This document discusses the cost of capital analysis for Nike Inc. performed by Joanna Cohen, a portfolio manager at North Point Fund. It finds issues with Cohen's calculation of cost of debt and equity. Recalculating using proper methods, it determines the WACC is 9.27%, indicating Nike shares are undervalued at the current price. It recommends North Point Fund buy Nike shares based on the valuation and growth opportunities for Nike.

1. NIKE Inc Cost Of Capital
Debasis Chakraborty
EMBA 2014
4/21/2013 1
IBS EMBA 2014 Debasis Chakraborty

2. Agenda
Executive Summary
Background
Problem
SWOT Analysis
General Capital Review
Cost Of Debt
Cost Of Equity
Investment Appraisal
WACC
Recommendation and Conclusion
4/21/2013 2IBS EMBA 2014 Debasis Chakraborty

3. Executive Summary
Nike is one the world leading brand in shoes was facing a tremendous
challenge during the period 1997-2001, as its revenue and market share has
been declined with a alarming figure. Nike has opportunity to regain in the
market to offer new product line and cost reduction.
And on the other hand North Point Fund, world leading Mutual Fund
Management firm ,who is doing extremely well in the market, is considering to
buy NIKE share.
 KIM ford , the Portfolio Manager at “North Point Fund” is responsible to
produce the Financial decision to her executive board, whether BUY out NIKE
share is profitable Option or NOT.
4/21/2013 3IBS EMBA 2014 Debasis Chakraborty

4. Background
Year Financial Factors Statistics
1997-2000 Net Income, Market Share
1997-2000 Revenue and Earning Growth
Million Dollar Question to Investor
 Investment is worthwhile ?
 Should North Point Corp invest ?
4/21/2013 4IBS EMBA 2014 Debasis Chakraborty

5. Background Of Nike And North-Point
Nike North-Point
Athletic Shoe Manufacture Mutual Fund Management Firm
Revenue is $9 billion from 1997 Invested on fortune 500
Net Income fallen from $800 Million to $580
Million
TOP holding share on GM, EM, McDonald , 3M
and other large cap
Market Share fall 48% (1997) to 42% (200) The stock Market is declined last 18 month
Management concern about Top line growth
and Operating performance
Fund performed extremely well
Long term revenue is targeted 8-10% In 2000 Fund Fund’s earned return is 20% Vs
S&P 500 falls 10%
Earning growth is targeted 15% At end of June 2001, fund’s year to date Returns
stood at 6.4% verses 7.3% for S&P 500
Adverse effect of strong dollar had negative
effected in revenue
4/21/2013 5IBS EMBA 2014 Debasis Chakraborty

6. Problem and Future Direction
Problem
Sales Growth
Net Profit
Market Share
Lehman Brothers recommended to Invest +
UBS Warburg / CSFB recommended NOT Invest -
Fundamental (DCF) value is higher than market value of Nike’s share ?
With the CASH Flow forecast Provided , the Main task is to estimate WACC ?
Future Direction
To be : Mid-price footwear
Expense
4/21/2013 6IBS EMBA 2014 Debasis Chakraborty

7. Analysis
KIM Ford, portfolio Manager of North Point Large Cap has computed the
CASH FLOW and her assistant Joanna Cohen is responsible to Calculate
the COC (Cost Of Capital )
Considering the fact, If
Discount Rate 12% == Stock Price is overvalued
Discount Rate 11.17% == Stock Price is undervalued
Cost Of Capital is very important for Cohen to calculate
“Cost Of Capital (COC) is Important To Capital Investor to take a
decision regarding to invest the capital with similar Risk Project “
4/21/2013 7IBS EMBA 2014 Debasis Chakraborty

8. Data Analysis : Net Margin
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8
Year SL No Net Margin
1996 1 8.7
1997 2 8.5
1998 3 4.2
1999 4 5.1
2000 5 6.4
2001 6 6.2
0 5 10
1
2
3
4
5
6
Net Margin
SL No
0
5
10
0 2 4 6 8
Net Margin
Net Margin
Net Margin = Net Profit / Sales

9. SWOT Analysis
Strength
No 1 Sports band in the world.
Global/ International band .
Strong at R&D and Innovation.
Strong at Marketing and Campaigning .
Manufactured high quality of goods with low cost.
Weakness
Most of the profit comes from shoe
Retail sector is very Price sensitive
No information of Partnership Model and current partnership details
Questionable to Factory heath and safety and working condition
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10. SWOT Analysis
Opportunities
Owners does not believe that it is Fashion band, but customer have different
opinion
To develop Sunglass , Sports wear and Jewelry
Increase Market Share in Asia (India & China) to reduce cost/price
Reduce the pollution from the Shoes Factory
Re-use the manufacturing Waste
Threats
Nike is exposed to International nature of Trade
Competition in the market for Sports shoes and Garment
Decline Market share in the US
Consumers looking for better deal
Experience many adverse publishing feedbacks due to widespread advertising
4/21/2013 10IBS EMBA 2014 Debasis Chakraborty

11. General Review
Perfect Capital Market Assumption
The dividend (Gordon Growth Model)
Limitation Of WACC
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12. The Capital Review & Assumption
Assumes that investor are well versified
It is one time Period mode for most investor
Project Stretch over a number of Year
Assumes the stock Maker is a Perfect Capital
Estimation of future Beta use historical data
CAPM does not correctly explain the Risk
4/21/2013 12IBS EMBA 2014 Debasis Chakraborty

13. The Golden Growth Model
The Accounting ratios that’s has calculated are assumed to be
constant over time and this is quite illogical in reality
The model uses accounting data can be manipulated to suit
Management Objective
The Model can be useful If the Company has no DEBT, which is
not practical in most of the cases
4/21/2013 13IBS EMBA 2014 Debasis Chakraborty
Earlier Capitalization Mode
Ke = EPS/P
Assumption EPS will be constant over the time

14. Limitation Of WACC
The proportion of debt and equity remain unchanged
The operating risk of the firm is unchanged
The Finance is not project specific
The WACC reflects the marginal Cost of the new capital
The WACC also reflects the Company’s long term future Capital
structure and capital Cost
4/21/2013 14IBS EMBA 2014 Debasis Chakraborty
“WACC is the minimum return required by a capital provider“
Set by the Investor and Market (NOT by the Manager)
It estimation of WACC will be our Objective

15. Cost Of Debt
Joanna Cohen has not been calculated the Cost Of Debt Properly
COD = IE (Interest Expected ) / Average Balance Of Debt (BOD)
= 4.3 %
Considering the fact
Coupon 6.75% paid semi-annually
Issued ( 15107/1996)
Maturity ( 15107/2021)
PV ( Current Price ) = $ 95.60
IRR = 3.587 ( Semi Annually ) ; = 7.16 Annually; Kd= 7.37 %
After TAX Cost Of Debt = 7.37 % (1-38%) = 4.44 %
4/21/2013 15IBS EMBA 2014 Debasis Chakraborty

16. Cost Of Equity
Joanna Cohen has used CAPM to estimate Cost Of Equity
COE = 5.74 + (5.9%)*80 = 10.5 %
Considering the fact
She has calculated Risk free rate from 20 Year T band
Cohen uses Average Beta from 1996 to June 2001 = 0.80
Cohen uses a Geometric mean to market Risk Premier = 5.9%
Comments
Risk Free Rate
T-band with 20 year maturity 5.74 is the longest rate available
Market Risk Premium
5.9% market risk premium are negatively serial correlated
Weighted Capital Component
 To calculate weight of Debt and Equity, she should use Market values,
but she has used Book Values
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17. Capital Asset Pricing Model (CAPM)
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18. Dividend Discounted Model (DDM/DGM)
D0= 0.48
g= 5.5%
Ke= D0(1+g)/(p+g)
=0.48*(1+5.5%) / (42.09)
=6.71%
<Kd = 7.3%
Assumption : Dividend over last 3 year at flat rate 0.49 %
4/21/2013 18IBS EMBA 2014 Debasis Chakraborty

19. Earning Capitalization Model (ECM)
Ke= EPS/P
= 2.32/42.09
= 5.51%
<Kd = <20 year , Rf= 5.74%
Assumption : EPS will be constant for average
4/21/2013 19IBS EMBA 2014 Debasis Chakraborty

20. WACC: Value of Equity and Value
of Debt
WE ( Value Of Equity ) = Number of Shares * Shares Price
= 42.09 * 271.5
= $ 11427.49
Where as in Cohen Model = $3494.5
WD ( Value Of Debt)
 D= Current LT + Note s Payable + LT
 Debt ( Discounted) = 5.4 + 855.30 + 416.72
= $1277.42
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“Single Cost of Capital Vs Multiple Cost Capital : It should be Single as
Estimated WACC is the value of Cash flow for the entire firm, provided by the Kimi “
Risk is same across the Nike

21. DCF Valuation : WACC
WACC) = 9.27 % [ Please find the calculation in excel]
COST OF EQUITY = 9.27 %
Equity Per Share = $58.13
Current share price = $42.09 is undervalued
Current growth rate (6-7%) is much lower than Market ( 8%
to 10%)
4/21/2013 21IBS EMBA 2014 Debasis Chakraborty

22. Conclusion
From the Earlier WACC, Valuation and Growth Opportunity analysis
“North Point should Invest On Nike and BUY Nike Share “
4/21/2013 22IBS EMBA 2014 Debasis Chakraborty