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DecisionTree.xls
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DecisionTree.xls
Version 3.4 10/27/2007 Constructing a Decision Tree with Built-in Formulas John.O.McClain@cornell.edu Johnson Graduate School of Management Cornell University Ithaca NY 14853
This spreadsheet is intended for teaching purposes. You are welcome to use it in any manner, and change it as you see fit. This model comes without any guarantee whatsoever, and is distributed free of charge. A Decision Tree represents a series of decisions that are linked through time. That is, after one decision has been made, there may be any number of subsequent decisions. Moreover, the choices that are available for future decisions depend on past choices. A diagram is very helpful in keeping track of all of these details, and explaining the situation to others. The diagram below illustrates the three types of Nodes on a Decision Tree: Decision Nodes (Yellow), Probability Nodes (Blue) and Terminal Nodes (Gray). Node 1 is a Decision Node, which means that you may choose among the outgoing branches. The first choice would lead you to Node 2, where the payoff is 20. The second choice goes to Node 3, payoff 10. The third goes to Node 4, where the payoff is 10.4. (Explanation of this number is given below.) The word Yes appears on the first branch because it has the highest payoff. The word No appears on the other branches because their payoffs are lower. The number 20 appears in Node 1 because that is what you get if you follow the best branch.
Now Node 1 20 Yes No No Change Model Node 2 20 Node 3 10 Node 4 10.4 0.4 Node 5 -34 0.6 Node 6 40 Future
Nodes 2, 3, 5 and 6 are Terminal Nodes. Nothing follows from them. Each terminal node has a payoff, and you (the decision maker) have to enter these values. Node 4 is a Probability Node, which means that you CANNOT choose among the outgoing branches. Only one of the branches out of Node 4 will happen, and that is a matter of chance. The probability of the first branch is 0.4 (or 40%) and if it happens you will go to Node 5 and get a payoff of -34. (That is, you will lose 34.) The probability of the second branch is 0.6, leading to Node 6, payoff 40. You have to supply the probabilities for these branches. They must add to 1.0. The number 10.4 appears in Node 4. That is the Expected Value of the Payoff, which is a weighted average, using the probabilities as weights. In this case, 0.4(-34) + 0.6(40) = 10.4.
Directions
DecisionTree.xls
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Probability Node
Terminal Node
Change Model Node 2 20 Node 3 10 Node 4 10.4 0.4 Node 5 -34 0.6 Node 6 40
Future
Probabilities
Tree
128301181.xls.ms_office
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Future Node 2 20 Node 3 10 Node 4 10.4 0.4 Node 5 -34 0.6 Node 6 40
128301181.xls.ms_office, Warning, p. 4 of 6
For Excel 2003, A. Close this file. Then open it again. B. In the window that appears, click Enable Macros. If a window like this one does NOT appear, then go to STEP 2.
128301181.xls.ms_office, Warning, p. 5 of 6 E. Exit from Excel. Closing the file is not enough. On the menu bar, select File, and then Exit. F. Open this file again and follow the instructions in STEP 1 to enable the macros. For Excel 2003, A. On the menu bar at the top of this page, select Tools, then Macro, then Security. B. On the Security Level tab, select Medium and click OK. C. Then exit from Excel. Closing the file is not enough. On the menu bar, select File, and then Exit. D. Open this file again and follow the instructions in STEP 1 to enable the macros.
128301181.xls.ms_office, Warning, p. 6 of 6