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Hi,
If the question ask us to calculate the expected value at point A, do we need to minus the cost of making a decision at point B to arrive at the expected value at point A or we just need to multiply the probability to get the expected value?
In some of the questions which I have done, they deducted the cost while some they don’t deduct.
Sorry, it’s hard to explain the question without the picture of the diagram so it might sound confusing.
Eg:
Point A (outcome)
High 90% $580000
Low 10% $240000Expected value which I have calculated
= $546000Point B (decision)
Invest ($40000) *connecting line to Point A*
Outsource $240000 *connecting line to Point A*Do I need to deduct $40000 (cost of investing) from $546000 to get the expected value at point A on the decision trees?
The answer given is $506000 (they deducted it). The other question which I have done, they don’t. I don’t understand why.
It doesn’t matter whether you subtract the cost then or later.
Subtracting the cost is only relevant in deciding which of the alternatives is better.
Thank you so much!
The question also says:
“The profit outcomes do not include the cost of any investments made.”
Does it mean anything or it is not relevant?
The question asks to calculate:
“What is the expected value at point A on the decision trees?”The decision will be based on the net outcome, i.e. the profits less the cost of the investment.
Without seeing the tree, the value at point A is likely to be the net outcome.
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