Question:

Beta Mining owns a copper mine. The firm is going through a difficult period as the price of copper has tumbled in recent years. The annual revenue from the mine depends on the price of copper at the end of the year as shown in the table below.

It costs $800 million per year to operate the mine. Alternatively, the mine can be abandoned – wherein concrete is poured into its shafts and the mouth is boarded up at a cost of $50 million. Another alternative is to "moth-ball" the mine—wherein its operation is indefinitely suspended—at a cost of $100 million per year. Unlike an abandoned mine, a moth-balled mine can be restarted in subsequent years at no additional cost. The decision to operate, moth-ball or abandon the mine is made at the start of each year.

It is January 1, 2011. The price of copper today is $7,000/ton. Over the course of each of 2011 and 2012, it is estimated that there is a 60% chance that the price will increase by $1,000 and a 40% chance that it will decrease by $1,000. All costs and revenues are discounted to today’s dollars.

1. Implement a decision tree to illustrate Beta Mining’s decision-making about operating its mine over the next two years. Be careful in distinguishing between decision and chance nodes, and in naming the various nodes and branches. Include Exhibit 2-1 which is a clearly readable image of your implemented tree.
2. Describe the optimal policy for Beta Mining over the next two years.
3. The price evolution was modeled with a single parameter. How sensitive is the optimal course of action to this parameter, that is, to the probability that the price will increase? Briefly discuss the results and label any supporting documents as Exhibit 2-2 (max one page).

Price: $2.99

Solution: The downloadable solution consists of 6 pages
Deliverable: Word Document