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

What is the relation between a companys operating risk and

What is the relation between a company's operating risk and its optimal capital structure? What is meant by the pecking order theory of capital structure? What are the implications of the Modigliani-Miller theory of capi ...

The yield on zero-coupon bonds are as followsus yen 1

The yield on zero-coupon bonds are as follows: U.S.$ % Yen % 1 year    3.00       5.00 2 years   3.50       6.00 A young investment banker considers issuing a bond for ¥100 million. The interest or coupon is paid on year ...

Choose an global industry and consider the following topics

Choose an global industry and consider the following topics: diversification, investment, management, exchange rates or currency forecasts. Which of these would be most significant to your selected industry and how would ...

1 in analyzing the data from an experiment why is it not

1. In analyzing the data from an experiment, why is it not sufficient simply to examine the condition means to see whether they differ? 2. Assuming that all confounds were eliminated, the means of the conditions in an ex ...

Finance1on a typical day park place clinic writes 1000 in

Finance 1. On a typical day, Park Place Clinic writes $1,000 in checks. It generally takes four days for those checks to clear. Each day the clinic typically receives $1,000 in checks that take three days to clear. What ...

A convertible bond is a bond that permits the holder to

A convertible bond is a bond that permits the holder to turn in the bond and convert it into a certain number of shares of stock. Conversion would, thus, occur only when the stock does well. As a result of the option to ...

If the average pe multiple for comparables is 15 and the

If the average P/E multiple for comparables is 15 and the company you want to value has expected earnings per share of $2, what is the estimate of this company's price per share of stock? Why might you prefer to use a me ...

Alpha ltd deposits 500 000 cash with the state bank on 1

Alpha Ltd deposits $500 000 cash with the State Bank on 1 July 2016 for three months, i.e. 92 days, until 30 September 2016. The bank prepares a Certificate of Deposit (CD) for Alpha Ltd, which earns an interest of 6% pe ...

Q1 what is the market value of the following bondcoupon

Q1. What is the market value of the following bond? Coupon 8% Maturity date 2038 Interest paid semiannually Par Value $1000 Market interest rate 10% Q2. What is the market value of the following bond? Coupon 9% Maturity ...

Design grammars for the following languagesa the set of all

Design grammars for the following languages: a) The set of all strings of 0s and 1s such that every 0 is immediately followed by at least one 1. ! b) The set of all strings of 0s and 1s that are palindromes; that is, the ...

  • 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

WalMart Identification of theory and critical discussion

Drawing on the prescribed text and/or relevant academic literature, produce a paper which discusses the nature of group

Section onea in an atwood machine suppose two objects of

SECTION ONE (a) In an Atwood Machine, suppose two objects of unequal mass are hung vertically over a frictionless

Part 1you work in hr for a company that operates a factory

Part 1: You work in HR for a company that operates a factory manufacturing fiberglass. There are several hundred empl

Details on advanced accounting paperthis paper is intended

DETAILS ON ADVANCED ACCOUNTING PAPER This paper is intended for students to apply the theoretical knowledge around ac

Create a provider database and related reports and queries

Create a provider database and related reports and queries to capture contact information for potential PC component pro