Ask Question, Ask an Expert

+1-415-315-9853

info@mywordsolution.com

Ask Basic Finance Expert

In April 1988, the vice president of project finance at the Hilton Corporation , Christopher Nassetta, was preparing recommendations for discount rates that should be used to evaluate each of the firm's three divisions. Hilton had three major lines of business: lodging (61% of total assets), contract services (27%), and restaurants (12%). The target leverage ratio is 74% for lodging, 40% for contract services, and 42% for restaurants. The target leverage ratio for the Hilton Corporation is 60%. Hilton's existing leverage ratio is 41%. Hilton's beta, find outd using daily returns from 1986 and 1987, was 0.97.

Hilton's current debts are high-quality. Therefore there is only a small spread above the current government bond rates. But since each division has its own risk, each division pays a different premium above government bonds rates. The spreads for Hilton as a whole and for each of the three divisions (lodging, contract services, and restaurants) respectively are: 1.3%, 1.1%, 1.4% and 1.8%. Note that Hilton uses long-term debt for its lodging business (since lodging assets such as hotels had long asset lives) and shorter-term debt for its restaurant and contract services division.

The government interest rates in April 1988 were 8.95% for a 30-year bond and 8.72% for a 10-year bond. The historical market risk premium measured by the difference between S&P 500 and long-term government bond is 7.43%. There are some comparable companies in the lodging and restaurant businesses that have similar business risks as the divisions of Hilton. Dan found that the equity beta of Marriott Hotels and that of Holiday Corp are respectively .88 and 1.46. The market leverage of Marriott and that of Holiday are respectively 14% and 79%. The two companies have similar market capitalizations. There are two restaurant chains that operate similarly to Hilton's restaurant division: McDonald's and Wendy's. The equity betas of the two restaurants are respectively: 1 and 1.08. The market leverages of the two restaurants are: 23% and 21%. McDonalds' market share is about four times of Wendy's. Currently Hilton's marginal tax rate is 34%.

problems:

1. What is the overall weighted cost of capital for the Hilton Corporation?

A. What risk-free rate did you use to find out the cost of equity?

B. Be careful to distinguish between actual debt/value ratios and target debt/value ratios, and decide which one to use in the weight cost of capital calculations. Be careful to lever or unlever your equity beta appropriately.

(To keep it simple, ignore debt and taxes for the purpose of levering and unlevering beta. Use the formula: Beta Assets = ( (Equity) / (Debt + Equity) x Beta Equity)

2. What is the cost of capital for the lodging and restaurant divisions of Hilton?

A. What risk-free rate did you use in calculating the cost of equity for each division?

B. How did you measure the beta of each division?

3. What is the cost of capital for Hilton's contract services division? How can you estimate its equity costs without publicly traded comparable companies?

4. If Hilton used a single single corporate hurdle rate for evaluating investment opportunities in each of its lines of business, what would happen to the company over time?

Basic Finance, Finance

  • Category:- Basic Finance
  • Reference No.:- M927164

Have any Question? 


Related Questions in Basic Finance

Speculation with futurestoday the gross price of a 10-year

Speculation with Futures Today, the gross price of a 10-year bond with $1,000 principal amount is 116.277. At the same moment, the price of the 10-year futures contract which expires in two months is 98.03. Its nominal a ...

Text book broker responsibility edition 20chapter 1are

Text Book: "Broker Responsibility" Edition 2.0 Chapter 1 Are there any violations of the Act or TREC rules if the rebate was not paid to avoid violation of RESPA? Chapter 2 1. What are the best methods to communicate lim ...

Company preferred stock has a 5 coupon based on a par value

Company preferred stock has a 5% coupon based on a par value of $60 a share. Currently, investors require a 4% return. What is the value of the companies stock?

In order to obtain a sample of voters in pennsylvania a

In order to obtain a sample of voters in Pennsylvania, a simple random sample of 10 counties is selected. From each of the selected counties, 10 precincts are chosen at random. Finally, from each of these 100 precincts , ...

Question how many months it will take to grow your money

Question: How many months it will take to grow your money from $10,250 to $25,000 if you can earn an interest of 8% compounded monthly? How many years will it take? Please show work.

In calculation of a payback period what use is made of cash

In calculation of a payback period, what use is made of cash flows occurring after the end of the payback period?

The past five monthly returns for kohls are 386 percent 442

The past five monthly returns for Kohl's are 3.86 percent, 4.42 percent, -2.00 percent, 9.41 percent, and -2.88 percent. Compute the standard deviation of Kohls' monthly returns. (Do not round intermediate calculations a ...

What is moral hazard why does deposit insurance inherently

What is moral hazard? Why does deposit insurance inherently involve moral hazard? What factors contribute to moral hazard on the internatinal level?

Assignment time value of moneywhen the genesis energy and

Assignment: Time Value of Money When the Genesis Energy and Sensible Essential teams held their weekly meeting, the time value of money and its applicability yielded an extremely stimulating discussion. However, most of ...

The cost of equity for rj corporation is 84 percent and the

The cost of equity for RJ corporation is 8.4 percent and the debt equity ratio is .6. The expected return on the market is 10.4 percent and the risk-free rate 3.8 percent. using the common assumption for the debt beta, w ...

  • 4,153,160 Questions Asked
  • 13,132 Experts
  • 2,558,936 Questions Answered

Ask Experts for help!!

Looking for Assignment Help?

Start excelling in your Courses, Get help with Assignment

Write us your full requirement for evaluation and you will receive response within 20 minutes turnaround time.

Ask Now Help with Problems, Get a Best Answer

A cola-dispensing machine is set to dispense 9 ounces of

A cola-dispensing machine is set to dispense 9 ounces of cola per cup, with a standard deviation of 1.0 ounce. The manuf

What is marketingbullwhat is marketing think back to your

What is Marketing? • "What is marketing"? Think back to your impressions before you started this class versus how you

Question -your client david smith runs a small it

QUESTION - Your client, David Smith runs a small IT consulting business specialising in computer software and techno

Inspection of a random sample of 22 aircraft showed that 15

Inspection of a random sample of 22 aircraft showed that 15 needed repairs to fix a wiring problem that might compromise

Effective hrmquestionhow can an effective hrm system help

Effective HRM Question How can an effective HRM system help facilitate the achievement of an organization's strate