# Laura mccarthy , the owner of riverside bakery, has been approached

1. A contractor must pay a \$40,000 penalty if the construction time of a new home exceeds 16 weeks. The contractor will receive a \$10,000 bonus if the house is completed within 8 weeks. Based on experience, there is a .20 chance that the construction time will take more than 16 weeks and a .30 chance that the construction can be completed within 8 weeks. Based on a price of \$350,000 before any penalty or bonus adjustments, how much can the buyer expect to pay when the house is completed?

Laura McCarthy , the owner of Riverside Bakery, has been approached by insurance underwriters trying to convince her to purchase flood insurance. According to local meteorologists, there is a 0.01 probability that the river will flood next year. Riverside’s profits for the coming year depend on whether Laura buys the flood insurance and whether the river floods. The profits (which take into consideration the \$10,000 premium for the flood insurance) for the four possible combinations for Laura’s choice and river conditions are

The River

Does   NOT Flood

Floods

Insurance   Decision

No   flood insurance

\$200,000

-\$1,000.000

Get   flood insurance

\$190,000

\$200,000

1. if Laura decides not to      purchase flood insurance, use the appropriate discrete probability      distribution to determine Riverside’s expected profit next year.
2. If Laura purchases the      flood insurance, what will be Riverside’s expected profit next year?

Given the results in part (a) and (b) provide Laura with a recommendation.

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