A manager is trying to decide whether to build a? small, medium, or large facili

Question

A manager is trying to decide whether to build a? small, medium, or large facility. Demand can be? low, average, or? high, with the estimated probabilities being .25?, .40?, and .35?, respectively.
A small facility is expected to earn an? after-tax net present value of just $13,000 if demand is low. If demand is? average, the small facility is expected to earn $15,000?; it can be increased to medium size to earn a net present value of $30,000. If demand is? high, the small facility is expected to earn $50,000 and can be expanded to medium size to earn $60,000 or to large size to earn $145,000.
A? medium-sized facility is expected to lose an estimated $50,000 if demand is low and earn $90,000 if demand is average. If demand is? high, the? medium-sized facility is expected to earn a net present value of $125,000?; it can be expanded to a large size for a net payoff of $135,000.
If a large facility is built and demand is? high, earnings are expected to be $170,000. If demand is average for the large? facility, the present value is expected to be $80,000?; if demand is? low, the facility is expected to lose $70,000.
Choose the correct decision tree below. Note that each payoff is given in thousands? ($000).

What should management do to achieve the highest expected? payoff?
The management should build a medium/small/large? facility in order to achieve the highest expected payoff of ?$ ? ?(Enter your response as a whole? number.)

High 0.35 $170 Avg 0.40 $80 Low 0.25 Expand to Irg Large Med High 0.35 Avg 0.40 - $90 Low 0.25 40 - $50 High 0.35 $90 Small 3 Expan Do nothing – $125 Expand to Irg $145 Expand to med s60 $60 Do nothing Expand to med Do nothing $15 $50 Avg 0.40 Low 0.25 $13 $30

Explanation / Answer

Expected Pay off from initial implementation of Large facility = Payoff from High demand + Payoff from Average Demand + Payoff from Low demand = 0.35*170 + 0.40*80 + 0.25*(-70) = 74

Expected Pay off from initial implementation of Medium facility = Pay off from High Demand with Med facility upgraded to Large facilty + Pay off from High Demand with no upgradation + Pay off from Average Demand + Pay off from Low Demand = 0.35* (0.5*135 + 0.5*125) + 0.40*90 + 0.25*(-50) = 69

Expected Pay off from initial implementation of Low facility = Pay off from High Demand with Low facility upgraded to Large facility + Pay off from High Demand with Low facility upgraded to Medium facility + Pay off from High Demand with Low facility with no upgradation + Pay off from Average Demand with Low facility upgraded to Medium facility + Pay off from Average Demand with Low facility and no upgradation + Pay off from Low Demand with Low facility = 0.35*(0.3333*145 + 0.3333*60 + 0.3333*50) + 0.40*(0.5*30 + 0.5*15) + 0.25*13 = 42

Thus the mangaement should implement a Large facility from the initial level to maximize its expected highest payoff of $74000

Please Like & Provide your reviews in comments. :-)

Related Questions

Navigate

• Browse (All)
• Browse A
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.