Southern Film Company (SFC) is preparing to make a bid for the rights to produce a cartoon version of the upcoming Star Wars movie “Solo”. SFC is trying to decide whether to place a high bid of $21 million or a low bid of $11 million. SFC expects to be bidding against their major competitor, Northern Film Company (NFC) and predicts NFC to place a bid of $14 million with a probability of 0.3 or a bid of $10 million with a probability of 0.7. Advance ticket sales and pre-screening results for “Solo” suggest a 0.2 probability of the cartoon version being a blockbuster hit, a 0.35 probability of attendance for the cartoon version being average, and a 0.45 probability of the cartoon version being a flop. A blockbuster or average film would most likely represent net earnings of $120 million or $28 million, respectively, after all production and distribution costs are paid (except the cost of the movie rights). A flop will cover its direct production costs only (but not the cost of the movie rights). The company that wins the bid will be required to spend an additional $5 million to promote the Star Wars franchise, whether or not their movie is successful.
a) Draw a sensitivity graph, showing expected value of each alternative as a function of the probability of NFC bidding $10 million.
b) Compute the probability at which the decision changes.
c) Compute the value of perfect information regarding the size of NFC’s bid.
d) SFC is being offered an analysis by film critic Roger Ebert regarding the bidding intentions of NFC. The seller wants $1.5 million for the study. Should you: (a) snatch it up because the price is below the value of perfect information, (b) draw and solve a value of sample information tree to determine how much the information is really worth in light of its accuracy since the price is below the value of perfect information, or (c) laugh in their face because the price is more than the value of perfect information and the offer is therefore overpriced.