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3

M O D U L E

TEACHING SUGGESTIONS information to the number you obtained in step two. EVPI will al-

ways be equal to EOL.

Teaching Suggestion M3.1: Reviewing the Normal Curve.

Most of the material in this supplement requires the use of the nor- M3-5.

mal curve. A review of the basic principles of the normal curve

found in the probability chapter (Chapter 2) would be helpful be-

VC/U = $16

fore this module is started. P/U = $24

Teaching Suggestion M3.2: Covering Break-Even Analysis First. FC = $160,000

Covering break-even calculations first helps students get into deci-

sion theory and normal curve analysis. This material will also help

students get back into the fundamental principles of normal curve

theory. Once break-even analysis has been mastered by students,

they should be ready for the rest of the material in this module.

Teaching Suggestion M3.3: Spending More Time on EVPI and

the Normal Distribution.

M = 60,000

EVPI and the normal distribution concepts are difficult for many

= 10,000

students. You may need to spend more time on this topic and rein-

force the basic steps involved. Some instructors reduce coverage

or eliminate this topic. FC 160, 000

a. BE = = = 20, 000 books

P / U VC / U 24 16

SOLUTIONS TO QUESTIONS AND PROBLEMS b. EMV (P/U VC/U)(M) FC

M3-1. The purpose of break-even analysis is to help a manager (24 16)(60,000) 160,000

determine at what point overall revenue will equal overall cost. It

$480,000 $160,000 $320,000

can also help the manager to determine at a certain sales volume

what revenues will be generated. This knowledge can assist the M3-6. a. OLF K(BE X) for X BE

manager in making decisions as to whether or not to introduce a OLF 0 for X BE

new product to the market. where

M3-2. The normal distribution can be used in break-even K (P/U VC/U) 8

analysis when sales are symmetrical around the mean expected de-

mand and follow a bell-shaped distribution (when demand is nor- Thus,

mally distributed), and when there is only one random variable. EOL $8 (20,000 X) for X 20,000

Usually, the normal distribution represents the demand for a new $0 for X 20,000

product.

where X is sales in units.

M3-3. The relationship between EMV and the state of nature

b. EOL KN(D)

must be linear when you use the computations presented in Equa-

tion M3-5 in determining EMV from the mean and the standard with

deviation. When this relationship is not linear, the approach used K $8

in computing EMV cannot be used. 10,000

M3-4. When EVPI is to be computed using a state of nature 60, 000 20, 000

that follows a normal distribution, three steps are required. The D= =4

10, 000

first step is to determine the opportunity loss function. The second

and

step is to determine the opportunity loss using the unit normal loss

integral. The third step is to equate the expected value of perfect N(D) 0.000007145.

279

REVISED

Z03_REND6289_10_IM_MOD3.QXD 5/15/08 8:57 PM Page 280

EOL (8)(10,000)(0.000007145) $0.57160 EOL K N(D)

c. EVPI $0.57160, since EOL EVPI K6

20, 000 60, 000

d. Z = = 4 3,571

10, 000

9, 000 6, 000

standard deviations from D= = 0.8401

3, 571

A Z value for 4 is not found in the table, but we used 0.99997.

N(.84) .1120

Thus,

P(profit) 0.99997 99.99% Thus, EOL (6)(3571)(0.1120) $2,399.71, and Rudy should

be willing to pay up to $2,399.71 for a marketing research study.

P(loss) 0.00003 0.003%

M3-8. FC $24,000

e. The firm should print the book

VC/U $8

M3-7.

P/U $24

FC 24, 000

a. BE = = = 1, 500 sets

P / U VC / U 24 8

b. If D 2,000, True Lens should produce the lenses.

The expected profit would be

Revenue (2,000 $24/set) $48,000

Less expenses

Fixed cost 24,000

20% 20%

Variable cost (2,000 $8/set) 16,000

6,000 = 9,000 12,000 Total expenses (40,000)

Profit $8,000)

(area to the left of M3-9. EMV ($28 $20)(35,000) $16,000

D 12,000 0.80; $264,000

a. Z= from Appendix A,

No effect.

Z value for 0.80 0.84) $10(30 x) for X 30 where X is

Thus,

12, 000 9, 000

M3-10.

a. OLF

0 { otherwise

actual sales

0.84 =

X 45 30

b. D= =

30

0.84 3,000

3,571 0.5N(D) N(0.5) 0.1978

6, 000 9, 000 3, 000 EOL KN(D) $10 30 0.1978 $59.34

b. Z = = = 0.84

3, 571 3, 571 c. EVPI EOL $59.34

Using Appendix A gives M3-11. EOL K N(D)

Z(0.84) 0.79955 K $8, $10, or $15

1 0.79955 0.20045 30

Thus, 45 30

D= = 0.5

P(loss) 0.20045 20.045% 30

P(profit) 0.79955 79.955%

N(D) 0.1978

c. EMV (P/U VC/U)() FC

Thus,

($10 $4)(9,000) $36,000

EOL if K $8 (8)(30)(0.1978) $47.47

$54,000 $36,000

EOL if K $10 (10)(30)(0.1978) $59.34

$18,000

EOL if K $15 (15)(30)(0.1978) $89.01

Thus, as the loss per lamp increases, the expected opportunity loss

increases.

REVISED

Z03_REND6289_10_IM_MOD3.QXD 5/15/08 8:57 PM Page 281

$283,000. EVPI EOL K N(D)

Go ahead with new process. $15 200 0.08332 $249.96

b. New EMV ($32 $20)(26,000) $16,000 M3-16. 750; still 200

$296,000.

750 500

Increase selling price. D=

200

Xb 350 200

M3-13. D= = =1 1.25; N(D) decreased to 0.05059

150

EOL $15 0.05059 200 $151.77

N(D) 0.0833

M3-17. Fixed cost $4,000, Profit per job $40. Break even

EVPI EOL KN(D) $80 150 0.0833 $999.60

point 4,000/40 100 jobs.

The most Joe would be willing to pay is $999.60.

M3-18. The EVPI is equal to the minimum EOL. We use the

M3-14. EVPI EOL K N(D) formula

$500 $100 50 N(D) EOL K N(D); K 80; 15; BEP 100

N(D) 0.1; from OL tables, D 0.9

X b 5, 000 X b BEP 120 100

D= = D= = = 1.33

50 Xb 4,955 15

M3-15. 700 EVPI EOL K N(D) $80 15 0.0427

750 700 51.24

P ( X < 750) = P Z < = 0.60

M3-19. If the selling price increases to $150, the profit per job

would increase to $70 and the break even point would

750 700

= = 200 be 4,000/70 57.14 units.

0.25

X b 700 500

D= = = 1.00

200

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