Deck 24: Decision Making and Risk

Question 1

Use a payoff table or decision tree.
A farm owner in upstate New York who grows summer vegetables (e.g. tomatoes)
Must decide whether to employ additional pickers this season. If he does, he could hire
Either migrant workers or local teenagers who need summer employment. The migrant
Workers are more experienced, faster, but more expensive. Although the teenagers will
Work for less, they lack experience and tend to damage plants and produce. His profits
Depend on the growing season as shown below. Using the maximax approach, the farmer

A) would hire migrant workers if the growing season is good.
B) would hire teenagers.
C) would not do any extra hiring.
D) would hire migrant workers.
E) would not do any extra hiring if the growing season is good.

Answer 1

D

Question 2

Find the expected value of perfect information.

-A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load:
(1) outsourcing (2) hiring temporary staff or (3) using full time staff in overtime. The
Estimated costs (in $100,000) associated with each of these actions depend on the
Difficulty level associated with file modification and transfer, which can be at one of
Three levels (easy, moderately difficult, or extremely difficult) as shown below. If the
Likelihoods of easy, moderately difficult and extremely difficult file modifications are 0.2,0.4 and 0.4, respectively, what is the expected value (in $100,000) of perfect
Information? $$\begin{array} { | l | l | l | l | } \hline \text { Action } & \text { Easy } & \text { Moderately Difficult } & \text { Extremely Difficult } \\\hline \text { Outsource } & 2.5 & 3.0 & 3.5 \\\hline \text { Temporary Staff } & 1.5 & 2.6 & 4.0 \\\hline \text { Overtime } & 1.2 & 2.8 & 4.2 \\\hline\end{array}$$

A) 2.68
B) 2.94
C) 0.26
D) 0.16
E) None of the above.

Answer 2

0.26

Question 3

Using the maximax approach, which action should the land owner choose?

Answer 3

The land owner would choose to build the active retirement community.

Question 4

Revise probabilities based on sample information.
A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load.
The difficulty level associated with file modification and transfer will affect the decision,
And initially the company believes there is a 20% chance the file modifications will be
Easy, a 40% chance that they will be moderately difficult and a 40% that they will be
Extremely difficult. The company decides to hire a consultant to review a sample of old
Files and provide her opinion as to whether the modifications required will be extensive
Or minor. Suppose the probabilities associated with her professional opinion are as
Follows: P (Minor | Easy) = 0.80, P (Minor | Moderately Difficult) = 0.50 and P (Minor |
Extremely Difficult) = 0.20. In other words, the chance that she will say the
Modifications required are minor given that the transfer will indeed be easy, moderately
Difficult and extremely difficult are 0.80, 0.50, and 0.20, respectively. What is the
Probability that the difficulty of the file modifications and transfer will be extremely
Difficult given that the consultant believes the modifications required are minor?

A) 0.56
B) 0.20
C) 0.08
D) 0.44
E) 0.18

Question 5

Apply the expected value approach to decision making.
A farm owner in upstate New York who grows summer vegetables (e.g. tomatoes)
Must decide whether to employ additional pickers this season. If he does, he could hire
Either migrant workers or local teenagers who need summer employment. The migrant
Workers are more experienced, faster, but more expensive. Although the teenagers will
Work for less, they lack experience and tend to damage plants and produce. His profits
Depend on the growing season as shown below. Suppose the farmer's almanac predicts
The probability of a good growing season this year to be .75. Based on the expected value
Approach, the farmer should

A) hire migrant workers if the growing season is good.
B) hire teenagers.
C) do not do any extra hiring.
D) hire migrant workers.
E) do not do any extra hiring if the growing season is bad.

Question 6

Using the maximax approach, which action should the farm owner choose?

Question 7

Use a payoff table or decision tree.

-A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load:
(1) outsourcing (2) hiring temporary staff or (3) using full time staff in overtime. The
Estimated costs (in $100,000) associated with each of these actions depend on the
Difficulty level associated with file modification and transfer, which can be at one of
Three levels (easy, moderately difficult, or extremely difficult) as shown below. Using
The minimin approach, the company should $$\begin{array} { | l | l | l | l | } \hline \text { Action } & \text { Easy } & \text { Moderately Difficult } & \text { Extremely Difficult } \\\hline \text { Outsource } & 2.5 & 3.0 & 3.5 \\\hline \text { Temporary Staff } & 1.5 & 2.6 & 4.0 \\\hline \text { Overtime } & 1.2 & 2.8 & 4.2 \\\hline\end{array}$$

A) outsource.
B) hire temporary staff.
C) use full time staff in overtime.
D) use full time staff in overtime if the file modifications are easy.
E) hire temporary staff if the file modifications are moderately difficult.

Question 8

Using the maximin approach, which action should the land owner choose?

Question 9

Find expected values, standard deviations and return to risk ratios.

-A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load:
(1) outsourcing (2) hiring temporary staff or (3) using full time staff in overtime. The
Estimated costs (in $100,000) associated with each of these actions depend on the
Difficulty level associated with file modification and transfer, which can be at one of
Three levels (easy, moderately difficult, or extremely difficult) as shown below. If the
Likelihoods of easy, moderately difficult and extremely difficult file modifications are 0.2,0.4 and 0.4, respectively, the standard deviation in costs (in $100,000) associated with
Outsourcing is $$\begin{array} { | l | l | l | l | } \hline \text { Action } & \text { Easy } & \text { Moderately Difficult } & \text { Extremely Difficult } \\\hline \text { Outsource } & 2.5 & 3.0 & 3.5 \\\hline \text { Temporary Staff } & 1.5 & 2.6 & 4.0 \\\hline \text { Overtime } & 1.2 & 2.8 & 4.2 \\\hline\end{array}$$

A) 0.37
B) 0.95
C) 1.11
D) 1.23
E) None of the above

Question 10

Apply the expected value approach to decision making.
A land owner is considering a community development project in the southeastern U.S.
He is faced with two alternatives: (1) build detached homes in a planned retirement
Community or (2) build a smaller townhouse / condominium complex. Mortgage interest
Rates will affect his outcomes and the payoff (in $ millions) table is shown below. If the
Probabilities for future mortgage interest rates going up, staying about the same, and
Going down are .35, .50 and .15, respectively, the best decision according to the expected
Value approach is to

A) build the active retirement community if interest rates go down.
B) build the active retirement community.
C) build townhouses / condominiums if interest rates go down.
D) build townhouses / condominiums.
E) build either the active retirement community or townhouses / condominiums.

Question 11

Find expected values, standard deviations and return to risk ratios.
A farm owner in upstate New York who grows summer vegetables (e.g. tomatoes)
Must decide whether to employ additional pickers this season. If he does, he could hire
Either migrant workers or local teenagers who need summer employment. The migrant
Workers are more experienced, faster, but more expensive. Although the teenagers will
Work for less, they lack experience and tend to damage plants and produce. His profits
Depend on the growing season as shown below. Suppose the farmer's almanac predicts
The probability of a good growing season this year to be .75. The standard deviation in
Payoffs for hiring migrant workers is

A) $21,651
B) $12,990
C) $5495
D) $2500
E) None of the above.

Question 12

Find the expected value of an action.
A land owner is considering a community development project in the southeastern
U)S. He is faced with two alternatives: (1) build detached homes in a planned retirement
Community or (2) build a smaller townhouse / condominium complex. Mortgage interest
Rates will affect his outcomes and the payoff (in $ millions) table is shown below. If the
Probabilities for future mortgage interest rates going up, staying about the same, and
Going down are .35, .50 and .15, respectively, what is the expected value for building an
Active retirement community?

A) $2.5 million
B) $3.625 million
C) $2.75 million
D) $875,000
E) None of the above

Question 13

Use a payoff table or decision tree.
A land owner is considering a community development project in the southeastern U.S.
He is faced with two alternatives: (1) build detached homes in a planned retirement
Community or (2) build a smaller townhouse / condominium complex. Mortgage interest
Rates will affect his outcomes and the payoff (in $ millions) table is shown below.
According to the maximin approach, the land owner should

A) build the active retirement community if interest rates go down.
B) build the active retirement community.
C) build townhouses / condominiums if interest rates go down.
D) build townhouses / condominiums.
E) build either the active retirement community or townhouses / condominiums.

Question 14

Using the maximin approach, which action should the farm owner choose?

Question 15

Find the expected value of an action.
A farm owner in upstate New York who grows summer vegetables (e.g. tomatoes)
Must decide whether to employ additional pickers this season. If he does, he could hire
Either migrant workers or local teenagers who need summer employment. The migrant
Workers are more experienced, faster, but more expensive. Although the teenagers will
Work for less, they lack experience and tend to damage plants and produce. His profits
Depend on the growing season as shown below. Suppose the farmer's almanac predicts
The probability of a good growing season this year to be .75. What is the expected value
Of hiring teenagers?

A) $62,500
B) $52,500
C) $46,250
D) $12,990
E) None of the above.

Question 16

Suppose housing analysts predict that the probabilities for future mortgage interest
rates going up, staying about the same, and going down are .35, .50 and .15, respectively.

Question 17

Find the expected value of an action.

-A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load:
(1) outsourcing (2) hiring temporary staff or (3) using full time staff in overtime. The
Estimated costs (in $100,000) associated with each of these actions depend on the
Difficulty level associated with file modification and transfer, which can be at one of
Three levels (easy, moderately difficult, or extremely difficult) as shown below. If the
Likelihoods of easy, moderately difficult and extremely difficult file modifications are 0.2,0.4 and 0.4, respectively, the expected cost (in $100,000) of hiring temporary staff is $$\begin{array} { | l | l | l | l | } \hline \text { Action } & \text { Easy } & \text { Moderately Difficult } & \text { Extremely Difficult } \\\hline \text { Outsource } & 2.5 & 3.0 & 3.5 \\\hline \text { Temporary Staff } & 1.5 & 2.6 & 4.0 \\\hline \text { Overtime } & 1.2 & 2.8 & 4.2 \\\hline\end{array}$$

A) 3.04
B) 2.94
C) 1.99
D) 3.45
E) None of the above

Question 18

Find expected values, standard deviations and return to risk ratios.
A farm owner in upstate New York who grows summer vegetables (e.g. tomatoes)
Must decide whether to employ additional pickers this season. If he does, he could hire
Either migrant workers or local teenagers who need summer employment. The migrant
Workers are more experienced, faster, but more expensive. Although the teenagers will
Work for less, they lack experience and tend to damage plants and produce. His profits
Depend on the growing season as shown below. Suppose the farmer's almanac predicts
The probability of a good growing season this year to be .75. The return to risk ratio for
Hiring migrant workers is

A) 8.40
B) 4.05
C) 2.89
D) .346
E) None of the above.

Question 19

Find the expected value of perfect information.
A land owner is considering a community development project in the southeastern
U)S. He is faced with two alternatives: (1) build detached homes in a planned retirement
Community or (2) build a smaller townhouse / condominium complex. Mortgage interest
Rates will affect his outcomes and the payoff (in $ millions) table is shown below. If the
Probabilities for future mortgage interest rates going up, staying about the same, and
Going down are .35, .50 and .15, respectively, the expected value of perfect information is

A) $2.5 million
B) $3.625 million
C) $2.75 million
D) $875,000
E) None of the above.

Question 20

What is the expected value of perfect information?

Question 21

Use a probability tree to find probabilities.
A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load.
The difficulty level associated with file modification and transfer will affect the decision,
And initially the company believes there is a 20% chance the file modifications will be
Easy, a 40% chance that they will be moderately difficult and a 40% that they will be
Extremely difficult. The company decides to hire a consultant to review a sample of old
Files and provide her opinion as to whether the modifications required will be extensive
Or minor. Suppose the probabilities associated with her professional opinion are as
Follows: P (Minor | Easy) = 0.80, P (Minor | Moderately Difficult) = 0.50 and P (Minor |
Extremely Difficult) = 0.20. In other words, the chance that she will say the
Modifications required are minor given that the transfer will indeed be easy, moderately
Difficult and extremely difficult are 0.80, 0.50, and 0.20, respectively. What is the
Probability that the consultant will determine that the modifications required are minor?

A) 0.57
B) 0.20
C) 0.32
D) 0.44
E) 0.90

Question 22

Revise probabilities based on sample information.
A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load.
The difficulty level associated with file modification and transfer will affect the decision,
And initially the company believes there is a 20% chance the file modifications will be
Easy, a 40% chance that they will be moderately difficult and a 40% that they will be
Extremely difficult. The company decides to hire a consultant to review a sample of old
Files and provide her opinion as to whether the modifications required will be extensive
Or minor. Suppose the probabilities associated with her professional opinion are as
Follows: P (Minor | Easy) = 0.80, P (Minor | Moderately Difficult) = 0.50 and P (Minor |
Extremely Difficult) = 0.20. In other words, the chance that she will say the
Modifications required are minor given that the transfer will indeed be easy, moderately
Difficult and extremely difficult are 0.80, 0.50, and 0.20, respectively. What is the
Probability that the difficulty of the file modifications and transfer will be extremely
Difficult given that the consultant believes the modifications required are extensive?

A) 0.57
B) 0.20
C) 0.32
D) 0.44
E) 0.90

Question 23

Use a payoff table or decision tree.

-A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load:
(1) outsourcing (2) hiring temporary staff or (3) using full time staff in overtime. The
Estimated costs (in $100,000) associated with each of these actions depend on the
Difficulty level associated with file modification and transfer, which can be at one of
Three levels (easy, moderately difficult, or extremely difficult) as shown below. Using the
Minimax approach, the company should $$\begin{array} { | l | l | l | l | } \hline \text { Action } & \text { Easy } & \text { Moderately Difficult } & \text { Extremely Difficult } \\\hline \text { Outsource } & 2.5 & 3.0 & 3.5 \\\hline \text { Temporary Staff } & 1.5 & 2.6 & 4.0 \\\hline \text { Overtime } & 1.2 & 2.8 & 4.2 \\\hline\end{array}$$

A) outsource.
B) hire temporary staff.
C) use full time staff in overtime.
D) outsource if the file modifications are extremely difficult.
E) use full time staff in overtime if the file modifications are easy.

Question 24

Apply the expected value approach to decision making.

-A mid-size company is transitioning to a new ERP system. Consequently, company
Files need to be modified and / or updated so as to be compatible for transfer to the new
System. The company is considering three alternatives to deal with this extra work load:
(1) outsourcing (2) hiring temporary staff or (3) using full time staff in overtime. The
Estimated costs (in $100,000) associated with each of these actions depend on the
Difficulty level associated with file modification and transfer, which can be at one of
Three levels (easy, moderately difficult, or extremely difficult) as shown below. If the
Likelihoods of easy, moderately difficult and extremely difficult file modifications are 0.2,0.4 and 0.4, respectively, the best decision according to the expected value approach is to $$\begin{array} { | l | l | l | l | } \hline \text { Action } & \text { Easy } & \text { Moderately Difficult } & \text { Extremely Difficult } \\\hline \text { Outsource } & 2.5 & 3.0 & 3.5 \\\hline \text { Temporary Staff } & 1.5 & 2.6 & 4.0 \\\hline \text { Overtime } & 1.2 & 2.8 & 4.2 \\\hline\end{array}$$

A) outsource.
B) hire temporary staff.
C) use full time staff in overtime.
D) outsource if the file modifications are extremely difficult.
E) use full time staff in overtime if the file modifications are easy.

Question 25

Find expected values, standard deviations and return to risk ratios.
A farm owner in upstate New York who grows summer vegetables (e.g. tomatoes)
Must decide whether to employ additional pickers this season. If he does, he could hire
Either migrant workers or local teenagers who need summer employment. The migrant
Workers are more experienced, faster, but more expensive. Although the teenagers will
Work for less, they lack experience and tend to damage plants and produce. His profits
Depend on the growing season as shown below. Suppose the farmer's almanac predicts
The probability of a good growing season this year to be .75. If the farmer is risk averse,
He would

A) hire migrant workers.
B) hire teenagers.
C) do not do any extra hiring.
D) make the same decision as he would using the expected value approach.
E) give up farming.