Problem 5.22 Question Help MacDonald Products, Inc., of Clarkson, New York, has
ID: 422494 • 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 85,000 units at $630 each, with a probability of 0.36 and a 0.64 probability of 80,000 at $630. If, however, he uses the value analysis team (option b), the firm expects sales of 75,000 units at $760, with a probability of 0.73 and a 0.27 probability of 70,000 units at $760. Value engineering, at a cost of $85,000, is only used in option b. Which option has the highest expected monetary value (EMV)? The EMV for option a is Sand the EMV for option b is STherefore, option The EMV for option a is $| | and the EMV for option b is $| |. Therefore, option | ?| has the highest expected monetary value. (Enter your has the highest expected monetary value. (Enter your Enter vour answer in the edit fields and then click Check AnswerExplanation / Answer
The payoff of alternative-event combination is calculated as follows:
Payoff = (Units sold x Price per unit) – additional cost
The expected payoff of the alternative is obtained as follows:
Expected Payoff = SUM OF (payoff x probability) of the alternative
Sales Event 1
Sales Event 2
Units sold
85,000
80,000
Option a
Price Per unit
$630
$630
Additional Cost
$0
$0
Payoff
(85,000 x $630) - $0
= $53,550,000
50,400,000
Probability
0.36
0.64
Expected Payoff
(53,550,00 x 0.36) + (50,400,000 x 0.64)
= 51,534,000
Option b
Sales Event 1
Sales Event 2
Units sold
75,000
70,000
Price Per unit
$760
$760
Additional Cost
$85,000
$85,000
Payoff
(75,000 x $760) - $85,000
= $56,915,000
53,115,000
Probability
0.73
0.27
Expected Payoff
55,889,000
EMV of option a is = $51,534,000 and EMV of option b is $55,889,000, Therefore the option b has the highest EMV and company should select option b.
Sales Event 1
Sales Event 2
Units sold
85,000
80,000
Option a
Price Per unit
$630
$630
Additional Cost
$0
$0
Payoff
(85,000 x $630) - $0
= $53,550,000
50,400,000
Probability
0.36
0.64
Expected Payoff
(53,550,00 x 0.36) + (50,400,000 x 0.64)
= 51,534,000