Create and evaluate a decision tree for decision analysis

To create and evaluate a decision tree first (1) enter the structure of the tree in the input editor or (2) load a tree structure from a file. When you first navigate to the *Model > Decide > Decision analysis* tab you will see an example tree structure. This structure is based on an example by Christoph Glur, the developer of the data.tree library.

To enter a new structure, start by providing a name for the tree and enter a label in the input box next to the `Calculate`

button. In the example below the name for the decision tree is entered as follow: `name: Sign contract`

. The next step is to indicate the **type** of the first **node**. Options are `type: decision`

or `type: chance`

. Note that we are skipping `variables`

for now but will return to this section below.

In the provided example, the first node is a **decision node**. The decision maker has to decide to `Sign with Movie Company`

or `Sign with TV Network`

. The first option leads to a **chance** node with probabilities and payoffs. The second has a fixed payoff.

Note:Indentation is critically important when defining a tree structure. Use tabs to create branches as shown in the example. Names for branchesmustbe followed by a`:`

and information about the branchmustbe indented using the`tab`

key.

After providing the name for the decision `Sign with Movie Company`

, the next line **must** be indented using the `tab`

key. In the example, the next line starts the description of a chance node (`type: chance`

). There are 3 possibilities in the example: (1) `Small Box Office`

, (2) `Medium Box Office`

, and (3) `Large Box Office`

, each with a probability and a payoff. These are end-points for one branch of the tree and are often referred to as `terminal nodes`

or `leaves`

. All endpoints must have a `payoff`

value.

Note:Probabilities for a chance node should sum to 1 and all probabilities must be between 0 and 1.

A decision can also be assigned a `cost`

. For example, if we decide to sign with the movie studio we may incur a cost of $5,000 for legal support. Assume the contract with the TV network is simpler and does not require legal assistance. Note that using `costs`

is optional. In the example we could also subtract $5,000 from each of the possible box-office payoffs.

If some values in the tree are related or repeated it can be useful to use a `variables`

section. Here you can assign labels to values, formulas, and even other (sub)trees. Note that formulas can **only** be used in the `variables`

section and nowhere else. In the `Sign contract`

example only one variable is created (i.e., `legal fees`

). The *Sensitivity* tab requires that a `variables`

section is included in the tree structure. An adapted version of the `Sign contract`

example that uses more variables and a formula is shown below.

```
name: Sign contract
variables:
legal fees: 5000
P(small): 0.3
P(medium): 0.6
P(large): 1 - P(small) - P(medium)
type: decision
Sign with Movie Company:
cost: legal fees
type: chance
Small Box Office:
p: P(small)
payoff: 200000
Medium Box Office:
p: P(medium)
payoff: 1000000
Large Box Office:
p: P(large)
payoff: 3000000
Sign with TV Network:
payoff: 900000
```

To reference another (sub)tree use the `dtree`

function in the `variables`

section and the name of the (sub)tree. For example, suppose you want to include a tree (“tuesday_tree”) that evaluates a pricing decision on Tuesday into a tree that evaluates a pricing decision on Monday. The start of the `variables`

section might look as follows:

```
variables:
tuesday_emv: dtree("tuesday_tree")
```

Then in the Monday tree you would refer to `tuesday_emv`

in spots where you need the EMV from Tuesday’s pricing decision.

- Always start with a tree name (e.g.,
`name: My tree`

) - The second line should start a
`variables`

section or a node definition (i.e., type: chance or type: decision) - All lines must have a
`:`

. For node names the`:`

ends the line. For all other lines it assigns a value. Specifically, it assigns a name (e.g.,`name: My tree`

), a node type (e.g.,`type: decision`

), a variable (e.g.,`legal fees: 5000`

), or a number (e.g.,`payoff: 100`

,`p: 0.1`

,`cost: 10`

) - A node type must be followed on the next line by a node name (e.g.,
`Cancel orders:`

) - Use only letters and spaces in node names (i.e., no symbols)
- The line after a node name must
**always**be indented - End (or terminal or leave) nodes must have a payoff (e.g.,
`payoff: 100`

) - If linked to a chance node, terminal nodes must have a probability (e.g,
`p: 0.4`

) and a payoff

After specifying the tree structure in the editor, press the `Calculate`

button to see the `Initial`

and `Final`

decision tree in text format on the right side of the screen (see screen shot below). The initial tree simply shows the tree structure that was specified, together with the node types, probabilities, costs, and payoffs. The final tree shows the optimal decision strategy determined by `folding-back`

the tree. In this case, the optimal decision is to `Sign with Movie Company`

because this decision has a higher **Expected Monetary Value (EMV)**.

For a visual representation of the decision tree open the *Plot* tab. If you already clicked the `Calculate`

button in the *Model* tab you will see a graph of the `Initial`

decision tree (see screen shot below). Decision nodes are shown in green and chance nodes in orange. If the tree does not look as you intended/expected, return to the *Model* tab and edit the tree structure.

The `Final`

graph shows the optimal decision determined by `folding-back`

the tree. The optimal decision is to `Sign with Movie Company`

because this decision has a higher **Expected Monetary Value**. Note that the optimal decision at each decision node is shown by a thicker line connecting to the nodes.

The EMV for `Sign with TV Network`

is $900,000. If we ignore costs the expected payoff from `Sign with Movie Company`

is:

\[ 0.3 \times 200,000 + 0.6 \times 1,000,000 + 0.1 \times 3000,000 = 960,000 \]

The EMV from signing with the movie company is however \(960,000 - 5,000 = 955,000\) because we do incur a cost of $5,000 in legal fees. Hover the cursor over the chance node shown on screen to see a `tooltip`

that shows the calculation. To highlight that a `cost`

was specified the chance node in the figure has a dashed outer line.

In the `Sign contract`

example it is clear that `Sign with Movie Company`

is the preferred option. However, suppose the legal fees associated with this option were $10,000, or $30,000, would we still choose the same option? This is where the *Sensitivity* tab is useful. Here we can evaluate how decisions (e.g., `Sign with Movie Company`

and `Sign with TV Network`

) would change if the legal fee changes. Enter 0 as the `Min`

value, 80000 as the `Max value`

, 10000 as the `Step`

size, and then press the icon. After pressing `Evaluate sensitivity`

a graph will be shown that illustrates how payoffs for the decisions change. Notice that for legal fees higher than $60,000 `Sign with TV Network`

produces the highest EMV.

Tutorial videos are available on Youtube:

The state file for the sensitivity analysis example is available here

Useful keyboard short-cuts:

- Comment current or selected line(s) (Win: Ctrl-/ Mac: Cmd-/)
- Fold all lines (Win: Alt-0 Mac: Alt-Cmd-0)
- Unfold all lines (Win: Shift-Alt-0 Mac: Shift-Alt-Cmd-0)
- Search (Win: Ctrl-f, Mac: Cmd-f)
- Search & Replace (Win: Ctrl-f-f, Mac: Cmd-f-f)
- Undo edit (Win: Ctrl-z, Mac: Cmd-z)
- Redo edit (Win: Shift-Ctrl-z, Mac: Shift-Cmd-z)

You can also (un)fold lines using the small triangles next to the line numbers.

For additional shortcuts see:

https://github.com/ajaxorg/ace/wiki/Default-Keyboard-Shortcuts

For an overview of related R-functions used by Radiant for decision analysis see *Model > Decision analysis*