M670_3(Decision Analysis)

M670_3(Decision Analysis) - Decision Analysis k MGMT 670...

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1 Decision Analysis k MGMT 670: Business Analytics Krannert School of Management Purdue University
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2 Introduction to Decision Analysis § Models help managers gain insight and understanding. § Decision making often remains a difficult task due to: uncertainty regarding the future and conflicting values or objectives.
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3 Example: Magnolia Inns § Hartsfield International Airport (HJAIA) in Atlanta, Georgia, is one of the busiest airports in the world . § HJAIA has expanded numerous times to accommodate increasing air traffic. Commercial development around the airport prevents it from building additional runways to handle the future air traffic demands. § Plans are being developed to build another airport outside the city limits. Two possible locations for the new airport have been identified, but a final decision is not expected to be made for another year.
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4 Example: Magnolia Inns (continued) § The Magnolia Inns hotel chain intends to build a new facility near the new airport once its site is determined. § Land values around the two possible sites for the new airport are increasing as investors speculate that property values will increase greatly in the vicinity of the new airport.
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5 Purchase Prices and Present Values of Future Cash Flows Parcel of Land Near Location A B Current purchase price $18 $12 Present value of future cash flows if hotel and airport are built at this location $31 $23 Present value of future sales price of parcel if the airport is not built at this location $6 $4 (Note: All values are in millions of dollars.) Magnolia Inns Real Estate Acquisition Analysis
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6 Alternatives & Possible States § Decision Alternatives 1. Buy the parcel of land at location A. 2. Buy the parcel of land at location B. 3. Buy both parcels. 4. Buy nothing. § Possible States of Nature 1. The new airport is built at location A. 2. The new airport is built at location B.
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7 Constructing a Payoff Matrix Land purchase at  location(s) Airport is Built at Location A B A B A and B None ($12) ($8) $11 $5 $0 $0 A B Purchase price ($18) ($12) Revenue if built $31 $23 Sale price if not built $ 6 $ 4
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8 Decision Rules § If the future state of nature (airport location) were known, it would be easy to make a decision. § Failing this, a variety of non-probabilistic decision rules: Optimistic approach (maximax) Conservative approach (maximin) …. § No decision rule is always best and each has its own weaknesses.
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9 Non-probability Decision Rules 1. Maximax: Select the alternative that gives the maximal payoff. Land Purchased  at location(s) Airport is Built at Location A B A 13 -12 B - 8   11 A and B   5 - 1 None  0   0
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10 Non-probability Decision Rules 2. Maximin: Select the alternative that gives the best out of the worst possible payoff.
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