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Treynor Pie Company is a food company specializing in high-calorie snack foods. It is seeking to...

Treynor Pie Company is a food company specializing in high-calorie snack foods. It is seeking to diversify its food business and lower its risks. It is examining three companies—a gourmet restaurant chain, a baby food company, and a nutritional products firm. Each of these companies can be bought at the same multiple of earnings. The following represents information about all the companies. Company Correlation with Treynor Pie Company Sales ($ millions) Expected Earnings ($ millions) Standard Deviation in Earnings ($ millions) Treynor Pie Company + 1.0 $ 197 $ 9 $ 4.0 Gourmet restaurant + 0.6 64 4 1.3 Baby food company + 0.3 54 2 1.8 Nutritional products company − 0.7 75 3 3.2 a-1. Compute the coefficient of variation for each of the four companies. (Enter your answers in millions (e.g., $100,000 should be entered as ".10"). Round your answers to 3 decimal places.) a-2. Which company is the least risky? Nutritional products company Baby food company Treynor Pie Company Gourmet restaurant a-3. Which company is the most risky? Baby food company Nutritional products company Gourmet restaurant Treynor Pie Company b. Which of the acquisition candidates is most likely to reduce Treynor Pie Company's risk? Gourmet restaurant Nutritional products company Baby food company

Solutions

Expert Solution

a-1).  Coefficient of variation formula = Standard deviation in earnings/expected earnings

Company Correlation with Treynor Pie Company sales ($ mn) Expected earnings ($ mn) Standard deviation in earnings ($mn) Coefficient of variation
Treynor Pie 1 197 9 4                         0.444
Gourmet restaurant 0.6 64 4 1.3                         0.325
Baby food company 0.3 54 2 1.8                         0.900
Nutritional products company -0.7 75 3 3.2                         1.067

a-2). The company with the least coefficient of variation (CV) with be the least risky (as it has lowest volatility per unit of mean earnings) so Gourmet restaurant is the least risky.

a-3). Similarly, the company with the highest CV will be the riskiest as its volatility will be highest per unit of mean earnings so Nutritional products company is most risky.

b). Nutritional products company has a high negative correlation with Treynor Pie so it will most likely offset Treynor's risk.

jeff jeffy answered 9 months ago
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