Keele University

Keele University International College

Welcome!
Lecture Week 2: Statistics
Why Study Probability?
 Management decisions often need to be made in the face of uncertainty

 For example:
 Will a contract be won and be financially beneficial?

 Will a project be completed on time?

 How many items will fail quality control requirements?

 What proportion of customers will claim under guarantee?

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How do we assess probability?
 We should not rely upon subjective assessments of risk or chance

 There is a need to quantify uncertainty

 We can then make informed judgements, enabling us to provide answers to

questions such as those on the previous slide

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Reminder
 Probability is measured on a scale from 0 to 1

0 1
Impossible/ Certain/

has never happened always happens

 We can use fractions, decimals or percentages

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 e.g. , 0.75 𝑜𝑟 75%
4

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Data Types - Level of Measurement
There 3 three approaches to assessing the probability of an uncertain event:

Probability
Estimation

A Priori or Empirical or
Subjective
Classical relative frequency
Probability
Probability Probability

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A priori or classical probability
 Rarely used in business

 Here we find a theoretical probability assuming all outcomes are equally

likely

𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑎𝑦𝑠 𝑎𝑛 𝑒𝑣𝑒𝑛𝑡 𝑐𝑎𝑛 𝑜𝑐𝑐𝑢𝑟

𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝑜𝑐𝑐𝑢𝑟𝑟𝑒𝑛𝑐𝑒 =
𝑡𝑜𝑡𝑎𝑙 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑜𝑢𝑡𝑐𝑜𝑚𝑒𝑠

7
Empirical or relative frequency probability
 Here we look at the results from trials or samples

𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑓𝑎𝑣𝑜𝑢𝑟𝑎𝑏𝑙𝑒 𝑜𝑢𝑡𝑐𝑜𝑚𝑒𝑠 𝑜𝑏𝑠𝑒𝑟𝑣𝑒𝑑

𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝑂𝑐𝑐𝑢𝑟𝑟𝑒𝑛𝑐𝑒 =
𝑇𝑜𝑡𝑎𝑙 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑜𝑢𝑡𝑐𝑜𝑚𝑒𝑠 𝑜𝑏𝑠𝑒𝑟𝑣𝑒𝑑

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Subjective Probability
 An individual judgement or opinion about the probability of occurrence
usually base on expert experience

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Content of Lecture
1. Simple Probability

2. Conditional Probability

3. Complementary Events and Venn Diagrams

4. Sequential Probability

5. Tree Diagrams

6. Expected (Monetary) Value

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1 – Simple Probability

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Simple Probability (‘either – or ‘)
 The formula for simple probability is:

𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑓𝑎𝑣𝑜𝑢𝑟𝑎𝑏𝑙𝑒 𝑜𝑢𝑡𝑐𝑜𝑚𝑒𝑠

𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 =
𝑇𝑜𝑡𝑎𝑙 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑜𝑢𝑡𝑐𝑜𝑚𝑒𝑠

 Assuming each of the outcomes is equally likely

 The set of all outcomes is called the sample space

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Example 1
Of the first 20 visitors to a Sports Centre last Saturday,
7 went swimming, 4 played badminton and 9 used the gym.

One of these 20 visitors is chosen, at random, to win a voucher for sports

gear.

What is the probability that the winner went swimming?

Solution

P(winner went swimming) = number who went swimming

total number

P is 7
‘probability’ =
20

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Example 2
 The 111 employees of an Accountancy firm are classified by their work
base (Office A, B or C) and by their professional qualifications

 What is the probability that a randomly chosen employee:

a) works at Office A or Office B?

b) works at Office A or is professionally qualified, or both?

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Example 2
 Recape

 Solution

 (a) works at Office A or Office B?

37+38 75
𝑃 𝐴 𝑜𝑟 𝐵 = =
111 111

 (b) works at Office A or is professionally qualified, or both?

37 + 79 −26 90
𝑃 𝐴 𝑜𝑟 𝑄𝑢𝑎𝑙 = =
111 111

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Addition Rule
 In Slides 13 and 14 we are using the addition rule
𝑃 𝐴 ∪ 𝐵 = 𝑃 𝐴 + 𝑃 𝐵 − 𝑃(𝐴 ∩ 𝐵)

The probability of The probability of

A or B or both A and B

 In set notation: ∪ 𝑖𝑠 𝑢𝑛𝑖𝑜𝑛

∩ 𝑖𝑠 𝑖𝑛𝑡𝑒𝑟𝑠𝑒𝑐𝑡𝑖𝑜𝑛

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The general addition rule is
 The general addition rule is

P(A or B) = P(A) + P(B) - P(A and B)

 However, if events A and B are mutually exclusive that is, they cannot occur
simultaneously, then there is no overlap

 Example: A playing car picked from a pack cannot be both king and an ace

King Ace

 In this case, 𝑃 𝐴 𝑎𝑛𝑑 𝐵 = 0, so the rule can be simplified

𝑃 𝐴 𝑜𝑟 𝐵 = 𝑃 𝐴 + 𝑃 𝐵

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Example 3 (a)
Suppose you randomly select a card from a pack of playing cards.
What is the probability of drawing either a King or an Ace?

Solution
Picking a King and picking an Ace are mutually exclusive that is, a card
cannot be both a King and an Ace.

P(A or B) = P(A) + P(B)

For mutually exclusive events A and B
4 4
𝑃 𝐾𝑖𝑛𝑔 = 𝑃 𝐴𝑐𝑒 =
52 52
4 4 8
𝑃 𝐾𝑖𝑛𝑔 𝑜𝑟 𝐴𝑐𝑒 = + = = 0.154
52 52 52

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Example 3 (b)
Suppose you randomly select a card from a pack of playing cards.
What is the probability of drawing either a Heart or Jack?

Solution
Picking a Heart and picking a Jack are not mutually exclusive

 We use the general addition rule

P(A or B) = P(A) + P(B) – P(A and B)
13 4 1
𝑃 𝐻𝑒𝑎𝑟𝑡 = , 𝑃 𝐽𝑎𝑐𝑘 = , 𝑃 𝐻𝑒𝑎𝑟𝑡 𝒂𝒏𝒅 𝐽𝑎𝑐𝑘 =
52 52 52
13 4 1 16
𝑃 𝐻𝑒𝑎𝑟𝑡 𝒐𝒓 𝐽𝑎𝑐𝑘 = + − = = 0.308
52 52 52 52

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Exercise 1
The data relates to a check on the quality of all the items produced by three
shifts at a factory during a certain day.
Shift X Shift Y Shift Z Total
Grade I 65 72 71 208
Grade II 56 72 33 161
Faulty 9 16 6 31
Total 130 160 110 400

An item is selected at random. What is the probability that:

a) It is Grade I?
b) It was produced by Shift X?
c) It was produced by Shift Y or Shift Z?
d) It was produced by Shift Y or is Grade II?
e) It is faulty and was produced by Shift Z?

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Exercise 1
The data relates to a check on the quality of all the items produced by three shifts at a factory
during a certain day.

Shift X Shift Y Shift Z Total

Grade I 65 72 71 208
Grade II 56 72 33 161
Faulty 9 16 6 31
Total 130 160 110 400
An item is selected at random. What is the probability that:
a) It is Grade I?
b) It was produced by Shift X?
c) It was produced by Shift Y or Shift Z?
d) It was produced by Shift Y or is Grade II?
e) It is faulty and was produced by Shift Z?

208 130 270 249 6

Answers: 𝑎 𝑏 𝑐 𝑑 𝑒
400 400 400 400 400

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2 - Conditional Probability

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Conditional Probability
 Sometimes we are given some information about the chosen item

 Then we are working in a reduced sample space / total

 We can often identify conditional probability by ‘given’ or ‘if’

Key words

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Example 4
Return to the Accountancy personnel:
Office A Office B Office C Total
Qualified 26 29 24 79
Not qualified 11 9 12 32
Total 37 38 36 111

 What is the probability that the employee, chosen at random, works in

Office A given that they are qualified?

Solution

 The choice is now reduced to one of the 79 qualified employees

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 𝑃 𝑂𝑓𝑓𝑖𝑐𝑒 𝐴 𝑄𝑢𝑎𝑙𝑖𝑓𝑖𝑒𝑑 ) =
79

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Exercise 2
Return to the Accountancy personnel:
Office A Office B Office C Total
Qualified 26 29 24 79
Not qualified 11 9 12 32
Total 37 38 36 111

 What is the probability that the employee, chosen at random, is

(b) From Office B given that they are qualified

(c) Not qualified if it is known that they are from office C

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Exercise 2
Return to the Accountancy personnel:
Office A Office B Office C Total
Qualified 26 29 24 79
Not qualified 11 9 12 32
Total 37 38 36 111

 What is the probability that the employee, chosen at random, is

(b) From Office B given that they are qualified

(c) Not qualified if it is known that they are from office C

29 12 1
 Answers: 𝑎 𝑏 𝑜𝑟
79 36 3

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3 – Complementary Events and
Venn Diagrams

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Complementary Events and Venn Diagrams
 Look at this Venn diagram for a single event A

not A

𝑃 𝐴 + 𝑃 𝑛𝑜𝑡 𝐴 = 1
𝑜𝑟 𝑃 𝑛𝑜𝑡 𝐴 = 1 − 𝑃(𝐴)

‘A’ and ‘not A’ are complementary events

They can’t both happen but one of them must

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Example 5
A small company has 50 employees. 37 are aged under 40 years.
An employee is chosen at random. Find the probability that the
employee is aged
(a) Under 40 years (b) 40 years or more

Solution
𝑛𝑢𝑚𝑏𝑒𝑟 𝑢𝑛𝑑𝑒𝑟 40 37
(a) 𝑃 𝑈𝑛𝑑𝑒𝑟 40 = = = 0.74
𝑡𝑜𝑡𝑎𝑙 𝑛𝑢𝑚𝑏𝑒𝑟 50

(b) 𝑃 40 𝑜𝑟 𝑚𝑜𝑟𝑒 = 1 − 𝑃 𝑈𝑛𝑑𝑒𝑟 40

= 1 − 0.74 = 0.26 ‘under 40’ and ’40 or more’
are complementary events

from (a)
[Alternatively we can say 50 − 37 =13 etc.]

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Example 6
In a company 60% of the employees pay into the company pension fund (event A).
35% pay into a private fund (event B). 15% pay into neither. What is the
probability that an employee chosen at random pays into
(a) one or more pension funds? (b) both pension funds?

Solution
(a) 𝑃(𝑜𝑛𝑒 𝑜𝑟 𝑚𝑜𝑟𝑒) = 1 − 𝑃(𝑛𝑒𝑖𝑡ℎ𝑒𝑟) ‘one or more’ and neither’
= 100% − 15% = 85% are complementary events

(b) Using the addition rule (from slide 16)

𝑃(𝐴 𝑈 𝐵) = 𝑃(𝐴) + 𝑃(𝐵) − 𝑃(𝐴 ∩ 𝐵)

𝑃(𝑜𝑛𝑒 𝑜𝑟 𝑚𝑜𝑟𝑒) = 𝑃(𝐶𝑜𝑚𝑝𝑎𝑛𝑦) + 𝑃(𝑃𝑟𝑖𝑣𝑎𝑡𝑒) − 𝑃(𝑏𝑜𝑡ℎ)

85% = 60% + 35% − 𝑃(𝑏𝑜𝑡ℎ)
from (a)

so P(Employee pays into both pension funds) = 10%

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Venn Diagrams
 Venn diagrams are a graphical way of dealing with problems where events
are Not Mutually Exclusive (i.e. they overlap)

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Venn Diagram showing events A and B

A only
B only

A and B
neither A nor B

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Alternative Approach to Example 6

Company(0.6) Private(0.35) The whole

oval is 0.35.
The whole The other
oval is 0.6. part is x so...
0.6 − x x 0.35 − x
The other
part is x so...

0.15 Neither

The Probabilities add up to 1 Key idea

0.6 − x + x + 0.35 − x + 0.15 = 1

1.1 − x = 1
x = 0.1
The probability that an employee pays into both pensions is 0.1

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Check: 𝑥 = 0.1 , So …

Company(0.6) Private(0.35)

0.6 − x 0.35 − x
x = 0.1
= 0.5 = 0.25

0.15

0.5 + 0.1 + 0.25 + 0.15 = 1 (as expected)

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Example 7
The probability that a lawyer drinks wine (W) is 0.7.
The probability that he drinks beer (B) is 0.5.
The probability that he drinks neither wine nor beer is 0.1.
What is the probability that a lawyer, selected at random, drinks
both wine and beer?
Solution:

W(0.7) B(0.5)
AA
x

0.1

to be
found (continued...)

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Example 7
Solution (continued...)

W(0.7)
B(0.5)

The whole
oval is 0.7. The whole
0.7 − x x 0.5 − x oval is 0.5.
The other
part is x so... The other
part is x so...

The probabilities add up to 1

0.7 − 𝑥 + 𝑥 + 0.5 − 𝑥 + 0.1 = 1
1.3 − 𝑥 = 1
𝑥 = 0.3
The probability that a lawyer drinks both wine and beer is 0.3

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Check: 𝑥 = 0.3 , So …

W(0.7) B(0.5)

0.7 − x 0.5 − x
x = 0.3
= 0.4 = 0.2

0.1

0.4 + 0.3 + 0.2 + 0.1 = 1 (as expected)

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Exercise 3
 At a university, 80% of students own a bicycle, 9% own a car and 4% own
both a bicycle and a car.

 What is the probability that a student, chosen at random, owns neither a

bicycle nor a car?

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Exercise 3
 At a university, 80% of students own a bicycle, 9% own a car and 4% own
both a bicycle and a car.

 What is the probability that a student, chosen at random, owns neither a

bicycle nor a car?

 Answer

= 100 % – 80% + 9% − 4% = 100% − 85 %

= 15% 𝑜𝑟 0.15

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Exercise 4
 In a survey about eating habits one question asks about whether you eat fish
and/or meat

 21% eat fish only, 15% eat meat only and 12% eat neither.

 What percentage eat both fish and meat?

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Exercise 4
 In a survey about eating habits one question asks about whether you eat fish
and/or meat

 21% eat fish only, 15% eat meat only and 12% eat neither.

 What percentage eat both fish and meat?

 Answer:
= 100% − 21% + 15% + 12% = 100% − 48%
= 52% 𝑜𝑟 0.52

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4 – Sequential Probability
(‘First – then’)

42
Sequential Probability (‘First – Then’)
This is where one event follows another. (i.e. in sequence)

Either

The events are independent when the probabilities in the second are not
influenced by what happened in the first event

Or

The events are dependent when the probabilities in the second event depend on
what happened in the first event. Tree diagrams are often used with dependent
probabilities

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Multiplication Rule
 Suppose that events A and B are independent.

 The probability of both occurring is given by

𝑃(𝐴 𝑎𝑛𝑑 𝐵) = 𝑃(𝐴) × 𝑃(𝐵)

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Example 8
In a promotion 30% of customers who send for a free copy of a magazine then buy
a subscription. From a large sample, two customers are chosen at random.

The possible outcomes are

buy, buy (BB)

buy, not (BN)

not, buy (NB)

not, not (NN)

Calculate the probability that

(a) both customers buy a subscription
(b) neither customer buys a subscription
(c) exactly one customer buys a subscription.

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Example 8 - Solution
Calculate the probability that
(a) both customers buy a subscription
(b) neither customer buys a subscription
(c) exactly one customer buys a subscription
From
Outcomes: BB BN NB NN. 𝑃(𝐵) = 0.3, so 𝑃(𝑁) = 0.7 1 − 0.3

(a) 𝑃(𝐵𝐵) = 0.3 × 0.3 = 0.09

Using the multiplication rule
(b) 𝑃(𝑁𝑁) = 0.7 × 0.7 = 0.49

(c) ‘Exactly one’ could be BN or NB Key idea

so 𝑃 𝑒𝑥𝑎𝑐𝑡𝑙𝑦 𝑜𝑛𝑒 𝑏𝑢𝑦𝑠 = 𝑃 𝐵𝑁 + 𝑃 𝑁𝐵
= (0.3 × 0.7) + (0.7 × 0.3) = 0.42

CHECK: Does the total of the 3 outcomes total 1?

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Exercise 5
The probability that a person will make an insurance claim next year is 0.2.
Two people are chosen at random.

Work out the probability that

(a) neither will make a claim next year
(b) at most one will make a claim next year Hint: ‘at most one’ means 0 or 1

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Exercise 5
The probability that a person will make an insurance claim next year is 0.2.
Two people are chosen at random.

Work out the probability that

(a) neither will make a claim next year
(b) at most one will make a claim next year Hint: ‘at most one’ means 0 or 1

Answer:
(a) = 𝑁𝑁 = (1 − 0.2) 𝑥 (1 − 0.2) = 0.8 𝑥 0.8 = 0.64 𝑜𝑟 64%
(b) = 1 – 𝐶𝐶 = 1 – (0.2 𝑥 0.2) = 1 – 0.04 = 0.96 𝑜𝑟 96%

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5 – Tree Diagrams

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Tree Diagrams
We can use tree diagrams to help us solve problems involving sequential
probability. You could use them in the example about buying a subscription
(or you may prefer the approach given).
First Second
customer customer Summary

buy 0.3 P(BB) = 0.3×0.3 = 0.09

buy 0.3
not 0.7 P(BN) = 0.3×0.7 = 0.21

buy 0.3 P(NB) = 0.7×0.3 = 0.21

not 0.7
not 0.7 P(NN) = 0.7×0.7 = 0.49

CHECK: Does the total of the 3 outcomes total 1?

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Dependent Events
 When what happens in the second event is influenced by what happened in
the first event then the events are dependent.

 In the case of dependent events the use of tree diagrams is strongly

recommended.

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Example 9
An electrical store has 11 fax machines in stock. Unknown to the manager 3
of these are faulty.

A customer buys two fax machines.

What is the probability that exactly one is faulty?

Solution

The first machine is chosen out of 11 (8 good, 3 faulty).

The stock is now reduced to 10.
The second machine is chosen out of 10.
The second outcome will depend on the first.
(continued ...)

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Example 9
Solution (Continued)

24 24 48
 𝑃 𝑒𝑥𝑎𝑐𝑡𝑙𝑦 𝑜𝑛𝑒 𝑓𝑎𝑢𝑙𝑡𝑦 = 𝑃 𝐺𝐹 + 𝑃 𝐹𝐺 = + =
110 110 110

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Example (Involving Conditional Probability)
A firm makes 55% of items on production line A and 45% on line B.
In general, 3% of the items off line A are defective, and 5% of the items off
line B are defective.

If an item is subsequently returned as faulty, what is the probability that it was

made on line A?

Solution

We draw a tree diagram to show first the production line (A or B) and then the
quality (good(G) or defective(D)).

We then use conditional probability as we know the item is faulty.

54
Example (Involving Conditional Probability)
Solution

𝐹𝑎𝑣𝑜𝑢𝑟𝑎𝑏𝑙𝑒 𝑃(𝐴𝐹)
 𝑃 𝐴 𝐹𝑎𝑢𝑙𝑡𝑦) = =
𝑅𝑒𝑑𝑢𝑐𝑒𝑑 𝑇𝑜𝑡𝑎𝑙 𝑃 𝐴𝐹 +𝑃(𝐵𝐹)
0.0165
 = = 0.423 (3𝑑𝑝)
0.0165+0.0225

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6 – Expected Monetary Value

56
Expected Monetary Value
• Many business situations require a choice between numerous courses of
action with uncertain outcomes.

• The decision-maker’s experience and judgement are important BUT…

• There are objective approaches which are particularly useful for financial
decision-making.

• In short, choose the option that gives the highest expected financial return.

• This is called the expected value criterion.

57
Expected Monetary Value (Continued)
• The expected value approach is merely an aid to decision-making.

• One limitation is that the outcomes (the profits and losses) and the
probabilities have to be estimated.

• Another limitation is that the expected value represents the average return
in the long term, whereas the companies or individuals concerned may be
faced with a one-off decision.

• Also, the decision-maker’s attitude to risk is ignored.

• It is therefore unlikely that an objective approach could ever completely

replace a human decision-maker.

58
Expected Monetary Value (Continued)
• The expected value approach is merely an aid to decision-making.

• One limitation is that the outcomes (the profits and losses) and the
probabilities have to be estimated.

• Another limitation is that the expected value represents the average return
in the long term, whereas the companies or individuals concerned may be
faced with a one-off decision.

• Also, the decision-maker’s attitude to risk is ignored.

• It is therefore unlikely that an objective approach could ever completely

replace a human decision-maker.

59
Example 10
We are offered a contract which we estimate has a 70% chance of
making a profit of £10 000 but otherwise makes a loss of £15 000.

Calculate the expected monetary value of the contract.

Solution from
1 − 0.7

𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑣𝑎𝑙𝑢𝑒 = Σ (𝑝𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 × 𝑣𝑎𝑙𝑢𝑒)

= (0.7 × 10 000) + (0.3 × −15 000)
= 7000 − 4500
= 2500
loss
so −

60
Exercise 6
The success of a proposed concert depends on the level of demand and would
be expected to generate the following profits

Level of demand Profit/Loss Probability

Sell out £80 000 0.2
Lot of interest £40 000 0.5
Little interest (£50 000) 0.3

Calculate the expected value of the proposal

61
Exercise 6
The success of a proposed concert depends on the level of demand and would
be expected to generate the following profits

Level of demand Profit/Loss Probability

Sell out £80 000 0.2
Lot of interest £40 000 0.5
Little interest (£50 000) 0.3

Calculate the expected value of the proposal

Answer:
= (80000 𝑥 0.2) + (40000 𝑥 0.5) + (−50000 𝑥 0.3)
= 16000 + 20000 – 15000
= £21 000 𝑝𝑟𝑜𝑓𝑖𝑡

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Exercise 7
The possible profits and losses of 3 options A,B and C are:
A: a profit of £2000 with probability 0.6, or else a loss of £500.
B: a profit of £800 with probability 0.3, or else a profit of £500.
C: a profit of £1000 with probability 0.8, of £500 with probability 0.1, or else a
loss of £400.

Work out which of these 3 options is likely to be the most profitable.

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Exercise 7
The possible profits and losses of 3 options A,B and C are:
A: a profit of £2000 with probability 0.6, or else a loss of £500.
B: a profit of £800 with probability 0.3, or else a profit of £500.
C: a profit of £1000 with probability 0.8, of £500 with probability 0.1, or else a
loss of £400.

Work out which of these 3 options is likely to be the most profitable.

Answer
𝐴 = (2000 𝑥 0.6) + (−500 𝑥 0.4) = 1200 – 200 = 1000
𝐵 = (800 𝑥 0.3) + (500 𝑥 0.7) = 240 + 350 = 590
𝐶 = 1000 𝑥 0.8 + 500 𝑥 0.1 + −400 𝑥 0.1
= 800 + 50 – 40 = 810
Option A is most profitable

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Summary
We have studied - simple probability
- conditional probability
- complementary events and Venn diagrams
- sequential probability
- tree diagrams and
- expected monetary values

Seminar

You can start work on Seminar 3

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 Global Sustainability
Institution of the Year
International Green Gown Awards 2021

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