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Expected value of a situation, such as a case, gives a way to forecast outcomes

The general counsel of Alfa Laval co-authored a solid article in the ACC Docket, Nov. 2011 at 39. The authors discuss a common method to describe possible outcomes: expected value. Each outcome that has a monetary result is expressed as the percentage of the particular outcome multiplied by the money.

Try this technique on the odds you estimate that a regulatory agency will impose a fine. A 50 percent chance of paying a $1 million fine has an expected value of $500,000; a 30 percent chance of a $2 million fine has a value of $600,000; a 20 percent chance of a $3 million fine has a value of $600,000. Together, the overall expected value of a penalty is $1.7 million, the total of each of the three odds-adjusted outcomes. It is all the results weighted by their likelihoods (See my post of July 15, 2005: three ways to reach expected value more realistically.).

Beware, caution the authors, that you don’t just tell clients the overall number. You need to convey the range of outcomes-with-likelihoods that constitute it.

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