Engineering Economic Analysis

EconomicDecision Trees 319

1: Build New

Product

t= 0

FIGURE 10-4 Partially solved decision tree for new product.

The next step is to calculate the PW at nodes 4,5, and 6.

7: Net Revenue

=$0

4: Net Revenue

Year 1=$looK

~\ PWI= $486,800

~

~ 8: Revenue

$ lOOK/year

5: Net Revenue

Year 1=$200K Year 2 ...n

9: Net Revenue

III =$600K/year

~ First cost = $800K~.PW^1 =$2,120,800

6: Net Revenue

Year 1=$400K

/g~

~

~ 10: Net Revenue

=$4ooK/year

t= (^1) t= 2, ...,00
PW at node 4 = (100,000 +550,000)(P/F,10%,1) = 650,000(0.9091)- $590,915

PW at node 5=(200,000)(P /A,10%,8) - 20Q,000(5.335) = $1,067,000

PW at node 6 = [400,000 - 800,000 +600,000(P/A,10%,7)](P/F,10%, 1)

= -400,000 + 600,000(4.868)=$2,291,660

Now the expected value at node 2 can be calculated

EV at node 2 - 0.3(590,915) + p.6(1,067,002) +~1(2,~l,~669 $\,04~,640
The cost of selecting node 2 is $1,000,000, so proceeding witb.the prpduct.has an.expect~d
PW of $46,640. This is greater than the $0 for not building the project. So the decision is to build.
Figure 10-5 is the decision tree anhe finaJ.stage. ='