Posted: March 15th, 2017
As a result of an increase in demand for a town’s parking facilities, the owners of a car park are reviewing their business operations. A decision has to be made to choose one of the following options:
Option 1. Make no change. Annual profit is $200,000. There is little likelihood that this will provoke new competition.
Option 2. Raise prices by 50%. If this occurs there is a 75% chance that an entrepreneur will set up in competition. The board’s estimate of its annual profit in this situation would be as follows:
2A: With New Competitor 2B: Without New Competitior
Probability Profit $ Probability Profit $
0.3 300000 0.5 200000
0.4 240000 0.3 300000
0.3 160000 0.2 200000
Option 3. Expand the car park quickly at a cost of $10 000 keeping prices the same. The profits are then estimated to be like 2B in the attachment, except that the probabilities would be 0.6, 0.3 and 0.1 respectively.
1. Draw a labelled decision tree to depict the problem.
2. What decision should the owners take? Please show details of your calculations.
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