Amanda Brown, an experienced staff physician at the hospital, is considering going into private practice. Amanda has identified two possible approaches for her practice. She could open a small office where she would be the only doctor and this would require an initial investment of $200K. Amanda’s other option is to open a large office and hire two doctors who had recently completed their residency. The larger office would require an initial investment of $500K. Amanda has identified a professional building for her practice and they require a 3 year lease. Recruiting doctors to the practice will also require longer term commitments. As a result, Amanda has decided that if she goes into private practice it will be for at least three years. Therefore, she will base her decision on the cumulative cash flows for the next three years, i.e., net profit less initial investments. For simplicity, ignore the time value of money when solving this problem. The success of her practice depends on the number of patients she can attract to the practice and has done financial projections based on three patient levels: Low, Medium and High. Amanda estimates the probability of a low patient level at 0.20, medium patient level at 0.45, and high patient level of 0.35. Amanda has estimated the three year cumulative net profits for the practice that include all costs; however, in these projections she does not include a salary for herself. For the small office, she estimates net profits of $650K, $900K and $900K for low, medium and high patient levels, respectively. For the large office the net profit estimates are $500K for low, $1,000K for medium and $1,600K for large. To assist in the decision making process, Amanda has placed a value of $200K per year on her current position at the hospital.
a) Define the set of decisions and the set of possible outcomes (with associated probabilities) for Amanda’s decision.
b) Identify the costs for each decision and the revenues for the various combinations of decisions and possible outcomes.
c) Use PrecisionTree to construct and solve a decision tree for this problem. Enter the costs for each decision and the revenue for each possible outcome. This will allow PrecisionTree to make all the payoff calculations. What is Amanda’s optimal decision with the EMV criteria?
d) Amanda also struggled with assigning probabilities to the Medium and High patient levels (she feels comfortable with the 20% chance of Low patient levels). Perform a sensitivity analysis on these parameters to identify if changing the values would lead to a different optimal decision. Note: since the probabilities for the possible outcomes must sum to one, you can do this with single parameter type analysis
PLEASE solve using precision tree in excel and show steps in how you reached solutions.