Nike

Case 14

1. The WACC is the rate that a company is expected to pay to shareholders to finance their assets. It’s also the minimum return that the company must earn to satisfy and provide capital. Companies raise money through many sources and different securities generate different returns. WACC is calculated by taking into account the weights of each component. Management takes notice of the cost of capital when deciding a financial decision and is very important in decisions on capital budgeting, designing the financial structure and deciding the method of financing.

2. Cohen used the 20-year yield on U.S. Treasuries as the risk free rate, and I think this value is correct since the debt was valued over 25 years. There wasn’t a value given for this period of time so the risk free rate used is 5.74%. The geometric mean seems to better estimate for a longer period of time while the arithmetic mean is better for shorter time. The geometric mean was used which is 5.90% for the market risk premium. The final decision was on what Beta to use. The average (.80) was chosen because the goal is to look forward and gain back market share and increase revenues. The YTD beta was more of a reflection of current business practice. The values that Cohen calculated for the weights were by using book value instead of market value.

Cost of Debt: YTM on 20-year Nike Inc. Bond

= 7.16%

Numbers in calculator= PV= -95.6

FV= 100

N= 40

PMT= 6.75/2 = 3.375

i= solve for = 3.583*2 = 7.16%

Cost of Equity using CAPM: Ke= Rf + β(Rf – Rm)

= Rf + β(MRP)

Rf= 5.74%; β= 0.8; MRP= 5.90

Ke = 5.74% + 0.8(5.90) = 10.46%

Cost of Equity Using Dividend Discount Model: Div1/price + growth

= [(0.48(1+.055)/42.09] + .055

= 6.70%

Debt and Equity weights: value of equity= stock price x number of shares outstanding

= $42.09...