Marriott Cost Of Capital

QUESTION 1 - Why does Marriott Corp need to set up new hurdle rates for its businesses?

The need to set up new hurdle rates for its businesses derives from the fact that the risk level of a project is not static as it is influenced by several variables such as interest rates, geopolitical conditions, cyclical period of the economies, competition and others. If we look, for example, at government bond interest rates which influence the risk free rate used in the projects equity cost calculations we can easily understand this as a drop or a rise in these rates will clearly have positive or negative impact on the projects hurdle rate, respectively.

Geopolitical conditions are also of importance as they influence the investor's aversion to risk and this is reflected on interest rates.

Competition is also an important variable in this equation: imagine a situation where competition increases dramatically in the business of the company, in this case Marriott Corp, and due to this the market witnesses a strong decrease in margins and, thus, a decrease in market premium. Such a situation would clearly have a negative impact on the hurdle rate as risk would increase.

In terms of the different divisions that constitute Marriott Corp's business, they all have different risk levels and they all react differently to the variables mentioned before as such being important to use a different hurdle rate for each.

QUESTION 2 - Should it use a single hurdle rate for the firm as a whole?

Marriott Corp's business is comprised of three different divisions: lodging, restaurants and contract services. All three have associated different risk levels when compared with Marriott Corp's as a whole, related not only to the different operational requirements but also capital requirements.

This means that for each division there is a single different Beta, meaning also different costs of equity. As such, if Marriott Corp used its firm's weighted average cost of capital (WACC) to evaluate divisional projects it could be deciding on accepting a new project for which its expected returns are below its division's WACC and taking on losses. On the other hand it could also be doing the opposite, that is, declining a project with a lower WACC than Marriott's Corp but that in fact is higher than the division's WACC and as such limiting the company's growth.

QUESTION 3 - Estimate the cost of capital for Marriott Corp's equity

To estimate Marriott Corp's Cost of Equity we will use the CAPM (Capital Asset Pricing Model):

Rs= Rf + β (Rm - Rf)

In which:

Rs is the cost of equity (or expected return on equity)

Rf is the risk free rate

β is the equity beta

Rm is the return on the market portfolio

a) Rf is given in the