Essay about Heinz

2256 Words Nov 17th, 2013 10 Pages
At the time of the case (May 2010), H. J. Heinz was experiencing uncertain economic times. Most notably, this uncertainty manifested in discussion about the company’s weighted average cost of capital (WACC). This was an important discussion to have since the cost of capital greatly influenced how the company chose to invest, and stood to influence the company’s corporate strategies and competitiveness in the future.

The uncertainty of the times was significantly reflected in the company stock price over the period 2008 to 2010. Over this period, the price fluctuated from $47 at FYE 2008, down to $34 at FYE 2009 and back up to $47 at FYE 2010. Accordingly, Heinz was considering whether or not to adjust their cost of capital to reflect
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Cost of Debt
The first assumption we elected to conduct sensitivity analysis around was the cost of debt. Because the case implied the two bonds shown in Exhibit 2 were representative of the cost of the company’s debt, we weighted each bond equally. The result, 3.12%, seemed low. This belief was strengthened when we observed the cost of debt of the comparable firms shown in Exhibit 4. These three firms had an average representative yield on long-term debt of 5.22%. This average was extremely close to our calculated YTM of Heinz’s 2032 bonds of 5.36%. In order to determine the impact of the cost of debt, we input the YTM of the 2032 bonds into our WACC equation. This produced a WACC of 7.84% (Appendix 3.1), 34 basis points (bps) higher than our base case model. The 2.24% increase in cost of debt only increased the WACC by 34 bps for two reasons; one, the debt tax shield minimizes the impact of changes to cost of debt and two, due to the firms capital structure, the cost of debt only represents 23.4% of the firm’s WACC.

2. Market Risk Premium
The case also states that due to the recent turbulent market conditions, there was a diversity of opinions concerning the market risk premium. For our base case, we elected to use the market risk premium that was calculated based on long-term averages. However, the case also states that when measured over a shorter time frame, some analyst estimated a premium of approximately 6.0%. Furthermore, some CFO’s claimed

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