n oil company is trying to decide whether to drill for oil in a particular field. It costs the company $700,000 to drill in the selected field. If oil is found on this field its value is estimated to be $3,600,000. The company believes that there is a 50% chance that the selected field contains oil. Before drilling, the company can hire a geologist at a cost of $80,000 to perform seismographic tests. Based on similar tests in other fields, it is known that the tests have a 20% false negative rate (no oil predicted when oil is present) and a 10% false positive rate (oil predicted when no oil is present). The company want to maximize its profit. Draw the company’s decision tree. Use the EMV criteria to identify the optimal strategy. Calculate and interpret price of perfect information for this decision proble
n oil company is trying to decide whether to drill for oil in a particular field. It costs the company $700,000 to drill in the selected field. If oil is found on this field its value is estimated to be $3,600,000. The company believes that there is a 50% chance that the selected field contains oil. Before drilling, the company can hire a geologist at a cost of $80,000 to perform seismographic tests. Based on similar tests in other fields, it is known that the tests have a 20% false negative rate (no oil predicted when oil is present) and a 10% false positive rate (oil predicted when no oil is present). The company want to maximize its profit.
Draw the company’s decision tree.
Use the EMV criteria to identify the optimal strategy.
Calculate and interpret price of perfect information for this decision problem.
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