Unit – 2

Risk Analysis
Decision Tree Approach

Prof. John Pradeep Kumar

KJSOM
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 Decision Tree Analysis
• It is a pictorial representation in lying tree form. It
shows the relationship between a present decision
and future events, mapped out over time in a format
resembling branches of a tree.
• In other words, it is a tree form which indicates the
magnitude, probability and inter-relationship of all
possible outcome. It is helpful to handle the
sequential decisions by showing sequential cash
flows and NPV of the proposed project under
different circumstances.
Mr. John Pradeep K, KJSOM 3
 Steps in Decision Tress Analysis
• Identify the investment (problem)
• Identification of decision alternatives
• Drawing the decision tree
• Specification of data
• Evaluate the alternatives
• Selection of the best alternative

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 Merits of Decision Tree Analysis
• Easy to understand.
• Clearly brings out the implicit assumptions
and calculations for all to see, question and
revise.

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Demerits of Decision Tree Analysis
• Decision tree becomes more complex when
the alternatives increase.
• Involves cumbersome calculations.
• It is time-consuming.
• It needs enormous information.

Mr. John Pradeep K, KJSOM 6