QUESTION 1: NIKE, INC.: COST OF CAPITAL
Please answer the following questions drawing on information provided in the case. Make sure to state the assumptions you use for your answers to question 2.
- Explain why Joanna Cohen’s methodology for calculating Nike’s WACC is inaccurate?
- Calculate a new WACC for Nike. To do this you will need to:
- Calculate the firm’s after tax cost of debt using the Yield to Maturity method
- Calculate the firm’s costs of equity using the Capital-Asset-Pricing Model.
- Calculate the weights. For the debt portion of the firm’s total capital, use the book value of the company’s debt – the sum of notes payable and long term debt.
QUESTION 2: NEW HERITAGE DOLL COMPANY: CAPITAL BUDGETING
Please answer the following questions drawing on information provided in the case.
- Using the operating projections for BOTH the Match My Doll Clothing Line (Exhibit 1) AND the Design Your Own Doll (Exhibit 2) investment opportunities, create a spreadsheet and compute the Net Present Value (NPV) and Profitability Index for each opportunity. Make sure you list any assumptions you make in a separate worksheet.
Come up with an ebit
Capex
Total cash flow
Present value
Discount value is given at the case, you need to find it
Pvv inflows/pvv outflows
Hint: NPV’s should be very close to each other
- If you were forced to recommend one project over the other, which one would you recommend and why (you should write at least a page).
Tips and Guidelines for the Heritage Doll Company case
- Discount Rate: You need to choose a discount rate for each project based on your assessment of the project’s risk. The case tells you what discount rate Heritage Doll uses based on the riskiness of the projects it evaluates
- Terminal Value: At the end of the ten year forecast, you should assume that each project will continue to perpetuity. Therefore, you should add a terminal value cash flow to your forecast. To compute the terminal value, use the EXACT same formula as the Gordon Growth Model. In this case, instead of using a dividend, you should use the total cash flow number in year 2020. For the growth rate (g), the case tells you what % to use. It’s 3%
- Working Capital Calculations: Exhibits 1 and 2 provide some data about working capital. BUT, the exhibits don’t calculate the working capital numbers. So, you have to do the calculations in your spreadsheet. There are four working capital items: minimum cash balance; accounts receivable; inventory and accounts payable. Here are the formulas
- Cash: is calculated by taking a percentage of revenue. In the exhibits, this percentage is given as 3% from the row called Minimum Cash Balance. So, in each year of your forecast, you need to take the total revenue number and multiply it by 3%
- Accounts Receivable: take the number in the row called Days Sales Outstanding (e.g. in 2011, this is 59.2x); divide this number by 365 (the number of days in the year) and then multiply the result by the total revenue for that year
- Inventory: take the number in the row called Total Production Costs and divide this number by the number in the row called Inventory Turnover
- Accounts Payable: take the number in the row called Days Payable Outstanding; divide this number by 365 and then multiply the result by Total Operating Expenses MINUS depreciation
To calculate the net working capital in a given year you add the Cash, Accounts Receivable (AR) and Inventory numbers together and then subtract the Accounts Payable (AP) number from it (i.e. Cash + AR + Inventory – AP).
