Professional Documents
Culture Documents
Decision Analysis
Roberta Russell & Bernard W. Taylor, III
Beni Asllani
Copyright 2006 John Wiley & Sons, Inc. University of Tennessee at Chattanooga
Lecture Outline
Decision Analysis
Decision Making without Probabilities
Decision Analysis with Excel
Decision Making with Probabilities
Expected Value of Perfect Information
Sequential Decision Tree
Quantitative methods
A set of tools for operations manager
Decision analysis
a set of quantitative decisionmaking
techniques for decision situations in which
uncertainty exists
Example of an uncertain situation
demand for a product may vary between 0 and 200
units, depending on the state of market
Payoff: outcome of a decision
States Of Nature
Decision a b
1 Payoff 1a Payoff 1b
2 Payoff 2a Payoff 2b
Maximax
Choose decision with the maximum of the
maximum payoffs
Maximin
Choose decision with the maximum of the
minimum payoffs
Minimax regret
Choose decision with the minimum of the
maximum regrets for each alternative
Hurwicz
Choose decision in which decision payoffs are
weighted by a coefficient of optimism, alpha
Coefficient of optimism is a measure of a
decision maker’s optimism, from 0 (completely
pessimistic) to 1 (completely optimistic)
Equal likelihood (La Place)
Choose decision in which each state of nature is
weighted equally
STATES OF NATURE
Good Foreign Poor Foreign
DECISION Competitive Conditions Competitive Conditions
Expand: $800,000
Status quo: 1,300,000 ← Maximum
Sell: 320,000
Decision: Maintain status quo
Expand: $500,000 ←
Maximum
Status quo: -150,000
Sell: 320,000
Decision: Expand
Copyright 2006 John Wiley & Sons, Inc. Supplement 2-10
Minimax Regret Solution
Good Foreign Poor Foreign
Competitive Conditions Competitive Conditions
α = 0.3 1 - α = 0.7
Risk involves assigning probabilities to
states of nature
Expected value
a weighted average of decision outcomes in
which each future state of nature is
assigned a probability of occurrence
n
EV (x) = ∑ p(xi)xi
i =1
where
xi = outcome i
p(xi) = probability of outcome i
p(good) = 0.70 p(poor) = 0.30
EV(expand): $800,000(0.7) + 500,000(0.3) = $710,000
EV(status quo): 1,300,000(0.7) 150,000(0.3) = 865,000 ← Maximum
EV(sell): 320,000(0.7) + 320,000(0.3) = 320,000
Decision: Status quo
Compute EV at nodes 6 & 7
EV(node 6)= 0.80($3,000,000) + 0.20($700,000) = $2,540,000
EV(node 7)= 0.30($2,300,000) + 0.70($1,000,000)= $1,390,000
Decision at node 4 is between
$2,540,000 for Expand and
$450,000 for Sell land
Choose Expand
Repeat expected value calculations and decisions at
remaining nodes
$3,000,000
0)
wth
80 an
$2,540,000
00
grow
(-$ Exp
x p and ) 0.80
E 0
$1,740,000 8 0 0,00 6
(-$ $700,000
0.20
$1,160,000 , 4 No
1
et rs m
k e a
Sell gro arket
ar (3 y ff) land wth
M o
Pu (-$
th ay $450,000
ow 0 p
rc 20
r
ha 0,0
g $
se 00
0.60 et $2,300,000
Mark h
La )
$1,390,000
t
nd
3 e grow
0.40
e h ous ) 0.30
r
$790,000 Wa 00,000
$1,360,000 (-$6 7
gr N $1,000,000
ow o m 0.70
a No
$0 th (3 rke 5 ma
pa ye t Sell lan gro rket
yo ar d wth
ff) s,
$210,000
Copyright 2006 John Wiley & Sons, Inc. Supplement 2-24
Copyright 2006 John Wiley & Sons, Inc.
All rights reserved. Reproduction or translation
of this work beyond that permitted in section 117
of the 1976 United States Copyright Act without
express permission of the copyright owner is
unlawful. Request for further information should
be addressed to the Permission Department,
John Wiley & Sons, Inc. The purchaser may
make back-up copies for his/her own use only
and not for distribution or resale. The Publisher
assumes no responsibility for errors, omissions,
or damages caused by the use of these
Copyright 2006 John Wiley & Sons, Inc. Supplement 2-25