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Scenario: You work for a private investment company that currently has numerous business investments in real estate development, restaurant franchises, and retail chains. Following an exhaustive search for new investment opportunities, you have found three possible alternatives, each of which will pay off in exactly 10 years from the date of initial investment. Because you only have enough money to invest in one of the three options, you recognize that you will need to complete a quantitative comparison of the three alternatives:
Option A: Real estate development.
Option B: Investment in the retail franchise “Just Hats,” a boutique that sells hats for men and women.
Option C: Investment in “Cupcakes and so forth,” a franchise that sells a wide variety of cupcakes and a variety other desserts.
Download the raw data for the three investments in this Excel document: Raw data for BUS520 SLP 2 (see attached Below)
Assignment
Develop an analysis of these three investments in Excel. Use expected value to determine which of the three alternatives you should choose.
Write a report to your private investment company, explaining your Excel analysis, giving your recommendation, and justifying your decision.
Excel Analysis
Written Report
Upload both your written report and Excel file to the SLP 2 Dropbox.
| Real Estate | Just Hats | ||||||||||||||||||||||||||||||||||||||||
| NPV | Probability | ||||||||||||||||||||||||||||||||||||||||
| High | $ 5,000,000 | 0.50 | $ 4,000,000 | 0.65 | |||||||||||||||||||||||||||||||||||||
| Medium | $ 2,250,000 | 0.35 | $ 2,700,000 | 0.30 | |||||||||||||||||||||||||||||||||||||
| Low | $ 250,000 | 0.15 | $ 400,000 | 0.05 | |||||||||||||||||||||||||||||||||||||
| Cupcakes and so forth | |||||||||||||||||||||||||||||||||||||||||
| $ 4,500,000 | 0.45 | ||||||||||||||||||||||||||||||||||||||||
| $ 2,300,000 | |||||||||||||||||||||||||||||||||||||||||
| $ 310,000 | 0.20 |
Module 2 – Background
RISK: FREQUENCY DISTRIBUTION, PROBABILITIES, AND EXPECTED VALUE
Case Background: Frequency Diagrams (Histograms)
Histograms (frequency distribution diagram). Consider a repetitive process, for example, driving home from work. You (and your spouse) have noticed that it takes longer to get home sometimes than others. So you want to do an experiment and find out just how long it does take. You record your time to drive home for 6 weeks and get 30 data points. (5 days, 6 weeks). Then you decide to analyze this statistically and see just how frequent the short trips and long trips and medium trips take. The best way to do this is with a frequency diagram. Here is an example of what one looks like:
Note that you can analyze this data in more detail. And you can use it determine the Expected Value if you convert the raw frequencies into relative frequencies (probabilities.) The SLP will discuss the concept of Expected Value. In this example, the expected value is 44.3 minutes. Review this problem in the Excel file that you can download.
Watch this video that shows you how to do it:
View an example of a histogram. Download this Excel file with two examples and a Sample Problem:
Case 2-Examples-Sample Problem.xlsx ( SEE ATTACHED BELOW)
PRACTICE: Now try the sample problem with the data in the downloaded Excel file.
· Follow the instructions in the file to create a histogram.
· Check your results by reviewing the last Tab in the file.
You should be ready to do the Case 2 Assignment.
SLP Background: Decision Making Under Risk
Recall from Module 1 Background that in decision situations there are three different levels of uncertainty: assumed certainty, risk, and uncertainty. In SLP 1, we covered assumed certainty. In this Module we will discuss RISK. Recall what it means for a decision under risk:
Risk. In this situation, the decision maker distinguishes several possible future states, and is able to determine the probabilities of these distinct futures, or estimate the probabilities with a degree of confidence. There may be few or many options to choose from and the outcomes of these options may be different in the possible future states. For example, consider the weather which is always risky. And we usually have some estimates of the future states based on what the weatherman says. Two possible states are Rain and No Rain. The choices to consider here might be: Walk w/no umbrella, Walk w/umbrella, or Drive. The decision maker can determine the probabilities of Rain/No Rain from the forecast, for example, 60% chance of Rain (and 40% No Rain.) There are costs and payoffs involved with each option. And different people may have different decisions to make. The office employee may need to decide to walk or ride to work. The farmer may need to decide to work in the fields or protect the crops.
In all of these decisions there are basic elements that must be determined before the decision can be made. First, determine the possible future states (F) and the probabilities (p) for each. Note that the law of probability requires that the DM identify all a set of mutually exclusive and collectively exhaustive set of future states. And the probabilities must sum to 1.0 (100%). Then the DM must identify the alternatives (A). Note this is a key step as specified in Module 1. The next step is to identify the outcomes (O), payoffs, or consequences of each alternative for each future state. Quite often in business, this will be a monetary value. Then the DM can use the concept of Expected Value to determine the probability payoff for each alternative which allows for choosing the best alternative.
Review the following PowerPoint introducing decision making under risk:
Introduction to Decisions Under Risk (PPT) ( SEE ATTACHED BELOW)
Now, watch this video that explains decision making under risk:
http://permalink.fliqz.com/aspx/permalink.aspx?at=878629d1caf94d26b7e30bb857cbf6bf&a=5fae3cf0f1624f39b0341263a6541ea0
Download this Excel file that shows the example used in the video:
SLP 2 Examples-Sample Problem.xlsx ) ( SEE ATTACHED BELOW)
Try the Sample problem in this Excel file. Check your solution.
You should be ready for SLP 2.
Additional Required Reading
(For Discussions, Modules 2, 3, and 4)
Download and read this paper on subjective probabilities in risk decisions. This paper will be useful for the discussion questions in Module 2, 3, and 4:
Subjective Assessments of Risk and Uncertainty ) ( SEE ATTACHED BELOW)
Get this journal article from the library. It is lengthy, but you only need to read Section 1.1, pp. 3-5. This section provides a very good review of three major biases that have been studied by the famous team of Kahneman and Tversky.
Laibson, D., & Zeckhauser, R. (1998). Amos Tversky and the ascent of behavioral economics. Journal of Risk & Uncertainty. Feb1998, Vol. 16 Issue 1, p7-47. 41p. Retrieved from Business Source Complete (EBSCO)
Optional Reading
This is nice paper by Daniel Kahneman. It is the basis for his recent book, Thinking Fast and Slow.
Kahneman, D. (2003). Maps of Bounded Rationality: Psychology for Behavioral Economics, American Economic Review, December, 2003. Retrieved from Ebsco.
Reading for Module 3 to Read Now
This reading is important background for Cases 3 and 4. You should read it now to prepare for these coming Cases.
Chapter 2 (pp. 54–76), and Ch. 3 (pp. 77–91), from: Chase, C. W., (2013). Demand-Driven Forecasting: A Structured Approach to Forecasting, John Wiley & Sons: Somerset, NJ. Retrieved from the Ebrary.
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Rubric Name: MBA/MSHRM/MSL SLP Grading Rubric for Quantitative Business Courses -Timeliness v1
Criteria
Level 4 – Excellent
Level 3 – Proficient
Level 2 – Developing
Level 1 – Emerging
Assignment-Driven Criteria
9 points
Demonstrates mastery covering all key elements of the assignment in a substantive way.
8 points
Demonstrates considerable proficiency covering all key elements of the assignment.
7 points
Demonstrates partial proficiency covering all key elements of the assignment.
6 points
Demonstrates limited or poor proficiency covering all key elements of the assignment.
Presentation, Computation, and Relevance of Quantitative Information
7 points
Demonstrates mastery in presenting quantitative information in a format appropriate for the discipline. Supporting computations are relevant and accurate.
6 points
Demonstrates considerable proficiency in presenting quantitative information in a format appropriate for the discipline. Supporting computations are mostly relevant and accurate.
5 points
Demonstrate partial proficiency in presenting quantitative information in a format appropriate for the discipline. Supporting computations are not necessarily relevant and somewhat misleading.
4 points
Demonstrates limited or poor proficiency in presenting quantitative information in a format appropriate for the discipline. Supporting computations are not relevant, misleading or absent.
Critical Thinking
6 points
Analyzes quantitative and qualitative information as the basis for deep and thoughtful discussion, drawing insightful, carefully qualified conclusions from this work.
5 points
Analyzes quantitative and qualitative information as the basis for competent and thoughtful discussion, drawing reasonable and appropriately qualified conclusions from this work.
4 points
Analyzes quantitative and qualitative information as the basis for workmanlike (without inspiration or nuance, ordinary) discussion, drawing plausible conclusions from this work.
3 points
Analyzes quantitative and qualitative information as the basis for tentative or limited discussion; and is hesitant or uncertain about drawing conclusions from this work.
Business Writing
5 points
Demonstrates mastery and proficiency in written communication to an appropriately specialized audience.
4 points
Demonstrates considerable proficiency in written communication to an appropriately specialized audience.
2 points
Demonstrate partial proficiency in written communication to an appropriately specialized audience.
0 points
Demonstrates limited or poor proficiency in written communication to an appropriately specialized audience.
Timeliness
3 points
Assignment submitted on time or collaborated with professor for an approved extension on due date.
2 points
Assignment submitted 1-2 days after module due date.
1 point
Assignment submitted 3-4 days after module due date.
0 points
Assignment submitted 5 or more days after module due date.
Overall Score
Level 4
27 or more
Level 3
24 or more
Level 2
21 or more
Level 1
0 or more
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