'Marriott Corporation Essay\r'

'Each of these aspects of the pecuniary st valuegy reinforcement Marriott’s return intent, however for the repurchasing of under pryd sh atomic number 18s, which is non ground on feeling of operative undervaluing of the assembly line by the trade, but ground on an internally incurd intrinsic value of the f sum uprnity.\r\nMarriott’s court of seat of political relation estimation offset involves conside balancen of debt capacity, bell of debt and damage of comeliness. This data, plus consideration of cr possesswork twist and effective tax rate, is then utilize to the chapiter Asset price Model, using the U.S. Government 10-year link up as the venture-free rate and the bypass amid the S&P euchre complex and the U.S. Government 10-year draw together rate. Beta is based on the last quintet years of monthly birth data. The resulting incarnate WACC is 10.22%.\r\nHowever, new seatments in the diametric voices removes the drill of a burial vault rate that reflects the course happen of that particular unit, preferably than the overall collective burial vault rate, which is originally applicable to embodied cap expenditures, much(prenominal) as headquarters and IT support agreements. The table d featurestairs summarizes the WACC for each Marriott department based on its pleat meliorate and floating rate debt, outstanding structure, and applicable unlevered beta for its indus discipline.\r\nIntroduction\r\nMarriott great deal is diversified beau monde in the lodge, restaurant and contract ser frailtys. Its caparison job unit consisted of managing the operation of 361 hotels of a variety of sense datum ratings. Its restaurant line of descent unit ran and possess a handful of fast food and diner chains. maven of the perennial challenges that Marriott management faced was the close integrating of its financial dodge, issue objectives, determining the grant burial vault rate for investmen ts, and how to add a detonating device comprise component to incentive compensation plans.\r\nMarriott’s pecuniary Strategy\r\nThe overall objective for Marriott’s vice president of project finance, Dan Cohrs, was to support the gild’s growth objective in beingness the nearly profitable comp any(prenominal) in its lines of line of work. To support this growth objective, Marriott developed a financial dodge that consisted of quaternary tactics †manage rather than own hotel assets, invest in projects that increase helpingholder value, optimize the physical exercise of debt in the crownwork structure, and repurchase undervalued shares.\r\nManage quite a than Own Hotel Assets Marriott would develop hotel properties and then sell them tally to investment partnerships. Its typical deal would consist of it being granted a languish contract to proceed and manage the property on behalf of the possessor, where it receives 3% of taxations as compens ation and 20% of profit over and above a specified return for the owner.\r\nIf you wanted to maximise growth and shareholder value, this was a much responsible approach to being in the populate business line beca habit the company wouldn’t be held down by large summation of debt associated with these properties and it eliminated a stripe of long-term market risk. If a hotel went under, Marriott’s risk was hold to the portion of debt that it guaranteed instead of the entire amount. Therefore, this tactic support the company’s growth objective beca wont it did not tie up huge amounts of investment swell in obstinate assets and allowed it to focalization on activities and projects that could collapse significant tax revenue growth. If Marriott could make a hotel actually busy, it only had to make small increases in countenance to accommodate large increases in business. Plus, its profitability would speed up once it was able to clear its property owner’s return requirement. By being work oriented, Marriott greatly reduced the capital intensity of its living accommodations business unit.\r\nInvest in Projects That Increase transmitholder Value Technically speaking, this is a tactic espo subprogram by every company. Marriott purposed to only invest in NPV irresponsible projects based on the overleap rate appropriate for the type of investment. The pro forma immediate payment flows for investment opportunities were developed at the division level using embodied templates. This provided consistency in methodology trance allowing for fluctuation in unit specific assumptions. This go out also support the company’s growth objective because it promotes Marriott getting the surpass results for its investment funds to increase the value created\r\nby the projects it invests in. It also means that projects in riskier areas nurse to be that much profitable to generate the NPV to make an investment\r\n competi tory versus alternative investments in less(prenominal) equivocal units.\r\nOptimize the Use of Debt in the gravid Structure Marriott employ a stationed disport coverage ratio to regularise its optimal use of debt instead of a debt-to- beauteousness ratio. Because this approach bases debt capacity primarily on financial operations instead of market capitalization, it is supportive of growth by limiting debt based on near term financial public presentation rather than the ups and downs of the capital markets.\r\nRepurchase Undervalued Shares\r\nMarriott elaborated its own valuation of its stock called its warranted truth value. Whenever its stock scathe went down the stairs the warranted value, Marriott would buy back stock. This tactic does not support growth because Marriott is using an intrinsic value of its stock to supersede the market value of the stock, which is the best indicator of the value of a publically traded company. The company also assumed that this was t he best use of immediate payment and debt than investments. Although companies have used debt to repurchase stock, it is usually to try to â€Å"game” the system and improve the profitability link financial ratios by reducing the amount of radical honor and the number of shares outstanding.\r\nThree more than legitimise reasons for Marriott to buy back its stock would be moderate the impact of stock dilution due to the exercise of stock options used as incentive compensation; to pay additional funds to shareholders without the tax penalty associated with dividends; or to cheaply remove stock when the market it calling it at a steep discount to diachronic trends when the company is performing vigorous. Buying back stock when it falls a small amount below an intrinsic value does not contribute to growth and those funds could have probably been used in a profitable, value-increasing project.\r\nMarriott’s Cost of Capital melodic theme Process Marriott uses th e weighted median(a) live of capital (WACC) to delay its unified hurdle rate, as well as estimate the hurdle rates for its different divisions. The process begins with the company determining its debt capacity, apostrophize of debt and its terms of loveliness, also being a function of the amount of debt. After determining the corporate level greet of debt, it allocated a portion of that debt to each of the business units to drive on their unit hurdle rates.\r\nEach unit had a different debt weighting and be of debt. Marriott annually updated its cost of capital for reservation investments. It does make sense for Marriott to determine a hurdle rate for its different business units because it is a diversified company, even if it is related diversification. Its business units carry the business risk of the industries they inhabit, regardless of the corporate make up of Marriott. To make the best use of Marriott funds and maximize value, Marriott has to take into account the risk associated with each unit’s projects. Having a hurdle rate for each business unit eliminates slash in project selection that would occur if it used the corporate hurdle rate.\r\nMarriott’s Corporate burden Average Cost of Capital\r\nIn its use of the weighted total cost of capital (WACC) ruler below, Marriott uses its long-term debt to total capital ratio (total capital = total assets †current liabilities) for its debt weighting.\r\nCost of Equity\r\nTo determine the cost of equity, Marriott used the Capital Asset Pricing Model (CAPM), which relates the returns for a single stock against the excess returns for the market over the riskless rate. Marriott has a target debt dowry in capital of 60% for the company. Its 1987 debt section is 58.8% for which a beta of 1.11 was viewd based on the past five years of monthly returns. The amount corporate tax rate for the past five years is 43.7%. The target debt percentage in capital is 60% and is treated as the debt-to-value ratio. For the target percentage the beta must be unlevered and then relevered based on the equation below.\r\nThis produces a relevered beta of 1.135. The market risk premium is based off of the spread between the S&P 500 composite returns and long-term U.S. government bond returns of 7.92%. The risk-free rate is 8.72% based on the 10-year U.S. government bond maturity rate. Using the CAPM equation below, this produces a cost of equity of 17.71%.\r\nCost of Debt\r\nMarriott has fixed and floating debt. Its intercommunicate mix testament be 60% fixed debt and 40% floating debt. Overall, Marriott has estimated that its debt risk premium is almost 1.30% above U.S. government debt securities. Fixed rate corporate debt is going to be lucid with 10-year maturity U.S. government debt and the floating rate debt is going to be consistent with 1-year maturity U.S. government debt. The 30year debt is not applicable because Marriott manages rather than owns the hotel properties it manages. The resulting weighted cost of debt is 9.29%. Debt Type\r\nCorporate or Firm Level WACC\r\nBy applying Marriott’s corporate cost of debt and cost of equity from the previous sections, we calculate a WACC of 10.22%.\r\nWhich Investments Can the Corporate Hurdle appraise by Applied To? The corporate or star sign level hurdle rate cannot be utilize to all projects because of the bias it presents when business units have less or more risk than the company as a whole. However, there are investments to which the corporate hurdle rate would be applicable. That would involve any capital expenditures on behalf of the corporate parent, including buildings, as well as enterprise resource systems and any other support systems that serve all common chord business units.\r\nFor example, the three business units should be using the same system to do financial reporting and accounting. If Marriott only used the corporate hurdle rate for all investments, in the long -run, it would do poorly because the rate would cause the company to invest in projects that are too risky and avoid projects that could increase company value. Basically, Marriott would be deserving a lot less than it otherwise would have if it didn’t take a one-size-fits-all approach to its hurdle rate for different projects in the business units. Or worse, it could go out of business or be acquired by a competitor that had a more rational approach to its project selection process and was able to buy Marriott with the value it had created. Cost of Capital for Individual Divisions\r\nThe process that Marriott employs to determine the corporate hurdle rate can also be applied to its different divisions. For the lodging and restaurant\r\ndivisions, the cost of equity can be determined by using the weighted medium unlevered beta for a conference of peer companies and then relevering the beta for that division’s leverage circumstances. conduct services will require a residual approach for determining its cost of capital. Peer groups were used to calculate weighted average unlevered betas for the groups, using 46% as the highest marginal corporate tax rate for the fiscal year finish June 30, 1987. For the lodging and restaurant divisions, the same risk-free rate and market risk premium was used.\r\nAlthough both divisions own long-lived assets, they are closer to 10-year versus 30-year assets, other than any facilities owned. As for the lodging and restaurant properties, the bulk of the capital investment is made in renovation, updating or modernizing hotel properties and updating of the restaurants. For example, Marriott will periodically update the furniture, décor, color and amenities at the properties it manages to keep them competitive. This is a regular part of the business, so long-lived assets in those properties would be replaced anyway. This even occurs in restaurants, although less frequently. Contract services would also operate i ts long-lived assets in the same time frame.\r\nTo determine the cost of equity for the lodging division, a group of peer companies were self-collected and key data related to capital structure, revenue and beta was compiled to calculate a weighted average unlevered beta for the group. That beta was relevered based on the lodging divisions projected debt percentage in capital of 74% as the debt-to-value ratio for the operating unit, resulting in a cost of equity of 20.13%\r\nTo determine the cost of equity for the restaurant division, a group of peer companies were collect and key data related to capital structure, revenue and beta was compiled to calculate a weighted average unlevered beta for the group. That beta was relevered based on the lodging divisions projected debt percentage in capital of 42% as the debt-to-value ratio for the operating unit, resulting in a cost of equity of 19.08%\r\nWith the cost of debt and cost of equity relative to its intentness, the restaurant di vision cost of capital is equal to 13.45%.\r\nContract Services Division\r\nTo calculate the cost of capital for the contract services is more complex because there aren’t any publically traded peer companies to compare against and privately held firms either do not report their results or do not report results compliant with the financial reporting requirements of publicly traded companies.\r\n ground on the projected mix of fixed and floating debt, the cost of debt for the contract services division is estimated at 10.07%\r\nA residual approach will be required to determine the cost of equity for the contract services division according to the formulation below using the unlevered betas, weighted by specifiable assets. Solving the formula for βC will provide us with the last piece of information take to calculate its cost of capital.\r\nThis results in an unlevered beta of 0.610. Based on the projected capital structure of the division, it levers to a beat of 0.839.\ r\nWith the cost of debt and cost of equity applicable to this business unit, the contract services division cost of capital is equal to 11.33%. Conclusion\r\nThere are already many assumptions made in a traditional cost of capital calculation for a single-industry company. When a company is diversified, like Marriott, it cannot use a single corporate cost of capital for qualification investment decisions. It must make decisions for each division according to the business risk faced by that business unit because the level of risk varies from industry and that must be accounted for. Otherwise, a firm will engage in biased decision-making, if they use discounted cash flow and net present value for making investment decisions because a single hurdle rate will inflate the value of some projects, while lowering the value of others. Epilogue\r\nTo stay competitive and generate the most value that they can for shareholders, companies check and update their strategies. Marriott stool is no different. Not long after the time period associated with this case, Marriott began to take striking steps to maximize shareholder value. First, the company exchange is restaurant operating division in 1990 (White, 1989). The contention from industry leaders was too intense and fast expansion would have required a lot of additional capital. Subsequently, the company would go through four-fold spinoffs. In 1993, the company spun off Marriott foreign, which managed and franchised hotels and\r\nretirement communities (Marriott international, 2012). The rest company changed its name to army Marriott Corporation and owned many of the properties managed by Marriott multinational. In 1995, force Marriott\r\nCorporation spun off some of the contract services business with the name Host Marriott Services. This allowed Host Marriott Corporation to focus on its certain estate assets. In 1998, Marriott International spun off its management services business in a merger with Sodexh o to create Sodexho Marriott Services.\r\nLater that year, Host Marriott Corporation spun off is senior retirement real estate business as Crestline Capital Corporation. At the end of 1998, Host Marriott Corporation converted into a real estate investment trust called Host Hotels & Resorts (Marriott International, 2012). The last spin off conducted by Marriott International occurred towards the end of 2011, where it spun off its time share operating segment as Marriott Vacations Worldwide Corporation (NYSE: VAC). Marriott International is only involved in lodging now and reorganized into four lodging divisions †spousal relationship American Full-Service, North America limited-service, International housing and Luxury Lodging.\r\nIn terms of the financial strategy outlined by the Marriott Corporation in 1987, that strategy continues in Marriott International. It doesn’t own the properties. It just manages and franchises them. At the end of fiscal year 2011, its debt -to-market value ratio is 0.1579. The company appears to be attempting to minimize the amount of debt it uses. The cost of debt is approximately 5.485% and the cost of equity is approximately 11.44%. Marriott International’s WACC, based on 2011 financial statements is 10.12%.\r\nReferences\r\nMarriott International (2012). 2011 Annual Report. Retrieved from http://investor.shareholder.com/mar/sec.cfm?DocType=&DocTypeExclude=& configuration Order=FilingDate%20Descending&Year=&Pagenum=4\r\nMarriott International (2012). Frequently Asked Questions. Retrieved from http://investor.shareholder.com/mar/faq.cfm\r\nWhite, G. (1989, December 19). Marriott to tell on Its Restaurants, Focus on Hotels : Services. LA Times. Retrieved from http://articles.latimes.com/1989-1219/business/fi-598_1_marriott-s-bob-s-big-boy\r\n'