Marriott Corporation

MARRIOTT MARRIOTT CORPORATIONCORPORATION

B.B.ChakrabartiB.B.Chakrabarti

IIM CalcuttaIIM Calcutta

August 2005August 2005

The IssueThe Issue

Calculation of WACCs of three Calculation of WACCs of three divisions – divisions –

LodgingLodging

Restaurant Restaurant

Contract servicesContract services

Financial StrategyFinancial Strategy

Manage rather than own hotel assetsManage rather than own hotel assets Invest in projects that increase Invest in projects that increase

shareholder valueshareholder value Optimize the use of debt in the Optimize the use of debt in the

capital structurecapital structure Repurchase undervalued sharesRepurchase undervalued shares

Unlevered Asset BetaUnlevered Asset Beta

Asset beta = (E/V) * Equity betaAsset beta = (E/V) * Equity beta

E = Market value of equityE = Market value of equity

v = Market value of companyv = Market value of company

= Market value of equity + = Market value of equity +

Market value of DebtMarket value of Debt

WACC for Marriott WACC for Marriott CorporationCorporation

Levered equity beta = 0.97Levered equity beta = 0.97 Market leverage = 0.41Market leverage = 0.41 Unlevered asset beta = (1-0.41)*0.97 Unlevered asset beta = (1-0.41)*0.97

= 0.57= 0.57 Target debt/value = 0.60Target debt/value = 0.60 Levered equity beta = 0.57/(1-0.60) Levered equity beta = 0.57/(1-0.60)

= 1.43= 1.43

WACC for Marriott WACC for Marriott CorporationCorporation

Keq = Rf + beta *Risk premium Keq = Rf + beta *Risk premium

= 8.95 + 1.43 * 7.43 = 19.57%= 8.95 + 1.43 * 7.43 = 19.57% Kdebt = 8.95 + 1.30 = 10.25%Kdebt = 8.95 + 1.30 = 10.25% WACC = 0.4*19.57+0.6*10.25*(1-WACC = 0.4*19.57+0.6*10.25*(1-

0.34)0.34)

= 11.89%= 11.89%

Asset Beta for LodgingAsset Beta for Lodging

LeverageLeverage Eq. BetaEq. Beta Asset Asset BetaBeta

HiltonHilton 0.140.14 0.880.88 0.760.76

HolidayHoliday 0.790.79 1.461.46 0.310.31

La QuintaLa Quinta 0.690.69 0.380.38 0.120.12

RamadaRamada 0.650.65 0.950.95 0.340.34

Average asset beta = 0.38Average asset beta = 0.38

WACC for Lodging DivisionWACC for Lodging Division

Unlevered asset beta = 0.38Unlevered asset beta = 0.38 Target debt/value = 0.74Target debt/value = 0.74 Levered equity beta = 0.38/(1-0.74) = Levered equity beta = 0.38/(1-0.74) =

1.461.46 Keq = Rf + beta *Risk premium Keq = Rf + beta *Risk premium

= 8.95 + 1.46 * 7.43 = 19.80%= 8.95 + 1.46 * 7.43 = 19.80% Kdebt = 8.95 + 1.10 = 10.05%Kdebt = 8.95 + 1.10 = 10.05% WACC = 0.26*19.80+0.74*10.05*(1-0.34)WACC = 0.26*19.80+0.74*10.05*(1-0.34)

= 10.06%= 10.06%

Asset Beta for Restaurant Asset Beta for Restaurant DivisionDivision

LeverageLeverage Eq. BetaEq. Beta Asset BetaAsset BetaCFCCFC 0.040.04 0.750.75 0.720.72CFICFI 0.100.10 0.600.60 0.540.54FRFR 0.060.06 0.130.13 0.120.12LCLC 0.010.01 0.640.64 0.630.63McMc 0.230.23 1.001.00 0.770.77WIWI 0.210.21 1.081.08 0.850.85

Average asset beta = 0.61Average asset beta = 0.61

WACC for Restaurant WACC for Restaurant DivisionDivision

Unlevered asset beta = 0.61Unlevered asset beta = 0.61 Target debt/value = 0.42Target debt/value = 0.42 Levered equity beta = 0.61/(1-0.42) = Levered equity beta = 0.61/(1-0.42) =

1.051.05 Keq = Rf + beta *Risk premium Keq = Rf + beta *Risk premium

= 8.72 + 1.05 * 7.43 = 16.52%= 8.72 + 1.05 * 7.43 = 16.52% Kdebt = 8.72 + 1.80 = 10.52%Kdebt = 8.72 + 1.80 = 10.52% WACC = 0.58*16.52+0.42*10.52*(1-0.34)WACC = 0.58*16.52+0.42*10.52*(1-0.34)

= 12.50%= 12.50%

Asset Beta for Contract Asset Beta for Contract Services DivisionServices Division

There is no publicly traded comparable There is no publicly traded comparable companies.companies.

We can consider the company as a We can consider the company as a portfolio of three divisions.portfolio of three divisions.

The asset beta of the whole company is The asset beta of the whole company is just a weighted average of the asset betas just a weighted average of the asset betas of the divisions.of the divisions.

Weights should be the fraction of total Weights should be the fraction of total equity value in each division. The fraction equity value in each division. The fraction of total identifiable assets can be taken as of total identifiable assets can be taken as a proxy.a proxy.

Asset Beta for Contract Asset Beta for Contract Services DivisionServices Division

CSA*)MV/CSV(R

A*)MV/RV(LA*)MV/LV(

MA

Asset Beta for Contract Asset Beta for Contract Services DivisionServices Division

So,So,

0.57=909.7/1735.2*0.38+452.2/1735.0.57=909.7/1735.2*0.38+452.2/1735.2*2*

0.61+373.3/1735.2*Asset beta 0.61+373.3/1735.2*Asset beta (CS)(CS)

Asset beta (CS) = 0.98Asset beta (CS) = 0.98

WACC for Contract Services WACC for Contract Services DivisionDivision

Unlevered asset beta = 0.98Unlevered asset beta = 0.98 Target debt/value = 0.40Target debt/value = 0.40 Levered equity beta = 0.98/(1-0.40) = Levered equity beta = 0.98/(1-0.40) =

1.631.63 Keq = Rf + beta *Risk premium Keq = Rf + beta *Risk premium

= 8.95 + 1.63 * 7.43 = 21.06%= 8.95 + 1.63 * 7.43 = 21.06% Kdebt = 8.95 + 1.40 = 10.35%Kdebt = 8.95 + 1.40 = 10.35% WACC = 0.60*21.06+0.40*10.35*(1-0.34)WACC = 0.60*21.06+0.40*10.35*(1-0.34)

= 15.38%= 15.38%

WACCs of the DivisionsWACCs of the Divisions

Lodging – Lodging – 10.06% 10.06%

Restaurant –Restaurant – 12.50% 12.50%

Contract services – 15.38%Contract services – 15.38%

Marriott Corp. - 11.89%Marriott Corp. - 11.89%