Question

Managers of an Auto Products company are considering the national launch of a new car cleaning product. For simplicity, the potential average sales of the product during its lifetime are classified as being either high, medium, or low, and the net present value of the product under each of these conditions is estimated to be 80M, 15M, and -40M Tl respectively. The company’s marketing manager estimates that there is a 0.3 probability that average sales will be high, a 0.4 probability that they will be medium. It can be assumed that company’s objective is to maximize the net present value.

1. On the basis of the marketing manager’s prior probabilities, determine:

1. whether the product should be launched;

2. expected value of perfect information.

2. The managers have another option. Rather than going immediately for a full national launch, they could first test market the product. This would obviously delay the national launch, and this delay, together with other outlays would lead to costs having a net present value of 3M TL. The test marketing would give an indication as to the likely success of the national launch, and therealibility of each possible indications that could result are shown by the conditional probabilities are given below (e.g. İf the market for the product is such that high sales could be achieved, there is a probability of 0.15 that the test marketing would in fact indicate medium sales):

	Test marketing indication
Actual Sales	“High”	“Medium”	“Low”
High	0.80	0.15	0.05
Medium	0.25	0.60	0.15
Low	0.10	0.30	0.60

Determine whether the company should test market the product.

Answer 1

Answer:

Part 1=

The given problem can be written as

Situation	Probability	NPV
High	0.30	80.00
Medium	0.40	15.00
Low	0.30	-40.00

Situation	Probability	NPV	Prob*NPV
High	0.30	80.00	0.3*80= 24.00
Medium	0.40	15.00	0.4*15= 6.00
Low	0.30	-40.00	0.3*-40= -12.00

EMV= 24+6+(-12)=18

As the EMV is +18 that is it will provide the company with some profits so the product shall be launched.

part 2= Expected value of perfect information = EMV = 18M

Answer 2

Given=

	National sales
Actual National sales	High	Medium	Low
High	0.80	0.15	0.05
Medium	0.25	0.60	0.15
Low	0.10	0.30	0.60

Cost of conducting test : 3 M

Situation	NPV
High	80-3= 77.00
Medium	15-3= 12.00
Low	-40-3= -43.00

Joint probabilities are given as below=

High	0.3*0.8+0.4*0.25+0.3*0.1=            0.37
Medium	0.3*0.15+0.4*0.6+0.3*0.3=      0.38
Low	0.3*0.05+0.4*0.15+0.3*0.6=      0.26

expected NPV with the imperfect information=

Actual National sales	Probability	NPV	NPV*Prob
High	0.37	0.8*77+0.15*12+0.05*-43=      61.25	0.37*61.25= 22.66
Medium	0.38	0.25*77+0.6*12+0.15*-43=   20.00	0.38*20= 7.60
Low	0.26	0.1*77+0.3*12+0.6*-43=-14.50	0.26*-14.5= -3.77

Total =22.66+7.6-3.77=26.49

Expected value from the test =26.47

The expected value for not conducting the test =18

The expected value of imperfect information = 26.47-18 =8.47

As the value of imperfect information is 8.47M So the company should market the product

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