Case study analysis: 33
California Pizza Kitchen
Managing for Corporate Value Creation FIN3CSFS2 2015
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Abstract:
This case analysis studies the financial performance and position of California Pizza Kitchen (KPC) including available sources of finance with optimal weightage to cost of capital minimal by share repurchase and their effect on share price and return.
Question No. 1
As the history of California Pizza Kitchen (KPC) is concerned, it was incorporated in 1985 In Baverlly Hills, California. By mid of 2007, it was expanded with 213 retail outlets round the US and outside the country as well. Currently, CPK is operating fully owned outlets; some with partnerships and rest are operating as franchises. Also these …show more content…
3
The cost of Equity Capital represents the expected return of equity investors.
The WACC is measured by taking the weight of debt outstanding and multiplying it by the cost of debt and the tax shield, then adding to that the weight of equity and multiplying that by the cost of equity, as shown in the following equation:
Equation 1: [D/V*(Rd)*(1-T)+E/B*(Rd)]
As the WACC holds true, the increased weight in the lower cost of debt along with the additional tax shield and the decrease in weight in the higher cost of equity will result in a decrease in the overall cost of equity to the firm. In theory the more debt you add to the capital structure the lower your WACC will be
Cost of Equity:
Using the formula given, cost of equity can be calculated as:
At actual:
Leveraged beta is computed as:
0.85 * [1+(1-32.5%)0/643,773 = 0.85
Using Capital Asset Pricing Model (CAMP) Cos of Equity is: 0.052 + 0.85(0.05) = 9.45%
At 10% Leverage:
Leverage beta is:
0.85 * [1+(1-32.5%)22,589/628,516 = 0.87
Therefore, using CAPM Cost of Equity is : 0.052 + 0.87(0.05) = …show more content…
A 20% debt to total capital structure will move our price to $22.60, a 2.26% increase and 1,999,000 shares to be bought back, a 6.68% decrease. Finally, a 30% debt to total capital structure will jump our stock price to $22.86, a 2.99% increase and allow us to repurchase 2,965,000 shares, a 10.18% decrease in shares.
Question Number 5
As debt is used to finance the repurchase of equity therefore, as the number of shares reduces, debt is issued more. Because issuing debt is cheaper than equity and also the interest is tax deductible expense, for that reason return would increased and such return would be spread out reduced number of shares resulting increase of Return on Equity (ROC). Similar effect would be on Earning per share as because tax shield available to tax expense. Such indicators will ultimately increase the value of firma and reduce cost of capital.
California Pizza Kitchen
Managing for Corporate Value Creation FIN3CSFS2 2015
\
Abstract:
This case analysis studies the financial performance and position of California Pizza Kitchen (KPC) including available sources of finance with optimal weightage to cost of capital minimal by share repurchase and their effect on share price and return.
Question No. 1
As the history of California Pizza Kitchen (KPC) is concerned, it was incorporated in 1985 In Baverlly Hills, California. By mid of 2007, it was expanded with 213 retail outlets round the US and outside the country as well. Currently, CPK is operating fully owned outlets; some with partnerships and rest are operating as franchises. Also these …show more content…
3
The cost of Equity Capital represents the expected return of equity investors.
The WACC is measured by taking the weight of debt outstanding and multiplying it by the cost of debt and the tax shield, then adding to that the weight of equity and multiplying that by the cost of equity, as shown in the following equation:
Equation 1: [D/V*(Rd)*(1-T)+E/B*(Rd)]
As the WACC holds true, the increased weight in the lower cost of debt along with the additional tax shield and the decrease in weight in the higher cost of equity will result in a decrease in the overall cost of equity to the firm. In theory the more debt you add to the capital structure the lower your WACC will be
Cost of Equity:
Using the formula given, cost of equity can be calculated as:
At actual:
Leveraged beta is computed as:
0.85 * [1+(1-32.5%)0/643,773 = 0.85
Using Capital Asset Pricing Model (CAMP) Cos of Equity is: 0.052 + 0.85(0.05) = 9.45%
At 10% Leverage:
Leverage beta is:
0.85 * [1+(1-32.5%)22,589/628,516 = 0.87
Therefore, using CAPM Cost of Equity is : 0.052 + 0.87(0.05) = …show more content…
A 20% debt to total capital structure will move our price to $22.60, a 2.26% increase and 1,999,000 shares to be bought back, a 6.68% decrease. Finally, a 30% debt to total capital structure will jump our stock price to $22.86, a 2.99% increase and allow us to repurchase 2,965,000 shares, a 10.18% decrease in shares.
Question Number 5
As debt is used to finance the repurchase of equity therefore, as the number of shares reduces, debt is issued more. Because issuing debt is cheaper than equity and also the interest is tax deductible expense, for that reason return would increased and such return would be spread out reduced number of shares resulting increase of Return on Equity (ROC). Similar effect would be on Earning per share as because tax shield available to tax expense. Such indicators will ultimately increase the value of firma and reduce cost of capital.