Question

Hudson Corporation is considering three options for managing its data processing operation: continuing with its own staff, hiring an outside vendor to do the managing, or using a combination of its staff and an outside vendor. The profit of the corporation depends on future demand. The annual profit of each option (in thousands of dollars) depends on demand as follows: Demand Staffing Options High Median Low Own staff 650 650 600 Outside vendor 900 600 300 Combination 800 650 500 a. Construct a decision tree. b. Recommend a decision based on the use of the optimistic, conservative, and minimax regret approaches (show steps). c. If the demand probabilities are 0.2, 0.5, and 0.3, respectively for High, Median, and Low demands, use the expected value approach to determine the optimal decision (show steps)

Answer 1

(a)

(b)

Optimistic: Identify the maximum payoff for all the alternatives and select the one which gives the maximum of these maximums.

Staffing Options	High	Medium	Low	Max payoff
Own staff	650	650	600	650
Outside vendor	900	600	300	900
Combination	800	650	500	800

Best decision - Outside vendor

Conservative: Identify the minimum payoff for all the alternatives and select the one which gives the maximum of these minimums

Staffing Options	High	Medium	Low	Min payoff
Own staff	650	650	600	600
Outside vendor	900	600	300	300
Combination	800	650	500	500

Best decision - Own staff

Minimax regret: First, develop the regret matrix by subtracting each payoff from the corresponding column maximum. Then identify the maximum regrets for all the alternatives and select the one which gives the minimum of these max regrets.

Regret matrix
Staffing Options	High	Medium	Low	Max regrets
Own staff	250	0	0	250
Outside vendor	0	50	300	300
Combination	100	0	100	100

Best decision - Combination

(c)

The expected value computations are already shown on the decision tree.

So, max EMV = 635 and the best decision = Own staff or Combination (both have EMV=635)