Question

XYZ Co is a manufacturer of baby equipment and is planning to launch a revolutionary new style of sporty pushchair. The company has commissioned market research to establish possible demand for the pushchair and the following information has been obtained.

If the price is set at $425, demand is expected to be 1,000 pushchairs, at $500 it will be 730 pushchairs and at $600 it will be 420 pushchairs. Variable costs are estimated at either $170, $210 or $260.

A decision needs to be made on what price to charge.

The following contribution table has been produced showing the possible outcomes.

Price		$425	$500	$600
Variable cost	$170	255,000	240,900	180,600
	$210	215,000	211,700	163,800
	$260	165,000	175,200	142,800

1)Which one of the following techniques, used by XYZ Co, reduces uncertainty in decision making?

1.Relevant costing

2.Expected value analysis

3.Market research

4.Sensitivity analysis

2)What price would be set if XYZ were to use a minimax regret decision criterion?

1.$425

2.$500

3.Not possible to determine from the available information

4.$600

3)What price would be set if XYZ were to use a maximin decision criterion?

1/$425

2.Not possible to determine from the available information

3.$500

4.$600

4)If the probabilities of the variable costs are $170: 0.4, $210: 0.25 and $260: 0.35, which price would the risk-neutral decision maker choose?

1.$500

2.$425

3.$600

4.Not possible to determine from the available information

5)What price would be set if XYZ were to use a maximax decision criterion?

1.$500

2.$600

3.$425

4.Not possible to determine from the available information

Answer 1

1) 3. Market research techniques is used by XYZ Co, which reduces uncertainty in decision making.

Contribution Table:

Variable Costs / Price	$425	$500	$600
$170	255,000	240,900	180,600
$210	215,000	211,700	163,800
$260	165,000	175,200	142,800

2) 2. $500

Minimax Regret Approach:

Variable Costs / Price	$425	$500	$600
$170	255,000 - 255,000 = 0 255,000	240,900 - 240,900 = 0 240,900	180,600 - 180,600 = 0 180,600
$210	255,000 - 215,000 = 40,000 215,000	240,900 - 211,700 = 29,200 211,700	180,600 - 163,800 = 16,800 163,800
$260	255,000 - 165,000 = 90,000 165,000	240,900 - 175,200 = 65,700 175,200	180,600 - 142,800 = 37,800 142,800

Regret Table:

Variable Costs / Price	$425	$500	$600
$170	0	0	0
$210	40,000	29,200	16,800
$260	165,000	175,200	142,800

Therefore price set should be $500 if minimax regret decision criterion is used.

3) 4. $600

Maximin Decision Criterion:

Variable Costs / Price	$425	$500	$600	Worst
$170	255,000	240,900	180,600	180,600
$210	215,000	211,700	163,800	163,800
$260	165,000	175,200	142,800	142,800

4) 2. $425

Risk Neutral Decision Making:

Variable Costs / Price	$425	$500	$600
$170 * 0.40	102,000	96,360	72,240
$210 * 0.25	53,750	52,925	40,950
$260 * 0.35	57,750	61,320	49,980

5) 3. $425

Maximax Decision Criterion:

Variable Costs / Price	$425	$500	$600	Best
$170	255,000	240,900	180,600	255,000
$210	215,000	211,700	163,800	215,000
$260	165,000	175,200	142,800	175,200