Acme Inc. owns a delivery truck worth $80,000. The truck is subject to the risk of physical

damage, with the following loss probability distribution:

Annual Losses

Probability

$0

.89

$10,000

.10

$80,000

.01

Acme's risk manager is considering three risk management options to manage this risk:

Acme can purchase full insurance on this truck for the risk of physical damage up to a total

loss of $80,000 for a premium of $2,800.

Acme can purchase insurance with a limit of $80,000 and a deductible of $1,000 for a

premium of $2,200.

Acme is also considering retention as an alternative to full insurance.

1. Construct a loss matrix. All matrices must be constructed with the Risk Management

Alternatives as the rows and the States of the World as the columns, as we did in the video.

Ignore tax considerations for this assignment.

2. Suppose the risk manager wants to minimize expected loss as her decision rule. Which risk

management alternative does she choose? Show all expected loss calculations and explain

why the risk manager chooses a particular option.

3. Assume that the risk manager has a worry value (WV) equal to $900 for retention and a WV

of $300 for deductible insurance. If the risk manager decides to minimize TOTAL COST,

which risk management alternative does she choose? Show all total cost calculations and

explain why the risk manager selects a particular option.