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Exercises 239
(a) The company’s marketing manager estimates that there is a
60% chance that demand will rise faster than the current rate,
a 30% chance that it will continue to rise at the current rate
and a 10% chance that it will increase at a slower rate or fall.
Assuming that the company’s objective is to maximize expected
net present value, determine
(i) The course of action which it should take;
(ii) The expected value of perfect information.
(b) Before the decision is made, the results of a long-term forecast
become available. These suggest that demand will continue to
rise at the present rate. Estimates of the reliability of this forecast
are given below:
p(forecast predicts demand increasing at current rate when
actual demand will rise at a faster rate) = 0.3
p(forecast predicts demand increasing at current rate when
actual demand will continue to rise at the current rate) = 0.7
p(forecast predicts demand increasing at current rate when
actual demand will rise at a slower rate or fall) = 0.4
Determine whether the company should, in the light of the
forecast, change from the decision you advised in (a).
(c) Discuss the limitations of the analysis you have applied above
and suggest ways in which these limitations could be overcome.
(6) The managers of a soft drinks company are planning their production
strategy for next summer. The demand for their products is
closely linked to the weather, and an analysis of weather records
suggests the following probability distribution for the June to
August period:
Weather conditions Probability
Hot and dry 0.3
Mixed 0.5
Cold and wet 0.2
The table below shows the estimated profits ($000s) which will
accrue for the different production strategies and weather conditions:
1.0