Which option maximizes the expected monetary value

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Reference no: EM133977375

Question

Imagine that you are the manager of a gym with 2000 members. Each member pays $600 and the operational costs are $300 per member. A competitor will open a new unit next to yours and that will reduce the number of members in your gym, unless you expand your facilities. You need to decide whether to expand your facilities to maintain or increase the number of members. For this decision-making, forecasts for the next three years were considered.

Option 1: Do not invest in expansion but reduce the monthly fee to $500 and keep costs at $300/member. With that it is expected that in the next three years: probability of 70% that the number of members drops to 1500, or probability of 30% that the number drops to 1200 members.

Option 2: Invest in the upgrade with an expected cost of $500K. There are two expected scenarios for this option. Scenario 1: 60% probability that the number of members remains at 2000; Scenario 2: 40% probability that the number of members increases to 2200. However, with the expansion, operational costs will be affected with a 50-50 percent chance that it will increase to either $350 or $400. Use decision tree to decide which option maximizes the expected monetary value.

Need a full decision tree and explanation on the EMV calculations

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Reference no: EM133977375

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