Case Analysis of Nike, Inc.: Cost of Capital (CON)

Cost of Equity

The cost of equity is comprised the cost of preferred stock and common stock. In this case, I am willing to focus on the cost of common stock because Nike did not pay any dividend after June 30, 2001(see Exhibit 4).

The cost of common stock is the return needed on the stock by shareholders in which investors discount the expected dividends of the firm to ascertain its share price. To perceive this definition, let me bring you an example:
Assume you want to invest on the stock of Nike, Inc. Your expected return is 12% for one year. The current share price is $42. Your benefit of the investment to purchase one share will be $5.04. If the company pay the dividend of $2.04 per share annually, the share value should increase to $45 in the next year to secure your benefit ($5.04). Therefore, the cost of equity is to cope with the risk of share price’s changes and the dividends paid by the company. There are two techniques to obtain the cost of equity as follows:

1) Capital Asset Pricing Model (CAPM)

As you know, the Capital Asset Pricing Model (CAMP) establishes a rational relationship between Non-Diversifiable risk and return of all assets due to all companies can eliminate or decrease Diversifiable risk by playing on the type and return of assets.
Here is the formula of CAPM:
Rs = Rf + [ b * (Rm – Rf)]
Where:

Rs: Cost of equity
Rf: Risk – free rate of return (commonly measured by the return on a U.S. Treasury bill)
Rm: market returns (return on the market portfolio of assets) b: beta coefficient or index of non- diversifiable risk for all assets of company
(Rm – Rf): market risk premium
Referring to above formula, we should find true data and assumptions for Rf, Rm, and beta (B).
At the first, we should consider FRICTO analysis (Flexibility, Risk, Income, Control, Timing and