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Marriott Corporation: the Cost of Capital

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1) What is the WACC for Marriott Corporation? What type of investments would you value using Marriott’s WACC? (Note: the WACC formula is on page 398 of the textbook. You might want to answer these questions on your way to WACC:

a. What risk-free rate and risk premium did you use to calculate the cost of equity?
The risk free rate used was a weighted average of the short-term treasury bills and long-term bond rates found in Exhibit 4. Using a weighted average based off the amount of revenue for each of the three divisions, long-term bond rate of 4.58% was used for the lodging, while the short-term Treasury bill rate of 3.54% was used for the contract services and restaurants. For the risk premium, a similar approach was used, using a weighted average from the spread rates found in Exhibit 5. The risk-free rate ended up with a blended average of 3.97% and a risk premium of 8.04%.

b. How did you measure Marriott’s cost of debt?

After calculating the risk-free rate and premium for Marriott as a whole, the beta of 1.11 found in exhibit 3 was used to calculate the cost of equity, which was calculated to be 12.89%. The cost of debt was then calculated by determining the proper government rate and debt rate premium. For the government rate, a weighted blended average was again used. The 30-year government interest rate was used for the lodging division, while an estimate of 7.5% (rate in between the 1-year and 10-year rate) was used for the contract services and restaurant division. This resulted in a government interest rate of 8.09%. Taking into account the debt rate premium of 1.30%, the cost of debt was calculated to be 9.39%.
With the equity and debt cost of capital calculated, the only variables left to calculate the WACC are the value of equity, value of debt, and corporate tax rate. The value of equity and debt was easily ascertained from the figures

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