1 A family business is considering making an investment in its manufacturing 67.

Question

1 A family business is considering making an investment in its manufacturing 67.A operation. Three decisions are under consideration: (1) a large medium investment, there are three possible f (2) stable demand; and (3) decreasing demand. The following payoff table and (3) a small investment. The business believes that uture o for its product: (1) incr easing de describes the decision situation. States of Nature Decision Increasing Demand Stable Demand Demand Decreasing $400,000 $600,000 Large Investment $1,000,000 200,000 Medium Investment 500,000 300,000 250.000125,000 25,000 Small Investment The best decision for the business using the equal likelihood criterion would be to a. make the large investment b. make the medium investment c. make the small investment d. choose increasing demand

Explanation / Answer

the proportional of each event to happen is- 0.33, 0.33, and 0.33.

large investment= 0.33*$1,000,000+ 0.33*$400,000+ 0.33* (-$600,000)= $330,000+ 132,000+(198,000)

= $462,000-198,000= $264,000

Medium investment= 0.33* 500,000 + 0.33*300,000+ 0.33* (-200,000)= 165,000+ 99,000+ (-66,000)= $198,000

small investment= 0.33* 250,000+ 0.33* 125,00+ 0.33* (25,000)= 82,500+ 41,250- 7425= $116,325

if we consider these 3 alternatives, large investment provides higher profits than remaining two. Hence Large investment is good and choose this one.

Option A is the correct answer.

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