Nike, Cost of Capital

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Executive Summary and Introduction In May 2001, portfolio manager Kimi Ford was considering whether Nike, Inc. would be a good investment option. With an emphasis on value investing, Ford estimated that Nike was undervalued at discount rates below 11.17%. Her assistant Joanna Cohen’s did further calculations and estimated that Nike’s cost of capital was 8.4%. Ford manages a well-diversified portfolio and she has the focus on value investing. Therefore, we assume she would be interested in quality stocks with are fairly priced. This report reviews and examines the analysis by Ford and Cohen. In our analysis, we re-perform the weighted average cost of capital (WACC) analysis and recalculate the cost of capital for Nike. The Dividend Discount Model and the Earnings Capitalization Model are also adopted to compute the cost of equity, apart from the CAPM method. With our new estimate of the cost of capital, Nike’s stock has been re-evaluated in the Discounted Cash Flow valuation. Lastly, this report uses the Multiple Valuation to compare Nike with five of its competitors. Our conclusion is that Nike’s cost of capital should be 9.91% and in 2001 Nike’s price should be $51.76, compared to the current market price of $42.09. Therefore, we suggest that Nike should be a good investment. 1. Cost of Capital Pratt and Grabowski (2010) defined cost of capital is the expected rate of return required by the managers in order to seeking additional funds for a particular investment. It measures the total costs to finance an investment through a combination of debt and equity taking into account different financial risks. There are several reasons why estimating the cost of capital is vital for the management of the company. First of all, cost of capital forces managers to reconsider the capital structure in order to discover the better approach to raise finances. Different
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