3.3.3 Decision trees

Question 1

Decision tree

Answer 1

A technique which shows all possible outcomes of a decision.The predicted results can then be compared to help make a decision.

Question 2

When outcomes are uncertain what can businesses use?

Answer 2

Businesses can use decision trees to help a business reach a decision, which could minimise the risk and gain the greatest return.

Question 3

Features of decision trees?

Answer 3

Decision points-represented as a square.It’s where decisions have to be made
Outcomes
Probability/chance
Expected monetary values

Question 4

Expected monetary values

Answer 4

The financial outcome of a decision.

-Based on the predicted profit or loss of an outcome and the probability of that outcome occurring.

Question 5

How to calculate expected monetary values?

Answer 5

(Probability) X (expected profit) of success + (Probability) X (expected profit) of failure

Question 6

Advantages of decision trees

Answer 6

1) Outputs are easy to read without needing any prior statistic knowledge
2) Clarifies financial consequences of each decisions
3) Forces the consideration off all possible outcomes of a decision that may have not been previously considered

Question 7

Limitations of decision trees

Answer 7

1) Much of it is based on probabilities which are often estimated so monetary values may not be exact
2) Ignores qualitative values
3) Time lags can occur in decision making.By the time a decision is made, some of the numerical information may be out of date.
4) Process can be quiet time consuming.
5) Decision makers may manipulate data as they can be ‘biased’. This will distort final results.

6) Decision trees are not able to take into account the dynamic nature of a business.
e. g an external shock