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Freemark Winery

In: Business and Management

Submitted By tupaki123
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Hermalin Consulting

“The Nerd in the Know” TM

To: Mr. William Jaeger From: Benjamin E. Hermalin, ph.d. Re: Harvesting Decision I have analyzed your harvesting decision problem. Figure 1 represents your problem in terms of a decision tree.
Botrytis [.4] 2 storm [.5] 4 wait 5 no storm 3 [.5] sell as bulk $12,000 + C $42,000 good luck [.4] okay luck [.4] bad luck [.2] $36,000 [.6] no Botrytis 1 bottle $24,000 - R $67,200

$30,000 $34,200

harvest now

Figure 1: The harvesting decision represented as a decision tree. In Figure 1, R denotes the monetary value of the loss of reputation you would suffer from bottling an inferior wine, while C denotes the cost saving from not bottling your own wine, should you choose to sell in bulk. Assuming the information you gave me is correct (more on this later), R and C are irrelevant to the problem. Given the information you provided, it seems safe to assume that C < $15, 000.∗ Even assuming the worst, R ≥ $12, 000 and C = $0, the option of waiting has a greater expected value than the decision to harvest now: $35,640 versus $34,200.† If the worst is not true (i.e., R < $12, 000 or C > $0), the the option of waiting is even more valuable. Consequently, unless you strongly dislike risk, you should wait to harvest. Your expected gain from waiting is at least 4% (worst-case scenario). If the very best-case scenario in which the node (labeled as ①) is worth $28,200 (see Technical Appendix for underlying calculations), your expected gain would be at least 18%. Because your winery is a partnership rather than a stock firm, I assume that risk is an issue for you. On the other hand, Riesling represents only 4% of your
∗ Otherwise, you not find it profitable to produce a $2.50 bottle of wine should the storm not occur and the acidity drops below 0.7%. † I provide details in the attached technical appendix.

Copyright c 2004...

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