Instructor-created question Question Help F.J. Brewerton Retailers, Inc., must d

Question

Instructor-created question Question Help F.J. Brewerton Retailers, Inc., must decide whether to build a small or a large facility at a new location in south Texas. Demand at the location will either be low or high, eith probabilities 0.4 and 0.6, respectively. If Brewerton builds a small facility and demand proves to be high, he then has the option of expanding the facility. If a small facility is built and demand proves to be high, and then the retailer expands the facility, the payoff is $270,000. If a small facility is built and demand proves to be high, but Brewerton then decides not to expand the facility, the payoff is $223,000 If a small facility is built and demend proves to be low, then there is no option to expand and the payoff is $200,000. If a large facility is built and demand proves to be low, Brewerton then has the option of stimulating demand through local adverstising. If he does not exercise this option, then the payoff is $40,000. If he does exercise the advertising option, then the response to advertising will either be modest or sizable, with probabilities of 0.3 and 0.7, respectively. If the response is modest, the payoff is $20,000. If it is sizable, the payoff is $220,000. Finally, if a large facility is built and demand proves to be high, then no advertising is needed and the payoff is $800,000 Draw a decision tree to determine what Brewerton should do to maximize his expected payoff. What is the value of this expected payoff? OA, $242,000 B. OC. OD. $544,000 $160,000 $270,000

Explanation / Answer

If a small factory is built, and demand is high retalier will definitely expand the facility with payoff =270000

If a small factory is buily and demand is low, payoff = 200000

Payoff(small)=0.6*270000+0.4*200000= 242000

If a large facility is built and demand is high,payoff is 800000

If a large is built and demand is low, payoff after advertising is 0.7*220000+0.3*20000=160000

Net expected payoff = 0.6*800000+0.4*160000= 544000

Hence, he should build large facility with expected payoff=544000

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