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MARRIOTT Case Analysis

1. Marriott's financial strategy of managing rather than owning hotel assets makes expansion easier, though it risks contract expirations. Investing in projects to increase shareholder value stimulates growth but may force more risk-taking. Optimal use of debt balances growth with maintaining a high credit rating, but sometimes limits growth. Share repurchases could redirect cash from positive NPV projects, impeding growth. 2. Marriott appropriately uses its cost of capital estimate to discount cash flows by divisional hurdle rates, reflecting varying risk. However, incorporating it into compensation doesn't make sense as the rate reflects project not manager risk. 3. The assistant calculates Marriott's WACC as 8.

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Nikhil Malhotra
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279 views

MARRIOTT Case Analysis

1. Marriott's financial strategy of managing rather than owning hotel assets makes expansion easier, though it risks contract expirations. Investing in projects to increase shareholder value stimulates growth but may force more risk-taking. Optimal use of debt balances growth with maintaining a high credit rating, but sometimes limits growth. Share repurchases could redirect cash from positive NPV projects, impeding growth. 2. Marriott appropriately uses its cost of capital estimate to discount cash flows by divisional hurdle rates, reflecting varying risk. However, incorporating it into compensation doesn't make sense as the rate reflects project not manager risk. 3. The assistant calculates Marriott's WACC as 8.

Uploaded by

Nikhil Malhotra
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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MARRIOTT Case Analysis

1. Are the four components of Marriotts financial strategy consistent with its growth objective? Manage rather than own hotel assets Although this strategy has a risk of contract expiration it makes easier to expand. Invest in projects that increase shareholder value This component definitely stimulates growth, although may force management to take more risk. Optimize the use of debt in the capital structure The concept of optimal capital structure stands for the growth, nevertheless the techniques used by management sometimes limit it in favour for the higher rating. Repurchase undervalued shares In a number of cases this component may lead to directing the cash flows not in the projects with positive NPV, which may impede growth. 2. How does Marriott use its estimate of its cost of capital? Does this make sense? Marriott used (or considered to use) the estimate for the cost of capital in two ways: a) Discounted CFs from projects by the appropriate divisions hurdle rate to get NPV, which makes a lot of sense since the risk among divisions varies. b) Thought about incorporating hurdle rate in compensation policy this doesnt make much sense, because the rate reflects the risk of activities, not the performance of managers. 3. Compute the WACC of Marriott Corporation: a. What risk-free rate and the risk premium did you use to calculate the cost of equity? To be consistent with risk premium calculations I used the arithmetic average (best estimator) of historic LT US Government Bonds (4.58%) for the longest period because of the most precise estimate (unfortunately, ignoring possible structural change). As a risk premium I used the 7.43% (Spread between S&P Index and LT US Government Bonds), although its relatively high, my comparably low risk free rate will compensate for that. Then to calculate the cost of equity we need beta. As there are no good comparables that match the Marriots operational profile, I use historical beta with correction on target D/E ratio and reaching 1 in the long run. Beta = 1.17 ke=4.58%+1.17*7.43%=13.27% b. How did you measure Marriotts cost of debt? I added the premium, according to the rating of the company, to the current 10-years US government interest rate. I used this rate because it matches on average the companys profile. kd = 1.3% + 8.72% = 10.02% As the rating of the company is very high the probability of default is low and the difference between this estimated cost of debt and the actual one is expected to be low. So the WACC = 13.27%*0.4 + 10.02%*(1-0.42)*0.6 = 8.79496%

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