6 The lease of Theme Park Inc is about to expire Management

6. The lease of Theme Park, Inc., is about to expire. Management must decide whether to renew the lease for another 10 years or to relocate near the site of a proposed motel. The town planning board is currently debating the merits of granting approval to the motel. A consultant has estimated the net present value of Theme Park\'s two alternatives under each state of nature as shown on the following page. • Supplement to Chapter Five Decision Theory 233 What course of action would you recommend using? a. Maximax. b. Maximin. c. Laplace. d·. Minimax regret. Motel Motel Options Approved Rejected Renew s 500,000 $4,000,00 Relocate 5,000,000 100,00

Solution

The lease of Theme Park, Inc., is about to expire. Management must decide whether to renew the lease for another 10 years or to relocate near the site of a proposed motel. The town planning board is currently debating the merits of granting approval to the motel. A consultant has estimated the net present value of Theme Park\'s two alternatives under each state of nature

We Calculate the regret table.

Alternative          Motel Approved               Motel rejected

Renew                  500,000                          4000,000

Relocate                     0                               3,900,000

Maximax   =Relocate – net present value (payoff) of $5,000,000

Maximin (best of all the worst alternatives)

Renew – net present value (payoff) = $500,000

Laplace (best of the expected payoffs for all alternatives

Relocate – net present value (payoff)= $2,550,000

Minimax regret (least of all the maximum regrets for each alternative

Relocate – net present value (regret)= $3,900,000