3.5.

BASIC PROBABILITY AND DECISION MAKING

3.5.1 Basic Probability and Decision making
a. Random experiments, outcomes and events
b. Independent and mutually exclusive events
c. Laws of probability
d. Conditional probability

3.5.2 Objectives

By the end of this lesson you should be able to:

>define the different types of probabilities
>describe the properties of a probability
>describe the concepts of a probability
> apply the different rules of probability
>construct a contingency table
> interpret probabilities from a contingency table
> understand counting rules i.e permutations and combinations

3.5.3 Introduction

Decisions made in businesses involve a lot of uncertainties. They require that the decision
maker makes a decision not from ALL the relevant data but from SOME data. Decisions are
futuristic that is they affect the behavior of employees in the future.

Therefore these decisions may or may not be accurate. They involve calculated risk and
because of that a basic knowledge of probability theory is very important to the corporate
world. Probability theory involves generalizing behavior of a random variable from sample
data to the whole population, which is also known as statistical inference.

In the corporate world we need to quantify the uncertainties embedded in the generalizations
made when making decisions. For example, from our interactions with the few touts/ vana
hwindi we meet when commuting, we are persuaded to think that all of them use foul
language. But is this really true? There could be some touts that use polite language. We are
generalizing from a sample to the wider population of touts. That is the whole idea of
statistical inference.

So…what is a probability by definition?

A probability is the likelihood or chance that a particular outcome from a number of possible
outcomes will take place. For example, as we are in June, what is the probability that tonight
it will frost? Your answer involves a probability no doubt. Or what is the probability that you
will pass Acc102 with a distinction?

3.5.4 Types of Probabilities

Basically there are two types of probabilities: Subjective and Objective probabilities.

Subjective probabilities are situations where the probability of an event is based on non-
scientific decisions such as educated guesses, expert opinion or the intuition we use to say we
like someone on first sight. Ever thought what prompts you to say you just like someone
when that person is introduced to you? You hardly know their character or anything else
about them but “feel” you like them. We cannot have any collection of data to process and
make a decision. We are using subjective probabilities. We cannot prove anything
objectively.

On the other hand Objective probabilities are based on verifiable facts. In most cases an
experiment is carried out or we have been observing empirically the behavior of a random
variable for some time and then we conclude from the processed data. Or that a mathematical
formula is used to calculate the probability. It is objective probabilities that are studied in this
module, not subjective probabilities.

A probability is actually a RATIO involving two numbers:

P (A) = r/n where A= an event of a specific type or with specific properties; r = number of
outcomes of event A; n = sample space or total number of possible outcomes;
P (A) = the probability of event A taking place or occurring.
An event is that issue at hand we are studying through a random experiment or empirical
observation. The final outcome is not known until we have gathered all the data. For example
suppose we want to know the probability of you coming late to a lecture next semester. Of
course we cannot say beforehand but we then observe the number of times you come late to
your lectures. The event here, P(A), is your coming late to lectures. You definitely will have a
number of lectures to attend before you write exams (n) and the total number of lectures you
come late is our r. We can calculate the probability at the end of your semester.

How then do we derive objective probabilities? There are three ways this is done:
a) a priori…for possible outcomes that are known in advance. Before a soccer match the
match officials will toss a coin before the two captains of the opposing teams. Well, heads
Team A wins and Tails Team A loses. We know in advance the outcomes before the event. A
similar example is when you pick cards from a deck of cards. We all know there are 52 cards
in the deck of cards of two colors: red and black.

b) empirically….This is when both the values of r and n are not known in advance but one
has to determine these at the end of the observation, survey or experiment. For example what
is the most popular dish in your family? Take a short survey and derive the probabilities
empirically.

c ) theoretically….Here we use mathematical formulae or probability distribution functions o

calculate the probabilities of some types of probabilities eg poisson, binomial and normal
probability distributions which will come later on.

3.5.5 Basic Properties of a Probability

There are five basic properties of a probability that we will consider:

i) Probability values exists between 0 and 1 only: 0 ≤ P(A) ≤ 1 So we do not expect either a
negative or a number greater than 1. Any answer outside this range will therefore be wrong.

ii) Whenever event A cannot happen i.e it is impossible to occur P (A) =0 e.g the sun will
never rise from the West but from the East.
iii) On the other hand if event A is sure to happen, then P (A) =1; eg the moon shines at night
always.

iv) The sum of the probabilities of all possible outcomes of a random experiment equals 1.

If you want to buy a cellular line in Zimbabwe and you enter a shop where these lines are sol
On the display are Econet; NetOne; Telecel and Africom lines. The possible outcomes or
choices of cellular lines from a random selection of one line only will be:

P(Econet) + P(NetOne) + P (Telecel) + P (Africom) = 1

v) There is what is called Complementary Probabilities as the last basic property of a

probability. So, if P(A) is the probability of event A taking place, therefore the probability of
event A not happening is: P (A’) = 1- P (A). In some cases the A in question has a dash on
top or a hat so to speak not a hyphen. The complementary probabilities property will be very
useful later on.

3.5.6 An Example
A priori probabilities could be the simplest starting point and we shall play cards. Well, not
gambling, but to learn about basic probabilities. I will shuffle the deck of cards and ask you
to calculate the probabilities. Right? Good.
a) Let A be event of selecting a black card.

P(black card) = 26/52 or ½ or 0,5 or 50%. There are 26 black cards in the deck of 52 cards.
Leave your answer as 0,5 or 50%. So, there is a 50% chance of selecting a black card. Good.

b) Let A event of selecting a spade. P(spade) = 13/52 or ¼ or 0,25 or 25%. So there is a 25%
chance of selecting a spade randomly. There are 13 spades in the deck of cards. Got it? Good.

c) Let A event of selecting an ace. P(ace) = 4/52 or 1/13 or 0,0769 or 7,69%.

So there is a 7,69% chance of selecting an ace. There are just four aces in the deck of cards.
d) Let A event of selecting not an ace.
P(not an ace) = 1- 1/13= 12/13 or 92,23%. There is a 92,23% chance of not selecting an
ace. We have used complimentary probabilities here. Alternatively, you could use 1-4/52 and
you still get the same answer.
Note also how the results or outcomes are interpreted…see the words in Italics above.
You can play this game instead of Craze 8 or some other games with the deck of cards but
practicing a priori probabilities.
A word of caution: Do not use these cards for gambling.
3.5.7 Basic Probability Concepts
We will have more examples now using a contingency table. For example it is possible to
look at you doing Acc102 from a number of views. We can look at you from your Mode of
Entry at the same time look at you from your Degree programme. You are still the same
person. Or even your gender and Mode of Entry.
Suppose we have a sample of 150 companies the Victoria Falls Stock Exchange (VFSE) but
the companies have been classified according to company size and industry type. So we can
talk about a company from the point of view of its size or from the industry it is operating.

Table 3.5.1 A Sample of 150 companies the Victoria Falls Stock Exchange
Industry Company size ( USD$ million sales) Row total
Type Small Medium Large
(0-<10) (10-<50) (>50)
Mining 0 0 35 35
Finance A=? 21 42 72
Service 6 3 C=? 10
Retail 14 13 6 D=?
Column total 29 B=? 84 150

Calculate the values for A to D before we proceed. Good.

Well, your answers should be A=9; B=37; C=1; and D=33.
3.5.8 Computation of Objective Probabilities
Using Table 3.1 above lets compute objective probabilities as follows:
Marginal probability; Joint probability and Conditional probability.
Marginal probability
This is the probability of a single event A taking place, hence P(A) is what we calculate here.
Let A event Large company. As can be seen from the table above we have a total of:
Table 3.5.2 Number of Large companies on the Victoria Falls Stock Exchange
Company size Number of VFSE companies
Small 29
Medium 37
Large 84
Total , n 150

P(large company) =84/150= 0,56 or 56%. There is a 56% chance of selecting a large
company from the VFSE.
You can do the same for Small, Medium; or Industry type for practice.
Joint Probability
This is the probability of events A and B taking place at the same time. The two events
intersect or meet from the company size and industry type. The same number of companies
will be involved. We write the joint probability as follows:
P (ANB) [My apology, the N is actually a substitute for the proper intersection sign. I
could not get the symbol on time. In the interest of time, please accept my improvisation]
From the VFSE contingency table:
Let A=event (small company) and Let B =event (finance company)
Therefore P(ANB) = 9/150= 0,06. There is a 6% chance of selecting a company that is both
small and in the finance sector. You go down the Small companies column at the same time
go along the Row for Finance in the industry type. Where these two meet, that is the
intersection of interest.
Joint probabilities can be calculated for industry type intersecting Company size as well.

Conditional probability
This is the probability of event A taking place GIVEN further information about the
occurrence of another event B. There are many instances where a condition is set before
another event takes place. For example, if you are promised a job by a company now, one of
the conditions could be that you should have passed your first degree with either a 1st class or
a 2.1. Yes you seemingly have a job BUT you have to satisfy the quality of your pass.
In our example, a conditional probability is given by: P(A/B) = P(ANB)
P(B)
We need to unpack this equation thus; P(A/B) is read the probability of event A given the
probability of event B. This should equal the joint probability of event A intersecting event B,
all divided by the marginal probability of event B.
Let A = event (large company)
Let B – event (retail company)
Read this as the probability of selecting a large company given that it is also a retail
company.
P( large company/ retail company) = 6/150 = 6/150* 150/33 = 6/33 = 0.1818 or 18,18%
33/150
So, there is an 18,18% chance of selecting a large company given that it is also a retail
company.
Try this with other combinations eg The probability of selecting a retail company given that it
is a large company. Or selecting a service company given that it is a small company etc. You
can have other examples as well.

3.5.9 Probability Rules

These rules of probability apply to probabilities where there are much more complex but
related events.
There are two types of these rules: Addition rule for (i) non-mutually exclusive events and
For (ii) mutually exclusive events.
The second type is the Multiplication rule for (i) statistically dependent events and
For (ii) statistically independent events.
a) Non-mutually exclusive events is the probability of either event A or event B or both
taking place simultaneously.
The equation used is: P(AUB) = P(A) + P(B) – P(ANB)
Notice that when we say Non-mutually exclusive events there is a portion where these two
events overlap or intersect and that portion has to be removed from the computation of the
probability, hence –P(ANB). If it was in Accounting, we are avoiding double counting.
Let A = event (small company)
Let B =event (service company)
P(small company U service company) = 29/150 + 10/150 – 6/150 = 33/150 = 0,22 or 22%
There is a 22% chance of selecting either a small company or a service company or both.

Mutually exclusive events occur when either event A or event B takes place simultaneously.
There are no marginal portions that overlap or intersect.
The equation used goes: P (AUB) = P (A) + P (B). Notice that since there is no intersection ,
it is pointless mathematically to subtract Zero.

The two events are parallel as will be seen in the example below:

Let A = event (small company)

Let B = event (large company)
These two events do not meet that is we do not at any time find a small company classified as
a large company or a finance company classified as a retail company.
Therefore P (A) = P (small company) = 29/150
P (B) = P (large company) = 84/150
Hence P (small company U large company) = P (29/150) + P (84/150) = 113/150 = 0,7533
or 75,33%. There is a 75, 33% chance of selecting either a small company or a large
company from the VFSE.
b) Multiplication rule for statistically dependent events i.e events whose occurrences depend
on each other. Normally this rule is used to find the joint probability of event A and event B
taking place simultaneously. Use the following equation:

P(ANB)= P(A/B) * P(B)

Remember: P(ANB) = joint probability of event A and event B . (We covered this already)
P(A/B) =conditional probability of event A given event B. (We covered this already)
P(B) = the marginal probability of event B. (We covered this already)
So, find the probability of selecting a medium, finance company from the VFSE.
Let A = event (medium company)
Let B = event (finance company)
P(A/B) = P( medium/finance company) = 21/72
P(B) = 72/150
Therefore, P(ANB)= P(A/B) * P(B) = 21/72 *72/150 = 21/150 = 0,14 or 14 %.
Statistically independent events are those events that occur in such a manner that the
occurrence of one event does not cause the other to take place.
Use the following equation: P(A/B) = P (B) If the conditional probability of event A equals
the marginal probability of event B then the two events A and B are statistically independent
of each other.

Determine if company size is statistically independent of industry type in the VFSE sample.
Let A =event (medium company)
Let B = event (finance company)
Therefore P(medium/ finance company) = 21/72 = 0,2917
P( medium company) = 37/150 = 0,2467
Hence, the two probabilities are not equal and we conclude that the two events are
statistically dependent that is company size and industry type are closely related. A look at
the mining industry shows that we only have large companies not one is small or medium. Do
the same for finance and retail industries.
3.5.10 Counting rules
When the values for r and n are too large to count because of the many possible number of
outcomes involved, the counting rules are used. Both values for r and n can best be found by
use of the counting rules.
Basically there are three such counting rules:
Multiplication rule
Permutations and
Combinations
Let us look at one after the other.
a) Multiplication rule is applied in two ways.
i) The total number of different ways n objects can be arranged or ordered is given by n!
n! means n factorial= n(n-1)(n-2)(n-3)(n-4)….3.2.1
0! = 1
Example: The different ways in which 7 boys can complete a marathon race is given by:
7!= 7(7-1)(7-2)(7-3)(7-4)(7-5)(7-6) = 7*6*5*4*3*2*1= 5 040 different ways.
b) If a random process has the following:
~n1 possible outcomes on the first trial
~n2 possible outcomes on the second trial
~nj possible outcomes on the j trials
Then the total number of outcomes for the j trials are:
n1* n2*n3*…… nj
Example:
A restaurant menu has a choice of 4 starters, 10 main courses and 6 disserts.
From the above, the total possible meals that can be calculated as follows:
4*10*6 =240 meals possible.
b) Permutations
A permutation is the number of distinct ways in which a group of objects can be arranged or
ordered where each arrangement is called a permutation. The emphasis here is on specific
ways of arrangement. A good example could be how some congregants sit in church. For
some children sit on their side, or women and men sit separately or how married couples sit
in church in their area etc. Such distinct ways of sitting are permutations.
The equation used is : nPr = n!
(n-r)!
Where n! = n factorial = n(n-1)(n-2)(n-3)…..3.2.1
r = number of objects selected at a time
n= total number of objects
Example: 10 girls compete in a race.
i) How many distinct arrangements are there of the first 3 girls past the post?
n= 10 girls
r= 3 girls
Pr =
n 10! = 10! = 10(10-1)(10-2)(10-3)(10-4)(10-5)(10-6)(10-7)(10-8)(10-9)
(10-3)! 7! 7!
= 10*9*8*7*6*5*4*3*2*1 = 10*9*8 = 720 distinct ways
7*6*5*4*3*2*1
ii) What is the probability of predicting the order of the first 3 girls past the post?
P (first 3 girls) = 1 = 0,0013889 or 0,1389%.
720
There is a 0,1389% chance of completing the race.
c) Combinations
A combination is the number of different ways of ordering or arranging a subset of objects
selected from a group of objects where the ordering is not important. The emphasis here is
not on the specific ways of arrangement but on any order of the subset.
Use the equation: nCr = n! Where n! follows the same format above and r! too.
r! (n-r)! r is the number of objects selected
n is the total number of objects
Example: 10 students compete in a race.
i) Calculate how many arrangements there are of the first 3 students past the post in any
order.
n= 10 students
r = 3 students
Cr =
n n! = 10! = 10.9.8.7.6.5.4.3.2.1 = 120 ways
3! (10-3)! 3!7! (3.2.1)(7.6.5.4.3.2.1)
There are 120 different ways 3 students out of 10 students can complete a race in any order.
The above example is akin to the African Lotto where you select 6 numbers out of the 42 on
offer. You can calculate the different ways these numbers on balls can come up.
ii) Calculate the probability of selecting the first 3 students past the post.

P (first 3 students) = 1/120 = 0,00833 or 0,833%. There are 0,833% chances of selecting the
first 3 students past the post.

You can also do the same for the African Lotto example. Is it surprising that not many people
win the Lotto? What then is the probability of selecting the 6 winning Lotto balls?