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MBAD6224 – Decision Making and Data Analysis

Fall 2023

Individual Assignment 2

General Instructions

Please read carefully: You are to work strictly individually on this assignment. You must not receive or give any help in working on this assignment, and you must not discuss or exchange any information (electronic or other) with anyone about it. Having your work automatically backed up to a drive accessible to others is a violation of this rule. Read the assignment entirely, including the instructions at the end, before starting to work. Provide explanations for your answers to the questions.

Due date:  The assignment is due on Saturday 9 December, 11:59pm EST.

What to turn in:  Submit a single Excel file containing all your work, as detailed in Instructions at the end. When finished, write the following statement at the top of the first worksheet: “I, your full name, attest that I did not receive or provide any help in working on this assignment.”

How to turn in your work:  Submit your work on Blackboard by clicking on “Submit Assignment” in the left pane menu. If you submit your work multiple times, only your last submission will be considered.

Oil Exploration

An oil exploration company must decide whether to drill a well on a site before its option expires or to abandon its rights to the site. Drilling costs $1,000,000. If oil is struck, the company will sell its rights for $5,000,000.

Before deciding whether to drill or not, the company can take a seismic sounding of the site at a cost of $150,000. Such soundings reveal whether the geophysical substructure of the land is of type A, type B or type C, each type having a different degree of favorability for the existence of oil. The probability that oil is present is 0.8 for substructure type A, 0.4 for type B, and 0.1 for type C. Based on knowledge of adjacent areas, the probabilities for substructure types A, B and C at this site are 0.20, 0.30 and 0.50, respectively.

a) Build a decision tree model to help the company decide what to do.

b) What is the strategy that maximizes expected value?

c) Now, suppose that the oil exploration company has a risk tolerance of $2,000,000. Based on this risk tolerance, what is the optimal course of action for the company?

d) Given its risk tolerance, what is the minimum price for which the company would be willing to sell its rights to the site?

Instructions. Prepare an Excel file with two worksheets: one for Parts (a) and (b), another for Parts (c) and (d). For each question, type your answers and explanations in cells or text boxes somewhere on your sheet.

To incorporate the risk tolerance in Part (c), you can duplicate the decision tree you built for (a). To do this, remember that you need to duplicate the entire worksheet: right-click the sheet tab, select “Move or Copy…” and check the box “Create a copy”.

When you are done with your work, include the honor code statement at the top of your file. After saving your finished file and just before submitting it, open it one last time to Inspect that everything is visible and in order as you intended.