QNT 5040 Mini Report #2 Fall Term 2014

Maximum number of points: 5 pointsDecision Tree Analysis The Prescott Hardware Company Case StudyIntroduction:Decision trees are superb tools for helping you to select between several courses of action. Theyprovide a highly effective structure in which you can lay out options and investigate the possibleoutcomes of choosing those options. They also help you to form a balanced picture of the risksand rewards associated with each possible course of action.Key Points for Decision TreesDecision trees provide an effective method of decision making because they:1. Visibly lay out the problem so that all options can be tested;2. Allow you to fully analyze possible consequences of making any given decision;3. Provide a framework to quantify the values of outcomes and the probabilities ofachieving them; and,4. Help you to make the best decisions on the basis of current information and best guesses.As with all decision making methods, decision tree analysis should be used in conjunction withcommon sense decision trees are just one important part of your decision making tool kit.In this case study you will be using the information from below to create a PrecisionTree 1 for thePrescott Hardware Company. The company is considering a number of options to build their75 year old company. They need your help to first display the various options open to them, thento analyze these options and to recommend a course of action. Read the information carefully. Itcontains all of the information that you need to create your PrecisionTree. The analysis is, ofcourse, up to you. But do it completely.Background:The Prescott Hardware Company over on 8th street andWestview Drive has been in operation for 75 years. It hasproduced many different types of hardware over those years, butnow is facing a crisis over the amount of less expensive hardware being imported from Chinaand the Far East. Current company president, Bobby Mills III recently said to the PrescottChamber of Commerce annual awards luncheon,1 Notice that PrecisionTree is one word with the p and the t capitalized.At our hardware company we are facing almost unsurmountable problems with low costforeign hardware. As all of you know, our company has a long history of producingonly high quality hardware for industry and for the home user. As my grandfather BobbyMills senior said, It has to be top of the line before we put our name on any hardwarewe sell.Bobby has asked you to help his senior management team figure out the pros and cons of severaloptions open to them. To do this you will create a PrecisionTree, analyze the tree using themaximax, maximin, and the other decision-making techniques presented to you during week ninechat, and help the company decide which way to proceed.The Issues:Bobby has listed a number of options open to his company. Read these carefully and then usethis information to create a PrecisionTree.1. New Production versus Reengineering Current ProductsThe company sees one of two decisions that need to be made initially. It can invest itsresources in either a new product production of hardware, or to reengineer some or all ofits current hardware lines.It views the expense for either decision initially at $1 million for either direction, so thisinitial decision will be based on the expected monetary value found at the end of eitherbranch.2. New Product ProductionIf the company decides to develop new products it has twochoices, it can embark on a rapid new product production, or itcan, as it has done in the past, develop new products using its thorough new productproduction process. Right now it believes with the cash flow problems that it is having;there is a 60% chance that it would undertake a rapid new product production.Market ReactionIf the company undertakes a rapid product production model the company estimates thatthe market reaction will be:Good: 15% – with potential profits of $2 million;Moderately good: 25% – with profits of $500,000; or,Poor: 60% – with profits of only $100,000.If the company undertakes its usual thorough new product production, then it estimatesthat the market reaction will be:Good: 40% – with potential profits of $3 million;Moderately good: 40% with potential profits of $1.5 million; or,Poor: 20% with potential profits of only $200,0003. Reengineer Current ProductsThe company can reengineer its current hardware products.It could, for instance, try and strengthen the current productline or it could partially restructure the current product line. The company believesinitially that it would be a 50/50 chance that either of these could be accepted.If the company undertakes a strengthen production line model the company estimates thatthe market reaction will be:Good: 30% – with potential profits of $1 million;Moderately good: 40% – with profits of $500,000; or,Poor: 30% – with profits of only $100,000.If the company undertakes its partially restructure the current product model, then itestimates that the market reaction will be:Good: 60% – with potential profits of $750,000; or,Poor: 40% with potential profits of only $50,000.Calculating The Value of Uncertain Outcome NodesWhere you are calculating the value of uncertain outcomes (probability nodes on thediagram), do this by multiplying the value of the outcomes by their probability. The totalfor that node of the tree is the total of these values.For instance, if the probability of an outcome is 35% and the value for that node is$200,000 then you multiply $200,000 times .35 and the value of this node is: $70,000.So this is your last case study. One that I hope will provide you with a real world experience indecision-making.