Question

What is your best estimate of the WACC for Kraft Foods, Campbell Soup Company, and Del Monte Foods? How do these WACCs influence your thinking about the WACC for Heinz?Exhibit 4    
H. J. HEINZ: ESTIMATING THE COST OF CAPITAL IN UNCERTAIN TIMES    
Comparable Firm Data    
    
    
    
  Campbell Del
Kraft Soup Monte
Financial Summary    
Revenues (in millions of dollars) 40,386 7,589 3,739
Book value of equity (in millions of dollars) 25,972 728 1,827
Book value of debt (in millions of dollars) 18,990 2,624 1,290
    
Market Data    
Beta 0.65 0.55 0.70
Shares outstanding (in millions of dollars) 1,735 363 182
Share price (dollars as of close April 30, 2010) 29.90 35.64 15.11
Typical Standard & Poor’s bond rating BBB− A BB
Representative yield on long-term debt 5.12% 4.36% 6.19%
    
Data sources: Value Line; H. J. Heinz SEC filings, 2008–10; case writer estimates; Morningstar.    

Answer 1

Kraft foods:

Debt = 18,990 Million

Equity (market value) = 1735*29.90 = 51,876.5 Million

Total capital = 18990 + 51876.5 = 70,866.5 Million

Weight of debt = 18,990/70866.5 = 0.2680

Weight of equity = 1-0.2680 = 0.7320

Cost of equity = Rf + beta*(Rm- Rf)

beta = 0.65

Rf = risk free rte = 3% (latest t-bill rate form Yahoo Finance)

rm = market return = 10% (historical equity index return)

Cost of equity = 3 + 0.65*(10-3) = 7.55%

Cost of debt = 5.12% (given)

Assuming tax rate of 35%, after tax cost of debt = 5.12%*(1-0.35) = 3.328%

WACC = 0.2680*3.328 + 0.7320*7.55 = 6.42%

WACC for Kraft food = 6.42%

Similarly we do the same for the other two

Camplbell soup:

Weight of debt = 0.1686

Weight of equity =0.8314

Cost of equity = 3 +0.55*(10-3) = 6.85%

Csot fo debt after tax = 4.36*(1-0.35) = 2.834%

WACC = 0.1686*6.85% + 0.8314*2.834% = 6.17%

WACC for Campbell soup = 6.17%

Del monte:

Weight of debt = 0.3193

Weight of equity = 0.6807

Vost of equity = 7.9%

after tax cost of debt = 4.0234%

WACC = 0.3193*4.0234 + 0.6807*7.9% = 6.66%

WACC for Del Monte = 6.66%

Best estimate of WACC for Kraft would be average of these three = (6.66 +6.17 + 6.42)/3 = 6.42%

Best estimate of WACC for Kraft = 6.42%