Professional Documents
Culture Documents
Solutions
1. a. Maximax: Expand [$80 is the highest payoff]
b. Maximin: Worst payoffs:
Do Nothing: 50 [best of the worst payoffs]
Expand: 20
Subcontract: 40
c. Laplace: Average Payoff
Do Nothing 55 [indifferent between do nothing
Expand 50 and subcontract]
Subcontract 55
d. Minimax Regret
Low High Worst
Do Nothing 0 20 20
Expand 30 0 30
Subcontract 10 10 10 [best of worst]
2. a. Expected profit
Do Nothing $57 = 50 (.3) + 60 (.7)
Expand 62 [Best] = 20 (.3) + 80 (.7)
Subcontract 61 = 40 (.3) + 70 (.7)
.3
b. $50
$57 .7
Do Nothing $60
$62 .3 $20
Expand
.7
$80
$61 .3
Subcontr. $40
.7
$70
5S-1
Chapter 05S - Decision Theory
3. Equations:
Do Nothing: 50 + 10P Low High
Payoff 80 Payoff
Expand: 20 + 60P
70
Subcontract: 40 + 30P Do Nothing 60
Optimal ranges: 50
Do nothing: 0 to < .50 40 Subcontract
2) Analyze decisions from right to left (i.e., work backwards from the end of the tree
towards the root). For instance, begin with decision 2 and choose expansion because it
has a higher present value ($450,000 vs. $50,000).
3) Compute the expected value of the ends of the remaining branches (numbered 1 to 5 in
the diagram), and then determine the expected value for the two initial alternatives.
(1).4 x $400,000 = $160,000
(2)(eliminated) $430,000 (expected value if build small is chosen)
(3).6 x $450,000 = $270,000
(4).4 x –$10,000 = $–4,000
(5).6 x $800,000 = $480,000 $476,000 (expected value if build large is chosen)
4) Since the expected value of building a large plant has the higher expected value, select
the large plant alternative.
5S-2
Chapter 05S - Decision Theory
Low High
Payoff
800
Build Large
-10
1.0 .54 0
P (low)
c.
Low High
Payoff Payoff
800
Build Large
-10
0 .54 1.0
P (high)
5S-3
Chapter 05S - Decision Theory
b.
Approve (.35) E.V.
$500,000
$2,775,000*
Reject (.65)
Renew $4,000,000
Approve (.35)
Relocate $5,000,000
$1,815,000
Reject (.65)
$100,000
5S-4
Chapter 05S - Decision Theory
Exp.
Value
5
(millions) Renewal better than 5
Relocation 100,000 + 4,900,000x
4
Renew Relocate 4
For 8(a) and 8(b) the decision
3 should be to renew the 10 year
3 lease.
4,000,000 – 3,500,000x
2 2
Relocate
1 1
.5
x = .4643
P (application approved)
5S-5
Chapter 05S - Decision Theory
9. $ 42 .2(42)
46.8 .2 Low
.8 High 48 Subcontract
42 + 46.8
2
Expand Greatly
48 .8(48)
Small
53.6
.2 Low (20) .2(-20)
.8 High + 53.6
72 .8(72)
5S-6
Chapter 05S - Decision Theory
72
50
Small
42 48
Medium
22
Large
0 .721 1.0
-20 P (High)
10.
buy 2nd
100
.30 low
75
buy 2
2
5S-7
Chapter 05S - Decision Theory
11. 1/3
0
1/3 60
1
1/3
90
50
49 .30 40
.50
4 44
Alternative A 60
.20
49 1/3
(45)
1/3
2 45
1/3 99
Alternative B 40
46 .30
40
.50
5 50
.20 30
1/2
45 40
3
EV1 = (1/3)(0) + (1/3)(60) + (1/3)(90) = 50 1/2
50
EV2 = (1/3)(–45) + (1/3)(45) + (1/3)(99) = 33
EV3 = (1/2)(40) + (1/2)(50) = 45
EV4 = (.3)(50) + (.5)(44) + (.2)(60) = 49
EV5 = (.3)(40) + (.5)(50) + (.2)(45) = 46
Lease $100
Build Small
2
Demand High (.50) Expand
1 $500
Demand Low (.50) $40
Build Large
5S-8
Chapter 05S - Decision Theory
Maximin:
The worst possible payoff for small would occur with expanding under high demand: $500k. The
worst possible payoff for large would be $40k for low demand. Hence, build a small warehouse.
Maximax:
The best possible payoff would occur with a large warehouse ($2,000k), so build a large warehouse.
Laplace:
Assume the probabilities of low and high demand to be .50 each. The expected payoffs would be:
Minimax regret:
Small: Large:
Large = $2,000k Small = $700k
Small = $500k Large = $40k
$1,500k $660k
Hence, build a large warehouse.
5S-9
Chapter 05S - Decision Theory
b.
.10 Moderate
50
c. Opportunity loss table:74
Reassign .30 High
60
.60 Very High
Moderate High Very 85
High EOL
.10 Moderate
Reassign 10 10 25
60 19
New Staff .30 High
60 60 60
New Staff 20 10 0 5*
.60 Very High 60
Redesign 0 0 30 18
.10 Moderate
40
Redesign (.1) (.3)
.30 High (.6)
73 50
.60 Very High 90
5S-10
Chapter 05S - Decision Theory
At an expected cost of $60, the director should hire and train 2 additional staff members.
.10 Moderate
15. 50
Reassign .30 High
74 60
.60 Very High
85
.10 Moderate
Hire 2 60
Initially .30 High
60 60
.60 Very High
New Staff 60
60 60 .10 Moderate
40
.30 High (Hire 1) 75
74.5
Hire 1 .60 V. High (Hire 1) 80
Initially
.10 Moderate
40
Redesign .30 High
73 50
.60 Very High
90
Payoff Payoff
16. a.
#1 #2
140
120 B A
100
C B
80
C
A
40
0 1.0
P(#2)
5S-11
Chapter 05S - Decision Theory
b. Alternative C is lower than Alternative B for all values of P(#2), so it would never be
appropriate.
d. For P(#1), choose Alternative A, if P(#1) is less than .375 (i.e., 1.000 – .625).
d. In terms of P(#1), choose A for P(#1) greater than .556 and C for P(#1) less than .556.
5S-12
Chapter 05S - Decision Theory
#4
Payof -2
Payof
.30 .80
f f
#1120 #2
A Profit 110
s
C
D
90 90
60
B
C 40
Costs A
20
10
P (#2)
5S-13
Chapter 05S - Decision Theory
The regular staff can handle Low demand. Moderate demand requires two additional
employees, and High demand requires another two employees. The payoff table (profits in
$000) is
5S-14
Chapter 05S - Decision Theory
Demand
5S-15
Chapter 05S - Decision Theory
Moderate High
0 2 3 4
Extra Staff 2 1 4 5
4 0 3 6
a. Construct a tree diagram showing the payoffs for this situation.
b. Determine the number of additional staff needed for a rainy Saturday.
c. Determine the number of staff needed when the chance of rain is 20% for a Saturday.
1.
A B C D
Designs .3 .4 .2 .1 EMV EPC: .3(20) + .4(20) + .2(30) + .1(40) = 24
001 20 10 10 0 12
002 15 10 0 40 12.5
003 10 20 30 30 20 [best] EVPI = 24 – 20 = 4
Low demand
2
2. a. No additional staff Medium demand
1 3
High demand 4
Low demand
1
Two additional staff Medium demand
2 4
High demand 5
Low demand
0
Medium demand
3 3
Four additional staff High demand 6
5S-16
Chapter 05S - Decision Theory
5S-17