Strategic Capital Management, LLC (A)

Strategic Capital Management, LLC, is a hedge fund that is planning to make financial investments in Creative Computers and Ubid. Creative Computers recently sold approximately 20% of its Internet auction subsidiary, Ubid, to the public at $15 per share. Ubid's stock price closed the first day of trading at $48, giving Ubid a $439 million market capitalization. Paradoxically, the parent's stock price did not keep pace with that of its subsidiary. At the end of Ubid's first day as a public company, Creative Computers' equity value was less than the value of its stake in Ubid. The market prices implied that Creative Computers' non-Ubid assets had a value of negative $79 million. The relative prices and ownership link between Creative Computers and Ubid suggest a potential arbitrage opportunity. To evaluate how best to exploit this investment opportunity, Elena King, the manager of the hedge fund, must understand both the risks and expected returns associated with different long and short equity positions.