1. Marriott Corporation:
The Cost of Capital
Presented by Rassul Turumbayev
ID: 20171063

2. Background information
Marriott was founded by John Willard Marriott in 1927 when he and his
wife, Alice Sheets Marriott, opened a root beer stand “Hot Shoppes” in
Washington, D.C. Over the next 60 years, the business grew into one of the
leading lodging and food service companies in the US.
“It's the little things that make
the big things possible. Only
close attention to the fine details
of any operation makes the
operation first class.”
--John WillardMarriott--

3. Historical timeline 1927 - 1967
1927
1937
Open the first A&W
root beer stand with
business partner
Hugh Colton
1939
1953
1957 1967
1966
"In-flight" airline
catering debuts at
Hoover Airport, south of
Washington, D.C.
Food service management
business in U.S. Treasury
and government defense
plant cafeterias
Hot Shoppes, Inc. stock
becomes public at
$10.25/share and sells out in
two hours of trading
Historic shift into the hotel
business. The world’s first
motor hotel opened in
Arlington, Virginia
Marriott becomes
international, acquiring
airline catering kitchen in
Caracas, Venezuela.
Acquisition of 22-unit
Big Boy restaurant.
Hot Shoppes, Inc.
becomes Marriott
Corporation.

4. 1969
1972
Opens its first
international hotel
in Acapulco,
Mexico.
1983
1984
1985 1987
1986
Marriott partners with
Sun Line, becoming the
first lodging company to
enter the cruise business.
Marriott debuts lodging for
business travelers with the
first Courtyard hotel.
The first JW Marriott, named
in honor of founder J.
Willard Marriott, opens in
downtown Washington, D.C.
Acquisition of Gladieux Corp,
Service Systems & Howard Johnson
Co (Prime Motor Inns, with 350
restaurants & 68 turnpike units)
J.W.Marriott passes away at age
84.
Acquisition of Saga
Corporation
One company, many brands.
Becomes the #1 hospitality
company in the world.
Worldwide Reservation
Center. The Residence Inn
Company. Tokyo Stock
Exchange. Economy lodging
segment. Franchising.
Historical timeline 1969 -
1987

5. Marriott’s Brands
PREMIUM
SELECT SERVICE
LONGER STAYS
LUXURY LODGING

6. Elements of Financial Strategy
MANAGE INVEST
OPTIMIZE REPURCHASE
Manage rather than own
hotel assets. Sold its hotel
assets to limited partners to
reduce assets and thus, it can
increase ROA and thereby
increase potential
profitability.
Optimize the use of debt in the
capital structure. Determined the
amount of debt in its capital
structure by focusing on its
ability to service its debt. Interest
coverage target instead of a
target debt-to-equity ratio. $2,5
billion of debt, 59% of its total
capital.
Invest in projects that increase
shareholder value. Used discounted
cash flow techniques to evaluate
potential investments allow the
company to invest only in profitable
projects. Therefore, it can maximize
the use of its CF to gain profits..
Repurchase undervalued shares.
By buying back its under valued
shares, Marriott can increase PE
(price to earnings) ratio when
needed and can make its
investors’ holdings more valuable
because share prices will increase
in ROE.

7. Three main lines of business
Lodging
In 1987
Sales 41%
Profit 51%
Contract
ServicesIn 1987
Sales 46%
Profit 33%
Restaurants
In 1987
Sales 13%
Profit 16%

8. WACC, Cost of Equity, Cost of Debt
Calculations

9. WACC
The weighted average cost of capital (WACC) is a calculation of
a firm's cost of capital in which each category of capital is
proportionately weighted. All sources of capital, including common
stock, preferred stock, bonds and any other long-term debt, are
included in a WACC calculation. A firm’s WACC increases as the
beta and rate of return on equity increase because an increase in
WACC denotes a decrease in valuation and an increase in risk.

10. WACC

11. Cost of Equity (by CAPM formula)
The capital asset pricing model (CAPM) is a model that
describes the relationship between systematic risk and expected
return for assets, particularly stocks.
It is an integral part of the weight average cost of capital
(WACC) as CAPM calculates the cost of equity.
(Rm – Rf) = Market Risk Premium

12. Beta Estimation

13. Question and Answer session

14. 1) Are the four components of Marriott’s financial
strategy consistent with its growth objective?
a) Manage rather than own – consistent with growth strategy,
because Marriott attracts additional capital, which gives an
opportunity to invest more in the future, shares some risks with
limited partners. Partnership may be also a good way of saving on
taxes.
b) Invest in projects – consistent with growth. Positive NPV
projects increase shareholders value (SV).
c) Optimizing capital structure – consistent with growth. Optimal
capital structure generally should lead to a higher SV. It also gives a
good way to control default risk by aiming at certain coverage ratio.
d) Repurchase of undervalued assets – generally does not
consistent with growth strategy. It can lead to a lower growth, because
company uses it’s free funds to buyback shares and therefore will
under in NPV positive projects (that leads to lower growth). We
should be very clear why shares going down – it may be a result of a
bad investment decisions that led to losses. In this case, buybacks will
lead to overpricing of Marriott’s shares. Additional argument against
from the position of shareholders – buybacks, if shares are temporary
undervalued, than it might be a cheap way of paying dividends to
shareholders.

15. 2) How does Marriott use its estimate of its cost of
capital? Does this make sense?
Marriott uses the WACC to estimate the opportunity cost of
capital for investments with similar risks and used this approach for to
determine the cost of capital for each of its division and for the
corporation as a whole. The cost of capital for each division was also
updated annually. This makes sense because each division's debt
capacity, debt cost and equity cost is likely to differ so calculating it
separately, gives an accurate weight per division and tie the cost of
debt and equity to the market value.
Secondly, the WACC is an important factor in determining hurdle
rate. In this case, hurdle rates are used to allow managers to monitor
the company’s performance more efficiently. Since most of the
projects are division related, by capturing the individual inputs and
hence WACC for each divisions, Marriott ensures that it embarks on
projects with valuable expected NPV and optimize the use of debt in
the capital structure.
Finally, for simplicity purposes, the distinction between floating
rate and fixed coupon rate debts will be ignored.

16. 3) What is the WACC for Marriott Corporation?
a) What risk free rate and risk premium did you use to calculate the cost of
capital?
b) How did you measure Marriott’s cost of debt?
WACC for Marriott is 11,88% (Consist of Lodging – 9,47%; Contract
Services – 14,79%; Restaurants – 14,16%)
a) For the Marriott corporation - from Table B, used rate with 30 years
maturity. For the lodging - 10 years. For CS and Restaurants - 1 year rate
numbers. The main reason for choosing LT and ST rates depends on the maturity
of the investment under consideration. Corporation and Lodging division will
definitely be invested in a LT while others in ST investment.
(CAPM) = risk-free rate + (company’s beta x risk premium)
b) Cost of Debt (rD) = Government rate of borrowing (Table B) + Premium
above Government rate – (Table A)

17. 4) What type of investments would you value using
Marriott’s WACC?
Since the WACC is 11,88%, any investments with a WACC equal or lower
than 11,88% would be an investment to be considered of value by Marriott. The
company will continue to look at other investments that will lower their WACC.
The type of investment to be considered is issuing bonds to get the financing more
cheaply. The firm is built upon lodging, CS and restaurants as the three key
operations. By continuing investments in their three key operations has created
different WACC for each operation versus the whole company.
5) If Marriott used a single corporate hurdle rate
for evaluating investment opportunities in each of
its lines of business, what would happen to the
company over time?
Investopedia online defines a hurdle rate as the minimum rate of return on a
project or investment required by a manger or investor. In order to compensate for
risk, the riskier the project, the higher the hurdle rate.
As different divisions have different systematic risks and leverage levels,
using a single corporate hurdle rate to evaluate investment opportunities would be
inappropriate. Risk for the whole company would be lower than the risk for the
single project because risk for the whole company is more diversified.
If hurdle rate is too low, more projects will be accepted. If too high, fewer
projects will be accepted.
This could ultimately result in investments which are not aligned with overall
objectives.

18. 6) What is the cost of capital for the lodging and
restaurant division of Marriott?
a) What risk-free rate and risk premium did you use to calculating the cost of
equity for each division? Why did you choose these numbers?
b) How did you measure the cost of debt for each division? Should the debt cost
differ across divisions? Why?
Questions a and b, already answered before.
c) How did you measure the beta of each division?

19. 7) What is the cost of capital for Marriott’s contract services
division? How can you estimate its equity costs without
publicly traded comparable companies?
To calculate the cost of capital for the contract services is more complex
because there are not any publicly traded peer companies to compare against.
Privately held companies do not report their results because they do not have to be
compliant with the financial reporting requirements of publicly traded companies.

20. Conclusion
Marriott has to choose a risk value for each of the business and then go for
combining the Hurdle rates for different business to form a portfolio and decide
upon which business to invest in.
Based on the WACCs stated for Marriott and its various departments it’s
obvious that the values are different
If Marriott has used only one hurdle rate then it would be used the 11.88%
rate which is for the entire company.
As the risk in a business changes, the β value would change thus changing the
hurdle rate. The future rates that the firm has used to predict the WACC are
themselves prone to change with time. That is why WACC needs to be updated
regularly to make accurate decisions.
We represent the cost of capital with risk, so therefore the risk in the lodging
department is lower when compared with other departments that have a higher
WACC.
While Marriott used this rate, other projects would be rejected exact Lodging
because of its cost of capital of 9.47% which is lower than Marriott’s WACC as
entire.
A higher rate effects in a negative NPV as well as a reduced cash flow.
In summary, the risk that Marriott assumes will increase over time as Marriott
continues to invest in high risk projects.
Good bye!