I am not a developer but my question would be what are the demand for and selling price for each of the properties in the two scenarios. Eg no point renovating and making a 5bdr house if there is no demand or the price you would want to achieve is less than what other houses are selling for.

If this is going to be your ppor then what do you want/need?
If this is a first Reno would you consider updating within the current footprint rather than major changes? Eg a new bathroom/ kitchen may give you an increase in value for much less investment. Plus there is a benefit in learning on a smaller Reno.

I am sure others more knowledgeable than me will give you more specific response to your questions.