Question

Victoria is currently a project manager for EPIC, an established integrated software company that services midsize to large health care organizations. Currently, her annual base salary is $150,000 per year. She also is eligible for a bonus at the end of the year, equaling 5 percent of all revenues if the company makes above $1,600,000 and 10 percent of all revenues if above $3 million. She is debating whether to leave this lucrative job to set up her own company. Although she has established client relationships, she believes only 65 percent of all existing clients will follow her in this new endeavor. Based on the previous year’s performance, she believes there is a 25 percent chance the contracts would be worth $1,200,000, a 45 percent chance the contracts would be worth $2 million, and a 30 percent chance the contracts will be worth $3 million. She estimates that the total cost of operating her own company would be $700,000.

a. Develop a decision tree to help Victoria decide whether she should set up her own company.

b. Fold back the tree and find the expected value.

Answer 1