The Lake Placid Town Council decided to build a new community center to be used for conventions, concerts, and other public events, but considerable controversy surrounds the appropriate size. Many influential citizens want a large center that would be a showcase for the area. But the mayor feels that if demand does not support such a center, the community will lose a large amount of money.

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The Lake Placid Town Council decided to build a new community center to be used for conventions, concerts, and other public events, but considerable controversy surrounds the appropriate size. Many influential citizens want a large center that would be a showcase for the area. But the mayor feels that if demand does not support such a center, the community will lose a large amount of money. To provide structure for the decision process, the council narrowed the building alternatives to three sizes: small, medium, and large. Everybody agreed that the critical factor in choosing the best size is the number of people who will want to use the new facility. A regional planning consultant provided demand estimates under three scenarios: worst-case, base-case, and best-case. The worst-case scenario corresponds to a situation in which tourism drops substantially; the base-case scenario corresponds to a situation in which Lake Placid continues to attract visitors at current levels; and the best-case scenario corresponds to a substantial increase in tourism. The consultant has provided probability assessments of 0.10, 0.60, and 0.30 for the worst-case, base-case, and best-case scenarios, respectively.

The town council suggested using net cash flow over a 5-year planning horizon as the criterion for deciding on the best size. The following projections of net cash flow (in thousands of dollars) for a 5-year planning horizon have been developed. All costs, including the consultant’s fee, have been included.

 

  Demand Scenario
Center Size Worst-Case Base-Case Best-Case
Small 400 500 660
Medium -250 650 800
Large -400 580 990
  1. Suppose the probability of the worst-case scenario increases to 0.2, the probability of the base-case scenario decreases to 0.5, and the probability of the best-case scenario remains at 0.3. What effect, if any, would these changes have on the decision recommendation?

    It will have an effect 

    change to small 

  2. The consultant has suggested that an expenditure of $150,000 on a promotional campaign over the planning horizon will effectively reduce the probability of the worst-case scenario to zero. If the campaign can be expected to also increase the probability of the best-case scenario to 0.4, is it a good investment? Enter your answers in thousands of dollars.

    If the promotional campaign is conducted, a large  center size would be selected. This would give an expected value of $  fill in the blank 10 thousands. This is a $  fill in the blank 11 thousands decrease  over the answer in part (a).

 

b. Identify the risk profiles for the medium and large alternatives.
(i)
0.6
0.4
0.2
-400
400
800
Net Cash Flow
(ii)
0.6
0.4
0.2
-400
400
800
Net Cash Flow
Probability
Probability
Transcribed Image Text:b. Identify the risk profiles for the medium and large alternatives. (i) 0.6 0.4 0.2 -400 400 800 Net Cash Flow (ii) 0.6 0.4 0.2 -400 400 800 Net Cash Flow Probability Probability
b. Identify the risk profiles for the medium and large alternatives.
(i)
0.6
0.4
0.2
-400
400
800
Net Cash Flow
(ii)
0.6
0.4
0.2
-400
400
800
Net Cash Flow
Probability
Probability
Transcribed Image Text:b. Identify the risk profiles for the medium and large alternatives. (i) 0.6 0.4 0.2 -400 400 800 Net Cash Flow (ii) 0.6 0.4 0.2 -400 400 800 Net Cash Flow Probability Probability
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