All language subtitles for 09 - Solution Calculate the expected value of a business scenario

(energetic music)

- [Instructor] In the previous movie,

I described a set of four scenarios,

assigning probabilities and values

of that scenario to each one,

and our goal is to calculate the expected value

of each of the scenarios

and then also for the entire project.

So I'll start in cell D2,

and the expected value

of a particular scenario is the probability multiplied

by the value.

So, in D2 I'll type equal,

and I have B2 times C2 and Enter.

So we have 18% of 30,000, which is $5,400,

and now I can copy that formula down

so that I have the same calculation for the other scenarios.

So with cell D2 selected,

I will drag the fill handle down,

cover the other cells,

and I can see that I have 5%, or 1/20th of 60,000 is 3000,

one third of 5,000 is 1,650

and 44% of 10,000 is 4,400.

Note that the values for scenarios three

and four are negative.

That's why they're in parentheses.

To find the total expected value,

we want to add up all of the expected values

from the individual scenarios.

So, I'll click cell D6, press Alt equal,

which creates an AutoSum formula,

D2 to D5, looks good, Enter,

and I get an expected value of 2,350,

and we can also do a crosscheck

to make sure our probabilities add up to a hundred

by also creating an AutoSum formula in B6.

So, Alt equal and Enter,

and they do add up to a hundred percent,

so everything looks good.

So we have an expected value of $2,350.

It is a positive value,

but the question is whether we would want to go forward

with it given the high probability of failure.

If we look at the probabilities

for scenarios three and four, we see

that 77% of the time, we are going to lose money.

However, if we assume

that our initial investment is $10,000,

then 2,350 represents about a 23.5% return.

So, based on your tolerance for risk,

you might want to go ahead with this project.

However, if you have other projects

that might return a lower expected value,

but have higher probability of success,

then you might choose to go in that direction.

And that's what makes business so challenging.