A firm that plans to expand its production line must decide whether to build a small or large facility to produce the new products. If it builds a small facility and demand is low, the net present value after deducting for business costs will be $400,000. If demand is high, the firm can either maintain the small facility or expand it. Expansion would have a net present value of $450,000, and maintaining the small facility would have a net present value of $50,000.
If a large facility is built and demand is high, the estimated net present value is $800,000. If demand turns out to be low, the net present value would be -$10,000.
The probability that demand will be high is estimated to be .60, and the probability of low demand is estimated to be .40
Analyzing using a tree diagram
Which course of action has the highest expected payoff for this decision tree?