Nike Case Essay

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Case Study II: Nike, Inc. 1. Do you agree with Joanna Cohen’s WACC calculation? Why or why not? Carefully check her methodology. Which assumptions are implicit in the WACC method and are they satisfied for Nike? No, disagree. * Weights of Equity and Debt: Joanna uses the book value rather than market value of equity to calculate weight; however, she should have used the market value of equity. Using the book value of debt rather than market value is considered acceptable, since normally there is no big difference between book value and market value of debt. * Cost of Equity: * Beta: she used the average beta of the last 5 years, which is also acceptable. However, we decide to use the Bayesian beta calculated with the firm’s present beta as a measure of the future beta assessing for future risk. * Risk-free rate: from the investor’s perspective, we conclude that a 10-year holding period would be more realistic estimate than 20-year. Therefore, we decide to use 10-year U.S. Treasury yield as our risk-free rate in this case. * Risk premium: using the geometric mean from 1926 to 1999 might be problematic, since the risk premium of recent decades is obviously lower than earlier (stated in the lecture). So we think a range of 3% to 5% is more reasonable. * Cost of Debt: Joanna’s calculation is based on the items on the income statement. However, when calculating cost of debt, we should consider the opportunity cost rather than the accounting cost. We should perceive the opportunity cost as the return investors will expect to earn somewhere else when accepting similar risk. * Tax rate of 38% is chose as an average within the range 37.5% - 38.5%. Implicit assumptions in the WACC method * Firm will continuously rebalance its debt to keep a constant leverage ratio. Theoretically when calculating the weight in WACC, we should consider

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