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Best Practices in Estimating the

Cost of Capital: Survey and Synthesis

Nama Kelompok:
Matthew Victoria 37408003
Venny Dwiyanti 37408010
Inge Talia 37408018
Gentry DSG 37408039

Pengertian cost of capital


Cost of capital
sisi investor
sisi perusahaan
Sisi investor = opportunity cost dari dana yang ditanamkan
investor pada suatu perusahaan.
Sisi perusahaan = biaya yang dikeluarkan oleh
perusahaan untuk memperoleh sumber dana yang
dibutuhkan


Perhitungan cost of capital sangat penting karena:
1. Membantu perusahaan untuk melakukan bench mark
pada perusahaan lain yang cukup baik
2. Membantu membuat keputusan karena cost of capital
telah diestimasi

I. Weighted Average Cost of Capital (WACC)


Untuk menghitung cost of capital kita menggunakan
WACC
WACC adalah rata-rata tertimbang dari seluruh
komponen modal
Komponen modal yg sering dipakai adalah: saham biasa,
saham preferen, utang, laba ditahan
Seluruh komponen modal ( capital components)
mempunyai satu kesamaan, yaitu investor yang
menyediakan dana berharap untuk mendapatkan return
dari investasi mereka

Weighted Average Cost of Capital (WACC)


WACC = wd.kd (1-T)+wps.kps+ws.( ks atau ke)

kd

= biaya hutang

kps

= biaya saham preferen

ks

= biaya laba ditahan

ke

= biaya saham biasa baru

= pajak

Hal-hal yang diperhatikan dalam perhitungan


WACC
1. Capital cost yang ada menunjukkan kondisi pasar saat ini
bukan historical.
2. Bobot yang ada harus dari bobot pasar
3. Cost of debt harus dikurangi pajak Penggunaan hutang
sebagai modal, menurunkan penghasilan yg dikenai pajak
karena bunga yg harus dibayar. Karena itu penggunaan
hutang dapat mengurangi pajak yang dibayar (tax
deductible)

II. Sample Selection


Sample yang digunakan adalah perusahaan
Cara yang dilakukan dari sample ini adalah
1.Memberikan surat tentang penelitian
2. Lalu melakukan telepon.
Selain perusahaan,sampel yang lain adalah
Penasehat keuangan dan text book

III. Survey Findings


Discounted cash flow (DCF) is the dominant investmentevaluation technique
WACC is the dominant discount rate used in DCF
analyses
Weights are based on market, not book, value mixes of
debt and equity
The after tax cost of debt is predominantly based on
marginal pretax costs and marginal or statutory tax rates
The capital asset pricing model (CAPM) is the dominant
model for estimating the cost of equity

Capital Asset Pricing Model


(CAPM)

K = Rf + (Rm
Rf)
Rf = Interest rate available on a risk free
bond
Rm = Return required to attract investors to hold the
broad market portfolio of risky assets
= The relative risk of the particular asset

Risk free rate of return


Choice of a risk free rate can have a material
effect on the cost of equity and WACC
Long term bond yields more closely reflect default
free holding period returns available on long lived
investments and thus more closely mirror the
types of investments made by companies

Risk free rate of return


Our survey results reveal a strong preference on the part of
practitioners for long term bond yields.
Many corporations said they matched the term of risk free
rate to the tenor of the investment.
Of both corporations and financial advisers, 70% use
treasury bond yield and only 4% of the corporations use the
treasury bill yield.

Beta Estimates
Finance theory calls for a forward-looking beta, one
reflecting investors uncertainty about the future cash
flows to equity.

Rit = i + i (Rmt)
where:
Rit = Return on stock I in time period
Rmt = Return on the market portfolio in period t
i = Regression constant for stock I
i = Beta for stock i

Beta Estimates
Compromises underlying beta estimates and their effect on estimated betas
Of sample companies
Bloomberg
Value Line
Standard and
Poors
Number of
observations
Time interval
Market index
proxy
Sample mean
beta
Sample median
beta

102

260

60

Weekly over 2
years
S&P 500
1.03
1.00

Weekly over 5
years
NYSE composite
1.24
1.20

Monthly over 5
years
S&P 500
1.18
1.21

Over half of the corporations in our sample rely on published sources for their beta
estimates. Among financial advisers, 40% rely on published sources, 20% calculated
their own, and another 40% use what might be called fundamental beta estimates

Equity Market Risk Premium


Finance theory says the equity market risk premium should
equal the excess return expected by investors on the market
portfolio relative to riskless assets.
Where respondents chiefly differed was in their use of
arithmetic versus geometric average historical equity
returns.
Arithmetic mean return is the simple average of past returns.
The geometric mean return is the internal rate of return
between a single outlay and one or more future receipts.

Equity Market Risk Premium


Of the texts and trade books survey, 71% support use of
the arithmetic mean return as the best surrogate for the
equity market risk premium.
Ernhardt (1994) recommends use the geometric mean
return. Copeland, Koller, and Murrin (1990): We believe
that the geometric average represents a better estimate of
investors expected returns over long period of time

IV. The Impact of Various


Assumptions For Using CAPM
The resulting ranges of estimated WACCs for two
firms under various combinations of beta, risk free
rate, and risk premium :

The range from minimum to maximum is large


for both firms, and the economic impact is
potentially stunning.

V. Risk Adjustment To WACC


Financial Theory : A firms overall WACC is a suitable
benchmark for a firms average risk investments.

The fact :
Earlier studies ( summarized in Gitman And Mercio
(
1982 )) reported that between a half of firms surveyed
did not adjust for risk differences among capital project
When asked about risk adjustment, these firms
responded as follows :

We make these adjustment in cash flow


rather than in discount rates
Risk factor may be different for realization of
synergies, but we make adjustment to cash
flow rather than the discount rates

Why do practitioners risk-adjust discount rates in one


case and work with cash-flow adjustment in another ?
Our interpretation is that risk-adjusted discount rates are more
likely used when the analyst can establish relatively objective
financial market benchmark for what rate adjustment should be
Sometimes when the analyst is lack of good market analog, the
analyst is forced to rely more on internal focus
The conclusion : Practical implementation of risk adjusted
discount rates thus appear to depend on the ability to find
traded financial assets that are comparable in risk to the cash
flow being valued and then to have financial data on these
traded asset.

VI. Conclusions
The survey revealed broad acceptance of the WACC as the basis
for setting discount rates.
In summary, we believe that the following elements represent best
current practice in the estimation of WACC :
Weight should be based on market-value mixes of debt and
equity
The after-tax cost of debt should be estimated from marginal
pretax costs, combined with marginal tax rates
CAPM is currently the preferred model for estimating the cost of
equity
Betas are drawn substantially from published sources

Risk-free rate should match the tenor of the cash


flow being valued
Choice of an equity market risk premium is the
subject of considerable controversy both as to its
value and method of estimation
Monitoring for changes in WACC should be keyed to
major changes in financial market conditions, but
should be done at least annually
WACC should be risk adjusted to reflect substantive
differences among different business in a
corporation

Nike Inc.
Cost of capital

Background
Pada bulan Juli 2001 , Kimi Ford seorang manajer portofolio
dari North Point Group berencana untuk membeli saham
Nike yang merupakan manufaktur sepatu olahraga .
Harga Saham Nike sedang turun secara signifikan sejak
awal tahun dan Kimi berencana untuk menambah jumlah
saham dalam pengelolaanya yaitu NorthPoint Large-Cap
Fund , yang telah berinvestasi di 500 perusahaan besar
seperti ExxonMobil,GM,Mcdonald,dsb .

Performa NorthPoint Large-Cap Sangat bagus di tahun 2000


yaitu mendapat return 20,7% saat return S&P 500 turun
10.1%.

Pada tanggal 28 juni 2001 , Nike mengadakan meeting


untuk membahas kinerjanya di tahun 2001 yang dirasa
kurang maksimal yaitu :
Sejak tahun 1997 revenue nike tetap berkutat di kisaran
$9 Billion .
Net income yang menurun dari $800 million di tahun
1997 menjadi $580 million di tahun 2001 .
Market Share Nike yang menurun dari 48% di tahun
1997 menjadi 42% di tahun 2000.

Rencana kebijakan Manajemen yang diambil oleh Nike


yaitu :
Untuk meningkatkan Revenue Nike berencana
mengembangkan sepatu olahraga di midpriced segment
(segmen tengah).
Nike berencana untuk mendorong produk Pakaian
(apparel) karena dirasa mampu bersaing di pasar.
Nike akan mengusahakan cost control yang lebih efisien
dari tahun ke tahun.
Nike merencanakan Long Term Revenue Target
sebesar 8-10% dan Earning Growth target Sebesar 15%

Reaksi Analis terhadap kebijakan tersebut berbeda-beda :


Lehman Brothers pada saat itu merekomendasikan Strong
Buy.
CSFB dan UBS Warburg merekomendasikan Hold.
Kimi kemudian menghitung DCF forecast dan menemukan
kesimpulan bahwa dengan Discount Rate 12% maka harga
saham Nike pada saat itu ($42.09) adalah Overvalued dan
jika Discount Rate dibawah 11.2% maka harganya
Undervalued.
Maka dari itu kimi meminta Joanna Cohen untuk
mengestimasi Cost of Capital dari Nike .

Consolidated Income Statement


Income Statement

1995

1996

1997

1998

1999

2000

2001

Revenues

4,760.8 6,470.6 9,186.5 9,553.1 8,776.9 8,995.1 9,488.8

COGS

2,865.3 3,906.7 5,503.0 6,065.5 5,493.5 5,403.8 5,784.9

Gross Profit

1,895.5 2,563.9 3,683.5 3,487.6 3,283.4 3,591.3 3,703.9

Selling and Admin

1,209.8 1,588.6 2,303.7 2,623.8 2,426.6 2,606.4 2,689.7

Operating Income

685.7

975.3

1,379.8 863.8

856.8

984.9

1,014.2

Interest Expense

24.2

39.5

52.3

60.0

44.1

45.0

58.7

Other Exp.
Restructuring
Charge,net

11.7

36.7

32.3

20.9

21.5

23.2

34.1

129.9

45.1

(2.5)

Income before Taxes 649.8

899.1

1,295.2 653.0

746.1

919.2

921.4

Income Taxes

250.2

345.9

499.4

253.4

294.7

340.1

331.7

Net Income

399.6

553.2

795.8

399.6

451.4

579.1

589.7

Growth & Margins


Growth(%)

1996

1997

1998 1999 2000 2001

Revenue

35.9

42.0

4.0

Operating Income

42.2

41.5

Net Income

38.4

43.9

Margin(%)

1996

1997

(8.1)

2.5

5.5

(37.4) (0.8)

15.0

3.0

(49.8) 13.0

28.3

1.8

1998 1999 2000 2001

Gross Margin

39.6

40.1

36.5

37.4

39.9

39.0

Operating Margin

15.1

15.0

9.0

9.8

10.9

10.7

Net Margin
Tax Rate
(Statutory+State)

8.5

8.7

4.2

5.1

6.4

6.2

38.8

39.5

37.0

36.0

38.5

38.6

Assumptions (%)

2002

Assumptions & DCF Analysis

2003

2004

2005

2006

2007

2008

2009

2010

2011

Rev. Grwoth

7.0

6.5

6.5

6.5

6.0

6.0

6.0

6.0

6.0

6.0

COGS/Sales

60.0

60.0

59.5

59.5

59.0

59.0

58.5

58.5

58.0

58.0

S&A/Sales

28.0

27.5

27.0

26.5

26.0

25.5

25.0

25.0

25.0

25.0

Tax Rate

38.0

38.0

38.0

38.0

38.0

38.0

38.0

38.0

38.0

38.0

CA/Sales

38.0

38.0

38.0

38.0

38.0

38.0

38.0

38.0

38.0

38.0

CL/Sales
11.5
11.5
11.5
11.5
11.5
11.5
11.5
11.5
11.5
11.5
Discounted Cash
Flow

Operating
Income
1,218.4 1,351.6 1,554.6 1,717.0 1,950.0 2,135.9 2,410.2 2,554.8 2,790.1 2,957.5
Taxes

463.0

NOPAT

1,064.5 1,209.0 1,324.2 1,494.3 1,584.0 1,729.9


755.40 838.00 963.80 0
0
0
0
0
0
1,833.60

CAPEX,net of dep Change In NWC


FCF
Terminal Value

8.8

513.6

590.8

652.5

741.0

811.7

915.9

970.8

1,060.2 1,123.9

(174.9) (186.3) (198.4) (195.0) (206.7) (219.1) (232.3) (246.2) (261.0)

1,014.0 1,117.5 1,275.2 1,351.7 1,483.7


764.20 663.10 777.50 866.10 0
0
0
0
0
1,572.60

Enterprise Value
Current Outstanding
Debt

11,415.54

Equity Value
Current Shares
Outstanding

10,118.94

8%

271.5
$
37.27

8.50%

Equity Value PerShare


Current Share Price

1296.6

$
42.09

Sensitivity
Discount
Rate

9%
9.50%
10%
10.50%
11%
11.17%
11.50%
12%

Equity
Value
$
75.80
$
67.85
$
61.25
$
55.68
$
50.92
$
46.81
$
43.22
$
42.09
$
40.07
$
37.27

Consolidated Balance Sheet


Balance Sheet , May 31
Assets

2000

Current Assets :
Cash

2001

2000

Liabilities & Equity

254.3

Balance Sheet , May 31

304.0

Curent Liabilities :
Current Long-term Debt

2001

50.1

5.4

Acc Recievable

1,569.4 1,621.4

Notes Payable

924.2

855.3

Inventories

1,446.0 1,424.1

Acc Payable

543.8

432.0

621.9

472.0

21.9

Deffered Income Taxes

111.5

113.3

Accrued Liabilities

Prepaid Exp

215.2

162.5

Income Tax Payable

Total Current Asset


3,596.4 3,625.3
Property,Plant,Equipmen
t
1,583.4 1,618.8
Intangible
Asset&Goodwill
410.9
397.3

Total Current Liabilities

Deffered Income Taxes


Total Assets

266.2

178.2

5,856.9 5,819.6

2,140.0 1,786.6

Long Term Debt

470.3

435.9

Deffered Income Taxes

110.3

102.2

Redeemable Pref Stock

0.3

0.3

Total Liabilities

2,720.9 2,325.0

Financial Information
Historical Equity
Risk Premium
(1926-2000)

Current Yield on US
Treasuries
3 Month

3.59%

Gemotric Mean

5.90%

6 Month

3.59%

Arithamtic Mean

7.50%

1 Year

3.59%

5 Year

4.88%

Current Yield on
Nike Debt

Maturity

Semi
6.75%Annual
7/15/1
996
7/15/2
021

Current Price

$ 95.6

10 Year

5.39%

Coupon

20 Year

5.74%

Issued

Nike Average
Historic Betas
1996-2000

0.8

Joanna Cohens Analysis


A. Single atau Multiple Cost of Capital ?
Cohen menggunakan Single Cost of Capital karena dia berasumsi meskipun
Nike memproduksi beraneka ragam produk seperti Sepatu, Pakaian , Bola ,
Kacamata , Aksesoris , dan Perlengkapan Olahraga lainya tetapi sebagian
besar adalah Bisnis dalam bidang Olahraga dan produksi yang diluar
olahraga hanya menyumbang revenue yang kecil . Dan Juga distribusi dan
Marketingnya tetap berada pada satu Channel.

B. Methodology Perhitungan Weight


Capital Sources
Debt
Current Long-Term Debt
Notes Payable
Long Term Debt
Total Debt
Equity
Total Capital

Book
Values

5.4
855.3
435.9
1296.6
3494.5
4791.1

27%
73%

C. Cost of Debt
Cohen menggunakan Cost of Debt dengan perhitungan interest
expense / average debt balance sehingga menghasilkan Cost of Debt
sebesar 4.3%

D. Cost of Equity
CAPM = RF + B *RPM
= 5.74% + 0.8 * 5.9%
= 10.5%

E. WACC

WACC = Kd (1-t) * Wd + Ke * We
= 4.3 * (1-38%) * 27% + 10.5% * 73%
= 8.4%

Nike Share Price


Price

99.03
90.69

86.6 86.79
81.1

81
75.75
68.46
56.24

55.02
41.99

53.65

53.49

64.24
58.29

66.07 67.55
59.61
51

51.78

44.47

368923704337226374083759137773379563813938322385043868738869390523923439417396003978339965401484033040483


Total Revenue

Groups Analysis 2010

2010
2009
2008
2007
2006
19,014.0 19,176.1 18,627.0 16,325.9 14,954.9
0
0
0
0
0
10,213.6 10,571.7 10,239.6
0
0
0
9,165.40 8,367.90
8,800.40 8,604.40 8,387.40 7,160.50 6,587.00

Cost of Revenue, Total


Gross Profit

Selling/General/Administrative Expenses,
Total
6,326.40
Research & Development
0
Depreciation/Amortization
0
Interest Expense (Income), Net Operating
0
Unusual Expense (Income)
0
Other Operating Expenses, Total
-12.8
Operating Income
2,516.90

Interest Income (Expense), Net Non-Operating


0
Gain (Loss) on Sale of Assets
0
Other, Net
0
Income Before Tax
2,516.90

Income Tax - Total


610.2
Income After Tax
1,906.70

Minority Interest
0
Equity In Affiliates
0
U.S. GAAP Adjustment
0
Net Income Before Extra. Items
1,906.70

Total Extraordinary Items


0

6,149.60
0
0
0
596.3
-48.3
1,956.50

0
0
0
1,956.50

469.8
1,486.70

0
0
0
1,486.70

5,953.70
0
0
0
0
46.6
2,502.90

0
0
0
2,502.90

619.5
1,883.40

0
0
0
1,883.40

5,028.70
0
0
0
0
48.8
2,199.90

0
0
0
2,199.90

708.4
1,491.50

0
0
0
1,491.50

4,477.80
0
0
0
0
54.9
2,141.60

0
0
0
2,141.60

749.6
1,392.00

0
0
0
1,392.00

Assets
2010

2009

2008

2007

2006

Cash and Short Term Investments


Cash & Equivalents
Short Term Investments

5,145.90
3,079.10
2,066.80

3,455.10
2,291.10
1,164.00

2,776.10
2,133.90
642.2

2,847.00
1,856.70
990.3

2,303.00
954.2
1,348.80

Total Receivables, Net

2,649.80

2,883.90

2,795.30

2,494.70

2,382.90

Accounts Receivable - Trade, Net


Accounts Receivable - Trade,
Gross

2,649.80

2,883.90

2,795.30

2,494.70

2,382.90

2,766.50

2,994.70

2,873.70

2,566.20

2,450.50

Provision for Doubtful Accounts


Total Inventory
Prepaid Expenses
Other Current Assets, Total
Total Current Assets
Property/Plant/Equipment, Total Net
Goodwill, Net
Intangibles, Net
Long Term Investments

-116.7
2,040.80
873.9
248.8
10,959.20

-110.8
2,357.00
765.6
272.4
9,734.00

-78.4
2,438.40
602.3
227.2
8,839.30

-71.5
2,121.90
393.2
219.7
8,076.50

-67.6
2,076.70
380.1
203.3
7,346.00

1,931.90
187.6
467
0

1,957.70
193.5
467.4
0

1,891.10
448.8
743.1
0

1,678.30
130.8
409.9
0

1,657.70
130.8
405.5
0

Note Receivable - Long Term


Other Long Term Assets, Total
Other Assets, Total
Total Assets

873.6
897
520.4
392.8
0
0
0
0
14,419.30 13,249.60 12,442.70 10,688.30

329.6
0
9,869.60

Liabilities and Shareholders' Equity

2010

2009

2008

2007

2006

1,254.50
0
1,610.10

1,031.90
0
1,593.60

1,287.60
0
1,089.30

1,040.30
0
876.9

952.2
0
968.8

138.6

342.9

177.7

100.8

43.4

7.4

32

6.3

30.5

255.3

353.6

276.6

760.6

535.5

392.7

Total Current Liabilities

Total Long Term Debt


Long Term Debt
Deferred Income Tax

3,364.20

445.8
445.8
855.3

3,277.00

437.2
437.2
842

3,321.50

441.1
441.1
854.5

2,584.00

409.9
409.9
668.7

2,612.40

410.7
410.7
561

Minority Interest
Other Liabilities, Total
Total Liabilities

0
0
4,665.30

0
0
4,556.20

0
0
4,617.10

0
0
3,662.60

0
0
3,584.10

0.3

0.3

0.3

0.3

0.3

0
2.8
3,440.60

0
2.8
2,871.40

0
2.8
2,497.80

0
2.8
1,960.00

0
2.8
1,447.30

6,095.50
214.8
9,754.00

5,451.40
367.5
8,693.40

5,073.30
251.4
7,825.60

4,885.20
177.4
7,025.70

4,713.40
121.7
6,285.50

14,419.30

13,249.60

12,442.70

10,688.30

9,869.60

Accounts Payable
Payable/Accrued
Accrued Expenses
Notes Payable/Short Term Debt
Current Port. of LT Debt/Capital Leases
Other Current Liabilities, Total

Redeemable Preferred Stock


Preferred Stock - Non Redeemable, Net
Common Stock
Additional Paid-In Capital
Retained Earnings (Accumulated
Deficit)
Other Equity, Total
Total Equity
Total Liabilities & Shareholders
Equity

Cost of Capital
A. Methodology Perhitungan Weight
Capital Sources
Debt :
Current Long-term Debt

BV

7.40

Notes Payable

138.6

Long Term Debt

445.8

B. Cost ofEquity
Debt

591.80
9,754.0
0
10,345.
80

YTM ValuationTotal Capital


Bond Price 95.6 , n=40 , coup = 6.75%/2
YTM = 3.58*2 = 7.16%

5.7%
94.3%

C. Cost of Equity
CAPM = RF + B *RPM
= 4.12% + 0.96 * (7.5%-4.12%)
= 7.3648%

D. WACC/Cost of Capital
WACC = Kd (1-t) * Wd + Ke * We
= 7.16% * (1-38%) * 5.7% + 7.36% * 94.3%
= 7.19%

Nikes Stock Value


Operating Income
Taxes (38%)
NOPAT
CAPEX
Change in NWC
FCF

2010
2,516.90
956.422
1,560.48
-49.2
1138
471.68

Enterprise Value (6%)

43101.61

Debt
Equity Value
Shares Outstanding
Stock Value

Enterprise Value (6.25%)


Debt
Equity Value

2009
1,956.50
743.47
1,213.03
443.2
939.2
-169.37

2008
2,502.90
951.102
1,551.80
340.4
25.3
1,186.10

2007
2,199.90
835.962
1,363.94
83.8
758.9
521.24

Current
Price

$81.1

591.8
42509.81
484
$87.83019

55072.29
591.8
54480.49

2006
2,141.60
813.808
1,327.79