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EXAMPLE 12.4

TheBostonCompanymustchoosebetweenoneoftwomachines-machineAhaslow

fixedcostsandhighunitvariablecostswhereasmachineBhashighfixedcostsand
lowunitvariablecosts.Consequently,machineAismostsuitedtolow-leveldemand demand. For simplicity assume that there whereas machine B is suited to rrigtr-tevet and high - and the estimated probability of are only two possible a"-*o leveis - low eachoftheseeventsis0.5'Theestimatedprofitsforeachdemandlevelareasfollows:

Lrw
MachineA
Machine B

dern*nd

{s}

High clernand {xp*tted value

{loi

t#}
130 000 1 05 000

100 000 10 000

160 000

200 000

Thereisapossibilityofemployingafirmofmarketconsultantswhowouldbeableto is the maximum amount the pr"rla" a ierfect predicii# of trrJu"toa demand. what companyshouldbep,"p*atopaytheconsultantsfortheadditionalinformation?

Theassumptionunderlyingthemaximincriterionisthattheworstpossibleoutcomewill payoff under this

therefore select the largest always occur and the deciiion-maker should in Example 12'4' You can see that the worst assumption. Consider the Boston Company f 10 000 for machine B. Consequently, machine outcomes are f 100 000 for machine A and rule' A should be purchased using the maximin decision and is based on the assumption that The maximax criterionis the opposite of maximin, are

the best payoff

again to Example 12.4, the highest payoffs B. Therefore machine B will be selected [160 000 for machine A and [200 000 for machine under the maximax criterion'

will occur. Referiing

regret not having chosen another alternative turn out to be the best, the decision-maker will if in Example 12.4 machine B has been selected when he or she had ,rr" opfo*rnity. Thus would occur, and the high level of demand on the assumption that trriilgt level of demand selected, the *oo]a be no regret. However, if machine A has been actually did occur, tt "." 000 (f.200 00b - f 160 000). This measures the amount of the company would lose f40

Theregretcriterionisbasedonthefactthat,havingselectedanalternativethatdoesnot

regret.similafly,ifmachineAwasselectedontheassumptionthatdemandwouldbelow,B if machine
there would and the low level of demand actually did occur, (f 100 000 the amount of the regiet would be f90 000 was selected, mation is summarized in the following regret matrix:

be no regret; but - f 10 000). This infor-

State of nature Lorv

demand

{c)

High demand

is)
40 000 0

Choose machine A Choose machine B

0 000 90

the maximum possible regret. The maximum The aim of the regret criterion is to minimize

regretformachineAisf40000whilethatforMachineBisf,g0000.MachineAwould
thlrefore be selected using the regret criterion'