1. Consider an oil wildcatter who has a drilling option of a site that may contain oil. He needs to decide whether to dr

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1 Consider An Oil Wildcatter Who Has A Drilling Option Of A Site That May Contain Oil He Needs To Decide Whether To Dr 1 (46.14 KiB) Viewed 37 times

1. Consider an oil wildcatter who has a drilling option of a site that may contain oil. He needs to decide whether to drill on the site before the option expires or to abandon the right. The drilling cost is $100,000. If the oil is struck, the revenue is $450,000. The assessment on the probability that the site contains oil is 0.205. With cost $10,000, the wildcatter can choose to do a test on the site and there are three possible outcomes of the test (21, 22, 23). The probability for outcome z1 is 0.6, z2 is 0.3, and z3 is 0.1. For each outcome, the wildcatter can update the corresponding probability that the site contains oil or is dry according to the following table. Dry (si) Oil (2) N Z 0.9 0.1 0.75 0.25 Z. z 03 0.7 a. Plot the decision tree for the wildcatter. (10 points) b. What are the optimal decisions for the wildcatter that maximize his payoff? (10 points)