Question: Problem 1. Management of the Telemore Company is considering developin

ID: 3045290 • Letter: Q

Question

Question:

Problem 1.

Management of the Telemore Company is considering developing and marketing a new

product. It is estimated to be as likely that the product would prove to be successful as unsuccessful.

It it were successful, the expected profit would be $1,800,000. If unsuccessful,

the expected loss would be $1,500,000. A marketing survey can be conducted at a cost of

$300,000 to predict whether the product would be successful. Past experience with such

surveys indicates that successful products have been predicted to be successful 70 percent

of the time, whereas unsuccessful products have been predicted to be unsuccessful 80

percent of the time. Hint: Make a decision tree.

(a) Find the optimal policy regarding whether to conduct the market survey and whether

to develop and market the new product.

(b) What is the maximum cost of survey that makes it worth conducting?

estimates of market success, what is the maximum cost of such an improved survey?

a) Expected value without survey = [1800000-1500000]/2=150000

a) Expected value with survey = 0.70*0.50*1800000+0.7*0.3*(-1500000) = 315000

SUbtracting cost of survey, Expected value = 15000

We should not conduct the survey and directly develop and market the product

b) Maximum cost of survey=315000-150000=165000

c) If Market success can be estimated with 100% efficieny, Max cost of survey =0.5*1800000*1=900000

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