A friend of yours that owns some shares of Lala Ltd is considering selling her

stake. Before acting she asked you to help her with the decision. She provides

you with the financial statements of Lala Ltd$.$ from the previous year. By

analyzing the statements, you determine the following information system:

Financial Statement Information

GN BN

State of Nature High $($H$)0\mathrm{.}80\mathrm{.}2$

Low $($L$)0\mathrm{.}10\mathrm{.}9$

Your friend assesses that the probability of high state is $0\mathrm{.}75($prior

probability$).$ At the current market price, if she decides to sell her stocks, she

could earn a payoff of $$90.$ If$,$ instead, she waits until the end of next quarter,

her payoff will be $$121$ if the high state is realized, and $$49$ is the low state is

realized. Your friend is risk averse with utility equal to the square root of the

payoff.

Required

a$.$ Lola Ltd$.$ has just reported its earnings for the quarter. The net income

before special items is up $10\%($compared to the same quarter last year$)$

and is above the analysts$$ consensus expectation. However, the report

includes a special item loss that reduces the net income below the

analysts$$ consensus expectation. Does the financial report show good

news $($GN$)$ or bad news $($BN$)?$ Explain.

b$.$ Based on the report in point a$).$ Should your friend sell or hold the

stocks? $($Show your computation$).$