Question

1. in a decision tree, decision nodes are the nodes in which uncertainty is involved that is out of the control of the decision maker. do you agree with the statement? explain with examples.
2. projects may vary with the amount of leverage they will support. for example, acquisitions of real estate or capital equipment are often highly levered , whereas investments in intellectual property are not. do you agree with this statement. explain with examples.

Answer 1

I. A decision tree is a supervised learning technique in which we solve regression and classification problems. It is a tree like structure where the data or the population is divided into two or more homogenous sets based on the attributes they have. This process of splitting is followed until all the nodes remaining at the end have same quality and cannot be splitted any further. This process of splitting the attributes of the population collected for test os called Recursive Partitioning. To perform decision tree test, you do not need to have any domain knowledge. You can master this technique of making decisions by practicing and applying it in daily life. This method is accurate and can handle high dimensional data.

There are three types of nowes in a decision tree:

i. Decision Node- This node shows the decision to be made. In this node, various decisions are shown based on the data, so there is no role of the decision maker to change it. The decision is uncertain and is purely dependent on the population collected for analysis.

ii. Chance node- This node shows the chances of outcome. The chances are dependent on the data entered and there is no role of decision maker to change it.

iii. End Node- This node contains the ultimate outcome. This node contains the data which cannot be furthur splitted and hence the end result.

Decision tree is widely used in various areas like forecasting future compamy growth, weather forecasting, Data mining, etc.

II. Leverage is the investment strategy where the company uses borrowed funds to operate its working. Company uses this fund either for short term of for long term. For short term the company uses funds for its daily operations while for long term, the company uses this fund to finance its assets.

There are basically two types of leverage:

i. Operating Leverage: Here the company uses the funds to finance the operations of the business. The amount of operating leverage is based on two things, Fixed cost and Variable cost. If the company has high fixed cost than variable cost, the company is said to be using more operating leverage and if the company uses has high variable cost and low fixed cost, then the company is using less operating leverage.

ii. Financial leverage: In financial leverage, the company uses debt to finance its assets. When the company is unable to get funding from other sources, it goes for loans and advances.

Any kind of excess leverage is bad for the company. This shows that the company does not have enough fund for its own operations and poses a bad impact on the investors. If the company has high operating leverage, it will impact the forecast of sales of the company. And if the company has high financial leverage, ROA will get affected which will ultimately affect the profitability of the business. Huge leverage gives the sense of insecurity to the investors. The investors feels that the company has no or very less funding of its own and hence they are going for leveraging their operations or assets.