Question

Jerome claims to have injured himself as a result of falling from the icy stairs of Tabaret hall due to snow being not properly removed after early snowfall and low temperatures in mid-November in Ottawa. As a result of the bad fall, Jerome will not be able to work for a while and will need to undergo surgery to repair a broken hip. Jerome, upon suggestion of his private insurance, is suing the subcontractor in charge of snow removal for negligence because, despite the snowfall was predicted by the weather forecast several days in advance, no shoveling or salting took place for two days after the first snowfall. Jerome is asking for damages of $1.5 million considering both the loss of working days, the decreased quality of life, and the high costs of surgery/hip replacement. As a result of some initial negotiation Jerome offered to accept a settlement of $750 thousand. Snowclear, the snow removal contractor, thus has a few options: One is to accept the settlement and pay Jerome the agreed $750 thousand. Snowclear lawyers are also suggesting an alternative approach consisting in a counter-offer of $400 thousand in the hopes he will accept a lesser sum in order to avoid lengthy and costly process of a full-fledged trial.

However, Jerome strongly believes in his case and might still decide to refuse the counter-offer and let the judge and jury decide the proper sum to be paid (if any) by Snowclear during a trial. More specifically, Jerome can react in one of three ways: (1) accept the counteroffer of $400 thousand, (2) reject the counteroffer and take the case to court for a full trial where jury will decide, (3) Jerome himself will make a counteroffer of $600 thousand for settlement. If (3) happens then it will be Snowclear’s call on whether to accept such counteroffer and pay Jerome the $600 thousand or go to trial. If the case goes to trial there are three possible outcomes: (1) the jury may reject Jerome’s claim and Snowclear will owe nothing, (2) the jury will award Jerome the $750 thousand agreed upon during initial negotiation between the parties, (3) the jury will conclude that Jerome has a strong case and sentence Snowclear to pay him the full $1.5 million Jerome initially requested.

Key considerations when preparing Snowclear’s strategy on how to handle the situation are the probabilities associated with Jerome’s response to the counteroffer of $400 thousand, and the probabilities associated with the three possible outcomes for the trial. Based on historical cases similar to Jerome’s, Snowclear’s lawyers estimated that he will accept the counteroffer of $400 thousand with a probability of 0.10, that the probability of Jerome rejecting the counteroffer of $400 thousand is 0.40, and that the probability of Jerome himself making a counteroffer of $600 thousand is 0.50. If the case goes to trial they believe that the jury will award Jerome the full damage of $1.5 million is 0.30, the probability that the jury will award Jerome $750 thousand is 0.50, and the probability that the jury will award Jerome nothing is 0.20.

Perform an analysis of the problem facing Snowclear and its legal department and prepare a report that summarizes your analyses and final recommendations. Please include:

1. A decision tree modeling the problem

2. A recommendation on whether to accept Jerome’s initial offer of settlement for $750 thousand

3. A decision strategy that Snowclear should adopt if they decide to go ahead with their counteroffer of $400 thousand

Answer 1

The decision has to be made by SnowClear and they have two alternatives to begin with.

Accept the settlement and pay Jerome 750 thousand

Make a counter offer for 400 thousand

1. Based on these the rest of the event will unfold. Let’s create the decision tree as shown below

2. Now that we have the decision tree, we need to work backwards from right to left. When we reach the node C1, we will be able to measure if it is better than paying Jerome 750000 or not.

At Node C3, the EV is = 750*0.5 + 1500*0.3 = 825

This means at D2, SnowClear should accept the counteroffer from Jerome for 600 thousand.

Node C2 and Node C3 will have the same value and thus we can now calculate the EV for node C1.

At node C1, the EV is = 400*0.1 + 825*0.4 + 600*0.5 = 670

Now if we compare C1 with 750, we can see that the decision to make a counteroffer of 400 thousand will be better than paying 750 thousand straightaway. Thus, we should not accept Jerome’s offer of 750 thousand and instead make a counter offer of 400 thousand.

3. After SnowClear makes a counter offer of 400 thousand, most of the events are out of their decision control. The only decision they will need to make appear if Jerome provides another counteroffer of 600 thousand. In that case, SnowClear should agree with that amount and settle the case.