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NIKE, INC.: COST OF CAPITAL
Case Instructions
This case investigates the calculation of the weighted-average cost of capital
(WACC) for a firm. The case provides a WACC calculation that contains errors
based on conceptual misunderstandings. Your task is to identify and explain the
mistakes in the analysis. Among the items you should discuss in your write-up are
the following:
1. What is the WACC and why is it important to estimate a firm’s cost of
capital? Do you agree with Joanna Cohen’s WACC calculation? Why or why
not?
2. If you do not agree with Cohen’s analysis, recalculate the WACC and discuss
the nature of any errors that Joanna made.
3. Calculate the costs of equity using both the CAPM and the constant-growth
dividend discount model. Discuss advantages and shortcomings of each.
4. Assign a value to Nike’s stock based on your revisions to the WACC.
1. The weighted average cost of capital (WACC) is the rate of return that a
company is expected to pay on average to all its security holders to finance its
assets. The weights are a fraction of all financing resources in firm’s capital
structure. (Investinganswers.com)
WACC = ((E/V) * Re) + [((D/V) * Rd)*(1-T)]
E = Market value of the company's equity
D = Market value of the company's debt
V = Total Market Value of the company (E + D)
Re = Cost of Equity
Rd = Cost of Debt
T= Tax Rate
As a firm is typically financed using bonds (debt) and stocks (equity), and they may
have di=erent contributions; the weighted average is used to find out how
expensive it is for the firm to raise funds to buy new inventory, equipment,
infrastructure etc.
I do not agree with Joanna’s calculations as she miscalculated the market value of
Equity: She used the book value for both debt and equity. Book value of equity
should not be used when calculating cost of capital. The market value of equity is
calculated by multiplying the stock price with the number of shares outstanding.
2. The correct value of WACC is 9.85%. The calculations are explained in Exhibit 1.
Joanna miscalculated the following:
Market value of Equity: She used the book value for both debt and equity.
Book value of equity should not be used when calculating cost of capital.
The market value of equity is calculated by multiplying the stock price with
the number of shares outstanding.
Cost of Debt: Joanna calculated the cost of debt at 4.3%, however from my
