Marriot Case

General speaking, WACC is the rate that a company’s shareholders expect to be paid on average to finance its assets, and it is the overall required return on the firm as a whole. Therefore, company directors often use WACC to determine whether a financial decision is feasible or not. In this case, I will choose 9.38% as discount rate. The reason why I choose 9.38% as discount rate is because the estimated Debt/Equity is 26% under the assumptions by CFO Sheila Dowling, which is most close to 25% of Debt/Equity from the projected WACC schedule. There might be some flaws existing by using WACC as discount rate. As we know, the cost of debt would be raised significantly as the leverage increased. The investment will definitely increase the firm’s current debt. So, the cost of debt would not keep at 7.75%.

I do not think it is proper. Since hurdle rate is the key factor to determine whether we should accept a project, it is concerned with a specific investment opportunity belonging to a division. As we can see in Table 1, each of Midland`s divisions had its own target debt ratio. Those

This view implies that a single hurdle rate may deprive an under profitable division of investments in order to channel more funds into a more profitable division. While this is sound logic, certain situation exist where projects will go unfunded that do create value to the company.

Midland should not rely on a single corporate hurdle rate for evaluating investment opportunities across all divisions because each division is subject to fundamentally different forces such as political volatility, and high future expenditures. For example, R&E is expected to have capital expenditures in excess of $8 billion over the years 2007 and 2008 while worldwide refining capabilities are expected to decrease leading to possible investments in this division of Midland. The Exploration and Production division faces an entirely different set of challenges as oil reserves become more difficult to reach as in the case of arctic and deep water drilling operations, and consequently more expensive to exploit. In addition, political instability has become increasingly prevalent in investment considerations as oil production in areas such as the Middle East and Africa have grown. Civil and political upheaval in these regions threatens disruption of oil production and lead to greater volatility of prices (pg.2).

The table below shows the equity betas for the firms presented in the case (using Jan-92 to Dec-96 equal weight NYSE/AMEX/NASDAQ as market portfolio):

b) The decision to invest in projects increases the shareholders value of the company. This is consistent with the growth and from the NPV criteria, positive NPV of projects increases the shareholder's value.

A correct response requires that you find an appropriate industry beta and measure for levered/unlevered betas and requires that you define cost of equity capital and free cash flow (FCF) – you may need a formula for FCF.

Marriott is renowned for its elegant and comfortable hotels and resorts. The company caters to a targeted customer base, ranging from the frequent corporate business traveler to the family enjoying their occasional weekend get-away. Marriott has continued its rise in the lodging, contract services, and restaurant industries. The company continuously strives to meet the needs and wants of its customers while strategically maneuvering the rigors of today’s competitive and ever-evolving market of glamorous destinations and convenient services. In order to remain relevant in a highly-competitive environment, Marriott must strike that successful balance of minimizing costs, and gaining and effectively

Hurdle rates, the weighted cost of capital that projected cash flows must exceed for initiatives to be considered, vary within Marriott Corporations due to their unique industry risk levels and capital structures. They use this number to determine which projects to accept, to adjust the rate at which the firm grows and as a measure for compensation within each business area, and as incentive compensation.

Cost of Equity = Risk free rate + (Market return – risk free rate) X beta

Once the prevailing WACC rate was found, the target WACC was calculated to be 9.00%. Again the CAPM model was used but a new the required rate of return on equity needed to be calculated. Since there is a change in the capital structure an unlevered beta needed to be determined. The Hamada equation was used to unlever the beta, which had a debt to equity ratio of .70, then to re-lever it again with a debt to equity ratio of 1.5; this changed the beta from

Our WACC is almost constantly these years – around 5.50% -- via from 5.04% to 5.82%. We also use the scenario analysis for how the WACC and growth rate affect enterprise value and equity value.

To better explain this in terms of risk, additionally in a visual format, we can look at a graph that uses the same style of calculated risk analysis (see Figure 13.4 in Chapter 13 on p. 439) but adjusted to consider hurdles rates (See Figure 1). It shows us how the percentage of the hurdle rate factors into risk and rate of return within capital markets for capital investments.

Projected Rate of Investment is a metric used to evaluate the efficiency of an investment. It is also used to compare the efficiency of a number of different investments. It measures the amount of return on an investment relative to the investment’s cost. It is important because it is the most common profitability ratio. Because ROI is measured as a percentage, it can be easily compared with returns from other investments, allowing one to measure a variety of types of investments against one another.

When first looking at potential projects to pursue, we always prioritize determining which correct financial information to use when determining our project’s β (beta)(OR METRICS). When calculating the project beta we first determined our firm's levered beta. When comparing the monthly return data of Smitt corporation's stock over the past five years to the S&P 500 over the same time period, we are given a levered beta of 1.131.The next step is to remove our debt considerations from the thought process, which means calculating the unlevered beta. Using the previous five years of tax rates and debt/equity ratios, we were able to find the average sensitivity(OR beta) of all monthly returns to be .877.