Decision Making
Solved Problem A.1
Stella Yan Hua is considering the possibility of opening a small dress shop on Fairbanks Avenue, a few blocks from the university. She has located a good mall that attracts students. Her options are to open a small shop, a medium-sized shop, or no shop at all. The market for a dress shop can be good, average, or bad. The probabilities for these three possibilities are .2 for a good market, .5 for an average market, and .3 for a bad market. The net profit or loss for the medium-sized or small shops for the various market conditions are given in the fol- lowing table. Building no shop at all yields no loss and no gain. What do you recomme
GOOD AVERAGE BAD MARKET MARKET MARKET
ALTERNATIVES ($) ($) ($)
Small shop 75,000 25,000 -40,000
Medium-sized
Shop 100,000 35,000 -60,000
No shop 0 0 0
Probabilities .20 .50 .30
Solution
The problem can be solved by computing the expected monetary value (EMV) for each alternative.
EMV (Small shop) = (.2)($75,000) + (.5)($25,000) + (.3)(
$40,000) = $15,500
EMV (Medium-sized shop) = (.2)($100,000) + (.5)($35,000) + (.3)(
$60,000) = $19,500
EMV (No shop) = (.2)($0) + (.5)($0) + (.3)($0) = $0
As you can see, the best decision is to build the medium-sized shop. The EMV for this alternative is $19,500.
Tom Tucker’s Liver Transplant
Tom Tucker, a robust 50-year-old executive living in the northern suburbs of St. Paul, has been diagnosed by a University of Minnesota
Stella Yan Hua is considering the possibility of opening a small dress shop on Fairbanks Avenue, a few blocks from the university. She has located a good mall that attracts students. Her options are to open a small shop, a medium-sized shop, or no shop at all. The market for a dress shop can be good, average, or bad. The probabilities for these three possibilities are .2 for a good market, .5 for an average market, and .3 for a bad market. The net profit or loss for the medium-sized or small shops for the various market conditions are given in the fol- lowing table. Building no shop at all yields no loss and no gain. What do you recomme
GOOD AVERAGE BAD MARKET MARKET MARKET
ALTERNATIVES ($) ($) ($)
Small shop 75,000 25,000 -40,000
Medium-sized
Shop 100,000 35,000 -60,000
No shop 0 0 0
Probabilities .20 .50 .30
Solution
The problem can be solved by computing the expected monetary value (EMV) for each alternative.
EMV (Small shop) = (.2)($75,000) + (.5)($25,000) + (.3)(
$40,000) = $15,500
EMV (Medium-sized shop) = (.2)($100,000) + (.5)($35,000) + (.3)(
$60,000) = $19,500
EMV (No shop) = (.2)($0) + (.5)($0) + (.3)($0) = $0
As you can see, the best decision is to build the medium-sized shop. The EMV for this alternative is $19,500.
Tom Tucker’s Liver Transplant
Tom Tucker, a robust 50-year-old executive living in the northern suburbs of St. Paul, has been diagnosed by a University of Minnesota