Nike In Cost of Capital - Case Study Example

Download file to see previous pages From this paper, it is clear that a company’s cost of capital is used to a company since it evaluates the worth of an investment. The worth of an investment establishes the expected return on similar capital invested in an alternative investment. The cost of capital is not only required in making investment decisions but it is also used to make management decisions. Management decisions are based on financial implications and expectations of a company. The cost of capital determines financial expatiations of a company through capital and, therefore it is essential in making management decisions. A company’s cost of capital is, therefore, a useful tool in the decision-making process. I do not concur with Joanna Cohen’s value for WACC since it has considerable limitations. Cohen’s calculation also had some errors and hence the company cannot rely on the value to make critical financial decisions. Although Cohen’s calculation of Nike’s WACC was analytical, it has some weakness and hence inappropriate. In her calculations, Cohen weighted the capital structure based on book values. This was inappropriate since the company is a public liability company, and the values of its market capitalization have greater significance than the value of its book equity. Her Cost of debt was also wrongly calculated; Cohen obtained her cost of debt by determining the ratio between interest expense and interest-bearing debt. In some case, interest expenses contain expenses that are not covered or related to the company’s debt.’s debt. This might have introduced some errors in her final WACC value. Cohen also used 5.9% as her market premium this figure was significantly low. Cohen also obtained a wrong value for her WACC; this is because she weighted all her divisions using revenue instead of cash flow. This factor contributed to the margin between her WACC value and the expected value. Her calculation of weights also did not accommodate the different products that the company produces. This is because her weight did not consider all the footwear that Nike produces. Although the company makes most of its sales from sport shoes, other types of footwear contribute significantly to the sales of the company. WACC = Cost of Equity + Cost of Debt = (We) (Ke) + Wd (Kd) (1-t) Where Wd = loan capitals, We =finance from equity, Kd =bank’ ...Download file to see next pagesRead More