Toolkit: Decision tree

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The main purpose of decision tree is to quantify decision-making.

Just a reminder to keep a record of all the tools in the table below. As long as you can fill in all the cells of the table, you will be able to write a successful IA.

At a first glance, decision tree might look quite weird, confusing and complicated.

However, if you break it down into elements, it actually turns out to be quite a pleasant user-friendly decision-making tool, applicable not only for businesses, but also for personal life. Learn what it is and try to use it for your personal decisions. Let’s start off with a fancy smart definition of the tool.

Decision tree is a decision-making tool that visualises potential outcomes of different options. It is used for quantifying probabilities of different decisions that organisations face. The main elements of decision trees are: decision node, chance node, expected value, net gain. You will see what these elements mean in the “how-to” steps below.

So, how to outline a decision tree? There are four steps that can be remembered as “draw, label, calculate, cut off” or “DLCC”, it you prefer acronyms. To be more specific, the 4 stages include the following:

1. Draw decision node(s) (square), chance node(s) (circle), lines
2. Label everything: options, costs, probabilities, projected revenues
3. Calculate expected values and net gains
4. Cut off unwanted lines

Let’s see a worked out example of preparing a decision tree based on a certain scenario and I will guide you step-by-step through the entire process.

Let’s say, Ilia Levinskii is a publisher of the best IB textbooks in the world. The demand for textbooks that students ACTUALLY like is getting higher and higher so Ilia is considering expansion. Ilia is convinced that the economy will mostly likely improve (he is 70% sure) or at least stay the same. The 3 expansion options are summarised in a table below.

So, the first step is to draw. Draw decision node(s) (square), chance node(s) (circle), lines. It all starts with a square on the left (decision node) and three branches that represent three options from the summary table in Figure 2. The first option has two probabilities, so we draw two lines from a circle on top (chance node): one line represents the possibility that economy improves, the other line represents...