Mrs. Andreea Bob

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  • Topic: Stock market, Market capitalization, Short
  • Pages : 3 (650 words )
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  • Published : October 26, 2012
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Strategic Capital Management
1. The market capitalization is equal to the total value of the tradable shares of a publicly traded company; it is equal to the share price times the number of shares outstanding. Therefore, knowing that on December 9, 1988, the share of the Creative Computers was traded at $22.75 and UBID at $35.6875 and also that Creative Computers had 10.238.703 shares outstanding and UBID 9.146.883, their market capitalization was:

Creative Computers: $22,75 * 10.238.703 = $232.930.493,25
UBID: $35,6875 * 9.146.883 = $326.429.387,0625

The “stub-value” of Creative Computers represents the difference between the value at which Creative Computers was trading on that day and the expected value, knowing that each shareholder of Creative Computers was going to receive 0,715 UBID shares for each share of Creative Computers.

The stub value, on December 9, 1998, was: $22,75 – 0,715*$35,6875 = $ -2,7665625

2. Given that the stub value of Creative Computers is negative, it means that UBID is overvalued, so an arbitrage opportunity would be to short 0,715*p shares of UBID and buy 1*p shares of Creative Computers. Practically, on December 9, 1988 you would make a profit of $2,7665625 * p (p = number of shares outstanding of Creative Computers), and on June 7, 1999, when the shares of UBID were going to be distributed to the shareholders of Creative Computers, you would obtain 0 profit (or more if the value of Creative Computers was higher than the value of UBID*0,715). T = 0T = 1

Short 0,715*p UBID 0,715*p*$35,6875 ->-0,715*p*Price UBID -------------------------------------------------
Long 1*p CC -1*p*$22,75 -> 0,715*p*Price UBID
$2,7665625 * p> 00

The risk associated with the strategy is if the stub value would increase too much in absolute value. The value of the shares shorted would be too high, comparing with the value of shares bought. Therefore, it is possible that the arbitrager would...
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