Clay Whybark, a soft-drink vendor at Hard Rock Cafe’s annual Rockfest, created a

Question

Clay Whybark, a soft-drink vendor at Hard Rock Cafe’s annual Rockfest, created a table of conditional values for the various alternatives (stocking decision) and states of nature (size of crowd):

States of Nature (demand)

Alternatives Big Average Small

Large stock $22,000, $12,000, -$2,000

Average stock $14,000 , $10,000 $6,000

Small stock $ 9,000 $ 8,000 $4,000


The probabilities associated with the states of nature are 0.3 for a big demand, 0.5 for an average demand, and 0.2 for a small demand.

* a) Determine the alternative that provides Clay Whybark the greatest expected monetary value (EMV).
* b) Compute the expected value of perfect information (EVPI).

Explanation / Answer

Clay Whybark, a soft-drink vendor at Hard Rock Cafe’s annual Rockfest, created a table of conditional values for the various alternatives (stocking decision) and states of nature (size of crowd):

big

average

small

Large stock

22,000

12,000

-2000

Avergae

14,000

10000

6000

small

9,000

8,000

4000

Max EMV= $ 12,000 (50%)

EMV –LARGE STOCK=0.3(22)+ 0.5 (12)+ 0.2(-2)=12.2

EMV –AVERAGE STOCK=0.3(14)+ 0.5 (10)+ 0.2(6)=10.4

EMV – SMALL STOCK =0.3(9)+ 0.5 (8)+ 0.2(4)=7.5

big

average

small

Large stock

22,000

12,000

-2000

Avergae

14,000

10000

6000

small

9,000

8,000

4000

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