ABCO is a conglomerate that has ksh$4$ billion in common stock. Its capital is invested in four

subsidiaries: Entertainment $($ENT$),$ Consumer products $($CON$),$ Pharmaceuticals $($PHA$)$ and insurance

$($INS$).$ The four subsidiaries are expected to perform differently, depending on the economic environment

as follows:

Investment in ksh

millions

Poor economy Average economy Good economy

ENT $1,20020\%-5\%-8\%$

CON $80015\%10\%-20\%$

PHA $1,400-10\%-5\%27\%$

INS $600-10\%10\%10\%$

Assuming that the three economic outcomes $(1)$ have an equal likelihood of occurring and $(2)$ that the

good economy is twice as likely to take place as the other two:

i$)$ Calculate the individual expected returns for each subsidiary

ii$)$ Calculate the implicit portfolio weights for each subsidiary and an expected return and

variance for the equity in the ABCO Conglomerate

a$)$ Asssume in a$)$ above that ABCO also has a pension fund, which has a net asset value of ksh $5$

billlion, implying that ABCO$$s stock is really worth ksh $9$ billion instead of ksh $4$ billlion. The sh

$5$ billion in pension fund is invested in short term government risk free securities yielding $5\%$ per

year. Recalculate parts i$)$ and ii$)$ of a$)$ to reflect this information.

b$)$ Assume the in a$),$ ABCO decides to borrow sh $8$ billion at $5\%$ interest to triple its current

investment in each of its four lines of business. Assume that this new investment has the same

return outcomes as the old investment.

$($I$)$ Answer part i$)$ and ii$)$ of a$)$ given the new investment

$($II$)$ How does this result compare with the results from a$)?$

$($III$)$ To whom does this return belong? Why?

c$)$ Explain how ABCO would manage its portfolio prudently