Estimating Market and Book Values and Cost of Capital Measures The December 31,

Question

Estimating Market and Book Values and Cost of Capital Measures

The December 31, 2007, partial balance sheet and the 2007 retained earnings statement from Colgate-Palmolive Company (CL) follow ($ millions, except per share amounts). The website Finance.Yahoo.com reported that the total market capitalization of Colgate-Palmolive was $38.53 billion and its stock price was $75.69 as of December 31, 2007. Also, Yahoo estimates its total enterprise value at $42.49 billion, and its market beta at 0.46. In addition, Colgate-Palmolive's average pretax borrowing cost is 5.20%, and its marginal tax rate is 35%. Assume that the risk-free rate equals 5.20% and the market premium equals 5.60%.

(a) Verify Yahoo's computation of Colgate-Palmolive's market capitalization using the data from its financial report excerpts above. (Round your answer to two decimal places.)
Market capitalization = $Answer

x Answer

shares = $Answer

billion

(b) Compute the book value of Colgate-Palmolive's long-term debt as of December 31, 2007.
$Answer

million

(c) Compute the market value of Colgate-Palmolive's debt using the data from Yahoo. (Round your answer to two decimal places.)
$Answer

billion

(d) Identify reasons behind the difference between the amounts computed in parts (b) and (c). (Select all that apply.)
Answeryesno

Yahoo.Finance.com might include other liabilities, such as lease obligations, in the calculation of debt.
Answeryesno

The market value of debt doesn't include the issuing of new treasury stock.
Answeryesno

The market price of Colgate-Palmolive's debt changed in value on December 31, 2007.
Answeryesno

The market value and book value of debt differs due to accounting usage of historical cost.

(e) Compute Colgate-Palmolive's cost of debt capital. (Round your answer to one decimal place.)
Answer

%

(f) Compute Colgate-Palmolive's cost of equity capital. (Round your answer to one decimal place.)
Answer

%

(g) Using your rounded answer from (e) and (f) above, compute Colgate-Palmolive's weighted average cost of capital. Use the market capitalization from Ycharts.com and your rounded answer from (c) above for this calculation (Do not round until your final answer. Round answer to one decimal place.)
Answer

%

Liabilities and Shareholders' Equity Notes and loans payable $ 155.9 Current portion of long-term debt 138.1 Accounts payable 1,066.8 Accrued income taxes 262.7 Other accruals 1,539.2 Total current liabilities 3,162.7 Long-term debt 3,171.9 Deferred income taxes 264.1 Other liabilities 1,177.1 Total liabilities 7,775.8 Shareholders' Equity Preferred stock 197.5 Common stock, $1 par value (1,000,000,000 share
authorized, 732,853,180 shares issued) 732.9 Additional paid-in capital 1,517.7 Retained earnings 10,627.5 Accumulated other comprehensive income (1,666.8) 11,408.8 Unearned compensation (218.9) Treasury stock, at cost (8,903.7) Total shareholders' equity 2,286.2 Total liabilities and shareholders' equity $10,062.0

Explanation / Answer

Answer

(a) Yahoo's computation of Colgate-Palmolive's market capitalization using the data from its financial report excerpts above.
Market capitalization

$78.43billion*509,034,801 shares = $39.92 billion

(b) Compute the book value of Colgate-Palmolive's long-term debt as of December 31, 2007.
$3,271.9 million(From balance sheet)

(c) Compute the market value of Colgate-Palmolive's debt using the data from Yahoo.

Enterprise value = market capitalization + preferred equity +market value of debt - cash (using by enterprise value formula)
$42.49 billion = $39.92 billion + $0.1975 billion + market value of debt

Market value of debt = $2.37 billion

(d) Identify reasons behind the difference between the amounts computed in parts (b) and (c):
C.The market price of Colgate-Palmolive's debt changed in value on December 31, 2007.

Market value of loan changes with any increase or decrease in interest rates in the market.

(e) Compute Colgate-Palmolive's cost of debt capital.
borrowing cost before tax * (1-tax rate) = 5.1%*(1-35%)

= 3.32%

(f) Compute Colgate-Palmolive's cost of equity capital.
risk free rate + beta*market premium == 5.4 + 0.46*5.8

= 8.07%

(g) compute Colgate-Palmolive's weighted average cost of capital.

Weighted average cost of capital=cost of debt * weight of debt in total cpaital + cost of equity * weight of equity in total capital

Weighted average cost of capital = 0.06*3.32% + 0.94*8.07% =7.77%

Where

1.Total capital = market value of debt + market capitalizatiion = 2.37+39.92 = $42.29 billion

2. A weight of debt = market value of debt/42.29 = 2.37/42.29 = 0.06

    B weight of equity = 1-weight of debt = 1-0.06 = 0.94

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