"Starting Right Corporation"

During next 5 years, expected that inflation increase by factor of 4.5% each year
Investors should have:
- Annual income of at least $40,000

- Net worth of $100,000

1) Sue Panksy, a retired elementary school teacher, is considering investing in Starting Right.
She is very conservative and is a risk avoider. What do you recommend?
She should invest in corporate bonds because it has the least risk among the available options. Also, her
investment of $30,000 is secure to the extent of $20,000, since this amount is guaranteed by Julia.
Because she is very conservatio and is a risk avoidant, I recommend this maximin approach. Sue can take
out the minimum payout and not worry about a great loss.

Laplace average value: Preferred stock $120,000

State of Nature

Alternative Favorable ($) Unfavorable ($) Hurwicz Value

Corporate Bonds 49,500 20,000 0(49,500)+(1*20,00

0)=
(30,000*.13)*5 20,000

Preferred Stock 120,000 15,000 0.5(120,000)+(0.5*1

5,000)= 67,500

Common Stock 240,000 0 1(240,000)+(0*0) =

240,000

Do nothing 0 0 0

Regret Table Favorable market ($) Unfavorable market ($) EMV ($)

Corporate bonds Opportunity loss: 0 - (20,000) = -20,000 (49,500*0.5)+(20,000*0.5) = 34,750

240,000 - 49,500 =
190,500

Preferred stock 240,000 - 120,000 = 0 0 - (15,000) = -15,000 (120,000*0.5)+(15,000*0.5)= 67,500

Common stock 240,000 - 240,000 = 0 0 - (0) = 0 (240,000*0.5)+(0*0.5)= 120,000

Do nothing 240,000 - 0 = 240,000 0 - (0) = 0 (0*0.5)+(0*0.5)= 0

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?
Invest in corporate bonds because the return is high and the risk associated is also high. This choice is
preferable because he has a risk taking attitude, but is also aware of the 11% chance of success. The
highest of all possible payoffs is $49,500 and it still allows him to take a cautious approach in his
decision.
 Laplace average value: Preferred stock $120,000
State of Nature

Alternative Favorable ($) Unfavorable ($) Hurwicz Value

Corporate Bonds 49,500 20,000 0(49,500)+(1*20,000)=

20,000

Preferred Stock 120,000 15,000 0.5(120,000)+(0.5*15,0

00)= 67,500

Common Stock 240,000 0 1(240,000)+(0*0) =

240,000

Do nothing 0 0 0

Regret Table Favorable market ($) Unfavorable market ($) EMV ($)

Corporate bonds Opportunity loss: 0 - (20,000) = -20,000 (49,500*0.5)+(20,000*0.5) = 34,750

240,000 - 49,500 =
190,500

Preferred stock 240,000 - 120,000 = 0 0 - (15,000) = -15,000 (120,000*0.5)+(15,000*0.5)= 67,500

Common stock 240,000 - 240,000 = 0 0 - (0) = 0 (240,000*0.5)+(0*0.5)= 120,000

Do nothing 240,000 - 0 = 240,000 0 - (0) = 0 (0*0.5)+(0*0.5)= 0

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 and very conservative. What is your advice
to Lila?
Because Lila is risk avoidant and very conservation as well, I recommend she invest in corporate bonds.
Both the favorable and unfavorable outcomes are pretty safe compared to the alternatives.

Laplace average value: Preferred stock $120,000

State of Nature

Alternative Favorable ($) Unfavorable ($) Hurwicz Value

Corporate Bonds 49,500 20,000 0(49,500)+(1*20,000)=

20,000

Preferred Stock 120,000 15,000 0.5(120,000)+(0.5*15,0

00)= 67,500

Common Stock 240,000 0 1(240,000)+(0*0) =

240,000

Do nothing 0 0 0

4) George Yates believes that there is an equally likely chance for success or failure. What is
your recommendation?
Laplace approach because he believes that success is equally likely, therefore, the favorable and
unfavorable approaches have equal chances of occurring. I recommend he invest in the preferred stock
because it is an aggressive option, but not to the extent of common stock.

Laplace average value: Preferred stock $120,000

State of Nature

Alternative Favorable ($) Unfavorable ($) Hurwicz Value

Corporate Bonds 49,500 20,000 0(49,500)+(1*20,000)=

20,000

Preferred Stock 120,000 15,000 0.5(120,000)+(0.5*15,0

00)= 67,500

Common Stock 240,000 0 1(240,000)+(0*0) =

240,000

Do nothing 0 0 0

5) Peter Metarko is extremely optimistic about the market for the new baby food. What is
your advice for Pete?
Because Pete is very optimistic (maximax), my advice is that he invest in the common stock. This
alternative will provide him with a return of 8 times, which is more than any other alternative. Given that
he is very optimistic, his focus on the large sum of return will outweigh the unfavorable outcome.

Laplace average value: Preferred stock $120,000

State of Nature

Alternative Favorable ($) Unfavorable ($) Hurwicz Value

Corporate Bonds 49,500 20,000 0(49,500)+(1*20,000)=

20,000

Preferred Stock 120,000 15,000 0.5(120,000)+(0.5*15,0

00)= 67,500

Common Stock 240,000 0 1(240,000)+(0*0) =

240,000

Do nothing 0 0 0

6) Julia Day has been told that developing the legal documents for each fund-raising
alternative is expensive. Julia would like to offer alternatives for both risk-averse and
risk-seeking investors. Can Julia delete one of the financial alternatives and still offer
investment choices for risk seekers and risk avoiders? ‘
Yes, Julia can remove the option for preferred stock and still offer investment choices for risk seekers and
risk avoiders. Removing this option will still allow risk seekers to choose common stock and risk avoiders
to opt for corporate bonds.

Laplace average value: Preferred stock $120,000

 State of Nature

Alternative Favorable ($) Unfavorable ($) Hurwicz Value

Corporate Bonds 49,500 20,000 0(49,500)+(1*20,000)=

20,000

Preferred Stock 120,000 15,000 0.5(120,000)+(0.5*15,0

00)= 67,500

Common Stock 240,000 0 1(240,000)+(0*0) =

240,000

Do nothing 0 0 0