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ManEconCh13 - MANAGERIAL ECONOMICS THEORY APPLICATIONS AND...

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MANAGERIAL ECONOMICS: THEORY, APPLICATIONS, AND CASES W. Bruce Allen | Keith Weigelt | Neil Doherty | Edwin Mansfield CHAPTER  13 Risk Analysis
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OBJECTIVES Explain how managers should make  strategic decisions when faced with  incomplete or imperfect information
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MANAGEMENT TOOLS Expected value Decision trees Techniques to reduce uncertainty Expected utility
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RISK AND PROBABILITY Risk: Hazard or chance of loss Probability: The likelihood or chance that  something will happen
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RISK AND PROBABILITY Frequency definition of probability: An event's limit  of frequency in a large number of trials Probability of event A = P(A) = r/R R = Large number of trials r = Number of times event A occurs
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PROBABILITY DISTRIBUTIONS  AND EXPECTED VALUES Subjective definition of probability: The degree of a  manager's confidence or belief that the event will  occur Rules of probability Probabilities may not be less than zero nor greater  than one. Given a list of mutually exclusive, collectively  exhaustive list of the events that can occur in a given  situation, the sum of the probabilities of the events  must be equal to one.
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PROBABILITY DISTRIBUTIONS  AND EXPECTED VALUES Subjective definition of probability (Continued) Probability distribution: A table that lists all possible  outcomes and assigns the probability of occurrence to  each outcome   2200 π i  = Profit associated with the outcome i P i  = Probability of outcome i
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COMPARISONS OF EXPECTED  PROFIT Example: Jones Corporation is considering  a decision involving pricing and advertising.  The expected value if they raise price is The payoff from not increasing price is  $200,000, so that is the optimal strategy.
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