Answers
1) Decision tree is as follows
With the current set of probabilities of Good and Poor economy, Expected Monetary Value calculations are given below:
EMV of node 2 = 0.6*50+0.4*30 = 42
EMV of node 3 = 0.6*100+0.4*(-40) = 44
EMV of node 4 = 0.6*30+0.4*10 = 22
EMV of node 3 is maximum. Therefore, best decision is to construct Office
2) Sensitivity analysis on the probabilities is as follows:
Formula to construct the sensitivity table
B6 =$A6*B$2+(1-$A6)*B$3 copy to B6:D16
In the graph, we see that as probability of good economy increases, EMV of Office increases at faster rate than the EMV of other two alternatives. For probability [P(Good)] upto little less than 0.60, Apartment is the best option, and for probabilities greater than that, Office is the best option. Warehouse is never the best option out of the three.
Good Economy 0.6050 Poor Economy 0.40 30 Good Economy 0.60 100 Poor Economy 0.40 -40 Good Economy 0.6030 Poor Economy 0.40 10 artment ? 2 3 4
Apartment Office Warehouse 100 -40 Sensitivity Analysis 30 10 Poor 30 120 100 80 60 2 40 20 5 P(Good) Apartment Office Warehouse 0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 1.00 30 32 -40 26 12 10 12 14 16 18 20 16 30 10 40 42 13 14 46 86 100 28 30 16 17 18 19 0.00 0.40 0.60 0.80 1.00 -20 -40 60 21 P(Good) Probability of Good Economy 23 24 25 Apartment Office Warehouse
.
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