The city is planning to demolish and rebuild a new shopping mall. In hopes of landing the construction contract for the mall, you could develop a bid based on your company's standard property design, costing your company $60,000 dollars (cost not included in the eventual profit, i.e. it will cost you this regardless if you win the contract). An alternative design including more detailed plans would cost you $260,000 to prepare (again, this cost is not included in the eventual profit, i.e. it will cost you this regardless if you win the contract). Since the contract is valued at $1.3 million dollars (revenues minus construction costs), your company wants to carefully consider which bid to move forward. Based on previous success rates, your standard design is estimated to have a 29% chance of winning the contract and the complex plan has a 40% chance. You would have to pay for all costs associated with entering a bid up front, regardless of whether you win the contract or not. Using expected values, draw a fully labelled decision tree, which approach do you recommend taking, and what is the overall expected value? Take the absolute value of the difference between the EV of the standard design and the EV of the detailed plans and enter that value below:
The city is planning to demolish and rebuild a new shopping mall. In hopes of landing the construction contract for the mall, you could develop a bid based on your company's standard property design, costing your company $60,000 dollars (cost not included in the eventual profit, i.e. it will cost you this regardless if you win the contract). An alternative design including more detailed plans would cost you $260,000 to prepare (again, this cost is not included in the eventual profit, i.e. it will cost you this regardless if you win the contract). Since the contract is valued at $1.3 million dollars (revenues minus construction costs), your company wants to carefully consider which bid to move forward. Based on previous success rates, your standard design is estimated to have a 29% chance of winning the contract and the complex plan has a 40% chance. You would have to pay for all costs associated with entering a bid up front, regardless of whether you win the contract or not. Using expected values, draw a fully labelled decision tree, which approach do you recommend taking, and what is the overall expected value? Take the absolute value of the difference between the EV of the standard design and the EV of the detailed plans and enter that value below:
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Transcribed Image Text:The city is planning to demolish and rebuild a new shopping mall. In hopes of landing
the construction contract for the mall, you could develop a bid based on your
company's standard property design, costing your company $60,000 dollars (cost not
included in the eventual profit, i.e. it will cost you this regardless if you win the
contract). An alternative design including more detailed plans would cost you
$260,000 to prepare (again, this cost is not included in the eventual profit, i.e. it will
cost you this regardless if you win the contract). Since the contract is valued at $1.3
million dollars (revenues minus construction costs), your company wants to carefully
consider which bid to move forward. Based on previous success rates, your standard
design is estimated to have a 29% chance of winning the contract and the complex
plan has a 40% chance. You would have to pay for all costs associated with entering
a bid up front, regardless of whether you win the contract or not.
Using expected values, draw a fully labelled decision tree, which approach do you
recommend taking, and what is the overall expected value?
Take the absolute value of the difference between the EV of the standard design and
the EV of the detailed plans and enter that value below:
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