OPERATIONS RESEARCH

Meaning and Need of O.R.

The term Operation Research is made up of two terms - Operations which means to perform
each and every task of the organization and research means a systematic approach to collect,
analyze data to solve any business problem. Operation Research may be simply defined as the
research of operations. An operation may be called a set of acts required for the achievement of
a desired outcome. OR is the attack of modern methods on complex problems arising in the
direction and management to large systems of men, machines, material and money in industry,
business and defense. The distinctive approach is to develop a scientific model of the system,
incorporating measurements of factors such as chance and risk with which to predict and
compare the outcomes of alternative decisions, strategies or controls. The purpose is to help
management to determine its policy and action scientifically.

O.R. is the application of modem methods of mathematical science to complex problems

involving management of large systems of men, machines, materials and money in industry,
business, government and defense. The distinctive approach is to develop a scientific model of
the system incorporating measurement of factors such as chance and risk to predict and
compare the outcomes of alternative decisions. -J.O.R. Society, U.K.

Characteristics of Operations Research

The various definitions of operation research bring out essential characteristics of operations
research. They are:

(i) Its system (or executive) orientation,

(ii) The use of interdisciplinary teams,

(iii) Application of scientific method,

(iv) Uncovering of new problems,

(v) Improvement in the quality of decisions,

(vi) Use of computer,

(vii) Quantitative solutions, and

(viii) Human factors.

Necessity of Operations Research in Industry

After having studied as to what is operations research, we shall now try to answer as to why
study OR or what is its importance or why its need has been felt by the industry.

As already pointed out, science of OR came into existence in connection with the war
operations, to decide the strategy by which enemy could be harmed to the maximum possible
extent with the help of the available warfare. War situation required reliable decision-making. But
its need has been equally felt by the industry due to the following reasons:
(a) Complexity: In a big industry, the number of factors influencing a decision has increased.
Situation has become big and complex because these factors interact with each other in
complicated fashion. There is, thus, great uncertainty about the outcome of interaction of factors
 like technological, environmental, competitive, etc. For instance, consider a factory production
schedule, which has to take into account

 Customer demand,
 Requirements of raw materials,
 Equipment capacity and possibility of equipment failure, and
 Restrictions on manufacturing processes.
Evidently, it is not easy to prepare a schedule, which is both economical and realistic. This needs
mathematical models, which, in addition to optimization, help to analyze the complex situation.
With such models, complex problems can be split up into simpler parts, each part can be
analyzed separately and then the results can be synthesized to give insights into the problem.

(b) Scattered responsibility and authority: In a big industry, responsibility and authority of
decision-making is scattered throughout the organization and thus the organization, if it is not
conscious, may be following inconsistent goals. Mathematical quantification of OR overcomes
this difficulty also to a great extent.

(c) Uncertainty: There is a great uncertainty about economic and general environment. With
economic growth, uncertainty is also growing. This makes each decision costlier and time-
consuming. OR is, thus, quite essential from reliability point of view.

(d) Knowledge explosion: Knowledge is increasing at a very fast rate. Majority of the industries
are not up-to-date with the latest knowledge and are, therefore, at a disadvantage. OR teams
collect the latest information for analysis purposes which is quite useful for the industries.

Scope and Objective of O.R.

Scope of Operations Research

Having known the definition of OR, it is easy to visualize the scope of operations research.
Whenever there is a problem for optimization, there is scope for the application of OR. When we
broaden the scope of OR, we find that really it has been practiced for hundreds of years before
World War II.

In the field of industrial management, there is a chain of problems starting from the
purchase of raw materials to the dispatch of finished goods. The management is interested in
having an overall view of the method of optimizing profits. In order to take decision on scientific
basis, OR team will have to consider various alternative methods of producing the goods and the
return in each case. OR study should also point out the possible changes in the overall structure
like installation of a new machine, introduction of more automation, etc. OR has been
successfully applied in industry in the fields of production, blending, product mix, inventory
control, demand forecast, sale and purchase, transportation, repair and maintenance, scheduling
and sequencing, planning, scheduling and control of projects and scores of other associated
areas.

OR has a wide scope for application in defense operations. In modern warfare the defiance
operations are carried out by a number of different agencies, namely air force, army and navy 0
The activities performed by each of them can be further divided into sub-activities viz.
operations, intelligence, administration, training and the like. There is thus a need to coordinate
the various activities involved in order to arrive at optimum strategy and to achieve consistent
goals. Operations research, conducted by team of experts from all the associated fields, can be
quite helpful to achieve the desired results.
 In both developing and developed economies, OR approach is equally applicable. In
developing economies, there is a great scope of developing an OR approach towards planning.
The basic problem is to orient the planning so that there is maximum growth of per capita income
in the shortest possible time, by taking into consideration the national goals and restrictions
imposed by the country. The basic problem in most of the countries in Asia and Africa is to
remove poverty and hunger as quickly as possible. There is, therefore, a great scope for
economists, statisticians, administrators, technicians, politicians and agriculture experts working
together to solve this problem with an OR approach.

OR approach needs to be equally developed in agriculture sector on national or

international basis. With population explosion and consequent shortage of food, every country is
facing the problem of optimum allocation of land to various crops in accordance with climatic
conditions and available facilities. The problem of optimal distribution of water from the various
water resources is faced by each developing country and a good amount of scientific work can
be done in this direction.

OR approach is equally applicable to big and small organizations.

Objectives of Operations Research

The industrial growth has brought with it the need for division of management function within an
organization. Thus every organization has in it a number of functional units or departments,
each performing a part of the whole job and for its successful working, developing its own
policies and objectives. These objectives, though in the best interest of the individual
department, may not be in the best interest of the organization as a whole. In fact, these
objectives of the individual departments may be inconsistent and clashing with each other.
Numerous examples of similar conflicts can be cited. Consider, for instance, the case of
economic order quantity where there is a conflict between the acquisition cost and the inventory
carrying cost with regard to the batch size with the former decreasing and the latter increasing
with the batch size. The total cost curve is cup-shaped. This cup shaped. This cup as such or
reversed is bound to occur whenever there are conflicting costs or conflicting gains. The
objective of OR is to minimize the total cost i.e., find the minimum of cup – shaped cost curve or
maxima of the reversed cup-shaped gain curve.

With economic growth uncertainty is also growing. This makes each decision costlier and
time consuming. However, in the competitive world today, one has to take a quick decision
because any delay or postponement may only help the competitors. The decision has to be
quick as well as sound and this requires a rigorous and scientific approach to the problem. The
application of OR methods helps in making decisions in such complex situations. OR combines
the knowledge of various disciplines such as mathematics, statistics, economics, psychology and
engineering and the combined effort of all these disciplines helps in analyzing the problem in
finer details.

Two business realities a manager has to face are 'change' and 'uncertainty'. The market
demand fluctuates, raw materials and spares become scarce, production equipment fails or the
change in Govt.'s policy may affect the company's resources drastically or impose restrictions on
the current manufacturing process. Under such situations past experience can be a (though only
a rough) guide. A knowledge of the past data and future trends can help the manager to assess
the risk and accordingly make his decisions. OR can help him here. The statistician will analyze
the past data and extrapolate it for near future. The accountant will be able to estimate the cost
associated with any decision while the engineer will assess the effect of changes in technology,
quality of material, and availability of new types of machines.

To summaries, the objective of OR is to provide a scientific basis to the managers of an

organization for solving problems involving interaction of the components of the system, by
employing a systems approach by a team of scientists drawn from different disciplines, for
finding a solution which is in the best interest of the organization as a whole.

THE OPERATIONS RESEARCH APPROACH - Given that O.R. represents an integrated framework to
help make decisions, it is important to have a clear understanding of this framework so that it can be
applied to a generic problem. To achieve this, the so-called O.R. approach is now detailed. This approach
comprises the following seven sequential steps: (1) Orientation, (2) Problem Definition, (3) Data
Collection, (4) Model Formulation, (5) Solution, (6) Model Validation and Output Analysis, and (7)
Implementation and Monitoring. Tying each of these steps together is a mechanism for continuous
feedback; the following figure shows this schematically -
Assignment model and procedure of solution

ASSIGNMENT PROBLEMS
Introduction : The name 'Assignment Problem' originates from the classical problems where the
objective is to assign a number of origins (jobs) to the equal number of destinations (persons) at
a minimum cost (or maximum profit). To examine the nature of assignment problem, suppose
there are n jobs to be performed and n persons are available for doing these jobs. Assume that
each person can do each job at a time, though with varying degree of efficiency. Let c ij be the
cost (payment) if the ith person is assigned the jth job, the problem is to find an assignment (which
job should be assigned to which person) so that the total cost for performing all jobs is minimum.
Problems of this kind are known as assignment problems.

Further, such types of problems may consist of assigning men to offices, classes to rooms,
drivers to trucks, trucks to delivery routes, or problems to research teams, etc. The assignment
problem can be stated in the form of n x n cost-matrix [c] of real number.

Steps involved in Hungarian Assignment Method (HAM) :

1. To check for square matrix.

 2. Row minimization: Deduct the smallest element of each row from all the elements of
respective row.
3. Column minimization: Deduct the smallest element of each column from all the elements of
respective column.
4. To check for optimum assignment.
5. If optimum assignments are not attained, draw the lines covering all the zeros with
minimum possible lines.(no. of lines should be equal to no. of assignments)
6. Deduct the smallest uncovered element from each of the uncovered and adding the same
in double covered.
7. Repeat step 4, 5, 6 until optimum assignments attained.

Transportation Model and Degeneracy in T.P

TRANSPORTAION PROBLEMS

Transportation models deal with problems concerning as to what happens to the effectiveness
function when we associate each of a number of origins (sources) with each of a possibly
different number of destinations (jobs). The total movement from each origin and the total
movement to each destination is given and it is desired to find how the associations be made
subject to the limitations on totals. In such problems, sources can be divided among the jobs or
jobs may be done with a combination of sources. The distinct transportation problems it that
sources and jobs must be expressed in terms of only one kind of unit.

DEGENERACY IN TRANSPORTATION PROBLEMS

The solution procedure for non-degenerate basic feasible solution with exactly m + n - 1 strictly
positive allocations in independent positions has been discussed so far. However, sometimes it
is not possible to get such initial feasible solution to start with. Thus degeneracy occurs in the
transportation problem whenever a number of occupied cells is less than m + n - 1.

We recall that a basic feasible solution to an m-origin and n-destination transportation problem
can have at most m+n-1 number of positive (non- zero) basic variables. If this number is exactly
m+n-1, the BFS is said to be non-degenerate; and if less than m + n - 1 the basic solution
degenerates. It follows that whenever the number of basic cells is less than m+n-l, the
transportation problem is a degenerate one.

Markov chain Analysis

Markov process (or chain) is a stochastic (or random) process, which has the property that the
probability of transition from a given state to any future state depends only on the present state
and not on the manner in which it was reached.

The nature of Markov processes can be easily understood by considering the situation of a Car-
Rental company. Suppose a Car-Rental company is running agencies in different cities. A car
sent to one city may return to any city where the company’s agency is available. If this situation
is considered as a Markov process, then the different rental cities would be the states. A
particular transition probability Pij would be the probability that a car rented to city I would return
to city j, where j may be equal to i. The mathematical structure of this problem is to determine
expected long term fraction of cars at each city and the mean number of this would make starting
from city I, before returning to that location.
 Markov process is widely used in examining and predicting the behavior of consumers in terms
of their brand loyalty and their switching patterns to other brands.

Markov processes are also used in the study of equipment maintenance and failure problems
analyzing accounts receivable that will ultimately become bad debts. It is also used to study the
stock market price movement.

Simulation model

Simulation is an imitation of reality. A children cycling park, with various crossings and signals, is
a simulated model of the city traffic system. In the laboratories a number of experiments are
performed on simulated models to determine the behaviour of the real system in true
environments. A simple illustration is the testing of an aircraft model in a wind tunnel form which
we determine the performance of the actual aircraft under real operating conditions.

Simulation is a representation of reality through the use of a model or other device which
will react in the same manner as reality under a given set of conditions.” Simulation has also been
defined as “the use of a system model that has the designed characteristics of reality in order to
produce the essence of actual operation.” According to Donal G. Malcolm, a simulated model
may be defined as one which depicts the working of a large scale system of men, machines,
materials and information operating over a period of time in a simulated environment of the actual
real world conditions.

Advantages of the Simulation Technique

The simulation technique, when compared with the mathematical programming and standard
probability analysis, offers a number of advantages over these techniques, a few important
among them can be summarized as follows:

1. Many important managerial decision problems are too intricate to solved by mathematical
programming experimentation with the actual system, even if possible, is to too costly and
risky. Simulation offers the solution by allowing experimentation with model of the system with
cut interfering with the real system. Simulation is, thus, often a by pass for complex
mathematical analysis.
2. Through simulation, management can foresee the difficulties and bottlenecks which may
come up due to the introduction of new machines, equipment or process. It, thus, eliminates
the need of costly trial and error methods of trying out the new concept on real methods and
equipment.
3. Simulation has the advantage of being relatively free from mathematics and, thus, can be
easily understood by the operating personnel and non-technical managers. This helps in
getting the proposed plans accepted and implemented.
4. Simulation models are comparatively flexible and can be modified to accommodate the
changing environments of the real situation.
5. Computer simulation can compress the performance of a system over several year and
involving large calculations into a few minutes of computer running time.
6. The simulation technique is easier to use than mathematical models and is considered quite
superior to the mathematical analysis.
7. Simulation has advantageously been used for training the operating and managerial staff in
the operation of complex plans. It is always advantageous to train people on simulated models
before putting into their hands the real system. Simulated exercises have been developed to
impart the trainee sufficient exercise and experience. A simulated exercise familiarizes the
trainee with the data required and helps in judging what information is really important. Due to
his personal involvement into the exercise, the trainee gains sufficient confidence, and
moreover becomes familiar with data processing on electronic computer.
 Limitations of the Simulation Technique

In spite of all the advantage claimed by the simulation technique, many operations research
analysts consider it a method of last resort and use it only when all other techniques fail. If a
particular type of problem can be well represented by a mathematical model, the analytical
approach is considered to be more economical, accurate and reliable. On the other hand, in very
large and complex problems simulation may suffer from the same deficiencies as other
mathematical models. In brief, the simulation techniques suffers from the following limitations :

1. Simulation does not produce optimum results. When the models deals with uncertainties, the
results of simulation are only reliable approximations subject to statistical errors.
2. Quantification of the variables is another difficulty. In a number of simulations it is not possible
to quantify all the variables that affect the behaviour of the system.
3. In very large and complex problems, the large number of variables and the interrelationships
between them make the problem very unwieldy and hard to program. The number of variables
may be too large and may exceed the capacity of the available computer.
4. Simulation is, by no means, a cheap method of analysis. In a number of situations, simulation
is comparatively costlier and time consuming.
5. Other important limitations stem from too much tendency to rely on the simulation models.
This results in application of the technique to some simple problem which can more
appropriately be handled by other techniques of mathematical programming.

Applications of Simulations

Simulations are quite versatile and commonly applied technique for solving decision problems. It
has been applied successfully to a wide range of problems of science and technology as given
below:

1. In the field of basic sciences, it has been used to evaluate the area under a curve, to estimate
the value of π, in matrix inversion and study of practice diffusion.
2. In industrial problems including the design of queuing systems, inventory control,
communication networks, chemical processes, nuclear reactors and scheduling of production
processes.
3. In business and economic problems, including customer behaviour, price determination,
economic forecasting, portfolio selection and capital budgeting.
4. In social problems, including population growth, effect of environment on health and group
behaviour.
5. In biomedical systems, including fluid balance, distribution of electrolyte in human body and
brain activities.
6. In the design of weapon systems, war strategies and tactics.

Monte Carlo Simulation Technique

The Monte Carlo method of simulation was developed by the two mathematicians John Von
Neumann and Stainslaw Ulam, during World War II to study how far neutrons would travel
through different materials. The technique provided an approximate but quite workable solution to
the problem. With the remarkable success of this technique on neutron problem, it soon became
popular and found many applications in business and industry and at present forms a very
important tool of operation researcher’s tool kit.

The technique employs random numbers and is used to solve problems that involve
probability and wherein physical experimentation is impracticable and formulation of
mathematical model is impossible. It is a method of simulation by sampling technique. The steps
involved in carrying out Monte Carlo simulation are:

1. Select the measure of effectiveness (objective function) of the problem. It is either to be

maximized or minimized. For example, it may be idle time of service facility in a queuing
problem or number of shortages in an inventory control problem.
2. Identify the variables that affect the measure of effectiveness significantly. For example,
number of service facilities in a queuing problem or number of units in inventory control
problem.
3. Determine the cumulative probability distribution of each variable selected in step 2. Plot
these distributions with values of the variables along x-axis and cumulative probability values
along the y-axis.
4. Get a set of random numbers.
5. Consider each random number as a decimal value of the cumulative probability distribution.
Enter the cumulative distribution plot along the y-axis. Project this point horizontally till it
meets the distribution curve. Then project the point of intersection down on the x-axis.
6. Record the value (or values if several variables are being simulated) generated in step 5.
Substitute in the formula chosen for measure of effectiveness and find its simulated value.
7. Repeat steps 5 and 6 until sample is large enough to the satisfaction of the decision maker.

Though in any real problem to be solved by simulation, the variables in the problem are
probabilistic in nature, we first consider below a problem where they are fixed and constant and
see how the simulation technique which involves repetitive experimentation can be used to
analyze such a problem. The remaining problems involve variables that are probabilistic in
nature.

Linear programming and its applications

LINEAR PROGRAMMING
The linear programming method is a technique for choosing the best alternative from a set of
feasible alternatives, in situations in which the objective function as well as the constraints can
be expressed as linear mathematical functions. In order to apply linear programming, there are
certain requirements to be met. These are discussed here.
(a) There should be an objective, which should be clearly identifiable and measurable in,
quantitative terms. It could be, for resample, maximization of sales, of profit, minimization of
cost, and so on.
(b) The activities to be included should be distinctly identifiable and measurable in quantitative
terms, for instance, the products included in a production-planning problem.
(c) The resources of the system, which are to be allocated for the attainment of the goal, should
also be identifiable and measurable quantitatively. They must be in limited supply. The
technique would involve allocation of these resources in a manner that would trade off the
returns on the investment of the resources for the attainment of the objective.
(d) The relationships representing the objective as also the resource limitation considerations,
represented by the objective function and the constraint equations or inequalities,
respectively, must be linear in natures.
(e) There should be a series of feasible alternative courses of action available to the decision-
maker that is determined by the resource constraints.
When these stated conditions are satisfied in a given situation, the problem can be expressed in
algebraic form, called the linear programming problem (LPP), and then solved for optimal
decision. We shall first illustrate the formulation of linear programming problems and consider
the method of their solution.
APPLICATIONS OF LINEAR PROGRAMMING
In this section, we discuss some important applications of linear programming in our life.
1. Personnel Assignment Problem. Suppose we are given III persons, n-jobs, and the
expected productivity CIF of itch person on the jet job. We want to find an assignment of persons
xij ~ 0 for all i and j, to II jobs so that the average productivity of person assigned is maximum.
Subject to the conditions:

Where a; is the number of persons in personnel category i and bj is the number of jobs in
personnel category j, For details, refer the chapel' of Assignment Problems.

2. Transportation Problem. We suppose that m factories (called sources) supply n warehouses

(called destinations) with a certain product. Factory F; (i = 1 '2, ..., m) produces a; units (total or
per unit time), and warehouse Wi U = I , 2, 3 ..., n) requires bj units. Suppose that the cost of
shipping, from factory Fi to warehouse Wi is directly proportional to the amount shipped; and that
the unit cost is C;j' Let the decision variables, xij, be the amount shipped from factory F; - to
warehouse "'i. The objective is to determine the number of units transported from factory F; to
warehouse Wi so that the total transportation cost L L cij xij is minimized. In the mean time, the
supply and demand must be satisfied exactly.

Mathematically, this problem is to find xij (i = I , 2, ... , m; j = 1 , 2, ... , n) in order to minimize

the total transportation cost Z = :E :E xij (cij) , subject to the restrictions of the form ;= I j= I

3. Efficiency on Operation of System of Dams. In this problem, we determine variations in

water storage of dams which generate power so as to maximize the energy obtained from the
entire system. The physical limitations of storage appear as inequalities.

4. Optimum Estimation of Executive Compensation. The objective here is to determine a

consistent plan of executive compensation in an industrial concern. Salary, job ranking and the
amounts of each factor required on the ranked job level are taken into consideration by the
constraints of linear programming.

5. Agricultural Applications. Linear programming can be applied in agricultural planning for

allocating the limited resources such as acreage, labour, water, supply and working capital, etc.
so as to maximize the net revenue.

6. Military Applications. These applications involve the problem of selecting an air weapon
system against guerillas so as to keep them pinned down and simultaneously minimize the
amount of aviation gasoline used, a variation of transportation problem that maximizes the total
tonnage of bomb dropped on a set of targets, and the problem of community defense against
disaster to find the number of defense units that should be used in the attack in order to provide
the required level of protection at the lowest possible cost.

7. Production Management. Linear programming can be applied in production management for

determining product mix, product smoothing, and assembly time-balancing.

8. Marketing Management. Linear programming helps in analyzing the effectiveness of

advertising campaign and time based on the available advertising media. It also helps traveling
sales-man in finding the shortest route for his tour.

9. Manpower Management. Linear programming allows the personnel manager to analyze

personnel policy combinations in terms of their appropriateness for maintaining a steady-state
flow of people into through and out of the firm. .

10. Physical Distribution. Linear programming determines the most economic and efficient
 manner of locating manufacturing plants and distribution centers for physical distribution.

Besides above, linear programming involves the applications in the area of administration,
education, inventory control, fleet utilization, awarding contract, and capital budgeting etc.

Degeneracy in linear programing

DEGENERACY PROBLEMS

At the stage of improving the solution during simplex procedure, minimum ratio X B/Xk (Xk > 0) is
determined in the last column of simplex table to find the key row (i.e., a row containing the key
element). But, sometimes this ratio may not be unique, i.e., the key element (hence the variable
to leave the basis) is not uniquely determined or at the very first iteration, the value of one or
more basic variables in the XB column become equal to zero, this causes the problem of
degeneracy.

However, if the minimum ratio is zero for two or more basic variables, degeneracy may result the
simplex routine to cycle indefinitely. That is', the solution which we have obtained in one iteration
may repeat again after few iterations and therefore no optimum solution may be obtained under
such circumstances. Fortunately, such phenomenon very rarely occurs in practical problems.
Method to Resolve Degeneracy (Tie)

The following systematic procedure can be utilized to avoid cycling due to degeneracy in L.P.
problems.

Step 1. First pick up the rows for which the min. non-negative ratio is same (tied). To be definite,
suppose such rows are first, third; etc., for example. .

Step 2. Now rearrange the columns of the usual simplex table so that the columns forming the
original unit matrix come first in proper order.

Step 3. Then find the minimum of the ratio:

elements of first column of unit matrix

corresponding elements of Key column

only for the rows for which min. ratio was not unique. That is, for the rows first, third, etc. as
picked up in step 1. (key column is that one for which I1j is minimum).

(i) If this minimum is attained for third row (say), then this row will determine the key element by
intersecting the key column.

(ii) If this minimum is also not unique, then go to next step.

Step 4. Now compute the minimum of the ratio:

elements of second column of unit matrix

corresponding elements of key column'

Only for the rows for which min. ratio was not unique in Step 3.

(i) If this min. ratio is unique for the first row (say), then this row will determine the key element
by intersecting the key column.
 (ii) If this minimum is still not unique then go to next step.
Step 5. Next compute the minimum of th4 ratio:

elements or third column of unit matrix

Corresponding elements of key column

only for the rows for which min. ratio was not unique in Step 4.

(i) If this min. ratio is unique for the third row (say), then this row will determine the key element
by intersecting the key column.

(ii) If this min. is still 'not unique, then go on repeating the above outlined procedure till the
unique min. ratio is obtained to resolve the degeneracy. After the resolution of this tie, simplex
method is applied to obtain the optimum solution. Following example will make the procedure
clear.

Meaning of Game theory

THEORY OF GAMES

MINMAX (MAXMIN) Criterion and Optimal strategy : The ‘minmax criterion of optimality’
states that if a player lists the worst possible outcomes of all his potential strategies, he will
choose that strategy to be most suitable for him which corresponds to the best of these worst
outcomes. Such a strategy is called an Optimal Strategy

Saddle Point. A saddle point may be defined as the situation where one player is able to
maximize the profits with minimizing the losses of others. A saddle point of a payoff matrix is the
position of such an element in the payoff matrix which is minimum in its row and maximum in its
column.

Mathematically, if a payoff matrix {vij} is such that max [min {vij}] = min [max {vij}] = vrs (say),

i j j i

then the matrix is said to have a saddle point (r, s).

Optimal Strategies. If the payoff matrix {vij} has the saddle point (r, s), then the players (A and
B) are said

to have rth and sth optimal strategies, respectively.

Value of Game. The payoff (vrs) at the saddle point (r, s) is called the value of game and it is
obviously equal to the maximin (v) and minim ax value (v) of the game.

A game is said to be a fair game if v = v = 0. A game is said to be strictly determinable if v = v

=v.

NOTE: A saddle point of a payoff matrix is, sometimes, called the equilibrium point of the payoff
matrix.
 In general, a matrix need not have a saddle point as defined above. Thus, these definitions of

optimal strategy and value of the game are not adequate to cover all cases so need to be

generalized. The definition of a saddle point of a function of several variables and some

theorems connected with it form the basis of such generalization.

Rules for Determining a Saddle Point:

I. Select the minimum element of each row of the payoff matrix and mark them by '0'.

2. Select the greatest element of each column of the payoff matrix and mark them by '0'.

3. If there appears an element in the payoff matrix marked by '0' and 'D ' both, the position of that
element is a saddle point of the payoff matrix.

**Two-Person Zero-Sum Game

As stated earlier, a two-person zero-sum game is the one which involves two persons
(players) and where the gain made by one the past, have been selling a competing product and
are now engaged in struggle for a larger share of the market. Now with the total market of a
given size, any share of the market gained by one firm must be lost by the other, and, therefore,
the sum of the gains and losses equals zero.

Let us assume that both these firms are considering the same three strategies in a bid to gain
the share in the market: low advertising, high advertising, and quality improvement. We assume
also that currently they are sharing the market equally and further that each of the firms can
employ only one of the strategies at a time.

Under the conditions postulated. there are a total of 3 x 3 = 9 combinations of the moves
possible equals the loss incurred by the other. To illustrate, suppose that there are two firms A
and B in an area which, for a long period in

The firm A would like to make the best use of the situation by choosing the maximum of minimal
payoffs. Among the 3 alternative strategies open to I, firm A would choose the one which would
ensure the highest of the minimum rewards associated with these. This decision rule of selection
is called the Maximum Strategy.

To minimize the advantage accruing to A, the firm would select a strategy that would yield the
least advantage to its competitor-the strategy b3. The decision of B is said to be in accordance
with the minim ax strategy.

It may be noted that corresponding to minim ax rule of firm A and the maxim in rule of firm B, the
pay-off is 3. This amount is the worth, or the value, of the game, V, and represents the final pay-
off to the winning player by the losing player. Since the pay-off matrix is drawn from A's point of
view, if the value of the game is positive, as is in the present case, it is favorable to A while if the
 game value is negative, the game is favorable to B. The game is said to be fair or equitable if its
value is equal to zero, for then it favors none.

Limitations of Game theory and MINIMAX principle.

LIMITATIONS OF GAME THEORY

Game theory which was initially received in literature with great enthusiasm as holding promise
has been found to have a lot of limitations. The major limitations are summarized below:

1. The assumption that the players have the knowledge about their own payoffs and payoffs of
others is rather unrealistic. He can only make a guess of his own and his rivals' strategies.
2. As the number of players increase in the game, the analysis of the gaming strategies become
increasingly complex and difficult. In practice, there are many firms in an oligopoly situation and
game theory cannot be very helpful in such situations.

3. The assumptions of maxim in and minim ax show that the players are risk-averse and have
complete knowledge of the strategies. These do not seem practical.

4. Rather than each player in an oligopoly situation working under uncertain conditions, the
players will allow each other to share the secrets of business in order to work out a collusion,
Then the mixed strategies are not very useful.

However, In spite of its limitations, game theory provides insight into the operations of oligopoly
markets.

Minimax and Maximin Principles in Game Theory

The selection of an optimal strategy by each player without the knowledge of the competitor's
strategy is the basic problem of playing games. Since the payoffs for either player provide all the
essential information, so only one player's payoff table is required to evaluate the decisions. Now
the objective of the study is to know how these players must elect their respective strategies so
that they may optimize their payoff. Such a decision-making criterion is referred to as the
minimax-maximin principle. Such principle always leads to the best possible selection- of a
strategy for both players.

For example, there are two players A and B. Player A is assumed to the gainer while player B is
assumed to be loser. For player A, minimum value in each row represents the minimum gain
(payoff) to him if he chooses his particular strategy. These are written in the matrix by row
minima. He will select the strategy that gives largest gain out of the minimum values of row. This
choice of player A is called the maximin principle, and the corresponding gain is called the
maximum value of the game.

Similarly, for player B who is assumed to be loser, the maximum value in each column
represents the maximum loss to him if he chooses his particular strategy. 'These are written in
the payoff matrix by column maxima. He will select the strategy that gives minimum loss out of
the maximum values of column. This choice of player B is called the minim ax value of the game.

The principles uses are

1. Two players struggling to win at chess

2. Candidates fighting an election

 3. Firms struggling to maintain their market shares, etc. because each competitor will try to
minimize his maximum loss or maximize his minimum gain.

Replacement Model

The replacement problems are concerned with the situations that arise when some items such as
men, machines, electric-light bulbs, etc. need replacement due to their decreased efficiency,
failure or break-down. Such decreased efficiency or complete breakdown may either be gradual
or all of a sudden.

The replacement problem arises because of the following factors.

(1) The old item has become in worse condition and work badly or requires expensive
maintenance.

(2) The old item has failed due to accident or otherwise and does not work at all, or the old item
is expected to fail shortly.

(3) A better or more efficient design of machine or equipment has become available in the
market.

In the case of items whose efficiency go on decreasing according to their age, it requires to
spend more money on account of increased operating cost, increased repair cost, increased
scrap, etc. So in such cases, the replacement of an old item with new one is the only alternative
to prevent such increased expenses.

Thus the problem of replacement is to decide best policy to determine an age at which the
replacement is most economical instead of continuing at increased cost. The need for
replacement arises in many situations so that different type of decisions may have to be taken.
For example,

(i) We may decide whether to wait for complete failure of the item (which might cause some loss),
or to replace earlier at the expense of higher cost of the item.
(ii) The expensive items may be considered individually to decide whether we should replace
now or, if not, when it should be reconsidered for replacement.
(iii) It may be decided whether we should replace by the same type of item or by different type
(latest model) of item.

The problem of replacement is encountered in the case of both men and machines. Using
probability it is possible to estimate the chance of death (or failure) at various ages.

The main objective of replacement is to direct the organization for maximizing its profit (or

minimizing the cost).