Cost of Capital

In this post, I will overview Red Robin Gourmet Burgers cost of capital. In order to calculate the cost of capital, the necessary formula is WACC, or weighted average cost of capital. This formula considers a company's cost of debt and cost of equity. 

To calculate the cost of debt, the first step is to identify the amount of debt that is within the capital structure of the company. This is accomplished by adding the current portion of long term debt, current portion of leases, long term debt, and long term leases. From here, I then solved for the weight of debt by dividing the amount of long term debt, by the total value of the company (long term debt + equity), this equated to 81.89% of RRGB's capital structure. Then, I needed to identify the after tax cost of debt, which was simply the pre tax cost of debt, as RRGB had negative net income. Lastly, I multiplied the weight of debt by the cost of debt to get 9.92%.

Moving on to equity, the first step is to pull the current stock price, and the number of outstanding shares to solve for the amount of equity within the capital structure, and then divide by the total value of the company, equating to 18.11% of the capital structure. From here, I then began solving for the cost of equity, which requires the capital asset pricing model, CAPM = (risk free rate) + beta * market risk premium. The risk free rate is derived from the 10 year treasury yield, beta is taken from three different respected sources, and the market risk premium is calculated through surveys. In order to get the most accurate findings, I used three different beta estimates from Valueline, FactSet, and S&P Capital IQ. In doing so, three different WACCs and cost of equity are calculated, and provide a more holistic approach to understanding the cost of capital of a company by taking a variety of estimates. The average WACC for RRGB through this approach equated to 12.93%.

With an average WACC of 12.93%, this implies that investors are seeking a 12.93% return for their investment in RRGB. As compared to the WACC of some of its peers, PBPB 8.6%, CAKE 8.7%, CHUY 9.1%, and JACK 5.9%, RRGB carries a much higher WACC against its competition. Nonetheless, with a notably higher weighted average cost of capital, investors are skeptical of investing their money in RRGB which raises concerns regarding the risk level of Red Robin, as their peer group carry much lower WACCs.

RRGB Cost of Equity