Marriott Corporation: the Cost of Capital

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Marriott Corporation: The Cost of Capital Introduction Dan Cohrs of Marriott Corporation has the important task of determining correct hurdle rates for the entire corporation as well as each individual business segment. These rates are instrumental in determining which future projects to pursue and thus fundamentally important for Marriott’s growth trajectory. This case analysis seeks to examine Marriott’s financial strategy in comparison with its growth goals as well as evaluate a detailed breakdown of Marriott’s cost of capital – both divisionally and as a whole. Financial Strategy and Growth Marriot’s current financial strategy is in line with its overall goal of steady growth. By building and then promptly selling their hotels…show more content…
Assuming that Marriott’s unlevered beta can be calculated as a weighted average of its divisions’ betas based on identifiable assets, we can find Contract Services unlevered beta by solving: Using some algebra, this yields an unlevered beta of 1.55 for Contract Services. Relevering with the 2/3 desired debt-to-equity ratio yields a levered beta of 2.13. This time, we use the 1-day risk-free rate due to the even shorter lifespan of contracts. Cost of Capital – Marriott as a Whole There are several ways to approach Marriott’s cost of capital as an entire firm. One way is to use CAPM to find its cost of equity, long-term interest rates for the cost of debt, and weigh according to its capital structure to find WACC. Under this method, we lever the previously found firm-wide βU of .79 to the desired 3/2 debt-to-equity ratio to find a cost of equity of 17.12%. Next, we apply the CAPM using the 10-year Treasury for 1987 Assets % of total βunlev ered Lodging 2777.4 60.6 % 0.47 Contract Services 1237.7 27.0 % Restaurants 567.6 12.4 % 0.68 Total 4582.7 100.0 % Contract Services Rf 6.90 % Market Premium 7.92 % βunlev ered 1.550 Target Debt % 40 % βlev ered 2.131 Cost of Equity 23.78 % Cost of Debt 8.30 % WACC 16.12 % the risk-free rate and the one-year arithmetic return for 1987. We use the arithmetic rather than geometric since CAPM is a one-period model. For Marriott’s cost of debt, we add the
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