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Problem: RDF, Inc., a smart tag manufacturer, is investigating the probability of producing and marketing the new RFID tag. Undertaking this project will necessitate either purchasing a sophisticated IT system or hiring and training several additional engineers. The market for the product could be either favourable or unfavourable. RDF, Inc., of course, has the option of not developing new product at all.

With favourable acceptance by market, sales would be 25,000 tags selling for $100 each. With unfavourable acceptance, sales would be only 8,000 tags selling for $100 each. The cost of IT equipment is $500,000, but that of hiring and training three new engineers is only $375,000. However, manufacturing costs should drop from $50 each with manufacturing devoid of the IT system, to $40 each when manufacturing with IT. The probability of favourable acceptance of new smart tag is 0.40; the possibility of unfavourable acceptance is 0.60.

Draw a decision tree. Then analyze it to find out the expected payoff for each decision and event node. Which alternative (buying the IT system, hiring engineers) has the good expected payoff?

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