nachine is purchased and demand is low, the net present value is $110,000. If demand is high, the manager has three options. Doing nothing has a t value of $110,000; subcontracting, $140,000; and buying the second machine, $130,000. ose the correct decision tree for this problem. Note that each payoff is given in thousands of dollars. OB. Q Low demand Low demand -80 Do nothing 110 Q лу 1 achine - 110 Buy 1 0.30 Do nothing High demand Subcontract machine 110 140 C High demand Subcontract Buy 2 140 Low demand - 130 0.70 110 machines Buy 2 uy 2 achines Buy 2 130 machines High demand 160 Low demand 80 machines 0.30 D. Low demand Low demand 110 Do nothing 110 Do nothing - 110 лу 1 achine 0.30 Buy 2 0.30 110 High demand 0.70 LOw demand Subcontract machines High demand Subcontract 140 C 140 C Buy 2 0.70 Low demand Buy 1 130 130

ENGR.ECONOMIC ANALYSIS
14th Edition
ISBN:9780190931919
Author:NEWNAN
Publisher:NEWNAN
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Question
A manager is trying to decide whether to buy one machine or two. If only one is purchased and demand proves to be excessive, the second machine can be
purchased later. Some sales will be lost, however, because the lead time for producing this type of machine is six months. In addition, the cost per machine will be
lower if both are purchased at the same time.
The probability of low demand is estimated to be 0.30. The after-tax net present value of the benefits from purchasing the two machines together is $80,000 if
demand is low and $160,000 if demand is high.
If one machine is purchased and demand is low, the net present value is $110,000. If demand is high, the manager has three options. Doing nothing has a net
present value of $110,000; subcontracting, $140,000; and buying the second machine, $130,000.
a. Choose the correct decision tree for this problem. Note that each payoff is given in thousands of dollars.
OA.
В.
Low demand
Low demand
-80 Do nothing
110
Buy 1
110
Buy 1
0.30
2
High demand
Do nothing
machine
Subcontract
machine
110
140 C
High demand
Subcontract
Buy 2
110 machines
140
Low demand
130
0.70
Buy 2
Buy 2
Buy 2
130
machines
machines
High demand
machines
Low demand
160
80
0.30
OC.
D.
Low demand
Low demand
110 Do nothing
110 Do nothing
Buy 1
0.30
110
Buy 2
0.30
110
machine
High demand
Subcontract
machines,
High demand
Subcontract
140 C
140 C
0.70
0.70
1
Buy 2
80 machines
1
Buy 1
80 machine
Low demand
130
Low demand
130
Buy 2
0.30
Buy 1
0.30
High demand
160
High demand
160
machines
machine
0.70
0.70
Transcribed Image Text:A manager is trying to decide whether to buy one machine or two. If only one is purchased and demand proves to be excessive, the second machine can be purchased later. Some sales will be lost, however, because the lead time for producing this type of machine is six months. In addition, the cost per machine will be lower if both are purchased at the same time. The probability of low demand is estimated to be 0.30. The after-tax net present value of the benefits from purchasing the two machines together is $80,000 if demand is low and $160,000 if demand is high. If one machine is purchased and demand is low, the net present value is $110,000. If demand is high, the manager has three options. Doing nothing has a net present value of $110,000; subcontracting, $140,000; and buying the second machine, $130,000. a. Choose the correct decision tree for this problem. Note that each payoff is given in thousands of dollars. OA. В. Low demand Low demand -80 Do nothing 110 Buy 1 110 Buy 1 0.30 2 High demand Do nothing machine Subcontract machine 110 140 C High demand Subcontract Buy 2 110 machines 140 Low demand 130 0.70 Buy 2 Buy 2 Buy 2 130 machines machines High demand machines Low demand 160 80 0.30 OC. D. Low demand Low demand 110 Do nothing 110 Do nothing Buy 1 0.30 110 Buy 2 0.30 110 machine High demand Subcontract machines, High demand Subcontract 140 C 140 C 0.70 0.70 1 Buy 2 80 machines 1 Buy 1 80 machine Low demand 130 Low demand 130 Buy 2 0.30 Buy 1 0.30 High demand 160 High demand 160 machines machine 0.70 0.70
b. How many machines should the company buy initially? What is the expected payoff for this alternative?
Best decision is to buy
machine(s) and its expected payoff is $
(Enter your responses as integers.)
Transcribed Image Text:b. How many machines should the company buy initially? What is the expected payoff for this alternative? Best decision is to buy machine(s) and its expected payoff is $ (Enter your responses as integers.)
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