Whole Foods Market is the leading natural and organic foods supermarket, the first national "Certified Organic" grocer. The company incorporated in 1978, opened the first Whole Foods Market store in 1980, and is based in Austin, Texas. The company had its initial public offering in January 1992, and its common stock trades on the NASDAQ Global Select Market under the symbol "WFM."

As of 2016, they are the largest natural and organic foods supermarket in the U.S., the 5th largest public food retailer, and the 10th largest food retailer overall based on 2015 sales rankings from Progressive Grocer. They operated 456 stores in the United States ("U.S."), Canada, and the United Kingdom ("U.K."), averaging over eight million customer visits each week. These stores average 39,000 square feet in size and are supported by their global headquarters, regional offices, distribution centres, bakehouse facilities, commissary kitchens, seafood-processing facilities, a produce procurement centre, and a specialty coffee and tea procurement and roasting operation.

As an analyst who recently graduated from LBS, you are interested in this firm as it grows and think it might be undervalued. You approach your manager and tell her that you are interested in valuing the firm. Based on the Advanced Corporate Finance course you took at LBS, you recognize the value of using discounted cash flow and multiples methods. She believes it is a good idea to keep tabs on this firm and asks you to estimate the WACC as a first step.

She downloads the financial statements of WFM from her Bloomberg terminal. She picks up a blank paper and notes that it is trading at $109.55 and has 1.3 billion shares outstanding. It has a debt of $17.20 billion and a cash balance of $1.72 billion on its balance sheet as of December 31, 2021. As a conglomerate, the company faces a corporate tax rate of 37%. The company has an equity beta of 1.18 and the credit rating long-term debt (10 years) is AA-, yielding a cost of debt of 3.28%. The yield on the 10-year US government bond is 2.83% and the market risk premium is 5.5%. Your manager tells you that typically an increase in leverage leads to a lower credit rating and in this case decreases WFM's credit rating to A-, which commands a spread of 0.75% over the risk-free rate. Lastly, she lists three firms and their equity betas, which in her experience are potential comparable firms for WFM.

Firm	Industry	Equity beta	Leverage ratio (D/D+E)
Kroger Company	Supermarkets	0.84	10%
Walmart	Department stores	0.86	15%
Target	Department stores	0.89	18%

1) Estimate the cost of equity and the Weighted Average Cost of Capital (WACC) [5 points]

2) You heard rumours from your peers that Walmart is planning a possible takeover of WFM. Once the takeover is complete, the leverage (Debt/Value) for WFM will be 35%. You inform your manager that you changed the Debt/Value in the WACC (computed in the step above) to 35%. However, your manager tells you that the estimated WACC is incorrect. Estimate the WACC. Why do you think estimating WACC this way is incorrect? [5 points]

3) You realize the mistake immediately and decided to give it another go. Estimate the WACC correctly to reflect the new leverage of 35%. [15 points]