Jody of Jody’s Custom Tailoring is considering expanding her growing business. The question is whether to expand with a bigger facility than she needs or with a small facility, knowing that she will have to reconsider expanding in three years.
Jody has estimated the following chances for demand:
The likelihood of demand being high is 0.50.
The likelihood of demand being low is 0.50.
She has also estimated profits for each alternative:
Large expansion has an estimated profitability of either $200,000 or $100,000, depending on whether demand turns out to be high or low.
Small expansion has a profitability of $80,000, assuming that demand is low.
Small expansion with an occurrence of high demand would require considering whether to expand further. If the business expands at that point, the profitability is expected to be $120,000. If it does not expand further, the profitability is expected to be $70,000.
Draw a decision tree and solve it. What should Jody’s Custom Tailoring do?