Team Case Study: Nike Inc.

Nike Case Study

Background

Kimi Ford is a portfolio manager for the NorthPoint Large-Cap Fund, a mutual-fund which primarily invests in Fortune 500 companies, emphasizing value investing. She is considering shares of Nike, Inc., for the fund and has found no clear guidance on whether Nike is a good fit for the fund.

She has done some calculations that show Nike could be undervalued at its current stock price, but one evaluation indicated that they were overvalued. To help eliminate the confusion she asked her assistant Joanna Cohen to estimate Nike’s cost of capital.

Cohen conducted an estimate of Nike’s cost of capital using the weighted average cost of capital (WACC). WACC is an estimated rate (percentage) that a company is going to pay for the cost of debt (to debt holders) and equity (to shareholders) to finance its capital program (assets). It is the minimum return that a company must earn on its existing asset base to satisfy the providers of capital. The type of security issued generates its own specific (different) return and the WACC takes these differences into account by providing a relative weight of the debt and equity component of the capital structure.

Cost of Capital Calculations: Nike Inc

The WACC requires the determination of the cost of equity and it can be calculated using several different accepted methods. There is the Capital Asset Pricing Model (CAPM), the Dividend Discount Model and the Earning Capitalization Ration.

We will calculate a WACC for Nike, using these methods, addressing the advantages and disadvantages of each as well as make comparisons to Joanna Cohen’s WACC that calculated using the CAPM technique.

Value of Debt

Normally the value of debt is taken as the Long Term Debt listed on the books. However, Nike has additional debt in the form of Notes Payable that should be evaluated as well. Therefore, the market value of debt is calculated as follows:

D(ebt) = Long Term Debt + Notes Payable...