Problem 5.22 Question Help MacDonald Products, Inc., of Clarkson, New York, has
ID: 422483 • Letter: P
Question
Problem 5.22 Question Help MacDonald Products, Inc., of Clarkson, New York, has the option of (a) proceeding immediately with production of a new top-of-the-line stereo TV that has just completed prototype testing or (b) having the value analysis team complete a study. If Ed Lusk, VP for operations, proceeds with the existing prototype (option a), the firm can expect sales to be 120,000 units at $570 each, with a probability of 0.33 and a 0.67 probability of 80,000 at S570. If, however, he uses the value analysis team (option b), the firm expects sales of 85,000 units at S760, with a probability of 0 71 and a 0 29 probability of 60,000 units at S760. Value engineering, at a cost of $90,000, is only used in option b. Which option has the highest expected monetary value (EMV)? The EMV for option a is s and the EMV for option b is sTherefore, option has the highest expected monetary value (Enter your responses as integers)Explanation / Answer
The payoff for combination of alternative and event is obtained by following formula:
Payoff = (Units sold x Price per unit) – Investment
The EMV of alternatie is obtained by following formula:
Expected Payoff = SUM OF (payoff x probability) of the alternative
Option a
Probabilities
0.33
0.77
Expected Payoff
Payoff
(120,000 x $570)
= $68,400,000
(80,000 x $570)
= 45,600,000
(68,400,00 x 0.33) + (45,600,000 x 0.77)
= 57,684,000
Option b
Probabilities
0.71
0.29
Payoff
(85,000 x $760)-$90,000
= 64,510,000
(60,000 x $760)-$90,000
= 45,510,000
(64,510,000 x 0.71) + (45,510,000 x 0.29)
= 59,000,000
EMV of option a is = $57,684,000 and EMV of option b is $59,000,000, Therefore the option b has the highest EMV and company should select option b
Option a
Probabilities
0.33
0.77
Expected Payoff
Payoff
(120,000 x $570)
= $68,400,000
(80,000 x $570)
= 45,600,000
(68,400,00 x 0.33) + (45,600,000 x 0.77)
= 57,684,000
Option b
Probabilities
0.71
0.29
Payoff
(85,000 x $760)-$90,000
= 64,510,000
(60,000 x $760)-$90,000
= 45,510,000
(64,510,000 x 0.71) + (45,510,000 x 0.29)
= 59,000,000