In this paper, I am going to determine the appropriate discount rate to use when pricing Campbell and Macy’s stock

In this paper, I am going to determine the appropriate discount rate to use when pricing Campbell and Macy’s stock

Overview
In this paper, I am going to determine the appropriate discount rate to use when pricing Campbell and Macy’s stock. The
model I will be using is William Sharpe’s Capital Asset Pricing Model (CAPM). There are three factors used in this model
to determine the discount rate. These factors are:
 Risk-Free Rate
 Market Risk Premium
 Beta

Determining the Risk-Free Rate and Market Risk Premium
First, I will explain the value that I designated for the risk-free rate and the market risk premium. These values will be the
same for valuing the stock of both the companies I have chosen. Traditionally, when determining the risk-free rate, one
would look at the current yield of the 10 Year Treasury. However, with the current economic conditions, this rate is
artificially low at 2%, so for this analysis, I am going to use 4%. I am using 4% because this figure accounts for a 2% real
yield and 2% inflation. Next, I determined the Market Risk Premium for my analysis. Since the risk-free rate was
normalized at a rate of 4%, for my market risk premium I chose to have this also be 4%. Where the two companies will
differ is in the determination of each stock’s beta.

Determining Beta for Campbell
I thought about what value I was going to assign to the beta of Campbell. Before looking at the historical beta of the
company’s stock, I rationalized what would be a logical beta. I looked at Campbell’s revenue sensitivity relative to the
average stock in the market. Since this company sells food items, I believe its stock to be defensive. This means that the

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the stock would have a beta less than one because, in an economic downturn, people are not going to stop buying food. Then, I
looked at the operating leverage and determine the number of fixed costs in the cost structure. Unfortunately, I am
not privy to specifics in the costs structure the company, but if I had the chance to examine this, I would adjust the beta
accordingly depending on the amount of fixed costs it is faced with despite the economic conditions. I also examined the
financial leverage of Campbell to determine the liquidity of the firm. I checked Yahoo Finance and looked at the debt to
equity ratio for Campbell and a couple of its competitors, as you can see in Table 1.

Table 1 Campbell (CPB) General Mills (GIS) Kraft (KFT)
Debt to Equity Ratio 281.39 102.65 80.56

After comparing these ratios amongst Campbell’s competitors, the company’s financial leverage is a bit high so this will
increase the beta, but this does not counter the fact that this is a defensive stock, so I would say that the beta is still
under one.

ANSWER.

PAPER DETAILS
Academic LevelCollege (1-2 years: Freshmen, Sophomore)
Subject AreaFinance
Paper Type Research paper
Number of Pages6 Page(s)/1650 words
Sources0
Paper FormatMLA
SpacingDouble spaced
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