MBA201a: The Value of InformationUnderstanding probabilitiesAnother decision tree…Would it be valuable to get information about the success of the movie before developing the product?Obtaining information first changes your decisionThe value of informationTakeawaysMBA201a: The Value of InformationProfessor Wolfram MBA201a - Fall 2009 Page 2Understanding probabilities–A probability reflects a set of information.–Collecting information can change the best estimate of a probability.–A probability can be conditional on the outcomes of previous events or it can be independent of previous events.–After the fact (ex post), the probability of an event is either 0 or 1.Professor Wolfram MBA201a - Fall 2009 Page 3Another decision tree…Develop new productDrop the new productMovie is a hit [p=0.8]-$1m0$.1m$2.5mMovie flops [p= ]Developing a new product to cobrand with a soon-to-be released movie.Professor Wolfram MBA201a - Fall 2009 Page 4Would it be valuable to get information about the success of the movie before developing the product?Movie will be a hit [p=0.8]Movie will be a flop [p= ]0-$1m + $2.5mDon’t develop productDevelop productDevelop product0-$1m + $.1mDon’t develop productProfessor Wolfram MBA201a - Fall 2009 Page 5Obtaining information first changes your decision–The information helps you avoid developing the product if the movie flops.–This happens with 0.2 probability. –In the event the movie flops, you save $.9. The expected value of this is $.18, which is the difference in the value of the two trees: $1.2-$1.02.Professor Wolfram MBA201a - Fall 2009 Page 6The value of information–Information is valuable only if it may affect your choices.–Valuation of information is from an ex ante (before the fact) position.•In other words, don’t confuse a good outcome with a good decision.Professor Wolfram MBA201a - Fall 2009 Page 7Takeaways–Remember: decision trees are a tool to formalize the decision process.–Decision-makers do not always maximize expected value.–Probabilities reflect a set of information.–Decision trees can help you think about the value of obtaining new information.•Ask yourself: What, if anything, would I do differently with new information?•Would new information be worth more than the cost, if any, of acquiring