Chapter 3

Problem 20
Mickey investing money that was inherited. Table gives
profits that would be realized during the next year. Three
alternatives are given.
State of Nature
Decision
Good Economy
Poor Economy
Alternative
Stocks Market
80,000
-20,000
Bonds
30,000
20,000
CDs
23,000
23,000
Probability
0.5
0.5
a. What decision would maximize expected profits?
a. First need to calculate EMP for each alternative
=(P*Good Economy)+(P*Poor Economy)
Stocks= (0.5*80,000)+(0.5*-20,000) = 30,000
Bonds=(0.5*30,000)+(0.5*20,000) = 25,000
CDs=(0.5*23,000)+(0.5*23,000) = 23,000
The stocks would be the decision Mickey would
make to maximize profits.
b. What is the maximum amount that should be paid for a
perfect forecast of the economy.
EVPI=EVwPI-maximum EMV
If the perfect information says the market will be
favorable, the stocks market would be invested in, and
the profit will be 80,000. If the perfect information says
the market will be unfavorable, the CDs option would be
selected and the profit would be zero.
EVwPI=(80,000*0.5)+(23,000*0.5)
EVwPI=51,500
EVPI=51,500- maximum EMV (30,000)
EVPI=21,500
21,500 is the maximum amount he should pay for a
perfect forecast of the economy.

 Problem 27
Case cost $5
Sells for $15 = Make $10
Any cases not sold are sold at $3 = loose $2
P is 0.3 for 100 cases
P is 0.4 for 200 cases
P is 0.3 for 300 cases
If supply is less than demand, they buy from a competitor at
$16 per case
a. Draw a decision table for the problem
Demand
100 Cases 200 Cases 300 Cases
0.3
0.4
0.3
Supply
100
1000
900
800
200
800
2000
1900
300
600
1800
3000

Demand

100 Cases
0.3

200 Cases
0.4

300 Cases
0.3

EMV

900*.4=360

800*.3=240

900

200

1000*.3=30
0
800*.3= 240
600*.3= 180

1900*.3=57
0
3000*.3=90
0

1610

300

2000*.4=80
0
1800*.4=72
0

Supply
100

The company should supply 300 cases

Problem 36
Building a clinic
Favorable market = 100,000 in profits
Not favorable =-40,000
Do nothing =0
P=0.5
Construct a decision tree. What should the medical
professionals do?

1800

Favorable Market $100,000

<Unfavorable Market -$40,000

Build clinic

<Not build clinic

$0

EMV for node one: (0.5*100,000)+(0.5*-40,000)=30,000

They should build the clinic.