Case 33

9/13/2013

HISTORY

Defense Attorneys Larry Flax and Rick Rosenfield created the first California Pizza Kitchen in 1985 in Beverly Hills, California By 2007: 213 locations in 28 states and 15 international franchises in 6 foreign countries Three sources of income: sales at company owned restaurants, royalties from franchised restaurants and royalties from a partnership with Kraft foods to sell CPK-branded frozen pizzas

CASE #33

NOVEMBER 22, 2011

http://www.youtube.com/watch?v=glF02oZ_QB8

THE POWER OF SUSAN COLLYNS

Facilitating success:

Increase advertising Increase leverage using debt financing

Purchase U.S. Treasury Securities Change Capital Structure Policy

EFFECT OF LEVERAGE ON ROE

Interest Rate Tax Rate Earnings before income taxes and interest Interest Expense Earnings before taxes Income taxes Net income Book value: Debt Equity Total capital ROE = Net Income/ Shareholder Equity Actual 6.16% 32.50% 30,054 0 30,054 9,755 20,299 Debt/Total Capital 10% 20% 30% 6.16% 6.16% 6.16% 32.50% 32.50% 32.50% 30,054 30,054 30,054 1,391 2,783 4,174 28,663 27,271 25,880 9,303 8,852 8,400 19,359 18,419 17,480

Repurchase stock option

0 225,888 225,888 8.99%

22,589 203,299 225,888 9.52%

45,178 180,710 225,888 10.19%

67,766 158,122 225,888 11.05%

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EFFECT OF LEVERAGE ON COST OF CAPITAL

CAPM = bL = bU[1 + (1 − T)D/E]

10% bL = bU [ 1 + ( 1 - 32.5%) 22,589 / 628,516] bL = 0.85 [ 1 + (0.675) 0.0359] bL = 0.85 [ 1 + 0.0242] bL = 0.85 [1.0242] bL= 0.87057 30% bL = bU [ 1 + ( 1 - 32.5%) 67,766 / 598,002] bL = 0.85 [ 1 + (0.675) 0.1133] bL = 0.85 [ 1 + 0.0765] bL = 0.85 [1.0765] bL= 0.915025 20% bL = bU [ 1 + ( 1 - 32.5%) 45,178 / 613,259] bL = 0.85 [ 1 + (.675) 0.0737] bL = 0.85 [ 1 +0.0497] bL = 0.85 [1.0497] bL= 0.892245

+

WACC

Formula: (kd) (1-t)(%debt-financed) (ke)(%equity-financed) kd=6.16% ke= capm beta UL debt financed divided by Total market value equity financed divided by total market value tax shield: 32.5%

WACC: 10% kd tax shield debt financed ke...