Asked by Elizabeth Gossum on Jul 17, 2024
Verified
Dexter's Shell owns his own Waffle-Cone business and lives 50 kms from a beach resort. The sale of Waffle-Cones is highly dependent upon his location and upon the weather. At the resort, he will profit $180 per day in fair weather, $40 per day in foul weather. At home, he will profit $110 in fair weather, $70 in foul weather. Assume that on any particular day, the weather service suggests a 40% chance of fair weather.
a. Construct Dexter's payoff table.
b. What decision is recommended by the expected value criterion?
c. What is the EVPI?
Fair Weather
Conditions characterized by clear skies and little to no precipitation, indicating good atmospheric conditions.
Foul Weather
Adverse weather conditions such as rain, snow, sleet, or high winds that can impact activities, safety, and operations.
EVPI
The Expected Value of Perfect Information, reflecting the maximum amount a decision-maker would be willing to pay for information that would result in a perfect decision.
- Master the concept of Expected Monetary Value (EMV) and the steps for its calculation.
- Attain an understanding and apply the notion of perfect information and its relevance in decisions (Expected Value of Perfect Information, EVPI).
Verified Answer
Profit Fair weather Foul weather Probability =0.4 Probability =.6 Sell at the resort 18040 Sell at home 11070\begin{array} { | l | l | l | } \hline \text { Profit } & \text { Fair weather } & \text { Foul weather } \\\hline & \text { Probability } = 0.4 & \text { Probability } = .6 \\\hline \text { Sell at the resort } & 180 & 40 \\\hline \text { Sell at home } & 110 & 70 \\\hline\end{array} Profit Sell at the resort Sell at home Fair weather Probability =0.4180110 Foul weather Probability =.64070 (b) the EMV for sell at the resort = .4 ∗ 180 + .6 ∗ 40 = 96; The EMV for sell at home = .4 ∗ 110 + .6 ∗ 70 = 86. The better value is $96, so Earl should sell at the resort.
(c) EVwPI = .4 ∗ 180 + .6 ∗ 70 = $116; EVPI = $116 - $96 = $20.
Learning Objectives
- Master the concept of Expected Monetary Value (EMV) and the steps for its calculation.
- Attain an understanding and apply the notion of perfect information and its relevance in decisions (Expected Value of Perfect Information, EVPI).
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