Southern gas company is preparing to make a bid

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Southern Gas Company ( SGC) is preparing to make a bid for oil and gas leasing right in a newly opened drilling area in the Gulf of Mexico. SGC is trying to decide whether to place a high bid of $ 16 million or a low bid of $ 7 million. SGC expects to be bidding against its major competitor, Northern Gas Company ( NGC) and predicts NGC to place a bid of $ 10 million with probability 0.4 or a bid of $ 6 million with probability 0.6. Geological data collected at the drilling site indicates a 0.15 probability of the reserves at the site being large, a 0.35 probability of being average, and a 0.50 probability of being unusable. A large or average reserve would most likely represent a net asset value of $ 120 million or $ 28 million, respectively, after all drilling and extraction costs are paid. The company that wins the bid will drill an exploration well at the site for a cost of $ 5 million. a. Develop a decision tree for this problem. b. What is the optimal decision according to the EMV criterion?

Reference no: EM1387557

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