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H. J. Heinz: Estimating the Cost of Capital in Uncertain Times UV5147 Rev. Jan. 6, 2016 This case was prepared by Associate Professor Marc L. Lipson. It was written as a basis for class discussion...

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H. J. Heinz: Estimating the Cost of Capital in Uncertain Times
Rev. Jan. 6, 2016

This case was prepared by Associate Professor Marc L. Lipson. It was written as a basis for class discussion rather than to illustrate effective or ineffective
handling of an administrative situation. Copyright  2010 by the University of Virginia Darden School Foundation, Charlottesville, VA. All rights
eserved. To order copies, send an e-mail to XXXXXXXXXX. No part of this publication may be reproduced, stored in a retrieval system, used in a
spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of the Darden School Foundation.

H. J. Heinz: Estimating the Cost of Capital in Uncertain Times
To do a common thing uncommonly well
ings success.
—H. J. Heinz Founder Henry John Heinz
As a financial analyst at the H. J. Heinz Company (Heinz) in its North American Consumer Products
division, Solomon Sheppard, together with his co-workers, reviewed investment proposals involving a wide
ange of food products. Most discussions in his office focused on the potential performance of new products
and reasonableness of cash flow projections. But as the company finished its 2010 fiscal year at the end of
April—with financial markets still in turmoil from the onset of the recession that started at the end of 2007—
the central topic of discussion was the company’s weighted average cost of capital (WACC).
At the time, there were three reasons the cost of capital was a subject of controversy. First, Heinz’s stock
price had just finished a two-year roller coaster ride: Its fiscal year-end stock price dropped from $47 in 2008
to $34 in 2009, then rose back to $47 in 2010, and a vigorous debate ensued as to whether the weights in a cost
of capital calculation should be updated to reflect these changes as they occu
ed. Second, interest rates
emained quite low—unusually so for longer-term bond rates; there was concern that updating the cost of
capital to reflect these new rates would lower the cost of capital and therefore bias in favor of accepting projects.
Third, there was a strong sense that, as a result of the recent financial meltdown, the appetite for risk in the
market had changed, but there was no consensus as to whether this should affect the cost of capital of the
company and, if so, how.
When Sheppard a
ived at work on the first of May, he found himself at the very center of that debate.
Moments after his a
ival, Sheppard’s immediate supervisor asked him to provide a recommendation for a
WACC to be used by the North American Consumer Products division. Recognizing its importance to capital
udgeting decisions in the firm, he vowed to do an “uncommonly good” job with this analysis, gathered the
most recent data readily available, and began to grind the numbers.
Heinz and the Food Industry
In 1869, Henry John Heinz launched a food company by making horseradish from his mother’s recipe. As
the story goes, Heinz was traveling on a train when he saw a sign advertising 21 styles of shoes, which he
thought was clever. Since 57 was his lucky number, the entrepreneur began using the slogan “57 Varieties” in
his advertising. By 2010, the company he eventually founded had become a food giant, with $10 billion in
evenues and 29,600 employees around the globe.
For the exclusive use of D. Ghosh, 2020.
This document is authorized for use only by Devleena Ghosh in Behavioral Corporate Finance (Summer 2020) taught by DUCCIO MARTELLI, Universit?? degli Studi di Perugia from Jun 2020
to Aug 2020.
Page 2 UV5147

Heinz manufactured products in three categories: Ketchup and Sauces, Meals and Snacks, and Infant
Nutrition. Heinz’s strategy was to be a leader in each product segment and develop a portfolio of iconic
The firm estimated that 150 of the company’s
ands held either the number one or number two position in
their respective target markets.1 The famous Heinz Ketchup, with sales of $1.5 billion a year or 650 million
ottles sold, was still the undisputed world leader. Other well-known
ands included Weight Watchers (a leader
in dietary products), Heinz Beans (in 2010, the
and sold over 1.5 million cans a day in Britain, the “biggest
ean-eating nation in the world”), and Plasmon (the gold standard of infant food in the Italian market).2 Well-
ands remained the core of the business with the top 15
ands accounting for about 70% of revenues,
and each generating over $100 million in sales.
Heinz was a global powerhouse. It operated in more than 200 countries. The company was organized into
usiness segments based primarily on region: North American Consumer Products, U.S. Foodservice, Europe,
Asia Pacific, and Rest of World. About 60% of revenues were from outside the United States and the North
American Consumer Products and Europe segments were of comparable size. Increasingly, the company was
focusing on emerging markets, which had generated 30% of recent growth and comprised 15% of total sales.
The most prominent global food companies based in the United States included Kraft Foods, the largest
U.S.-based food and beverage company; Campbell Soup Company, the iconic canned food maker; and Del
Monte Foods, one of largest producers and distributers of premium-quality
anded food and pet products
focused on the U.S. market (and a former Heinz subsidiary). Heinz also competed with a number of other
global players such as Nestlé, the world leader in sales, and Unilever, the British-Dutch consumer goods
Recent Performance
With the continued uncertainty regarding any economic recovery and deep concerns about job growth over
the previous two years, consumers had begun to focus on value in their purchases and to eat more frequently
at home. This proved a benefit for those companies providing food products and motivated many top food
producers and distributors to focus on core
ands. As a result, Heinz had done well in both 2009 and 2010,
with positive sales growth and profits above the 2008 level both years, although 2010 profits were lower than
those in 2009. These results were particularly striking since a surge in the price of corn syrup and an increase in
the cost of packaging had necessitated price increases for most of its products. Overseas sales growth,
particularly in Asia, had also positively affected the company’s operations. Exhibit 1 and Exhibit 2 present
financial results for the years 2008, 2009, and 2010.
The relation between food company stock prices and the economy was complicated. In general, the
performance of a food products company was not extremely sensitive to market conditions and might even
enefit from market uncertainty. This was clear to Heinz CFO Art Winkelblack, who in early 2009 had
emarked, “I’m sure glad we’re selling food and not washing machines or cars. People are coming home to
Heinz.”3 Still an exceptionally prolonged struggle or another extreme market decline could drive more
consumers to the private-label
ands that represented a step down from the Heinz
ands. While a double-
dip recession seemed less likely in mid-2010, it was clear the economy continued to struggle, and this put
pressure on margins.
While the stock price for Heinz had been initially unaffected by adverse changes in the economy and did
not decline with the market, starting in the third quarter of 2008, Heinz’s stock price began tracking the market’s

1 “H. J. Heinz Corporate Profile,” http: (accessed Sep. 27, 2010).
2 http:
3 Andrew Bary, “The Return of the Ketchup Kid,” Ba
on’s, January 26, 2009.
For the exclusive use of D. Ghosh, 2020.
This document is authorized for use only by Devleena Ghosh in Behavioral Corporate Finance (Summer 2020) taught by DUCCIO MARTELLI, Universit?? degli Studi di Perugia from Jun 2020
to Aug 2020.
Page 3 UV5147

movement quite closely. Figure 1 plots the Heinz stock price against the S&P Index (normalized to match
Heinz’s stock price at the start of the 2005 fiscal year). The low stock price at the start of 2009 had been
characterized by some as an over-reaction and, even with the subsequent recovery, it was considered
undervalued by some.4
Figure 1. Heinz stock price and normalized S&P 500 Index.
Data sources: S&P 500 and Yahoo! Finance.
Cost of Capital Considerations
Recessions certainly could wreak havoc on financial markets. Given that the recent downturn had been
largely precipitated by turmoil in the capital markets, it was not surprising that the interest rate picture at the
time was unusual. Exhibit 3 presents information on interest rate yields. As of April 2010, short-term
government rates and even commercial paper for those companies that could issue it were at strikingly low
levels. Even long-term rates, which were typically less volatile, were low by historic standards. Credit spreads,
which had drifted upwards during 2008 and jumped upwards during 2009, had settled down but were still
somewhat high by historic standards. Interestingly, the low level of long-term rates had more than offset the
ise in credit spreads, and bo
owers with access to debt markets had low bo
owing costs.
Sheppard gathered some market data related to Heinz (also shown in Exhibit 3). He easily obtained
historic stock price data. Most sources he accessed estimated the company’s beta using the previous five years
of data at about XXXXXXXXXXSheppard obtained prices for two bonds he considered representative of the company’s
outstanding bo
owings: a note due in 2032 and a note due in 2012. Heinz had regularly accessed the
commercial paper market in the past, but that market had recently dried up. Fortunately, the company had
other sources for short-term bo
owing and Sheppard estimated these funds cost about 1.20%.

4 Bary; the same article noted that Heinz had “an above-average portfolio of
ands, led by its commanding
Answered Same Day Jul 17, 2021


Neenisha answered on Jul 18 2021
130 Votes
We have computed the cost of debt, cost of equity, WACC and Asset Beta for the 4 companies.
· Time Period – we have considered the return over the government bonds over a long period of time as it is difficult to explain the return on short period of time but in long period of time, it averages out.
· Prospect Theory – Investors are willing to take risk but they need to be compensated for the risk undertaken.
· The equity premium is calculated for survivors. Hence, the riskiness is avoided in the premium.
· The risk on the equities is very high than the fixed income securities.
Cost of Debt
To compute the cost of Debt we consider first market value of debt which is equal to book value of debt/ We need long term debt from the balance sheet of the company.
    Campbell Soup
    Del Monte
     $ 4,559.152
     $ 18,990
     $ 2,624
     $ 1,290
Now to compute cost of debt, we have three components. We need to compute interest rate on long term debt which is calculated as a proportion of interest expense and long term debt.
Cost of Debt = Interest expenses / Long term debt
    Campbell Soup

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