Question

Maximus Steel plans to introduce one of three new products code-named: Wren, Hawk, and Nightingale. The marketing department indicated that the success of any product depends on the market conditions (Favorable, Neutral, or Unfavorable). The profit the company will earn also depends on the market conditions.

The table below shows the probability estimated for each market condition and the profits Maximus Steel will realize within those conditions:

Product Code	Market Conditions
	Favorable P = 0.2	Neutral P = 0.7	Unfavorable P = 0.1
Wren	$120,000	$70,000	($30,000)
Hawk	$60,000	$40,000	$20,000
Nightingale	$35,000	$30,000	$30,000

Part 1 Instructions:

1. Compute the expected value for each alternative. What is the best option for the company?
2. Develop the opportunity loss table and compute the expected opportunity loss for each product.
3. Determine how much the firm would be willing to pay to a market research firm to gain better information about future market conditions.

Part 2:

Maximus Steel is considering hiring a market research firm to do a survey to determine future market conditions. The results of the survey will indicate either positive or negative market conditions.

There is a 0.60 probability of a positive report, given favorable conditions; a 0.30 probability of a positive report, given neutral conditions; and a .10 probability of a positive report, given unfavorable conditions.

There is a .90 probability of a negative report, given unfavorable conditions; a .70 probability, given neutral conditions; and a .40 probability, given favorable conditions.

Develop a full decision tree for Maximus Stell. Determine the best strategy for the company, the expected value of the strategy, and the maximum amount the company should pay the market research firm for the survey results.

Note: This is all the info I have. Can you please just guide in the right direction for the decision tree. Thanks

Answer 1

ANS: 1. Expected value of each alternative is as follows:

(I)	Profit	Favourable
Waren	$ 120,000.00	0.2	$ 24,000.00
Hawk	$   60,000.00	0.2	$ 12,000.00
Nightingale	$   35,000.00	0.2	$   7,000.00
Value expected	$ 43,000.00
(II)
	Profit	Favourable
Waren	$   70,000.00	0.7	$ 49,000.00
Hawk	$   40,000.00	0.7	$ 28,000.00
Nightingale	$   30,000.00	0.7	$ 21,000.00
Value expected	$ 98,000.00
(III)
	Profit	Favourable
Waren	$ (30,000.00)	0.1	$ (3,000.00)
Hawk	$   20,000.00	0.1	$   2,000.00
Nightingale	$   30,000.00	0.1	$   3,000.00
Value expected	$   2,000.00

Best options among the above is (II) one which has highest expected value as a whole irrespective of each product profit.

Computation of Opportunity Loss
Product	Profit in (II)	Profit in (I)	opportunity loss
Waren	$      70,000	$      120,000	$            (50,000)
Hawk	$      40,000	$         60,000	$            (20,000)
Nightingale	$      30,000	$         35,000	$              (5,000)

If company gives tender to a market research firm then it can not do this probability analysis and its opportunity cost which the company is currently bearing can be saved. So, maximum we can pay what is our saving if we execute the program, which is $75000.