Using a decision tree, evaluate three alternative locations that are described b
ID: 1127800 • Letter: U
Question
Using a decision tree, evaluate three alternative locations that are described below:
Site A:
Cost: $320,000
High revenue potential: $120,000 per year for 4 years, probability 0.65
Low revenue potential: $96,000 per year for 4 years, probability 0.35
Site B:
Cost: $320,000
High revenue potential: $150,000 per year for 4 years, probability 0.55
Low revenue potential: $125,000 per year for 4 years, probability 0.45
Site C:
Cost: $290,000
High revenue potential: $145,000 per year for 4 years, probability 0.30
Low revenue potential: $110,000 per year for 4 years, probability 0.70
Explanation / Answer
ANSWER:
SITE A
Expected revenue for 4 years = 4 * (0.65*120000+ 0.35 * 96000) =4 * $111600 = $ 446400
expected profit = expected revenue - cost = 446400 - 320000 = $ 126400
SITE B
Expected revenue for 4 years = 4 *( 0.55 * 150000 +0.45 *125000) = 4 * 138750 = $555000
expected profit = 555000 - 320000 = $235000
SITE C
Expected profit for 4 years = 4 * (0.30 * 145000 + 0.70 * 110000) = 4 * 120500 = $482000
Expected profit = 482000 - 290000 = $ 192000
hence one should invest in SITE B as it gives the highest expected profit. then, the person should think about investing in SITE C and at last he should think about investing in SITE A ( which provides least expected profit)
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