Questions 1 (True/False & Multiple-Choice)

A smoothing constant of 0.1 will cause an exponential smoothing forecast to

1) T F react more quickly to a sudden change in demand than a smoothing constant
of 0.3 will do.

Crashing activities in project management is based on two criteria (1) the cost
2) T F of crashing an activity and (2) whether or not the activity is on a critical path.
Among these criteria the first always takes precedence.

Consider the following activities and their immediate predecessors:

Activity Immediate Predecessor
A -
B -
3) T F C A
D B
E C, D
F B
It is possible to do activities C, D, and F at the same time.
One of the reasons that measurement of productivity in services is more
complicated than in manufacturing is due to the high degree of uniformity of
4) T F
the service inputs.

Forecasts for group of items tend to be less accurate than forecasts for
5) T F
individual items.

The order qualifiers for a company are those characteristics that cause
6) T F
consumers to actually purchase the product or service.

A company producing critical medical devices should base its operational

7) T F
strategy primarily on reliability.

8) T F Option value of a project increases as its cumulative volatility increases.

If the average throughput (flow) rate of a process increases but the average
9) T F
inventory remains constant, the average throughput (flow) time will increase.

The cost of the project is the sum of the costs of the activities on the critical
10) T F
path.

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1) To increase the responsiveness of forecasts computed based on the moving average
technique, the number of data points should be:
a) Increased
b) Decreased
c) Multiplied by a larger alpha
d) Multiplied by a smaller alpha
e) None of the above
2) In project management, a critical path activity

a) must have at least one immediate predecessor

b) is the only kind of activity that must be done to complete the project
c) is an activity that takes the longest amongst all the activities in the project
d) admits no delay whatsoever
3) If a particular data set exhibits an upward trend, then the forecaster could use the
following model:

a) moving averages
b) single exponential smoothing
c) double exponential smoothing
d) None of the above
4) When are the conventional NPV and the Real Options Value exactly identical?
I. When the investment decision can be deferred.
II. When the volatility per period is zero.
III. When the investment decision cannot be deferred further.
IV. When the volatility per period is high.
V. None of the above.
a) I only
b) III only
c) II and III only
d) I and II only
e) V
5) Suppose that the most recent actual data for demand is observed in February 2010.
Using the double exponential smoothing technique, the forecast for August 2010 is equal
to
a) FJan.15+ 7Tjan.15
b) FFeb15+ 6*TFeb15
c) FFeb.15+ 7*TFeb15
d) FFeb15+ 5*TFeb15
e) FMarch15+ 5*Tmarch15

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6) Given COGS = 1200 M$, and Inventory=100 M$, then what is the number of inventory
turns per month?
a) 12
b) 10
c) 5
d) 2
e) 1
7) Which of the following would not affect B in the Black-Scholes Options Formula?
a) Cumulative volatility
b) A change in the risk-free rate of return
c) Time difference between the start of 1st and 2nd stages
d) Volatility per period
e) Ability to predict the revenue of the 2nd stage
8) Bank of Montreal employs three loan officers, each working eight hours per day. Each
officer processes an average of five loans per day. The banks payroll cost for each officer
is $35 per hour, and there is a daily overhead expense of $500. Which of the following is
the multifactor productivity of loan process in terms of loans/$?

a) 0.011
b) 0.017
c) 0.025
d) 0.019
9) After crashing a project by one week by spending $500 for crashing, any further crashing
by another week (if possible) will cost:

I. More than $500

II. Less than $500
III. Equal to $500

(a) I only
(b) II only
(c) III only
(d) I or III
(e) None of the above

10) Effective capacity = 80 units per day

Design capacity = 100 units per day
Efficiency = 40%
Given the above information, the utilization is:
a) 20%
b) 32%
c) 40%
d) 50%
e) 28%

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Question 2

ABC Kokia recently started producing kPhones model ultimate, and the company strategy team
derived its competitive strategy based on price, quality, and the best effort customer care
named Hey, We serve you the best. ABC Kokia priced an aggressive $300 per unit for its
kPhone ultimate models, in an effort to compete with its top rival company Kapple. The weekly
output rate of kPhone ultimate models has been variable, and the accounting department has
provided the following information about the process for the past two weeks:

Week 1 Week 2

Units Produced 269 323

Total Labor ($) 11,942 12,603

Total Material ($) 30,654 36,434

Total Overhead ($) 10,194 10,736

a) Determine the multifactor productivity (labor + material + overhead) of the process in

unitless terms for each week. What is the change in productivity from week 1 to week 2?

MFP(Week 1) = 269*300/(11942+30654+10194)=1.5287

MFP(Week 2) = 323*300/(12603+36434+10736)=1.6211

MFP change = (1.6211 1.5287)/1.5287 = 6.04% (increase)

b) After reengineering the manufacturing process, Mrs. Ville-Mary estimated that the average
cost of each unit of kPhone ultimate is $180 per unit (labor: $40/unit; materials: $110/unit;
and overhead: $30/unit). The selling price remained the same $300 per unit. Therefore, the
unitless multifactor productivity (considering labor + material + overhead) reaches 1.6667.
How much overhead cost per unit should be reduced in order to increase the multifactor productivity
level of 1.6667 by 5%, while keeping other costs unchanged?

300/(x+40+110) = 1.6667*1.05 x = 21.42857 Reduce the overhead cost from 30 to

21.42857. 30-21.428 =8.57.

Comment: Some students add 5% to 1.67 and get x=24.4. In that case, give them full points.

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Question 3 (Forecasting):

(a) MA, Weighted MA, and Simple Exponential smoothing are right methods since it is
stated that the demand is stable.

Comment: If they answer any of them without double exponential, give them full points.
If they answer double exponential only, take off 2pt. If they answer double EX together
with other, take off 1pt.
(b)
Demand 0.5
Oct 36 36
Nov 40 36
Dec 35 38
Jan 39 36.5
Feb 42 37.75
Mar 39.875
April 39.875

(c)
Demand F T FIT
Oct 36 36 4
Nov 40 40 4 40
Dec 35 40.4 3.28 44
Jan 39 41.808 2.9056 43.68
Feb 42 43.62816 2.688512 44.7136
Mar 46.31667
April 49.00518

(d)

MAD MSE MAD MSE

3 9 9 81
2.5 6.25 2.808 7.884864
4.25 18.0625 1.62816 2.650905
3.25 11.10417 4.47872 30.51192
Simple Exponential Forecasts are better.

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Question 4 (Process Management)

Maxs Motor Shop (MMS) is a family-run auto dealership selling both new and used vehicles. In
an average month, MMS sells a total of 160 vehicles. New vehicles represent 60% of sales, and
used vehicles represent 40% of sales. Inventory financing is a significant expense for MMS, and
so Max tries to keep inventory turns as high as possible.

a. Examining the dealerships performance over recent years, Max discovered that MMS had
been turning its inventory (including both new and used vehicles) at a rate of 8 times per
year. What is MMSs average level of inventory (including both new and used vehicles)? (3
points)

b. Max has also determined that the dealerships new and used businesses appear to behave
differently. Specifically, turns of new vehicles are 7.2 per year, while turns of used vehicles
are 9.6 per year. Holding a new vehicle in inventory for a month costs MMS roughly $175.
Holding the average used vehicle in inventory for a month costs roughly $145. What is
MMSs average monthly financing (inventory) cost per vehicle (averaged over both types)?
(5 points)

c. A consulting firm has suggested that MMS subscribe to its monthly market analysis service.
They claim that their program will allow MMS to maintain its current sales rate of new cars
while reducing the amount of time a new car sits in inventory before being sold by 20%.
Assuming the consulting firms claim is true, how much maximum should Max be willing to
pay for the service? (3 points)

Solution:

a.
ITtotal = 1/Ttotal so Ttotal = 1/8 years = 1.5 months

Itotal = RtotalTtotal = 160 vehicles/month * 1.5 months = 240 vehicles, which is the answer.

b.

Similar to part a, we have Tnew = 1/7.2 years = 1.667 months and Tused = 1/9.6 years = 1.25
months.

Inew = 0.6 * 160 vehicles/month * 1.667 months = 160 new vehicles

Iused = 0.4 * 160 vehicles/month * 1.25 months = 80 new vehicles

Total monthly financing costs then 160*$175 + 80*$145 = 28,000 + 11,600 = $39,600/month.

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Cost per vehicle are then $39,600/month (160+80) = $165 per vehicle per month, which is the
answer.

c.

From Littles Law, cutting time 20% while holding R unchanged will reduce inventory by 20%.
From part b, average monthly financing costs for new vehicles is 160*$175 = $28,000/month. A
20% drop gives $5,600 per month, which is the answer.

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Question 5 (Project Management)
(a)
Skipped.

(b)

The project has the following six paths and their durations:

ABDHI, Duration = 22
ABEHI, Duration = 23
ABEGI, Duration = 23
ACEHI, Duration = 22
ACEGI, Duration = 22
ACFGI, Duration=19

The normal duration of the project is 23 weeks.

(c)

The normal cost of the project (sum of the costs of all activities) is $5,400.

(d)

Activity Predecessor Activity duration Activity cost ($) Crash Max Crash
(weeks) Cost/Week (weeks)
Normal Expedited Normal Expedited
A - 4 3 800 1,200 400 1
B A 3 2 1,000 1,200 200 1
C A 2 1 400 560 160 1
D B 5 3 800 1,200 200 2
E B, C 6 5 500 600 100 1
F C 3 2 200 400 200 1
G E, F 4 3 400 580 180 1
H D, E 4 3 300 310 10 1
I G, H 6 5 1000 2400 1400 1

Crashing for early completion:

It# Activity Crashed Crashing cost Net Profit

1 500-100=400
E by 1 week $ 100

2 500-190=310
G&H by 1 week $ 190

3 500-200=300
B by 1 week $ 200

Crash activities E, G, H, and B by 1 week each. Crashing cost of the project by 3 weeks= $490

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(e)

Net profit= $1500- $480 = $1010. Total completion cost = 5400+490 = 5890.

(f)

Critical activities after crashing are: A, B, C, D, E, G, H, I.

Question 6 (Break-Even Analysis):

a) In-house:
a. Break even occurs when (99 71) Q = 7000, at Q = 250 units.
b. Break even occurs when (99 67) Q = 12000, at Q = 375 units.
Outsource: The only breakeven point: Q = 0.

b) Profit function for In-house:

Q below 300 => (99 71) Q 7000 => 28Q - 7000
Q between 301 and 600 => (99 67)Q 12000 => 32Q - 12000

Profit function for outsource:

Q below 300 => (89 86) Q => 3Q
Q between 301 and 600 => 89Q (86*300 + (82 * (Q - 300))) = 7Q - 1200

For Q below 300:

28Q 7000 = 3 Q => Q = 280

So outsourcing is better for Q between [0 280] and in-house is better for Q between
[280 - 300].

For Q between 301 and 600:

32Q 12000 = 7Q 1200 => Q = 432

So Outsourcing better for Q in range [300 432] and in-house better for Q in range [432
600].

c) At Q = 300, In-house profit = 28*300 7000 => 1400, same profit is achieved when

(P-86) * 300 = 1400 => P = 90.66

At Q = 600, In-house profit = 32*600 12000 => 7200, same profit is achieved when

(P * 600) (300 * 86 + 300 * 82) = 7200 => P = 96

To make outsourcing always a better choice, they should charge 96 dollars / unit.

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Question 7
a)

Alternative 1:

Discount
Year Investment Revenue Net Income ($m) PV ($m)
Factors

0 1 5 0 (5.00) (5.00)

1 1.05 5 0 (5.00) (4.76)

2 1.1025 0 15 15.00 13.61

3 1.157625 5 0 (5.00) (4.32)

4 1.215506 5 0 (5.00) (4.11)

5 1.276282 5 0 (5.00) (3.92)

6 1.340096 20 20.00 14.92

NPV 6.42

Alternative 2:

Discount
Year Investment Revenue Net Income ($m) PV ($m)
Factors

0 1 5 0 (5.00) (5.00)

1 1.05 5 0 (5.00) (4.76)

2 1.1025 5 0 (5.00) (4.54)

3 1.157625 0 20 20.00 17.28

4 1.215506 5 0 (5.00) (4.11)

5 1.276282 5 0 (5.00) (3.92)

6 1.340096 0 15 15.00 11.19

NPV 6.14

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Note that NPV (Alternative 1) > NPV (Alternative 2). So, Montreal-Toronto is better than Toronto-
Montreal.

b) Based on Real Options analysis, calculate the total value of each alternative and decide
whether Alternative 1 or 2 is better for the company.
(round to the closest value, if the exact match of A or B is not found in the table)

Alternative 1:

NPV of Montreal Phase 3.84

S 14.92

X 12.35

B (T=3) 0.69

A 1.21

From Real Options Table 0.34

Options Value of Toronto

Phase 5.11

Total Value of Project 8.95

Alternative 2:

NPV of Toronto Phase 2.98

S 11.19

X 8.03

B (T=4) 0.8

A 1.39

From Real Options Table 0.42

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 Options Value of Montreal
Phase 4.68

Total Value of Project 7.66

Note that Total Real Options Value (Alternative 1) > Total Real Options Value (Alternative 2). Hence,
based on Real Options criterion, Alternative 1 is better than Alternative 2.

c) Now, consider the following third alternative:

Alternative 3: The Company can delay the introduction of services in both Montreal and
Toronto by one year and will decide whether or not to start the project in year 1. If it decides to
start the project, The Company will introduce the service in Montreal and Toronto
simultaneously. The cash flows for Alternative 3 are as follows:

Toronto and Year 0 Year 1 Year 2 Year 3 Year 4

Montreal

Investment $10 M $10 M $5 M

Revenue $15 M $20 M

d) Based on real options analysis, calculate the total value of Alternative 3. Based on real
options value, compare Alternative 3 to Alternatives 1 and 2 and determine which one is
the best. (4 points)

In Alt.3, there is only one discretionary phase (without any phase to be decided at t=0);
so, the total value is equal to the real option vale of the discretionary phase.

NPV of First Phase 0.0

S 29.41

X 22.91

B (T=1) 0.4

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 A 1.28

From Real Options Table 0.26

Options Value of Toronto and

Montreal Phase 7.76

Total Value of Project 7.76

So, Alternative 1 > Alternative 3 > Alternative 2

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