Expected Total Payoff

Chapter 10: Exercise 10-2 Expected Total Payoff
If no renovation takes place then this means that the demand will remain as it is, that is they will have 20 patients per day assuming they collect $ 75 per patient in 300 days
Then the total payout is = 20*75*300
= 450000
The expected payoff on different levels of demand increase will be
Expected Payoff [no renovation] = (.3) x 450,000 + (.25) x 450,000 + (.45) x 450,000
EP [no renovation] = 135,000 + 112,500 + 202,500
EP [no renovation] = 450.000
If they make a minor renovation, we expect a payoff of $ 225000 to finance the renovation and therefore the remaining revenue for the year would be
=787,500-225,000
= $ 562,500
The expected payoff on different demand increase levels will be
Expected Payoff [minor renovation] = (.3) x 225,000 + (.25) x 562,500 + (.45) x 562,500
EP [minor renovation] = 67,500 + 140,625 + 253,125
EP [minor renovation] = $ 461,250
If they make a major renovation, we expect a payoff of $ 700,000 to finance the renovation and therefore the remaining revenue for the year would be
= 1,125,000 – 700,000
= $ 425,000
Expected Payoff [major renovation] = (.3) x 700,000+ (.25) x 425,000 + 0.45 x425,000
= $ 507,500
Therefore, the management should undertake the major renovation since it is the one that is yielding the maximum payoff on the different levels of demand increase