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Nike, Inc. Essay

1297 words - 5 pages

Case OverviewNike's share price had declined significantly from the start of the year. Since 1997, Nike's revenues had plateaued at around $9 billion, while net income had fallen from almost S800 million to $580 million. Nike's market share in U.S. athletic shoes had fallen from 48 percent in 1997 to 42 percent in 2000. In addition, recent supply-chain issues and the adverse effect of a strong dollar had negatively affected revenue.Management revealed plans to address both top-line growth and operating performance. To boost revenue, the company would develop more athletic-shoe products in the mid-priced segment that it had overlooked in recent years. Nike also planned to push its apparel line, which, under the recent leadership of industry veteran Mindy Grossman had performed extremely well. On the cost side, Nike would exert more effort on expense control. Finally, company executives reiterated their long-term revenue growth targets of 8-10 percent and earnings-growth targets of above 15 percent.Analysts' reactions were mixed. Some thought the financial targets too aggressive: others saw significant growth opportunities in apparel and in Nike's international businesses.Key IssuesNike was overvalued at its current share price of $42.09. Nike was under valued at discount rates below 9.4 percent. In order to build clear guidance to reveal their strategies, Joanna Cohen must estimate Nike's cost of capital. The problem is Joanna Cohen was mistaken in calculating the cost of debt using historical information. We must recalculating the cost of debt and determining WACC based on our calculation. We must turn to market yields to gauge the cost of debt.Cost of CapitalThe cost of capital acts as a link between the firm's long-term investment decisions and the wealth of the owners as determined by investors in the market place. It is the "magic number' that is used to decide whether a proposed investment will increase or decrease the firm's stock price. Formally the cost of capital is the rate of return that the firm must earn on the projects in which it invest to maintain the market value of its stockSome basic assumption in estimating cost of capital :* Business Risk -- the risk to the firm of being unable to cover operating costs, assumed to be unchanged. This means that the acceptance of a given project does not affect the firm's ability to meet operating costs.* Financial Risk -- the risk to the firm of being unable to cover required financial obligations -- is assumed to be unchanged. This means that the projects are financed in such a way that the firm's ability to meet financing costs is unchanged.* After-tax costs are considered relevant -- the cost of capital is measured on an after-tax basis.Investors will only invest money if they expect to earn enough to compensate them for:* The risk they are taking by making the investment,* Current capital market conditions such as inflation.Cost of Capital for Nike, Inc.Step in calculating cost of...

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