Rachel Brown chief engineer at Jones Electronics has to deci

Rachel Brown, chief engineer at Jones Electronics, has to decide whether to build a new state-of-art processing facility. If the new facility works, the company would realize a profit of $200,000. If it fails, Jones Electronics could lose $180,000. At this time, Rachel estimates a 60% chance that the new process will fail.

The other option is to build a pilot plant and then decide whether to build a complete facility. The pilot plant would cost $10,000 to build. Rachel estimates a 50-50 chance that the pilot plant will work. If the pilot plant works, there is a 90% probability that the complete plant, if it is built, will also work. If the pilot does not work, there is only a 20% chance that the complete plant (if it is constructed) will work. Rachel faces a dilemma whether to build the plant, or to build a pilot first and then make a decision on the plant. Help Rachel by analyzing this problem.

Solution

Expected Monetary value new facility works

EMV =1

=$200,000 * 0.40 - $180,000 * 0.60

=$80,000 - $108,000

= - $28,000(Loss)

Expected Monetary value,

EMV2

Pilot plant works,Profit

$200,000 -$10,000(pilot plant cost) =$190,000 *0.50(pilot plant will work)

=$95,000 * 0.90complete plant

=$85,500Profit  

EMV3

if pilot plant works,does not work, profit

=$190,000   *0.50

=$95,000 * 0.20

=$19,000

As per details, have to select maximum alternative isEMV2 having $85,500Profit, so build a pilot first and then make a decision on the plant.

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