Chapter 9

Decision trees
A university is trying to decide whether or not to advertise a new post-
graduate degree programme.
The number of students starting the programme is dependent on
economic conditions:
• If conditions are poor it is expected that the programme will attract
40 students without advertising. There is a 60% chance that
economic conditions will be poor.
• If economic conditions are good it is expected that the programme
will attract only 20 students without advertising. There is a 40%
chance that economic conditions will be good.
If the programme is advertised and economic conditions are poor, there
is a 65% chance that the advertising will stimulate further demand and
student numbers will increase to 50. If economic conditions are good
there is a 25% chance the advertising will stimulate further demand and
numbers will increase to 25 students.
The profit expected, before deducting the cost of advertising of $15,000,
at different levels of student numbers are as follows:
Number of students Profit in $
15 (10,000)
20 15,000
25 40,000
30 65,000
35 90,000
40 115,000
45 140,000
50 165,000
Required:
Demonstrate, using a decision tree, whether the programme should be
advertised.

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 Chapter 9

EV (Outcome Point B) = (75% × $0) + (25% × $25,000) = $6,250

EV (Outcome Point C) = (60% × $115,000) + (40% × $15,000) =
$75,000
EV (Outcome Point D) = (60% × $132,500) + (40% × $6,250) =
$82,000
(b) Choose the best option at each decision point and recommend a
course of action to management.
At the first (and only) decision point in our tree, we should choose
the option to advertise as EV ('D') is $82,000 and EV ('C) is
$75,000.

Test your understanding 3 – The 'Duke of York' cinema

The 'Duke of York' is an independent cinema in Brightville. It is
considering whether or not to hire a movie to show in its cinema for one
week. If the management decides to hire the movie, it will be screened 20
times during the week. The cost of hiring the movie for the week is
$70,000.
You work as the cinema's accountant, and you have been asked to
evaluate the financial effects of the decision to hire the movie. You have
made the following estimates:
(1) Customers
The entrance fee for every customer is $10. The number of
customers watching the movie at each screening is uncertain, but
has been estimated as follows: there is a 50% probability 200
customers will attend the screening; a 30% probability 250
customers will attend, and 20% probability 150 customers will
come.
(2) Customer contribution for each sale of refreshments
The average contribution per customer earned from the sale of
refreshments is also uncertain but has been estimated as follows:
Probability $ average contribution per
customer
40% probability $10 per customer
25% probability $12 per customer
35% probability $8 per customer
Required:
Prepare a decision tree to show the total contributions which could be
generated from the above scenario. Based on the expected values,
determine if the movie should be hired.

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