This is a tricky question! I wouldn't go for diagramming this, as I think it falls apart more quickly staying within the content of the argument and applying the statements.
The stimulus establishes that if some skill - understanding a word - requires specific knowledge - knowing it's definition - then that skill requires some other specific knowledge - knowing the meaning of all the words in that definition. It must be, we can assume, that it's because knowing a definition requires knowing the meaning of all of the words in that definition. The stimulus goes on to give us one more tid bit: babies don't know the definition of some of the words they utter. So, those babies don't have that special knowledge- knowing the dictionary definition - that is supposedly required. (E) capitalizes on this fact by noting that if babies are able to understand words, then it turns out the special knowledge actually is not necessary, since babies manage to understand words without it.
If I were to diagram, I would use this:
[U = understanding a word; KD = know a definition; KW = know all words in a def; B= babies!]
(U --> KD) --> (U --> KW)
B (all) --> ~ KW (for some words)
The most important thing here is to notice that the first statement is NOT stating that (U --> KD), it simply is playing out the hypothetical effect of that being true.
We can infer something based on that, since that hypothetical effect is stated as a fact: If we turn it into this: (A --> B) --> (A --> C), what is missing? It requires (assumes) B --> C. So, we know that (KD --> KW), knowing a definition requires knowing the words in that definition.
Answer choice (E) states that if there are some babies who understand all the words they utter, then understanding a word doesn't require knowing all the words in the definition. In short, this must be true because it establishes that U --> KD would NOT be true if Babies U, since we already know that KD is not true (from the stimulus). It'd be as if I suggested that it might be possible that loving someone requires knowing his or her name, but, if we find out that someone loves someone without knowing her name, then that suggested rule is not true.
From a test-smarts point of view, (E) "triggers" the "all babies" rule given in the stimulus, so in a pinch, this would be a smarter guess than some other answer choices.
More intuitively and working from wrong to right:
(A) is extremely tempting! But we don't know this; we only know that babies don't know the definitions of some words they utter. IF we knew that knowing the definition was necessary for understanding a word (if we assumed that the hypothetical conditional statement were true), this would be a valid inference. But it may be the case that it's not true that U --> KW.
(B) is very tempting and similar to (E). However, it jumps to saying that it's not true that U --> KD, but we haven't learned that the necessary part (U --> KW) is not true. It's particularly tempting also because it seems to be where the argument "is heading", but that's sloppy, non-lawyerly reading.
(C) this might be true -- babies are uttering some words for which they don't know the definitions, however we don't know that they understand a thing they are saying. This answer establishes that U --> KD is not true, but then infers that ~ KD --> U.
(D) from sheer mental exhaustion this answer choice might be tempting! However, it's negating the sufficient side of the initial statement, which does not mean we can negate the necessary side. (D) establishes that ~ (U --> KD) --> ~ (U --> KW), which is a negation of both sides. In common sense talk: if the rule about understanding a word requiring knowing it's definition is not true, does that mean we don't need to know the words in the definition -- maybe, but maybe not! But notice, the answer choice expands this to state that you don't need to know ANY other word. That's quite a leap (and it's a leap within an illegal negation of logic).
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