Embassy Publishing Company received a six-chapter manuscript for a new college textbook. The editor of the college division is familiar with the manuscript and estimated a 0.65 probability that the textbook will be successful. If successful, a profit of $750,000 will be realized. If the company decides to publish the textbook and it is unsuccessful, a loss of $250,000 will occur.
Before making the decision to accept or reject the manuscript, the editor is considering sending the manuscript out for review. A review process provided either a favorable (F) or unfavorable (U) evaluation of the manuscript. Past experience with the review process suggests probabilities P(F) = 0.7 and P(U) = 0.3 apply. Let s1 = the textbook is successful, and s2 = the textbook is unsuccessful. The editor's initial probabilities of s1 and s2 will be revised based on whether the review is favorable or unfavorable. The revised probabilities are as follows:
(see attached file)
a. Construct a decision tree or complete payoff table assuming that the company will first make the decision of whether to send the manuscript out for review and then make the decision to accept or reject the manuscript.
b. Use the expected value approach to recommend a decision strategy for the publishing company.
c. If the manuscript review costs $5000, what is your recommendation?
d. Determine the expected value of perfect information for this decision problem. What does this EVPI suggest for the company?
This solution is comprised of a detailed explanation to construct a decision tree or complete payoff table assuming that the company will first make the decision of whether to send the manuscript out for review and then make the decision to accept or reject the manuscript.