Nike.  Another reason for preferring single hurdle cost is that the other segments of Nike has also got a same level of risk.

. Historical Price was used for calculating the cost of Debt.  Instead of considering the Post tax cost of Debt she had taken a pre tax amount. they are superior to book value.  Because the value of the firm must earn competitive returns for shareholders and debt holders on the current value of their investments.WACC ESTIMATION…    Some mistakes in the calculation of cost of capital. Even though Market value is more volatile.

3 percent.7 percent.)  Cost of capital=4. Kd= (Total Interest or Expense for 2001/Average Debt balance.  After adjusting tax Kd=2.COST OF DEBT BY COHEN: She used historical value to calculate cost of Debt in WACC.  According to her.  .

semi annully:20*2= 40  n= 40. 6.60  YTM= 3.  FV=100.58% (Semiannually)  annually= 7.16%(1.COST OF DEBT… Calculation of cost of Debt using YTM.16%.  2001-2020 =20.44%  .38%)= 4.75/2=3.  Post tax cost= Pretax(1-tax rate)  Post tax rate=7.375  PV=95.375  Coupon= 3.  As semi annually.

9%)*0.20 yrs=5.80(Exhibit 4) 10.74% GM was used .   CAPM was used to calculate cost of equity. Average of historic beta from 1996 to 2000 was taken.80. Average of Nike historic beta=0. She considered risk free rate as the coupon of T..9% . . Current yield on US Treasuries.74% +(5.bonds with 20 yrs of maturity       Rf =5.5% = 5.COST OF EQUITY BY COHEN.

she could have used the recent beta value because we need a value which represents the near future beta.69 for the year 2001.   Its given in the Exhibit that 0.69 New Ke=9.74% +(5.COST OF EQUITY…  Instead of using Average of historic beta .81% .   Ke= 5. So being the risk free rate and current yield on US treasuries same.9%)*0.

 .32  Growth rate= 0.09  Here.  E1= (Current Earnings per share)*(1+ growth rate of earnings per share).COST OF EQUITY USING E/P APPROACH Cost of Equity= E1/P0.  Current EPS=2.51%. Cost of Equity =5.03  Po=42.

e. i.055 Do=0.70% There is a slight discrepancy between these two models. there is constant growth in DDM but its not there in E/p approach.506 Po=42.09 g=0. .48 Ke (DDM)=6.COST OF EQUITY USING DIVIDEND DISCOUNT MODEL…  Ke= (D1/Po )+g       D1=D0(1+g)=o.

197 .09(Given) Average Share 273.3(Exhibit 1) (MS*AS) 11503.INVEST OR NOT? Market Value Of Equity Market share 42.

4 855.Market Value of Debt Current proportion of Long Term Debt Notes Payable 5.3 Long term Debt 435.9 Debt 1296.6 .

CALCULATION OF WACC    Proportion of Equity:89.44*.899+4.12985 Ke=9.44 WACC=9.101=9.27 .81*.81   Kd=4.87015 Proportion of Debt:10.

DECISION TO BUY OR NOT:  The discount cash flows in Exhibit 2 with WACC 9.68 It is more than current market price of $42.     The present value equals $58.13 per share.13= Average of 61.27%. 58. .09.25 and 55. So its better to buy the Nike stocks.

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