In Case 20, Fort Greenwold, you solved for Net Present Value using a required rate of return given in the case. In the real world, the required rate of return for a project (also known as the discount rate or cost of capital) must usually be estimated by the firm.

This week, you will employ the formula for the Weighted Average Cost of Capital (WACC) to estimate the discount rate or required rate of return for a food wholesale company needed to do its capital budgeting.

The process of calculating WACC can be quite time-consuming and error-prone, particularly if like most companies, there are a variety of sources of financing capital in the firm's capital structure (debt, equity, etc). Each of these sources of finance, or securities, must be included in the WACC formula, typically in a separate algebraic term that includes both the percentage of the capital source (out of 100% across all sources) and its unique cost. The only time securities can be combined within a single term in the WACC formula, is when their costs (required returns) are identical.

I have attached a Powerpoint presentation that will take you through the entire process of estimating a company's weighted average cost of capital by considering the firm's various financing securities, the proportion each contributes to the total capital structure, and the individual costs of each security. None of this material should be new for you; however, you may not have had to scan multiple data exhibits, identify and extract the appropriate information in such a rigorous manner before.

Here are a few tips for estimating Taylor Brands' WACC:

1) When calculating the percentages or weights of the various securities, use book values provided in the EXHIBITS.

2) When calculating the total amount of debt, remember to include only longer-term securities, e.g., those that finance capital projects. Do NOT include short-term liabilities like Accounts Payable as these are not considered part of a company's capital structure.

3) Notes Payable must be calculated separately from long-term bonds as they usually have a different cost.

4) The cost (required return) of the company's retained earnings can generally be considered to be the same as that of the company's common stock.

5) The "risk premium approach" to estimating the company's cost of equity is the Capital Asset Pricing Model (CAPM) given in the slides.

6) Estimate the growth rate ('g') of dividends using the data in EXHIBIT 3.

7) Don't forget to consider and include in the formula for WACC, the company's tax rate which acts to reduce the after-tax cost of debt.

Please answer Questions 2(a), 2(b), 3, 5(a), 5(b).

CASE 30 TAYLOR BRANDS REQUIRED RATE OF me management of Taylor Brands has a philosophy of "better to be safe than sorry when selecting a discount rate. At present the firm uses a 30 percent rate. which many company executives feel is high and results in the fol lowing difficulties. First, some projects considered to be worthwhile and impor- tant are rejected because their expected return is close to, but still below, the 30 percent minimum. Second, managers have a tendency to be overly optimistic in their cash flow ons in order to get their pet projects accepted. Third, there projecti is the feeling that the rate is at best arbitrarily de and at worst hat. termined that Trevor general manager-has "pulled out of a ROBERT WEST Robert vestisone of Taylor's more innovative and thoughtful executives. A few years ago he correctly perceived that a firm in the food wholesalers industry-Taylor's main industry-would have to expand into nonfood After extensive study West recommended that Taylor add such products as hardware and paper the variety of goods sells grocery stores This strategy remarkably well. customers benefited with fewer and invoices. Taylor gained customers (many referrals and also reduced its unit cost by making more efficient use of its trucking capacity. West has developed an interest in the financial side of the business. During the past ear he on cost-of-capital estimation, using his per- his own eager toapply ac- quired time and at know iscussions Unruh told West to "deter- and after a n umber of d CASE 30 TAYLOR BRANDS REQUIRED RATE OF me management of Taylor Brands has a philosophy of "better to be safe than sorry when selecting a discount rate. At present the firm uses a 30 percent rate. which many company executives feel is high and results in the fol lowing difficulties. First, some projects considered to be worthwhile and impor- tant are rejected because their expected return is close to, but still below, the 30 percent minimum. Second, managers have a tendency to be overly optimistic in their cash flow ons in order to get their pet projects accepted. Third, there projecti is the feeling that the rate is at best arbitrarily de and at worst hat. termined that Trevor general manager-has "pulled out of a ROBERT WEST Robert vestisone of Taylor's more innovative and thoughtful executives. A few years ago he correctly perceived that a firm in the food wholesalers industry-Taylor's main industry-would have to expand into nonfood After extensive study West recommended that Taylor add such products as hardware and paper the variety of goods sells grocery stores This strategy remarkably well. customers benefited with fewer and invoices. Taylor gained customers (many referrals and also reduced its unit cost by making more efficient use of its trucking capacity. West has developed an interest in the financial side of the business. During the past ear he on cost-of-capital estimation, using his per- his own eager toapply ac- quired time and at know iscussions Unruh told West to "deter- and after a n umber of d