Competitive Advantage; I imply the creation of system that has unique advantage over competitors.

World class producers or Lean Producers. They contain continuous improvement in meeting customers’
requirements through excellence in the transformation process. KAIZAN (Japanese word) which means
continuous improvement.

DECESION MAKING TOOLS

Managers are the decision makers. To carry out the goals of their organizations, managers must have an
understanding of how decisions are made know what important decisions making tools are available to
them. To a great extent, the success and failure of the companies depend upon the quality of their
decisions

Model: it is representation of reality, it can be a physical model, a scale model, a mathematical model,

−b ± √ b2−4 ac
Area of a circle A=π r 2 , x= , a 2+b 2=c 2,
2a
These models can help the managers to:

1. Gain deeper insight into the nature of business relationships.

2. Find better ways to access values in such relationships.
3. See a way of reducing, or at least understanding uncertainty that surrounds business plans and
actions.

The Decision process: What makes a difference in a good and a bad decision. A good decision using
scientific approach, or analytical decision making is based on strong reasoning, logic or grounds.

1. Define the problem and the factors that influence it. This means stating the problem clearly and
concisely, which in many cases is the most difficult step.
2. Establish decisions criteria and goals; Managers must develop specific and measurable goals.
Most firms just try to maximize profits.
3. Formulate a model or relationship between goals and variables.
4. Identify and evaluate alternatives: This steps means gathering as many alternatives or choices as
possible and analyzing each alternatives.
5. Select the best alternative: This is the solution that best satisfies and is most consistent with the
stated goals.
6. Implement the decision: Carrying out the actions indicated by the alternatives that is finally
selected is sometimes the most challenging phase of decision making. It involves task
involvements and a timetable for implementation.

Models for Decision Making: Managers should know:

1. When a model is appropriate and what its assumptions and limitations are
2. What purpose a model should serve in a particular problem,
3. How to use the model and produce results?
 4. How to implement, in management terms, the results of the model.
Advantages of using models:
1. They are less expensive and disruptive than experimenting with the real world system.
2. They allow the managers to ask “what if” questions.
3. They are built for management problems and encourage management input.
4. They force a consistence and systematic approach to the analysis of problems.
5. They require managers to be specific about constraints and goals related to a problem.
6. They can help reduce the time needed in decision making.

Disadvantages of using models:

1. They may be expensive and time consuming to develop and test.
2. They are often misused and misunderstood and feared because of their mathematical
complexity.
3. They tend to downplay the role and value of nonquantifiable information.
4. They often have assumptions that oversimplify the variables of the real world system.

Categories of Mathematical Models:

1. Algebraic Model: Algebra is a basic mathematical tool that can be sued to help solve such
common problems as break even analysis and cost benefit analysis.
2. Statistical Models: Since many decisions involve uncertainties, the use of probability distribution
and statistical theory is very important. It has THREE Types:
A) Forecasting: The process of making projection into the future of such variables as sales, cost,
enrollment of students in college, weather reports, international trade,
B) Quality Control: It intended to help measure the and regulate the degree to which a product
or service meets specified standards. ISO 9001, ISO 9002, ISO 14001
C) Decision Theory: It is used in decision trees and tables to help represent and solve problems
requiring decisions made under the condition of risk.
3. Linear and Mathematical Programming Models: it is wieldy used in product mix decisions,
facility location decisions, production scheduling, labor allocation, and several other areas.
Leather factory, produce jackets.
4. Queuing Theory Model: it has factors as 1) time, 2) que length, 3) utilization rates.
In 80’s when you go to a bank, Token Machines in Banks, NADRA, Passport offices, and all
Embassies,
5. Simulation Models; Computer simulation of real world system are valuable for analyzing
complex service systems, maintenance policies, and investment options, air forces use for
training purposes to pilots.
6. Inventory Models; These are used to help manage a firm inventory asset by recommending the
best quantity, timing of ordering (lead Time),
Bananas, apples, tomatoes, potatoes, Ginger,
7. Network Model: it includes Program evaluation and review technique (PERT) and critical path
method (CPM).
Decision Theory: it is an analytical approach to selecting the best alternative or course of action. It is
used in a wide variety of P/OM decisions. There are THREE types:

1. Decision making under certainty: The decision makers knows with certainty the consequences
or outcome of any alternative or decision choice. Example. You deposit Rs. 1000 in a bank, you
know with certainty that balance is increased by Rs. 1000
2. Decision making under risk: The decision maker knows the probability of occurrence of the
outcome, investing in the real estate, you may get good return by investing in Bahria Town
Mumtaz City, Top City, Faisal Town.
3. Decision making under uncertainty; The decision maker does not the probability of occurrence
of the outcome. Example: who will be the next PM 25 years,

2. Decision making under risk

Fundamentals of decision theory: Regardless the complexity of the decision or the sophistication of the
techniques used to analyze the decision, all decision makers are faced with alternatives and states of
nature.

1. Terms:
a) Alternative: it is course of action or a strategy that may be chosen by a decision maker,
examples. Where to invest, such as Bahria Town, B17, Mumtaz City, Top City,
b) State of nature: It is an occurrence or a situation on which the decision maker has little or no
control. Example, can you control the prices of real estate’s such as Bahria Town, B17,
Mumtaz City, Top City,
Land has price of Rs. 10 million. What if you construct a boundary wall, put a gate?
2. Symbols used in decision theory;
a) It is a decision node form which one of several alternatives may be selected.
b) It is state of nature node out of which one state of nature will occur.

Numerical; storage sheds, a large or small manufacturing plant. Favorable or unfavorable. New product
line at all. Construct a decision tree.

Favorable market

Unfavorable market
Construct
1
large plant

Construct
small plant Favorable market

Do nothing
2
unfavorable market

Decision tables: For any alternative and state of nature, there is a consequence or outcome, which is
normally expresses as monetary values. Storage Sheds
$200,000 net profit

$180,000 net loss

$100,000 net profit

$20,000 net loss construct a decision table:

States of nature

Alternatives Favorable market Unfavorable market

Construct large plant $200,000 $(180,000)
Construct small plant $100,000 $(20,000)
Do nothing $0 $0

3. Decision making under uncertainty:

When there is complete uncertainty, to which state of nature in a decision table may occur. We
turn into THREE criteria:
1. Maximax: This criterion finds an alternative that maximizes the maximum outcome or
consequence for every alternative. First we find the maximum outcome within every
alternative, and then we pick the alternative with the maximum number. It is called the
“highest possible gain”, “optimistic decision criterion”
2. Maximin: least possible loss, “pessimistic decision criterion.
3. Equally likely: This decision criterion finds the alternatives with the highest average
outcome of each row.

QUIZ 6 minutes 5 marks.

States of natures

Alternatives Favorable Unfavorable Maximum in a Minimum in a Row average

market market row row
Construct $200,000 -$180,000 $200,000 -$180,000 $10,000
large plant

Construct a $100,000 -$20,000 $100,000 -$20,000 $40,000

small plant

Do nothing $0 $0 $0 $0 $0
Maximax Maximin Equally likely

1. Maximax is to construct a large plant $200,000

2. maximin is to do nothing $0
3. equally likely is to construct a small plant. $40,000
the manager should select the alternative with the highest equally likely value $40,000
2. Decision making under risk: it is more common occurrence, is probabilistic decision situation. Several
possible states of nature may occur, each with a given probability.

Expected Monetary Value (EMV) QUIZ 2 Calculate EMV1, EMV2 and EMV3 = $0

EMV (Alternative i) = (payoff of first state of nature)*(probability of first state of nature) + ------------
(payoff of last state of nature)*(probability of last state of nature)

We calculate EMV(A1), EMV(A2), EMV(A3)

EMV(A1) = ($200,000)*(0.5) +(-180,000)(0.5) = $10,000

EMV(A2), = $40,000, EMV(A3), = (0)(0.5) + (0)(0.50)= $0

Manager should select the alternative with the highest EMV . that is to construct a small plant.

Example ; if you need to invest in real estate, Bahria Town, B17, Top City, Mumtaz City.

Investment is Rs, 10 million. Rs. 0.5 million. An opinion given by an expert or market specialist.

( Malik Riaz) information is worth Rs. 0.3 Million.

Storage sheds. This marketing researcher would charge $65,000

What would you do?

Is the information worth $65,000?

Expected value of perfect information: once the manager knows with certainty which decision to make,
the payoffs increases because the payoff is now a certain.

EVPI = Expected value under certainty - Maximum EMV

Expected value under certainty = (Best outcome or consequence for first state of nature)*(probability
of first state of nature) + ---------------- + (Best outcome or consequence for last state of
nature)*(probability of last of nature)

States of nature

Alternatives Favorable market Unfavorable market

Construct large plant $200,000 -$180,000
Construct small plant $100,000 -$20,000
Do nothing $0 $0

1. The best outcome for the first state of nature $200,000 for favorable market. + the best
outcome of second state of nature $0.
(200,000)(0.5) + (0)(0.5) = $100,000
2. Highest EMV = $40,000
EVPI = $100,000 - $40,000 = $60,000

The perfect information is worth $60,000.

Decision Trees it involves 5 steps;

1. Define the problem

2. Draw the decision tree
3. Assign probabilities to the states of nature
4. Estimates payoffs for each possible combination of alternatives and states of nature.
5. Solve the problem by computing EMV for each state of nature

Favorable market

1 Unfavorable marker
Large plant
Favorable market
Small plant

2 Unfavorable market

Do nothing