Question context:

PayTech Solutions, a financial technology company, aims to enhance security by integrating a new AI$-$based Fraud Detection System $($FDS$)$ into their payment processing services.

They must decide whether to build a custom system tailored to their needs or purchase an off$-$the$-$shelf industry standard system used by competitors. A custom FDS would provide more value to PayTech, estimated at $$2,000,000,$ but has uncertain development costs and might not work as planned. An industry standard system is worth $$1,000,000.$ If they attempt to build a customized system and it does not succeed, the result would still be equivalent to the industry standard.

The company is faced with three options then: develop the custom system in$-$house, outsource the development of the custom system to a specialized vendor, or buy an off$-$the$-$shelf solution.

Develop In$-$House

PayTech Solutions could leverage its internal resources and expertise to develop a custom AI$-$based FDS tailored to its specific needs and requirements, allowing for greater control over the system$$s features and capabilities. If developing in$-$house, there is a $0\mathrm{.}6$ probability of creating a custom system. Otherwise, they would end up with a standard system. Regardless of which type of system is produced, development cost is also uncertain with a $0\mathrm{.}3$ probability of $$500,000$ and a $0\mathrm{.}7$ probability of $$800,000.$

Outsource

The company could contract the development of the AI$-$based FDS to an external vendor specializing in fraud detection solutions, potentially benefiting from the vendor$$s specialized knowledge and experience but having less control over development. The vendor contract is a fixed $$700,000$ with no uncertainty. With less control over the final product, outsourcing only has a $0\mathrm{.}5$ probability of creating a custom system.

Buy Off$-$The$-$Shelf

PayTech Solutions could opt for a pre$-$developed, standard AI$-$based FDS available in the market, which is less expensive and faster to implement but lacks customization. This solution costs $$300,000$ for the standard system.

$($Build a decision tree to answer the questions below$)$

Questions:

$1.$ What is the expected value of an in$-$house development?

$2.$ What is the expected value of an outsourced development?

$3.$ What is the expected value of buying the off$-$the$-$shelf system?

$4.$ Which development approach should they choose?

Develop In$-$House

Outsource

Buy Off$-$the$-$Shelf