Reference no: EM131207125

Dick Holliday can build either a large video rental section or a small one in hisstore. He can also gather additional information (by conducting market study) orsimply do nothing. If he gathers additional information, the results could be eitherpositive or negative, but it would cost him $3,000 to gather the information.Holliday believes that there is a 50-50 chance that the information will bepositive. If the rental market is favorable, Holliday will earn $15,000 with a largesection or $5,000 with a small. With an unfavorable video-rental market,however, Holliday could lose $20,000 with a large section or $10,000 with a smallsection. Without gathering additional information, Holliday estimates that theprobability of a favorable rental market is 0.7. A positive report from the studywould increase the probability of a favorable rental market to 0.9. Furthermore, anegative report from the additional information would decrease the probability ofa favorable rental market to 0.4. Of course, Holliday could ignore these numbersand do nothing at any stage.By drawing and solving a decision tree, what is the maximum expected payoffthat Holliday can achieve? What should he do?