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Decision Analysis

with Sample Information

Hazwa Hanim Mohamed Hamzah


UiTM Melaka Kampus Jasin

Example
Borneo Manufacturing Company must decide whether it should
manufacture component A or component B. The profit (RM)
depends on the demand of the components and is given in the
following table:
State of nature
Alternatives High demand (H) Low demand (L)
Component A 100,000 -20,000
Component B 70,000 10,000
Probability 0.6 0.4

A market research firm offers to perform a study of the market for a


fee of RM4,000 and will report either a positive survey(Y) or
negative survey (N).

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Example
The relevant conditional probabilities are as follows:

P(YH) = 0.88 P(NH) = 0.12


P(YL) = 0.3 P(NL) = 0.7

The company has calculated the following posterior probabilities:

P(HY) = 0.82 P(LY) = 0.18

3 UiTM Melaka Kampus Jasin Hazwa Hanim Mohamed Hamzah

Example

a) Draw a decision tree for the above problem.


b) Determine whether the study should be performed.
c) Calculate the Expected Value of Sample Information (EVSI).

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Probability revisions given
a positive survey (Y)

State of Conditional Prior Joint Posterior probability


nature probability probability probability P (SON |Y)
P( Y| SON) P(SON) P(YSON)
(SON)

H (a) (c) = (a) (c) (a) (c) / (e) = (f)


L (b) (d) = (b) (d) (b) (d) / (e) = (g)
= (e) = 1.00

5 UiTM Melaka Kampus Jasin Hazwa Hanim Mohamed Hamzah

Probability revisions given


a positive survey (Y)

State of Conditional Prior Joint Posterior probability


nature probability probability probability P (SON |Y)
P( Y| SON) P(SON) P(YSON)
(SON)

H 0.88 0.60 = 0.53 0.53 / 0.65 = 0.82


L 0.30 0.40 = 0.12 0.12 / 0.65 = 0.18
= 0.65 = 1.00

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Probability revisions given
a negative survey (N)

State of Conditional Prior Joint Posterior probability


nature probability probability probability P (SON |N)
P( N| SON) P(SON) P(NSON)
(SON)

H 0.12 0.60 = 0.07 0.07/ 0.35= 0.20


L 0.70 0.40 = 0.28 0.28/ 0.35= 0.80
= 0.35 = 1.00

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Practise
Ramzi & Co, a house developer, is trying to decide whether to build double-storey
terrace houses or single-storey terrace houses or he could also choose not to
proceed with the project. Given a favorable market, he will earn a profit of
RM30,000 if he builds double storey houses and RM10,000 if he builds single
storey houses. However, with an unfavorable market, Ramzi could lose RM40,000
with the double-storey houses and RM20,000 with single-storey houses. He
believes that the probability of a favorable market is 0.7. Prior to this decision,
Ramzi can get additional information from market research analyst at the cost of
RM6,000 and the probability that the result will be positive is 0.5. A positive
result from the study will increase the probability of a favorable market to 0.9.
Furthermore, a negative result from the study will decrease the probability of a
favorable market to 0.4.

a) Construct a decision tree for this problem.


b) Analyze the decision tree and advise Ramzi for the best decision.
c) If the cost to gather additional information is reduced to only RM2,000, what
will be your advised to Ramzi.
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