After watching a movie about a young woman who quit a successful corporate caree
ID: 3337468 • Letter: A
Question
After watching a movie about a young woman who quit a successful corporate career to start her own baby food company, Julia Day decided that she wanted to do the same. In the movie, the baby food company was very successful. Julia knew, however, that it is much easier to make a movie about a successful woman starting her own company than to actually do it. The product had to be of the highest quality, and Julia had to get the best people involved to launch the new company. Julia resigned from her job and launched her new company—Starting Right. Julia decided to target the upper end of the baby food market by producing baby food that contained no preservatives but had a great taste. Although the price would be slightly higher than for existing baby food, Julia believed that parents would be willing to pay more for a high-quality baby food. Instead of putting baby food in jars, which would require preservatives to stabilize the food, Julia decided to try a new approach. The baby food would be frozen. This would allow for natural ingredients, no preservatives, and outstanding nutrition. Getting good people to work for the new company was also important. Julia decided to find people with experience in finance, marketing, and production to get involved with Starting Right. With her enthusiasm and charisma, Julia was able to find such a group. Their first step was to develop prototypes of the new frozen baby food and to perform a small pilot test of the new product. The pilot test received rave reviews. The final key to getting the young company off to a good start was to raise funds. Three options were considered: corporate bonds, preferred stock, and common stock. Julia decided that each investment should be in blocks of $30,000. Furthermore, each investor should have an annual income of at least $60,000 and a net worth of $200,000 to be eligible to invest in Starting Right. Corporate bonds would return 11% per year for the next 5 years. Julia furthermore guaranteed that investors in the corporate bonds would get at least $20,000 back at the end of 5 years. Investors in preferred stock should see their initial investment increase by a factor of 5 with a good market or see the investment worth only half the initial investment with an unfavorable market. The common stock had the greatest potential. The initial investment was expected to increase by a factor of 8 with a good market, but investors would lose everything if the market was unfavorable. During the next 5 years, it was expected that inflation would increase by a factor of 3.5% each year.
Discussion Questions
1. Sue Pansky, a retired elementary school teacher, is considering investing in Starting Right. She is very conservative and is a risk avoider. What do you recommend?
2. Ray Cahn, who is currently a commodities broker, is also considering an investment, although he believes that there is only a 15% chance of success. What do you recommend?
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?
4. George Yates believes that there is an equally likely chance for success. What is your recommendation?
5. Peter Metarko is extremely optimistic about the market for the new baby food. What is your advice for Pete?
6. Julia Day has been told that developing the legal documents for each fundraising 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?
Explanation / Answer
1. Sue Pansky, a retired elementary school teacher, is considering inesting in Starting Right. She is very conservative and is a risk avoider. What do you recommend?
We believe that if Sue is going to invest in Starting Right she needs to do it in the form of corporate bonds. This is due to the fact that there is a projection of a 13% gain year over year and Julia has guaranteed the investors will receive a minimum of $20,000 back after a five year period. Corporate bonds are also less risky due to the fact that if the corporation fails then the bonds are paid before the stockholders receive any money back. Furthermore if Sue was to purchase preferred stock she could lose up to half of her investment on the worst case scenario and in common stock she could lose all of her investment.
Looking at these scenarios and Sue%u2019s situation, with being retired and most likely not wanting to start a new career, she needs to find investments that are low risk but still provide a return. This why a corporate bond would be the best option for her, low risk on the investor but also a low reward.
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?
We believe that Mr. Cahn should go with the common stock alternative option because it will give him the highest payoff.
Common Stock according to the Business Dictionary dot com is a type of security that serves as an evidence of proportionate ownership, imparts proportionate voting rights, and gives its holder unlimited proportionate claim on the assets and income of the firm (after the claims of lenders, and other obligations, are satisfied). Common stock constitutes the equity capital (also called risk capital) of the firm which is never paid back (redeemed), and is lost if the firm fails. Common stock usually has a par value (amount for which each share is sold for when first issued) but has no guaranteed value afterwards. In bad years, common stock holders may receive little or no income (dividends) at all. But, in good years, there is no limit to the amount they may receive except the limits imposed by the government, the lenders, or the financial position of the firm. Common stock holders elect directors of the firm and thus participate in determining its policies and direction. But their claims on the firm%u2019s assets are subordinate to those of debenture holders, preferred stock (preference share) holders, creditors, and agencies (such as tax authorities). On the winding up of the business, the surplus of the assets over liabilities is divided among common stockholders in proportion to their stockholding.
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?
There%u2019s an old saying %u201CIn order to make money, you need to spend money%u201D. Nothing in life is a guarantee and but in question one Sue Pansky is taking the same chance and in investing into this company that is very new with a great concept. Julia has laid out a very well plan of a product and has already received great feedback from the public. Julia has even laid out the minimum and/or worst outcome for each alternative that is identified with your investment. If Ms. Battle wants to still play it safe, I would select corporate bonds that reflect a pessimistic decision approach to her investment. A corporate bond is a bond issued by a corporation; carries no claim to ownership and pays no dividends but payments to bondholders have priority over payments to stockholders; "a corporate bond is a safer investment than common stock in the same company"(Corporate, 2013).
4. George Yates believes that there is an equally likely chance for success. What is your recommendation?
Our recommendation to George Yates would be to purchase preferred stock from Starting Right. We believe this due to the fact that George believes there is a 50% chance that the company will succeed. In buy preferred stock George has a chance for greater reward than buying bonds but also will not lose all of his investment like the common stock option if the company fails. By George saying he is equally confident in the success and failure of the company means he is not sure if it will succeed or fail and thus should not risk an entire investment on an uncertainty he feels in the company. If George ever feels that a greater likely hood of success of Starting Right then he can look into purchasing common stock since he has a higher certainty of success over failure.