A company faces three choices with regard to a potential project they are considering with a partner company. They can choose to invest £150 million and this will entitle them to 85% of any profits made. Alternatively they could invest £75 million, but this would only entitle them to 40% of any profits made. In either case if a negative profit (loss) is made the company has to fund the appropriate percentage (85% and 40%) of the loss. Of course the company could choose not to invest at all.
There are three scenarios as to the performance of the project. It may be very successful (probability 0.3) giving a total profit of £500 million to be shared between the companies. Alternatively it may be only moderately successful (probability 0.5) giving a total profit of £160 million to be shared between the companies. The final alternative is that the project will be unsuccessful, giving a total loss of £100 million to be shared between the companies. In
all three cases the total profit to be shared does not include the initial investment made by the company.
(a) Analyse this situation using a payoff table. Using Maximin, Maximax & Minimax regret criteria, what would you suggest the company should do?
(b) Analyse this situation using a decision tree. What would you suggest the company should do?
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