Starting Right Company
* Inspired by a movie, Julia Day decided to build a baby food company named as Starting Right Company, which targets the upper class market. * To differentiate the product from its competitors, the company offers frozen baby foods with no preservatives while ensuring great taste. * Julia Day hired people with experience in finance, marketing and production. The group started to develop product samples of the new frozen baby food. * Julia decided that each investment should be in blocks of $30,000. In addition, to become an eligible investor, one should have an annual income of at least $40,000 and net worth of $100,000.
Definition of the Problem:
The case presents six (6) independent questions requiring investment-related recommendations based on specific situations presented.
Case Facts and Information:
To help raise funds for the company, Starting Right Corp. is offering three (3) investment options, the specifics of which are stated below:
* Corporate bonds with a return of 13% per year for the next five (5) years and a further guarantee of at least $ 20,000.00 back at the end of the five (5) years. *The computation of the returns for corporate bonds is assumed to be for simple interest since it is not stated to be compounded annually. * Preferred stock – Initial investment increases by a factor of four (4) in a good market and only half of it in an unfavorable one. * Common stock - Initial investment increases by a factor of eight (8) in a good market but loses all its value in an unfavorable one.
Julia has also decided that investments made should be in blocks of $ 30,000.00.
The eligibility factors required from prospective investors are also stated which includes an annual income of at least $40,000 and net worth of $100,000. An inflation rate of 4.5% per year is stated as well. These data however were not used in deriving recommendations for the corresponding questions.
Approach to Solving the Problem/s:
The questions are answered individually and independently based on the facts stated for each number. The application QM3 for windows is utilized to assist in the computation of quantitative data as support for those that may require such recommendation. The Decision Analysis Module is used with the aim of Profit maximization for the prospective investors. With this in mind, specifically for questions numbers 1 to 5, we tabulated the following gain or loss for each alternative.
* For Corporate bonds – guaranteed $ 20,000.00 regardless of market condition. * For Preferred Shares – FAVORABLE = $90,000.00 ([30,000.00 X 4]-30,000.00) UNFAVORABLE = -$15,000.00 ([30,000.00/2]-30,000.00)
* For Common Shares - FAVORABLE = $210,000.00 ([30,000.00 X 8]-30,000.00) UNFAVORABLE = -$30,000.00
1. Sue Pansky, a retired grade-school teacher, is considering investing in Starting Right. She is very conservative and is a risk avoider. What do you recommend?
Answer: Using the Pessimistic Model or Maximin Criterion, we recommend the investment on a Corporate bonds to Ms. Sue Pansky. It is the most conservative of the options available garnering her the highest return of $ 20,000.00 considering the worst situations in each case.
2. Ray Cahn, who is currently a commodities broker, is also considering an investment, although he believes that there is only an 11% chance of success. What do you recommend?
Answer: With the given rate of 11% chance of success, we used this as the coefficient of realism and applied it using the Realism model (Hurwicz Criterion). Through this we recommend Mr. Ray Cahn to invest in Corporate Bonds too. This showed the highest return on his investment after 5 years which is the guaranteed amount of $ 20,000.00.
3. Lila Battle has decided to invest in Starting Right. While she believes that Julia has a good chance of being successful, Lila is a risk avoider...