06 Decision Tree

Definition:

A quantitative and methodical organizational planning tool based on probability. It allows managers to see possible options and the consequences to evaluate their choices and then make a decision.

Representations:

Square - decision node (the decision that needs to be made)

Circle - chance node (or probability node)

Probabilities - 0.xx (xx%) under each branch from options

Costs - under the options

Cross-out line (rejected options based on quantitative reasoning and logic)

Advantages:

• Offers a visual representation

• Helps managers to consider the financial risks involved

• Easy to understand

• A flexible tool that can be applied to many different situations

Disadvantages:

• Ignore qualitative factors

• The probabilities only forecast even if based on market research data

• Doesn’t reduce the amount of risks

• Difficult to construct a decision tree for interconnected options