1. Robert, a rational investor, has $500,000 to invest, He can choose either a risk-free Canada Savings Bond (CSB), or shares of Pronghorn Manufacturing Inc. (Pronghorn), a publicly listed company. There are two possible future states for Pronghorn: The company will be a high- performance company, or a low-performance company. Robert's initial (or prior) beliefs are that the probability of Pronghorn being a high- performance company is 25%, and the probability that Pronghorn being a low- performance company is 75%. The following is the net payoff table of these two investments (i.e. the original investment has been deducted from the payoffs) Future State High Low Pronghorn $120,000 $8,000 Investment Choice CSB $15,000 $15,000 Robert decides to read Pronghorn's recent annual report, as he is a former accounting theory student and knew that information in the report could help inform his investment decision. In fact, he estimates the quality of financial statement prepared according under current GAAP is expressed by the following relationships (i.e., information system) Current Annual Report Evidence Good News Bad News High .85 .15 Future State Low .25 .75 Upon reading the annual report, Robert learns the current annual earnings are Bad News. Robert is risk averse, with utility equal to the square root of the net payoff. Utility = net payoff Which investment should Robert choose, after seeing the annual report? Did the reading of the annual reports, change Robert's investment decision? Show all calculations, round results from calculations to 3 decimal places. (15 marks) 1. Robert, a rational investor, has $500,000 to invest, He can choose either a risk-free Canada Savings Bond (CSB), or shares of Pronghorn Manufacturing Inc. (Pronghorn), a publicly listed company. There are two possible future states for Pronghorn: The company will be a high- performance company, or a low-performance company. Robert's initial (or prior) beliefs are that the probability of Pronghorn being a high- performance company is 25%, and the probability that Pronghorn being a low- performance company is 75%. The following is the net payoff table of these two investments (i.e. the original investment has been deducted from the payoffs) Future State High Low Pronghorn $120,000 $8,000 Investment Choice CSB $15,000 $15,000 Robert decides to read Pronghorn's recent annual report, as he is a former accounting theory student and knew that information in the report could help inform his investment decision. In fact, he estimates the quality of financial statement prepared according under current GAAP is expressed by the following relationships (i.e., information system) Current Annual Report Evidence Good News Bad News High .85 .15 Future State Low .25 .75 Upon reading the annual report, Robert learns the current annual earnings are Bad News. Robert is risk averse, with utility equal to the square root of the net payoff. Utility = net payoff Which investment should Robert choose, after seeing the annual report? Did the reading of the annual reports, change Robert's investment decision? Show all calculations, round results from calculations to 3 decimal places. (15 marks)
