Nike Case 14

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Nike Case Analysis |

The Cost of Capital |

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DuPont Group: |

10/14/2011 |

Within every company upper management must analyze how much its cost of capital will be for each and every major project. There are many key models that each company utilizes, some more popular than others. Many financial firms and upper management utilize these models to value companies and determine if companies are under/overvalued. In this case we will discuss these models and interpret our findings of The Nike Company. |

Background of Nike Case:

After a significant decline in the Nike share price over the past year, portfolio manager at Northpoint Group, a mutual fund firm, Kimi Ford decided to analyze Nike’s financials because she was considering purchasing shares for the fund that she managed. She had performed a discounted cash flow analysis with a discount rate of 12% of the company to further her knowledge of the condition of the company as far as how it stood as being over/under valued. She then did a quick sensitivity analysis that revealed that the Nike share price would be undervalued at a discount rate below 11.17%. Kimi ford asked her assistant Joanna Cohen to estimate Nike’s cost of capital to verify that the company is overvalued at $42.09. Cohen then used the Weighted Average Cost of Capital (WACC) formula to estimate Nike’s cost of capital.

The WACC is the firm’s after - tax weighted average cost of financing capital and is the rate of return that a company’s investors require on their common stock. The WACC calculates three major capital components which are: debt, preferred stock, and common equity, and it takes into account the weight percentage of each capital component to match that of the firm’s capital structure. Many financial firms and upper level management utilize the WACC to determine whether proceeding with a new project is possible or not. Basically, the reason why companies estimate their cost of capital before proceeding with a...