Dan Hein owns the mineral and drilling rights to a 1,000 hectare tract of land.If he drills a well and does not strike oil his net loss will be $50,000,but if he drills a well and strikes oil his net gain will be $100,000.If he does not drill,his loss is the cost of the mineral and drilling rights,which amount to $1000.For Dan's decision problem,the variable "drill the well" is one of the ___.
A)payoffs
B)decision alternatives
C)states of nature
D)revised probabilities
E)prior probabilities

Question

Quizplus · Accepted Answer

The decision problem involves the decision alternative of drilling the well or not drilling the well. Therefore, the answer is B - decision alternatives. To determine the best choice, expected monetary value (EMV) can be used.

EMV of drilling the well: 
= (Probability of striking oil x Net gain) - (Probability of not striking oil x Net loss) 
= (0.4 x $100,000) - (0.6 x $50,000) 
= $40,000

EMV of not drilling the well: 
= Net loss 
= -$1000

Since the EMV of drilling the well is higher than the EMV of not drilling the well, the best choice is to drill the well.

Dan Hein Owns the Mineral and Drilling Rights to a 1,000