The answers and explanations can be placed in the same Excel document as the decision tree.
a. Develop a decision tree that can be used to solve Chang’s problem. You can assume in this part of the problem that she is using EMV (of her net profit) as a decision criterion. Build the tree so that she can enter any values for p1, p2, and p3 (in input cells) and automatically see her optimal EMV and optimal strategy from the tree.
b. If p2 = 0.8 and p3 = 0.1, what value of p1 makes Chang indifferent between abandoning the project and going ahead with it?
c. How much would Chang benefit if she knew for certain that the Olympic organization would guarantee her the contract? (This guarantee would be in force only if she were successful in developing the product.) Assume p1 = 0.4, p2 = 0.8, and p3 = 0.1
d. Suppose now that this is a relatively big project for Chang. Therefore, she decides to use expected utility as her criterion, with an exponential utility function. Using some trial and error, see which risk tolerance changes her initial decision from “go ahead” to “abandon” when p1 = 0.4, p2 = 0.8, and p3 = 0.1.
In your Excel document,
Develop a decision tree using the most appropriate support tool as described in Part a.
Calculate the value of p1 as described in Part b. Show calculations.
Calculate the possible profit using the most appropriate support tool as described in
Part c. Show calculations.
Calculate risk tolerance as described in Part d. Show calculations.
The How to download the StatTools add–in Download How to download the StatTools add–inattachment shows a step–by–step procedure on how to download the extra resources, the Analysis ToolPak add–in tool for Excel, and the StatTool download.
How much would Chang benefit if she knew for certain that the Olympic organization would guarantee her the contract?
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