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(Q1) Define OR and discuss its scope. (Scope is areas of application)


(03-04)
(ANS) O.R. simply defined as the research of operations.
By E.L. ARNOFF & M.J.NETZORG
O.R. is the systematic, method oriented study of the basic structure, characteristics, functions and
relationship of an organization to provide the executive with sound, scientific and quantitative basis for
decision making.
By C. KITTEL
O.R. is an aid for the executive in making his decisions by providing him with the needed quantitative
information based on the scientific method of analysis.
By FABRYCKY & TORGERSEN
O.R. is the application of scientific methods to the problem arising from operations involving integrated
systems of men, machine and materials. It normally utilizes the knowledge and skills of interdisciplinary
research team to provide the managers of such systems with optimum operating solutions.
By CHURCHMANN, ACOFF, ANNOFF
O.R. is the application of scientific methods, techniques and tools to problems involving the operations
of system so as to provide those in control of the operations with optimum solutions to the problem.
By J.O.R. SOCIETY, U.K
O.R. is the application of modern methods of mathematical science to complex problems involving
management of large systems of men, machine, materials and money in industry, business, government
and defence. This distinctive approach is to develop a scientific model of the system incorporating
measurement of factors such as chance and risk to predict and compare the outcomes of alternative
decisions, strategies or controls.
By OPERATIONS RESEARCH SOCIETY, AMERICA
OR is concerned with scientifically deciding how to best design and operate man-machine system usually
requiring the allocation of scare resources.

SCOPE OF O.R.
The scope of OR is not only confined to any specific agency like defence services but today it is widely
used in all industrial organizations. It can be used to find the best solution to any problem be it simple or
complex. The main fields where OR is extensively used are given below:

(i) National Planning and Budgeting:


OR is used for the preparation of Five Year Plans, annual budgets, forecasting of income and
expenditure, scheduling of major projects of national importance, estimation of GNP, GDP, population,
employment and generation of agriculture yields etc.

(ii) Defence Services


Basically formulation of OR started from USA army, so it has wide application in the areas such as:
development of new technology, optimization of cost and time, tender evaluation, setting and layouts
of defence projects, assessment of “Threat analysis”, strategy of battle, effective maintenance and
replacement of equipment, inventory control, transportation and supply depots etc
.
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(iii) Industrial Establishment and Private Sector Units


OR can be effectively used in plant location and setting finance planning, product and process
planning, facility planning and construction, production planning and control, purchasing,
maintenance management and personnel management etc. to name a few.
(iv) R & D and Engineering
Research and development being the heart of technological growth, OR has wide scope for and can be
applied in technology forecasting and evaluation, technology and project management, preparation of
tender and negotiation, value engineering, work/method study and so on.
(v) Business Management and Competition
OR can help in taking business decisions under risk and uncertainty, capital investment and returns,
business strategy formation, optimum advertisement outlay, optimum sales force and their distribution,
market survey and analysis and market research techniques etc.
(vi) Agriculture and Irrigation
In the area of agriculture and irrigation also OR can be useful for project management, construction of
major dams at minimum cost, optimum allocation of supply and collection points for fertilizer/seeds
and agriculture outputs and optimum mix of fertilizers for better yield.
(vii) Education and Training
OR can be used for obtaining optimum number of schools with their locations, optimum mix of
students/teacher student ratio, optimum financial outlay and other relevant information in training of
graduates to meet out the national requirements.
(viii) Transportation
Transportation models of OR can be applied to real life problems to forecast public transport
requirements, optimum routing, forecasting of income and expenses, project management for
railways, railway network distribution, etc. In the same way it can be useful in the field of
communication.
(ix) Home Management and Budgeting
OR can be effectively used for control of expenses to maximize savings, time management, work
study methods for all related works. Investment of surplus budget, appropriate insurance of life and
properties and estimate of depreciation and optimum premium of insurance etc.

(Q2) What are the scope of OR in management? Briefly explain the characteristics and limitations
of OR?
(Ans2) Scope of OR in Management:
(I) Allocation and Distribution:
 Optimal allocation of limited resources such as men, machine, and material.
 Location and size of warehouses, distribution centre, retail depot etc.
 Distribution policy.
(II) Production and Facility Planning:
 Selection, location and design of production plant.
 Project scheduling & allocation of resources.
 Forecasting.
 Maintenance policy.
 Scheduling & sequencing.
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(III) Procurement:
 What, when and how to purchase at minimum procurement cost
 Bidding and replacement policies.
(IV) Marketing:
 Product selection, timing & competitive action
 Selection of advertising media.
 Demand forecast and stock level.
 Customer’s preference for size, colour & packaging of various products.
(V) Finance:
 Capital requirement, cash flow analysis.
 Credit policies, credit risks etc.
 Profit plan of the company.
 Determination of optimum replacement policies.
(VI) Personnel:
 Selection of personnel, determination of retirement age and skills
 Recruitment of policies & assignments of jobs.
(VII) Research and Development:
 Determination of areas of Research and Development
 Reliability & control of development of projects.
 Selection of projects & preparation of their budgets.

CHARACTERISTICS / FEATURES OF OR

The objective of the operations research models is to attempt and to locate best or optimal solution under
the specified conditions.
The main characteristics of OR are:
(a) It is system oriented
(b) Use of interdisciplinary team
(c) Application of scientific method
(d) Uncovering new problems.
(e) Improvement in the quality of decisions
(f) Use of computers
(g) Quantitative solutions
(h) Involvement of human factors

LIMITATIONS OF OPERATIONS RESEARCH


OR has some limitations however, these are related to the problem of model building and the time and
money factors involved in application rather then its practical utility. Some of them are as follows:
(a) Magnitude of Computation.
(b) Non-Quantifiable Factors.
(c) Distance between User and Analyst.
(d) Time and Money Costs.
(e) Implementation.

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(Q3) What is Operations Research? What is the methodology of OR? (06-07)


(ANS) The effective use of OR techniques, requires to follow the systematic sequence of steps. In
general there are following six steps

FORMULATE THE
PROBLEM

CONSTRUCT A
MATHEMATICAL MODEL

SOLVE THE
MODEL

TEST THE
MODEL
ESTABLISHING
CONTROL OVER THE
SOLUTION

IMPLEMENTATION OF
SELECTED STRATEGY
STEP I: FORMULATE THE PROBLEM
The problem formulation phase is generally lengthy, requiring considerable time and efforts. It
involves the process to identify, understand and describe the problem or problems being faced
by an organization. In formulation a problem for OR study, analysis must be made on the four
major components.
Environment
Decision Maker
Objective
Alternative course of action and constraints.

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STEP II: CONSTRUCT A MATHEMATICAL MODEL

After the problem is clearly defined and understood, the next step is to collect required data
and construct a mathematical model. A mathematical model consists of a set of equations
which describes the system or problem. These equations represent effectiveness function or
objective function and constraints.

STEP III: SOLVE THE MODEL

Once a mathematical model of the problem has been constructed, the next step is to solve it, that
is, to obtain the numerical value of decision variables. A solution may be extracted from a
model either by conducting experiments on it, that is, by simulation or by mathematical
analysis. Here the aim is to find out the optimal solution of the problem.

STEP IV: TEST THE MODEL

After solving a mathematical model, it is important to review the solution carefully to see that
the values make sense and that the resulting decisions can be implemented. When the model is
complete, it should be tested again as a whole for obvious or oversight errors. This may be done
by re-examining the formulation of the problem and comparing it with the model that may help
to reveal any mistakes.

STEP V: ESTABLISHING CONTROL OVER THE SOLUTION

After testing the model and its solution, the next step is to establish control over the solution by
proper feedback of the information on variables which deviated significantly.
If the solution of any problem is to be operative on repetitive basis then suitable control should
be designed to check the validity of the solution under control.

STEP VI: IMPLEMENTATION OF SELECTED STRATEGY

The decision maker has not only to identify good decision alternatives but also to select
alternatives that are capable of being implemented. It is important to ensure that any solution
implemented is continuously reviewed and updated in the light of changing environment.
In any case, the decision-maker who is in the best position to implement the results must be
aware of the objective, assumption and limitations of the model.

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(Q4) Describe the necessity of operation research in industry. (03-04)

(Ans) Operation research is the science of managing. As is known, management is most of the time
making decisions. It is thus a decision science which helps management to make better
decisions.
As one of the basic function of the management of an organization is decision making regarding
integrated system of men, machine, material and money so as to minimize cost, losses, risk and
uncertainty and to maximize production capacity, profits, skills of employees etc which must be
based on some scientific methods, rules, techniques and models and OR is that kit of scientific
and programmable rules providing the management a quantitative basis for decisions regarding
the operations under its control.
As operation research comes into existence in connection with war operations, but its need has
been equally felt by the industry because of following reasons:

Complexity:
In a big industry, the numbers of factor influencing a decision have been increased. Situation
has become big & complex because these factors interact with each other in complicated fashion.
There is, thus, great uncertainty about the outcomes of interaction of factors like technological,
environmental, competitive, etc. For instance, consider a factory production schedule which has
to take into account.
a) Customer demand
b) Requirement of raw materials
c) Equipment capacity and possibility of equipment failure, and
d) Restriction on manufacturing process.
Evidently, it is not easy to prepare a schedule which is both economical and realistic where as
operation research provides mathematical models to analyze the problem and gives the executive
a quantitative basis for decision making.

Scattered responsibility and authority:


In a big industry, responsibility and authority of decision- making is scattered throughout the
organization and thus the organization, if it is not conscious, may be following inconsistent
goals. Mathematical quantification of OR overcomes this difficulty to a great extent.

Uncertainty:
There is a great uncertainty about the economic and general environment. With economic
growth, uncertainty is also growing. This makes the decision costlier and time-consuming. OR is,
thus, quite essential from reliability point of view.

Knowledge explosion:
Knowledge is increasing at a very fast rate. Majority of the industries are not up-to-date with the
latest knowledge and are, therefore, at a disadvantage. OR teams collect the latest information
for analysis purposes which are quite useful for the industries.
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In short OR is research of operations and is a problem solving and decision making science.
(Q5) What techniques are used to solve a decision making problems under uncertainty? Illustrate
any one technique with an example. (07-08)

(Ans) Under condition of uncertainty, the decision maker has knowledge about states of nature that
happens but lacks the knowledge about the probabilities of their occurrence. Situations like
launching a product fall under this category.

Under conditions of uncertainty, a few decision criterions are available which could be of help to
the decision maker.

Maximax Maximin Minimax Hurwicz Laplace


Criterion Criterion Criterion Criterion Criterion
or or or or or Criterion
Criterion Criterion Regret Criterion of
of of Criterion of Realism Rationality
Optimism Pessimism
i) Maximax Criterion:
This criterion provides the decision maker with optimistic criterion. The working method is
summarizing as follow.
(a) Locate the maximum payoff values corresponding to each alternative (or course of action or
strategy), then
(b) Select an alternative with maximum payoff value.

(ii) Maximin Criterion:


This criterion provides the decision maker with pessimistic criterion. The working method is
summarizing as follow.
(a) Locate the minimum payoff values corresponding to each alternative (or course of action or
strategy), then

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(b) Select an alternative with maximum payoff value.


(iii) Minimax Criterion:

This criterion is also known as opportunity loss decision criterion or minimax regret criterion because
decision maker feels regret after adopting wrong course of action resulting in an opportunity loss of
payoff. Thus we have intends to minimize this regret. The working method is summarizing as follow.
(a) Determine the amount of regret corresponding to each alternative for each state of nature.
The regret for jth event corresponding to ith alternative is given by

ith regret = (maximum payoff – ith payoff) for the jth event

(b) Determine the maximum regret amount for each alternative.


(c) Choose the alternative which corresponds to the minimum of the maximum regrets.

(iv) Hurwicz Criterion:

Also called weighted average criterion, it is a compromise between the maximax (optimistic) and
minimax (pessimistic) decision criterion. This concept allows the decision maker to take into account
both maximum and minimum for each alternative and assign them weights according to his degree of
optimism (or pessimism). The working method is summarizing as follow:
(a) Choose an appropriate degree of optimism, α so that (1-α) represents degree of pessimism.
(b) Determine the maximum as well as minimum of each alternative and obtain

P = α. Maximum + (1-α). Minimum

for each alternative.


(c) Choose the alternative that yields the maximum value of P.

(v) Laplace Criterion:

Also known as equal probabilities criterion or criterion of rationality. Since the probability of states of
nature are not known, it is assumed that all states of nature will occur with equal probability, i.e. assign
an equal probability. The working method is summarizing as follow:
(a) Determine expected value for each alternative; if n denotes the number of events and P’s
denote the payoffs, then expected value is given by 1\n[P1+P2+….+Pn]
(b) Choose the alternative that yields the maximum value of P.
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Illustration: Considering a manufacturing company that is thinking of various alternatives to


increase its production to meet the increasing market demand.

State of Nature
Alternative
High Moderate Low Nil
(Rs.) (Rs.) (Rs.) (Rs.)
Expand 50,000 25,000 - 25,000 - 45,000

Construct 70,000 30,000 - 40,000 - 80,000

Subcontract 30,000 15,000 - 1,000 - 10,000

Here we are using Maximax Criterion;


Steps involved are
(a) Locate the maximum payoff values corresponding to each alternative (or course of action
or strategy), then

(b) Select an alternative with maximum payoff value.

State of Nature Max of Row


Alternative
High Moderate Low Nil
(Rs.) (Rs.) (Rs.) (Rs.)
Expand 50,000 25,000 - 25,000 - 45,000 50,000

Construct 70,000 30,000 - 40,000 - 80,000 70,000

Subcontract 30,000 15,000 - 1,000 - 10,000 30,000

Thus, according to maximax criterion the executive will choose alternative –“Construct”

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(Q6) What techniques are used to solve a decision making problems under risk? Illustrate anyone
technique with an example.

(Ans) Here more than one state of nature exists and the decision maker has sufficient information to
assign probabilities to each of these states. These probabilities could be obtained from the past
records or simply the subjective judgment of the decision maker. Under conditions of risk, a few
decision criterions are available which could be of help to the decision maker.

Expected Value Expected Opportunity Expected Value


Criterion or Expected Loss Criterion or
for Perfect
Monetary Value Expected Value of
Regret Information
Criterion

Conditional Profit Table with


Conditional Profit Table Conditional Profit Table P.I.
Expected Profit Table Conditional Loss table Expected Profit Table with
Expected Loss Table P.I.

1. Expected Value Criterion:

The expected monetary value for a given course of action is the weighted sum of possible payoffs for
each alternative. It is obtained by summing the payoffs for each course of action multiplied by the
probabilities associated with state of nature. It consists of following steps:

(a) Construct a payoff table listing the alternative decisions and the various state of nature. Enter
the conditional profit for each decision event combination along with the associated
probabilities. (Construct Conditional profit table).

(b) Calculate the EMV for each decision alternative by multiplying the conditional profits by
assigned probabilities and adding the resulting conditional values. (Construct expected
profit table).

(c) Select the alternative that yields the highest EMV.


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2. Expected Opportunity Loss Criterion:

EOL represents the amount by which maximum possible profit will be reduced under various possible
stock actions. The course of action that minimizes these losses or reductions is the optimal decision
alternative. The procedure to calculate expected opportunity losses is as follows:

a) Prepare the conditional profit table for each decision-event combination and write associated
probabilities. (Construct Conditional profit table).

b) For each event, determine the conditional opportunity loss (COL) by subtracting the payoff from the
maximum payoff for that event. (Construct Conditional loss table).

c) Calculate the expected opportunity loss for each decision alternative by multiplying the COL’s by
the associated probabilities and then adding the values. (Construct Expected loss table).

d) Select the alternative that yields the lowest EOL.

3. Expected Value of Perfect Information:

EVPI represents the maximum amount of money the decision maker has to pay to get this additional
information about the occurrence of various state of nature before a decision has to be made. The
procedure to calculate expected value of perfect information is as follows:

(a) Construct conditional profit table with perfect information.

(b) Construct expected profit table with perfect information.

(c) Determine EVPI from relation; EVPI = EPPI – max EMV

Illustration: A newspaper boy has the following probabilities of selling a magazine:

No. of copies sold Probability


10 0.10
11 0.15
12 0.20
13 0.25
14 0.30
Cost of the copy is 30 paisa and sale price is 50 paisa. He cannot return the unsold copies.
How many should he order?

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Solution from EMV approach:

Cost Price = 30 paisa.

Selling Price = 50 paisa.

Profit = Selling price – Cost price = 20 paisa.

Step 1: Construct Conditional Profit Table:

Possible Probability Possible Stock Action


10 11 Copies 12 13 14
Demand
Copies Copies Copies Copies
(No. of
Copies)
10 0.10 200 170 140 110 80
11 0.15 200 220 190 160 130
12 0.20 200 220 240 210 180
13 0.25 200 220 240 260 230
14 0.30 200 220 240 260 280

Step 2: Construct Expected Profit Table:

Possible Probability Possible Stock Action


10 11 Copies 12 13 14
Demand
Copies Copies Copies Copies
(No. of
Copies)
10 0.10 20 17 14 11 8
11 0.15 30 33 28.5 24 19.5
12 0.20 40 44 48 42 36
13 0.25 50 55 60 65 57.5
14 0.30 60 66 72 78 84
Total Expected Profit 200 215 222.5 220 205
(paise)

Thus, therefore, the newspaper boy must order 12 copies to earn the highest possible average daily
profit of 222.5 paisa.

(Q7) Describe the rules for drawing the network diagram (decision tree) with suitable illustration.

(Ans)
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Decision Tree
A decision tree is a graphical representation of the decision process indicating decision alternative, states
of nature, probabilities attached to the states of nature and conditional benefits and losses.
It consists of a network of nodes and branches. Two types of nodes are used- decision node represented
by a square and state of nature (chance or event) node represented by a circle. Alternative course of
action (strategies) originate from the decision node as main branches (decision branches). At the end of
each decision branch, there is a state of nature node from which emanates chance events in the form of
sub-branches (chance branches). The respective payoffs & the probabilities associated with alternative
courses and the chance events are shown alongside these branches.
At the terminal of the chance branches are shown the expected values of the outcomes.
The general approach used in decision tree analysis is to work backward through the tree from right to
left, computing the expected value of each chance node. We then choose the particular branch leaving a
decision node which leads to chance node with the highest expected value.
This is known as roll back or fold back process.
Decision trees are useful for representing the inter-related, sequential and multi-dimensional aspects of a
decision-making problem.
By drawing a decision tree, one is in position to visualize the entire complexity of the decision problem
in all its dimensions & also the actual processes and stages for arriving at the final decision.

Steps in Decision Tree Analysis

(i) Identify the decision points and the alternative courses of action at each decision
point systematically.
(ii) At each decision point determine the probability and the payoff associated with
each course of action.
(iii) Starting from the extreme right end, compute the expected payoff (EMV) for
each course of action.
(iv) Choose the course of action that yields the best payoff for each of the decisions.

(v) Proceed backwards to the next stage of decision points.

(vi) Repeat above steps till the first decision points point is reached.

(vii) Finally, select the course of action which yields maximum possible EMV.
Illustration: Suppose we have the decision-making problem represented by the following
table:

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States of Nature Probability Alternative Actions

Produce 25 units Produce 75 units


(A1) (A2)
S1 (High 0.6 4000 10,000
Demand)
S2 (Low Demand) 0.4 4000 - 5,000

The decision tree for the above illustration is shown below:

p=0.6 4000

A1 2 S1
p=0.4
4000
1

p=0.6
10000
A2
A
2
DECISION
DECISION 3
NODE
NODE
p=0.4 -5000
For a decision alternative (strategy) the EMV is calculated by summing the products of payoff of each
state and its probability.

EMV on node 2= Rs. (4,000X0.6 + 2,000X0.4) = Rs.3, 200

EMV on node 3= Rs. (10,000X0.6 - 5000X0.4) = Rs.3, 000

EMV on node 1= Max {3200, 3000} = Rs.3200.

Thus the optimal alternative action is A1 i.e. produce 25 units.

Questions
1. Considering a manufacturing company that is thinking of various alternatives to increase its
production to meet the increasing market demand.
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Which strategy or alternative will the company employ on the basis of:
STATE OF NATURE (PRODUCT DEMAND)
ALTERNATIVES
HIGH MODERATE LOW NIL
EXPAND 50,000 25,000 -25,000 -45,000
CONSTRUCT 70,000 30,000 -40,000 -80,000
SUBCONTRACT 30,000 15,000 -1,000 -10,000
a) Maximax Criterion Or Criterion of optimism
b) Maximin Criterion Or Criterion of pessimism
c) Minimax Criterion or Regret Criterion
d) Hurwicz Criterion Or Criterion of Realism
e) Laplace Criterion Or Criterion of Rationality

2. The following matrix gives the payoff of different strategies S 1, S2, S3 against conditions N1, N2,
N3 and N4
Indicate CONDITIONS the
decision N1 N2 N3 N4 taken
under the STRATEGY (Rs) (Rs) (Rs) (Rs)
following S1 4000 -100 6000 18000
approach: S2 20000 5000 400 0
a) S3 20000 15000 -2000 1000
Optimistic
b) Pessimistic
c) Regret
d) Hurwicz, The Degree Of Optimism Being 0.7
e) Equal Probability

3. A food product company is contemplating the introduction of a revolutionary new product with
new packaging to replace the existing product at a large increase in price (S 1) or a moderate
change in composition of the existing product with a new packaging at a small increase in price
(S2) or a small change in the composition of the existing product with a negligible increase in
price (S3). The three states of nature are: (i) high increase in sales (N 1), (ii) no change in sales
(N2) and decrease in sales (N3). The marketing department of the company worked out the pay-
offs in terms of yearly net profits for each course of action for these events. This is represented in
following table:
States of Courses of action
nature S1 S2 S3
N1 700000 500000 300000
N2 300000 450000 300000
N3 150000 0 300000
a) What is the maximax decision?
b) What is the maximin decision?
c) What is equally likely decision?
d) What is the criterion of realism decision? Use α = 0.5

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e) Develop an opportunity loss table and determine the minimax decision.


4. A newspaper boy has the following probabilities of selling a magazine:
No. of copies sold Probability
10 0.10
11 0.15
12 0.20
13 0.25
14 0.30
Cost of the copy is 30 paisa and sale price is 50 paisa. He cannot return the unsold copies. How
many should he order?

5. A physician purchases a particular vaccine on Monday each week. The vaccine must be used
with in the following week , otherwise it becomes worthless. The vaccine cost Rs.30 per dose
and the physician charges Rs. 50 per dose. In past 50 weeks, the physician has administered the
vaccine in the following quantities:
Doses per week: 20 30 50 60
Number of weeks: 5 15 20 10
Determine how many doses the physician buys every week. (2006-07)

6. A wholesaler of sports goods has an opportunity to buy 5,000 pairs of skis that have been
declared surplus for the manufacturer. The wholesaler will pay Rs.50 per pair and can obtain
Rs.100 per pair by selling skis to the retailers. The price is well established, but the wholesaler is
in doubt as to just how many pairs he will be able to sell. Any skis leftover, he can sell to
discount outlets at Rs.20 a pair. After the careful consideration of historical data, the wholesaler
assigns probabilities to the demand as follows:
Retailers Demand Probability
1000 pairs 0.6
3000 pairs 0.3
5000 pairs 0.1
a) Compute the conditional monetary and expected monetary values.
b) Compute the expected profit with a perfect predicting device.
c) Compute EVPI (2012 -13)

7. A television dealer finds that the cost of a TV in stock for a week is Rs. 30 and the cost of a unit
shortage is Rs. 70. For one particular model of TV the probability distribution of weekly sales is
as follow:
Weekly: 0 1 2 3 4 5 6
Probability: 0.1 0.1 0.2 0.25 0.15 0.15 0.05
How many units per week should the dealer order? (2008 – 09)
8. Under an employment promotion programmes it is proposed to allow sale of newspaper on the
basis during off peak hours. The vendor can purchase the newspapers at a special concessional
rate of 25 paise per copy against the selling price of 40 paise. Any unsold copies are, however a
dead loss. A vendor has estimated the following problem distribution for the number of copies
demanded:
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Number of Copies : 15 16 17 18 19 20
Probability : 0.04 0.19 0.33 0.26 0.11 0.07
a) How many copies should be ordered so that his expected profit will be maximum?
b) Compute EPPI?
c) The vendor is thinking of spending on a small market survey to obtain additional information
regarding the demand levels. How much should he be willing to spend on such a survey?

9. Suppose a grocer is faced with a problem of how many cases of milk be stock to meet
tomorrow’s demand. All the cases of milk left at the end of the day are worthless. Each case of
milk is sold for Rs. 8 and is purchased for Rs. 5. Hence each case sold brings a profits of Rs. 3
but if it is not sold at the end of the day, then it must be discarded resulting in a loss of Rs. 5. The
historical record of the number of cases of milk demanded is as follows :
No. of Cases of Over
0-12 13 14 15 16 17 18 Total
milk demanded 18
Number of Times
0 5 10 20 30 25 10 0 100
Demanded
Probability of
0 0.05 0.1 0.2 0.3 0.25 0.1 0 1
each
What should be the optimal decision of the grocer concerning the number of cases of milk to stock?
Assuming that the grocer has a perfect knowledge, then what would be his expected profit?

10. An ice-cream retailer buys ice-cream at a cost of Rs 5 per cup & sells it for the Rs 8 per cup; any
remaining unsold at the end of the day can be disposed of at a salvage price of Rs. 2 per cup. Past
sales have ranged between 15 to 18 cups per day; there is no reason to believe that the sales
volume will take on any other magnitude in future. Find the EMV if the sale history has the
following probabilities:

Mkt Size 15 16 17 18
Prob 0.1 0.2 0.4 0.3

11. A retailer has to decide on the optimal number of units to be stocked in respect of a certain under
the following circumstances:
a. Cost price in season : Rs 12
b. Selling price in season : Rs 18
c. Bargain price after season : Rs 9
d. Cost of holding an item in inventory beyond the season is Re. 1
The distribution of demand based on past data is shown below:
Demand 7 8 9 10 11
Probability 0.2 0.2 0.25 0.15 0.2
Determine the optimal act based on the expected monetary value criterion
12. A television dealer finds that the cost of holding a TV in stock for a week is Rs. 50. Customers
who cannot obtain new TV immediately tend to go to other dealers and he estimates that for
every customer who cannot get immediate delivery he loses an average of Rs 200. For one

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particular model of TV that probabilities of a demand of 0, 1, 2, 3, 4 and 5 TV’s in a week are


0.05, 0.10, 0.20, 0.30, 0.20 and 0.15 respectively.
(a) How many units per week should the dealer order? Assume that there is no time lag between
ordering and delivery.
(b) Compute ECPI
(c) The dealer is thinking of spending on a small market survey to obtain additional information
regarding the demand levels. How much should he be willing to spend on such a survey?

13. Wings Corner wants to decide how many man’s shirts to order for the Diwali season. For a
particular type of shirt, Wings must order in lots of 50 shirts. If it orders 50 shirts, cost is Rs. 60
per shirt, if it orders 100 shirts, cost is Rs. 55 per shirt and if it orders 150 or more shirts, the cost
is Rs. 50 per shirt. Wings selling price is Rs. 95, but only left over at the end of season will be
sold at 50% discount. It is assumed that demand will be 50, 100, 150, 200 or 250 shirts and that
the corner will no suffer any loss of goodwill if stock runs out of stock. It must place the entire
order for the season at the beginning with no opportunity for reordering. Wings has estimated the
probability of demand as follows:
Demand 50 100 150 200 250
Probability 0.15 0.25 0.25 0.20 0.15
(a) Use a payoff table to determine the order quantity that will maximize the expected contribution.
(b) Calculate the expected value of perfect information.

14. Suppose we have the decision making problem represented by the following table:
Course of Action
Demand Prob S1 S2 S3
(Subcontracting) (Begin Overtime) (Construct facilities)
Low 0.1 10 -20 -150
Medium 0.5 50 60 20
High 0.4 50 100 200

Show this decision situation in the form of a decision tree & indicate the most preferred decision &
corresponding expected value.

15. Pay-offs of three acts X, Y, and Z and the states of nature P, Q and R are given below:
Pay - Offs (Rs.)
Acts
State of Nature
X Y Z
P -120 -80 100
Q 200 400 -300
R 260 -260 600
The probabilities of the states of nature are 0.3, 0.5 and 0.2 respectively. Tabulate the expected
monetary value for the above data and the state which can be chosen as the best act. (2007 – 08)

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16. A businessman has two independent investment portfolios A & B available to him but he lacks
the capital to undertake both of them simultaneously. He can choose A first and then stop, If A is
successful then take B or vice – versa.
The probability of success of A is 0.6 while that for B it is 0.4. Both investment schemes requires an
initial capital outlays of Rs 10,000 and both return nothing if the venture is unsuccessful. Successful
completion of A will return Rs.20000 and successful completion of B returns Rs. 24000. Draw a
decision tree & determine best strategy.

17. A businessman has two independent investment portfolios A & B available to him but he lacks
the capital to undertake both of them simultaneously. He can choose A first and then stop, or if A
is successful then take B or vice – versa.
The probability of success of A is 0.7 while that for B it is 0.4. Both investment schemes requires an
initial capital outlays of Rs 2000, and both return nothing if the venture is unsuccessful. Successful
completion of A will return Rs.3000 (over cost) and successful completion of B returns Rs. 5000
(over cost). Draw a decision tree & determine best strategy. (2009-10)

18. A large steel manufacturing company has three option with regards to production: (i) produce
commercially (ii) build pilot plant (iii) stop producing steel. The management has estimated that
their pilot plant if built has 0.8 chances of high yield & 0.2 chances of low yield. If the pilot plant
does show a high yield, management assigns a probability of 0.75 that the commercial plant will
also have a high yield. If the pilot plant shows a low yield there is only a 0.1 chance that the
commercial plant will show a high yield. Finally management’s best assessment of the yield on a
commercial – size plant without building a pilot plant first has a 0.6 chance of high yield. A pilot
plant will cost Rs. 3,00,000. The profits earned under high & low yield conditions are Rs.
1,20,00,000 and – Rs. 12,00,000 respectively. Find the optimum decision for the company.
19. Mr. X of ABC Ltd. Wants to introduce a new product in the market. He has a choice of two
different research and development plans A & B. A costs Rs. 10 lakhs and has a 40 percent
chance of success where as B costs Rs. 5 lakhs with a 30 percent chance of success. In the event
of success, Mr. X has to decide whether or not to advertise the product heavily or lightly. Heavy
advertising will cost Rs. 4 lakhs but gives 0.7 probability of full acceptance and 0.3 probability
of partial acceptance by the market. Light advertising will cost Rs. 1 lakh with the probability 0.5
of full acceptance and 0.5 probability of partial acceptance. Full market acceptance of the
product develop as per plan A would be worth Rs. 40 lakhs and as per plan B would be worth Rs.

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30 lakhs. Partial acceptance in both cases will be worth Rs 20 lakhs. Which plan Should Mr. X
adopts and what sort of advertising will be done for marketing the product? Solve the problem
with the help of decision tree.

20. An investor is given the following investment alternatives and percentage rates of return.
Low Medium High
Regular Shares 7% 10% 15%
Risky Shares -10% 12% 25%
Property -12% 18% 30%
Over the past 300 days, 150 days have been medium market conditions and 60 days have had high
market increases.
On the basis of these data, state the optimum investment strategy for the investment. (2010 – 11)

21. Mr. X flies quite often from town A to town B. He can use the airport bus which cost Rs. 25 but
if he takes it, there is a 0.08 chance that he will miss the flight. The stay in a hotel costs Rs. 270
with a 0.96 chance of being on time for the flight. For Rs. 350 he can use a taxi which will make
99 percent chance of being on time for the flight. If Mr. X catches the plane on time, he will
conclude a business transaction that will produce a profit of Rs. 10,000, otherwise he will lose it.
Which mode of transport should Mr. X use? Answer on the basis of the EMV criterion.
(2011 – 12)

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