AN INVESTMENT SITUATION MINI-CASE Lucas Little has been asked by his client to review the financial statements of Stuff Stores Company. Mr. Little's client is considering making a substantial purchase of Stuff Stores stock. Before doing so, the client would like to know a bit more about the financial stability of the company. The information in Table VL6 should be used to conduct a basic analysis of Stuff Stores' financial situation Table VI.6 Annual Financial Data for Stuff Stores Company (S millions) Financial Attribute Market capitalization Total sales Net income (earnings) Dividends per share Shares outstanding Total assets Debt Shareholder's equity Cash flow Year 1 200,000.5 39,208.0 4,430.0 Year 2 Current 249,926.5 93,295.O 6,295.0 .24 4,464.5 78,130.0 8,824.0 31,343.0 9,604.0 212,234.O 66,809.0 5,3770 16 20 4,474.8 64,654.0 6,891.0 19,136.0 7,580.0 4,443.8 70,349.0 18,712.0 24,216.0 8,194.0 Other relevant data include . Beta for Stuff Stores stock: 85 Standard deviation for Stuff Stores stock: 14.5% Average return for Stuff Stores stock: 10.5% 781 782 Case oach to Financial Plannin Risk-free rate of return: 4.0% Return on the market: 9.0% Information on similar stocks is shown in Table VI.7 Table VI7 Data for Similar Stocks Stock Beta 90 .80 89 Stock Standard Deviation 15.5% 12.0% 15.0% Average Stock Return 80% 9.0% 11.0% Company Wigwam Stores, Inc. Maryland Markets Pacific Mercantile, Inc Please use this information to answer the following questions: 6. Mr. Little's client has noticed that the price of Stuff Stores Company during the past six months. He is convinced that the stock will continue to trade in a narrow range. He would like to make money on the stock, however. Which of the following strategies will cause Mr. Little's client to experience the greatest potential loss if Stuff Stores' stock price begins to fluctuate more widely? stock has remained steady a. Selling a naked put option. b. Selling a naked call option c. Selling a covered call option. 784 Case oach to Financial Plannin d. Buying a call option. Buying shares in Stuff Stores Company directly e. 7. Assume that Mr. Little's client decides to purchase shares in Stuff Stores stock to add to his sizable portfolio. The client tells Mr. Little that he does not want to incur the cost of selling the stock or the entire portfolio. The client also does not want to risk mistiming the market should stock prices start to fall. One strategy for the client to protect against a possible decline in both Stuff Stores stock price and the value of the portfolio would be to a. buy an index call option. b. sell an index call option. c. buy an index put option d. sell an index put option. e. avoid all options strategies because the client cannot protect against the decline with these options. 8. If the market risk premium were to increase, the value of common stock, including Stuff Stores Company stock, (holding all other factors constant) would a. not change because this does not affect stock values. b. increase to compensate the investor for increased risk. c. increase because of higher risk-free rates. d. decrease to compensate the investor for increased risk e. decrease because of lower risk-free rates. AN INVESTMENT SITUATION MINI-CASE Lucas Little has been asked by his client to review the financial statements of Stuff Stores Company. Mr. Little's client is considering making a substantial purchase of Stuff Stores stock. Before doing so, the client would like to know a bit more about the financial stability of the company. The information in Table VL6 should be used to conduct a basic analysis of Stuff Stores' financial situation Table VI.6 Annual Financial Data for Stuff Stores Company (S millions) Financial Attribute Market capitalization Total sales Net income (earnings) Dividends per share Shares outstanding Total assets Debt Shareholder's equity Cash flow Year 1 200,000.5 39,208.0 4,430.0 Year 2 Current 249,926.5 93,295.O 6,295.0 .24 4,464.5 78,130.0 8,824.0 31,343.0 9,604.0 212,234.O 66,809.0 5,3770 16 20 4,474.8 64,654.0 6,891.0 19,136.0 7,580.0 4,443.8 70,349.0 18,712.0 24,216.0 8,194.0 Other relevant data include . Beta for Stuff Stores stock: 85 Standard deviation for Stuff Stores stock: 14.5% Average return for Stuff Stores stock: 10.5% 781 782 Case oach to Financial Plannin Risk-free rate of return: 4.0% Return on the market: 9.0% Information on similar stocks is shown in Table VI.7 Table VI7 Data for Similar Stocks Stock Beta 90 .80 89 Stock Standard Deviation 15.5% 12.0% 15.0% Average Stock Return 80% 9.0% 11.0% Company Wigwam Stores, Inc. Maryland Markets Pacific Mercantile, Inc Please use this information to answer the following questions: 6. Mr. Little's client has noticed that the price of Stuff Stores Company during the past six months. He is convinced that the stock will continue to trade in a narrow range. He would like to make money on the stock, however. Which of the following strategies will cause Mr. Little's client to experience the greatest potential loss if Stuff Stores' stock price begins to fluctuate more widely? stock has remained steady a. Selling a naked put option. b. Selling a naked call option c. Selling a covered call option. 784 Case oach to Financial Plannin d. Buying a call option. Buying shares in Stuff Stores Company directly e. 7. Assume that Mr. Little's client decides to purchase shares in Stuff Stores stock to add to his sizable portfolio. The client tells Mr. Little that he does not want to incur the cost of selling the stock or the entire portfolio. The client also does not want to risk mistiming the market should stock prices start to fall. One strategy for the client to protect against a possible decline in both Stuff Stores stock price and the value of the portfolio would be to a. buy an index call option. b. sell an index call option. c. buy an index put option d. sell an index put option. e. avoid all options strategies because the client cannot protect against the decline with these options. 8. If the market risk premium were to increase, the value of common stock, including Stuff Stores Company stock, (holding all other factors constant) would a. not change because this does not affect stock values. b. increase to compensate the investor for increased risk. c. increase because of higher risk-free rates. d. decrease to compensate the investor for increased risk e. decrease because of lower risk-free rates