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PROBLEM 1. A new product has the following profit projections and associated probabilities: Profit Probability \$150,000 .10 \$100,000 .25 \$ 50,000 .20...

PROBLEM 1. A new product has the following profit projections and associated probabilities:

Profit Probability
\$150,000 .10
\$100,000 .25
\$ 50,000 .20
0 .15
-\$50,000 .20
-\$100,000 .10

a. Use the expected value approach to decide whether to market the new product.
b. Because of the high dollar values involved, especially the possibility of a \$100,000 loss, the marketing vice president has expressed some concern about the use of the expected value approach. As a consequence, if a utility analysis is performed, what is the appropriate lottery?
c. Assume that the following indifference probabilities are assigned. Do the utilities reflect the behavior of a risk taker or a risk avoider?
Profit Indifference Probability
\$100,000 .95
\$ 50,000 .70
0 .50
-\$50,000 .25
d. Use expected utility to make a recommended decision.
e. Should decision maker feel comfortable with the final decision recommended by the analysis?

PROBLEM 2. A television network has been receiving low ratings for its programs. Currently, management is considering two alternatives for the Monday night 8:00pm – 9:00pm time slot: a western with a well-known star or a musical variety with a relatively unknown husband-and-wife team. The percentages of viewing audience estimates depend on the degree of program acceptance. The relevant data are as follows:
Percentage of viewing audience
Program acceptance Western Musical Variety
High 30% 40%
Moderate 25% 20%
Poor 20% 15%

The probabilities associated with the program acceptance levels are as follows:
Probability
Program acceptance Western Musical Variety
High .30 .30
Moderate .60 .40
Poor .10 .30

a. Using the expected value approach, which program should the network choose?
b. For a utility analysis, what is the appropriate lottery?
c. Based on the lottery in part(b), assume that the network’s program manager has assigned the following indifference probabilities. Based on the use utility measures, which program would you recommend? IS the manager a risk taker or a risk avoider?
Percentage of Audience Indifference probabilities
30% .40
25% .30
20% .10

This question was asked on Nov 24, 2011 and answered on Nov 24, 2011.

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