Question

Broton and Sinister own and manage Cash and Carry, a roadside café and service station located on a main highway on the way to the snow fields in the Pacific Alps. Cart and Carry services the tourist traffic each year and in addition, it supplies to the local community small car parts such as tyres, tubes, radiator hoses, fanbelts, spark plugs, bulbs, fuses and so on.

As the cost of purchasing stock has risen inexorably year after year and stockholding costs have also risen, Esther has posed the question whether such large stocks are worth keeping. Joan argues that they have a reputation for ‘nearly always having the part needed’. She says this is a reputation worth having.

Esther counters that with the argument that they are often left with stock that they have especially ordered after customers ‘forget’ to return. Sometimes the orders are for special parts that are not generally in demand.

Required

a.        What are the investment issues here? Explain in terms of risk, opportunity costs and finance.

b.        How do you suggest they could solve the ‘forgotten’ orders problem?

c.       Is your solution likely to impact on the entity’s goodwill?

d.     Discuss the concept of risk and how it might be measured                             

Answer 1

a.Investement issues are purchasing high value stocks and maintaing cost that stock over a period of time.

risk refers to the degree of uncertainty or potential financial loss inherent in an investment decision.n order to get higher return investor need to take higher risk.

Opportunity Cost is the best alternative that is forgone because a particular course of action is pursued.

Finance is management of money and includes activities such as investing, borrowing, lending, budgeting, saving, and forecasting.

b.In order to solve the ‘forgotten’ orders problem first management take security deposit from the customers before issuing the sock.After the return of stock managemnt can refund the same secrity deposit.Actually it is good strategy for tackle that situation.

c.No , that solution won't impact the goodwill,why because it is known practise for many companies in now a days.And the management also refund the full security deposit amount ,customers also satisfy.

d.Risk implies future uncertainty about deviation from expected earnings or expected outcome.We have liquidity risk, sovereign risk, insurance risk, business risk, default risk, etc. Various risks originate due to the uncertainty arising out of various factors that influence an investment or a situation.

Expected volatility is a strong indicator of the risks of an asset. Volatility can be measured in different ways, but most often it involves tracking the standard deviation of returns over some sample period and capturing the dispersion – or potential dispersion of returns

There are five principal risk measures, and each measure provides a unique way to assess the risk present in investments that are under consideration. The five measures include the alpha, beta, R-squared, standard deviation, and Sharpe ratio.

Alpha : Alpha measures risk relative to the market or a selected benchmark index. For example, if the S&P 500 has been deemed the benchmark for a particular fund, the activity of the fund would be compared to that experienced by the selected index. If the fund outperforms the benchmark, it is said to have a positive alpha. If the fund falls below the performance of the benchmark, it is considered to have a negative alpha.

Beta : Beta measures the volatility or systemic risk of a fund in comparison to the market or the selected benchmark index. A beta of one indicates the fund is expected to move in conjunction with the benchmark. Betas below one are considered less volatile than the benchmark, while those over one are considered more volatile than the benchmark.

R-Squared measures the percentage of an investment's movement attributable to movements in its benchmark index. An R-squared value represents the correlation between the examined investment and its associated benchmark. For example, an R-squared value of 95 would be considered to have a high correlation, while an R-squared value of 50 may be considered low.

Standard deviation is a method of measuring data dispersion in regards to the mean value of the dataset and provides a measurement regarding an investment’s volatility.

The Sharpe ratio measures performance as adjusted by the associated risks. This is done by removing the rate of return on a risk-free investment, such as a U.S. Treasury Bond, from the experienced rate of return.