Using expected monetary value as decision criterion

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Reference no: EM1364814

Bill Goodman has been offered the opportunity to invest $15,000 in a start-up company that intends to supply personal digital assistants (PDAs) to physicians in order to enable them to determine the approved medication for each HMO patient they treat. The business plan for this start-up calls for raising a total of between $10 million and $40 million in financing and then taking the company public.

To be successful in raising these funds, the firm must first be able to hire a respected professional in the medical industry to be the firm's CEO. Bill believes that there is a 80% chance of the firm accomplishing this requirement. Following the hiring of the CEO, the firm will also need to get backing from at least two of the leading four HMOs. Bill believes that there is a 30% chance that each of the leading four HMOs will want to be involved in this project. He also believes that the HMOs make their decisions independently.

If two HMOs sign on to the project, Bill believes the firm can raise $10 million. He also believes that the firm can raise an additional $5 million for each additional HMO that signs on to the project. Once the HMOs have signed on, the firm must then recruit physicians to adopt the system. If fewer than 5000 physicians agree to sign on to test the system, the project will fail. Bill believes that there is only a 35% chance that the firm will be able to recruit 5000 or more physicians. Finally, if the firm is successful in getting HMO and physician support, it will try to get two major drug chains to each invest $10 million. The likelihood of one drug chain investing is 30%, and the likelihood of two drug chains investing is 10%.

If the project fails to hire a CEO, recruit at least two HMOs, recruit at least 5000 physicians, or to raise at least $10 million, Bill feels he will lose his entire investment. Bill estimates the following profits on his investment if the firm is successful in raising the required funds.

Amount Firm Raises Bill's profit
(in $millions)

10 $60,000
15 $100,000
20 $130,000
25 $180,000
30 $250,000
35 $350,000
40 $500,000

On the basis of this data, determine whether Bill should invest the $15,000, using the expected monetary value as the decision criterion. Show your analysis to support your conclusion.

Reference no: EM1364814

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