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331-15 Carmen

# 331-15 Carmen - Chapter 8 Decision Analysis Example...

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Chapter 8: Decision Analysis

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Example: Thompson Lumber Co. 1. Decision : Whether or not to make and sell storage sheds 2. Alternatives : Build a large plant to make the sheds Build a small plant to make the sheds Do not build a plant 3. Outcomes: Demand for sheds will be high, moderate, or low
5. We need a decision analysis model to recommend a good solution Alternatives Outcomes (Demand) High Moderate Low Large plant \$200,000 \$100,000 -\$120,000 Small plant \$90,000 \$50,000 -\$20,000 No plant \$0 \$0 \$0 4. Payoffs

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Five Steps in Decision Analysis 1. Clearly define the problem 2. List all possible alternatives 3. Identify all possible outcomes for each alternative 4. Identify the payoff for each alternative & outcome combination 5. Use a decision analysis model to recommend a decision
Types of Decision Modeling Environments Type 1: Decision making under certainty Type 2: Decision making under uncertainty Type 3: Decision making under risk Decision Event Outcome Decision Event Outcome Decision Outcome

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Decision Making Under Uncertainty Probabilities of the possible outcomes are not known Decision analysis methods: 1. Maximax 2. Maximin 3. Criterion of realism 4. Equally likely 5. Minimax regret
Maximax Criterion An optimistic approach Assume the best payoff will occur for each alternative Alternatives Outcomes (Demand) High Moderate Low Large plant \$200,000 \$100,000 -\$120,000 Small plant \$90,000 \$50,000 -\$20,000 No plant \$0 \$0 \$0 Choose the large plant (best payoff)

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331-15 Carmen - Chapter 8 Decision Analysis Example...

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