Quantitative Techniques

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QUANTITATIVE METHODS

QUANTITATIVE METHODS (Operations Research) - various applications of mathematics in business

or any complex system.

OPERATIONS RESEARCH - specifically, the discipline of applying quantitative methods oriented to

planning.
NETWORK MODELS

NETWORK MODELS involve project scheduling techniques that are designed to aid the planning
and control of large-scale projects having many interrelated activities.

USES OF NETWORK ANALYSIS

1. Planning
2. Measuring progress to schedule
3. Evaluating changes to schedule
4. Forecasting future progress
5. Predicting and controlling costs

SAMPLE APPLICATIONS
1. Building construction
2. Book publishing
3. New product planning
4. Feasibility studies
5. Research and development projects
6. Auditing

PROJECT SCHEDULING TECHNIQUES

1. Gantt or bar charts
2. Program Evaluation and Review Technique (PERT)
3. Critical Path Method (CPM)

 Program Evaluation And Review Technique - developed to aid managers in controlling large-
scale, complex problems.

Pert Diagram - a probabilistic diagram of the interrelationship of a complex series of

activities; a free-form network showing each activity as a line between
events.

Events - discrete moments in time representing the start or finish of an activity; they
consume no resources.

Activities - tasks to be accomplished; they consume resources, (including time) and have
a duration over time.

 Types of Activity
1. Series - an activity cannot be performed unless another activity is undertaken.
2. Parallel - can be performed simultaneously.

 Critical Path - longest path through the network

Expected time (te) - the average time an activity would require if it were
repeated a large number of times.
te = to + 4tm + tp
6
where:
to = optimistic time
tm - most likely time
tp - pessimistic time

Slack time - the amount of the time that can be added to an activity without increasing
the total time required on the critical path; the length of the time an activity can be
delayed without forcing a delay for the entire project.

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 Critical Path Method (CPM) - like PERT, it is a network technique, but unlike PERT, it uses
deterministic time and cost estimates; its advantages include cost estimates plus the
concept of crash efforts and costs.

Crash time - time to complete an activity assuming that all available resources
were devoted to the task (overtime, extra crew, etc.)

EXERCISES IN NETWORK ANALYSIS

1. PERT NETWORK. A company is faced with the following PERT network situation (time in days):

B 2 - 10 - 18
START 1-2-3

2-4-6 3-4-8 4-5-6

A D E F

2 - 6 - 10 C 4-6-8

REQUIRED:
1. Calculate te (expected time) for each activity, two decimal places. For each
activity, the estimates are to1 tm1 and tp in that order.
2. Calculate the total time for each path and identify the critical path.

2. New York Building Corporation uses the critical path method to monitor construction jobs.
The company is currently 2 weeks behind schedule on Job #181, which is subject to a P
10,500 per-week completion penalty. Path A-B-C-F-G-H-I has a normal time of 20 weeks and
critical path A-D-E-F-G-H-I has normal completion of 22 weeks. The following activities can
be crashed.
Cost to Crash Cost to Crash
Activities 1 Week 2 Weeks
BC P 8,000 P 15,000
DE 10,000 19,600
EF 8,800 19,500

New York Building desires to reduce the normal completion time of Job # 181 and, at the
same time, report the highest possible income for the year. New York Building should crash.
a. Activity BC 1 week and activity EF 1 week.
b. Activity DE 1 week and activity BC 1 week.
c. Activity EF 2 weeks
d. Activity DE 1 week and activity EF 1 week.

3. The contractor is 2 days behind of completion of one of its multi-million projects. The daily
penalty is P 125,000 for any delay of completion time. The company has an opportunity of
meeting the completion time if crashing is applied on the different activities.

The PERT shows that the critical path is B-D-E-G-L. The following activities can be crashed.

1 day 2 days
Activity A P 75,000 P 140,000
Activity B 115,000 228,000
Activity C 97,500 200,000
Activity D 112,000 225,000
Activity E 105,000 230,000

REQUIRED:
1. Which of the foregoing activities would be crashed? How much is the net benefit if
the activities are crashed.
2. Assuming that the daily penalty is P 110,000, which activity(ies) will be crashed?

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LEARNING CURVES

LEARNING CURVES - describe the efficiencies arising from experience, because with experience
comes increased productivity. This productivity increases with production size, but a
decreasing rate as diagrammed below:

Units
produced
per day

Cumulative Production

The time required to perform a given task becomes progressively shorter, but this is
applicable only to the early stages of production or any new task.

The curve is expressed as a percentage of reduced time (usually between 60% and 80%)
to complete a task of each doubling cumulative production. Hence, the time required is
reduced by 20% to 40% each time cumulative production is doubled.

Assumptions:
1. The cumulative average time per unit is reduced by a certain percentage each time
production doubles.
2. Incremental unit time (time to produce the last unit) is reduced when production
doubles.

EXERCISES IN LEARNING CURVE

1. A particular manufacturing job is subject to an estimated 80% learning curve. The first
unit required 20 labor hours to complete.

REQUIRED:
a. What is the cumulative average time per unit after four units are completed?
b. What is the total time required to produce 2 units
c. How many hours are required to produce the second unit?

2. Which of the following unfavorable variances would be directly affected by the relative
position of a production process on a learning curve?

3. A learning curve of 80% assumes that direct labor costs are reduced by 20% for each
doubling of output. What is the cost of the sixteenth unit produced as an approximate
percentage of the first unit produced?

4. The average labor cost per unit for the first batch produced by a new process is P 120.
The cumulative average labor cost after the second batch is P 72 per product. Using a
batch size of P 100 and assuming the learning curve continues, the total labor cost of
four batches will be?

5. A construction company has just completed a bridge over the Visayan area. This is the
first bridge the company ever built and it required 100 weeks to complete. Now having
hired a bridge construction crew with some experience, the company would like to
continue building bridges. Because of the investment in heavy machinery needed
continuously by this crew, the company believes it would have to bring the average
construction time to less than one year (52 weeks) per bridge to earn a sufficient return
on investment. The average construction time will follow an 80% learning curve. To bring
the average construction time (over all bridges constructed) below one year per bridge,
the crew would have to build approximately?

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6. Moss Company recently completed and sold an order of 50 units that had the following
costs:
Direct materials P 1,500
Direct labor (1,000 hours @ P 8.50) 8,500
Variable overhead (1,000 hours @ P 4.00)* 4,000
Fixed overhead** 1,400
Total P 15,400

*Applied on the basis of direct labor hours

**Applied at the rate of 10 percent of variable cost

The company has now been requested to prepare a bid for 150 units of the same product.

If an 80 percent learning curve is applicable, Moss Company’s total cost on this order would
be estimated at?

PROBABILITY ANALYSIS

PROBABILITY is important to management decision-making because of the unpredictability of

future events.

Decision-making under conditions of risk - occurs when the probability distribution of the
possible future states of nature is known.

Decision-making under conditions of uncertainty - occurs when the probability distribution of

possible future states of nature is not known and must subjectively be determined.
The probability of an event varies from 0 to 1 (or 0 to 100%)

a. 0 probability - the event cannot occur

b. Probability of 1 (or 100%) - the event is certain to occur

BASIC TERMS USED WITH PROBABILITY

1. Two events are mutually exclusive if they cannot occur simultaneously.
2. The joint probability of two events is the probability that both will occur.
3. The conditional probability of two events is the probability that one will occur given that
the other has already occurred.
4. Two events are independent if the occurrence of one has no effect on the probability of
the other.

 Expected value
The expected value of an action is found by multiplying the probability of each outcome
by its pay-off and summing the products.

EXERCISES IN PROBABILITY

1. In planning its budget for 2012. Future Company prepared the following pay-off
probability distribution describing the relative likelihood of monthly sales volume levels for
its product:
Monthly Sales Volume Probability
50 10%
100 20%
200 55%
350 10%
450 5%

REQUIRED:
a. What is the expected monthly sales volume, considering the given probabilities?
b. If the product’s contribution margin per unit is P 2, what is the expected value of
the monthly contribution margin for this product?

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2. The probabilities shown in the table represent the estimate of sales for a new product:

Sales (units) Probability

0 - 200 15%
201 - 400 45%
401 - 600 25%
601 - 800 15%

What is the best estimate of the expected sales of the new product?

3. A company uses two major material inputs in its production. To prepare its manufacturing
operations budget, the company has to project the cost changes of these material
inputs. The cost changes are independent of one another. The purchasing department
provides the following probabilities associated with projected cost changes:
Cost Changes Material 1 Material 2
3% increase 0.3 0.5
5% increase 0.5 0.4
10% increase 0.2 0.1
The probability that there will be a 3% increase in the cost of both Material 1 and Material
2 is?

4. A firm will produce either product A or B. The total costs (TC) for both products can be
estimated by the equations
Product A TC = P 300,000 + (P 23 x Sales Volume)
Product B TC = P 100,000 + (P 29 x Sales Volume)

The firm believes there is a 20% chance for the sales volume of each product to equal
10,000 units and an 80% chance they will both equal 20,000 units. The selling price of
product A is P 42, and the selling price of product B is P 40. The expected profit from
producing product B equals?

ITEMS 5 and 6 ARE BASED ON THE FOLLOWING:

Friendly Company is taking into account the introduction of a new product. If the
produce becomes successful, the total present value of future net cash inflows is
forecasted at P 240.

However, if the product becomes a failure, the total present value of this flow is
estimated at P 60. The needed investment is P 135.

5. Assuming Friendly thinks the probability of success is 60%, what is the value of the act
“invest”?

6. What are the probabilities that would have to e assigned to the event success and
failure to make Friendly Company indifferent between the two actions “invest” and “do
not invest”.

LINEAR PROGRAMMING

LINEAR PROGRAMMING - a technique used to optimize an objective function (maximize revenue

or profit function, or minimize a cost function), subject to constraints (such as scarce
resources, minimum/maximum levels of production, performance, etc.)
In business, linear programming is used for planning resource allocations (to make
optimum use of limited resources). Conditions calling for the use of linear programming
include:
1. specification of a cost or revenue objective formula
2. the limited resources must be subject to alternative uses
3. the alternative uses of the limited resources must be specified

EXERCISES IN LINEAR PROGRAMMING

1. Following are the data about Lineaprog Company’s two products that it produces
through its production facilities:

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Product X Product Y
Contribution margin per unit P 15 P 25
Materials used:
Material A 3 units 6 units
Material B 6 kgs. 4 kgs.

Available quantity of materials

Material A 600 units
Material B 880 kgs.

REQUIRED:
a. Objective function involving maximization of the company’s contribution margin
b. Constraint function for Material A
c. Constraint function for Material B
d. The optimal mix of products that must be produced by Lineaprog Company

2. Kapayapaan, Inc. manufactures Product C and Product A which are processed as

follows:
Type D Machine Type B Machine
Product C 6 hours 4 hours
Product A 9 hours 5 hours

The contribution margin is P 12 for Product C and P 7 for Product A. The available time
daily for processing the two products is 120 hours for Machine Type D and 80 hours for
Machine type B. How would the restriction (constraint) for Machine Type B be
expressed?

3. Leodegaria Corporation produces a product in 100 gallon batches. The basic

ingredients used are material X costing P 40 per gallon and Material Y costing P 20 per
gallon. No more than 1 gallon of Y can be used, and at least 15 gallons of X must be
used.

How would the objective function (minimization of product cost) be expressed?

4. The Katangalan Company plans to expand its sales force by opening several new
branch offices. Katangalan will consider opening only two types of branches: 20-person
branches (Type A) and 10-person branches (Type B). Expected initial cash outlays are P
1,300,000 for a Type A branch and P 670,000 for a Type B branch. Expected annual cash
inflow, net of income taxes, is P 92,000 for a Type A branch and P 38,000 for a Type B
branch. Katangalan will hire no more than 200 employees for the new branch offices
and will open no more than 20 branch offices. Linear programming will be used to help
decide how many decide how many branch offices should be opened. Katangalan
had P 10,400,000 in capital available for the new branch offices.

In a system of equations for linear programming model, which of the following equations
would not represent constraint?
a. A + B < 20 c. P 92,000A + P 36,000B < P 128,000
b. 20A + 10B < 200 d. P 1,300,000A + P 670,000B < P 10.4 M

5. The Kalakian Company makes toys A and B, each of which needs two processes: cutting
and wrapping. The contribution margin is P 6 for Product A and P 5 for Product B. The
table below shows the maximum number of units (constraint) of each product that may
be processed in two departments.
Maximum Capacities (In Product Units)
CUTTING WRAPPING
Product A 60 80
Product B 60 40

Considering the constraint in processing, which combination of Products Y and Z

maximizes the total contribution margin?

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6. In a system of equation for a linear programming model, what can be done to equalize
an inequality such as 6X + 4Y < 30?
a. Nothing c. add padding
b. add a slack variable d. multiply each element by -1

7. A firm must decide the mix of production of Product X and Product Y. There are only two
resources used in the two products, resources A and B. Data related to the following
table:
Product X Product Y
Resource A 3 7
Resource B 2 1
Unit Profit P8 P6

What is the appropriate objective function to maximize profit?

ITEMS 8 to 11 ARE BASED ON THE FOLLOWING

Merlin Company has excess capacity on two machines, 24 hours on Machine 105 and 16
hours on Machine 107. To use this excess capacity, the company has two products,
know as Product D and Product F, that must use both machines in manufacturing. Both
have excess product demand, and the company can sell as many units as it can
manufacture. The company’s objective is to maximize profits.

Product D has an incremental profit of P 6 per unit, and each unit utilizes 2 hours of time
on Machine 105 and then 2 hours of time on Machine 107. Product F has an incremental
profit P 7 per unit, and each unit utilizes 3 hours of time on Machine 105 and then 1 hour
of time on Machine 107. Let D be the number of units for Product D, F be the number of
units for Product F, and P be the company’s profit.

8. The objective function for Merlin Company is?

a. P = 4D + 4F < 40 c. P = 2D + F < 16
b. P = 2D +3F < 24 d. P 6D + 7F

9. The optimal number of units for Product D can be solved by calculating

a. 2D + 3F < 24 c. 2D + 3(16 - 2D) < 24
b. 2D + F < 16 d. 2(16 - F) + 3F < 24

10. The equations 2D + 3F < 24, D > 0, and F > 0 are

a. objective functions c. deterministic functions
b. inequalities d. constraints

11. A feasible solution for Merlin Company is

a. D = 2 and F = 8 c. D = 12 and F = 0
b. D = 6 and F = 4 d. D = 8 and F = 0

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