Decision Tree (100 points)
The supplement to Chapter 5 in your textbook describes and develops several decision trees.
Address the following requirements:
- Develop a decision tree for the case described.
- Explain the process of developing a decision tree, draw the decision tree (include the decision tree in an appendix showing chance nodes, probabilities, outcomes, expected values, and net expected value).
- Defend your final decision based on your decision tree.
Case for consideration—An operations manager for a cereal producer is faced with a choice of:
- A large-scale investment (A) to purchase a new cooker which could produce a substantial pay-off in terms of increased revenue net of costs but requires an investment of 3,750,000 Saudi Riyal. After extensive market research it is thought that there is a 40% chance that a pay-off of 9,375,000 Saudi Riyal will be realized, but there is a 60% chance that it will be only 3,000,000 Saudi Riyal.
- A smaller scale project (B) to refurbish an existing cooker. At 1,875,000 Saudi Riyal, this option is less costly but produces a lower pay-off. Again, extensive research data suggests a 30% chance of a gain of 3,750,000 Saudi Riyal but a 70% chance of it being only 1,875,000 Saudi Riyal.
- Continuing the present operation without change (C) which cost nothing, but produces no pay-off.
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