1. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-1 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Quantitative Analysis for Management Chapter 4 Decision Trees

2. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-2 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Chapter Outline 4.1 Introduction 4.2 Decision Trees 4.3 How Probability Values Are Estimated by Bayesian Analysis

3. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-3 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Learning Objectives Students will be able to:  Develop accurate and useful decision trees  Revise probability estimates using Bayesian Analysis

4. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-4 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Introduction Decision trees Decision trees enable one to look at decisions: alternativesstates of nature  with many alternatives and states of nature  which must be made in sequence

5. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-5 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Decision Trees A graphical representation where: a decision node from which one of several alternatives may be chosen l a state-of-nature node out of which one state of nature will occur

6. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-6 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Thompson’s Decision Tree Fig. 4.1 1 2 A Decision Node A State of Nature Node Favorable Market Unfavorable Market Favorable Market Unfavorable Market Construct Large Plant Construct Small Plant Do Nothing

7. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-7 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Five Steps to Decision Tree Analysis  Define the problem  Structure or draw the decision tree  Assign probabilities to the states of nature  Estimate payoffs for each possible combination of alternatives and states of nature  Solve the problem by computing expected monetary values (EMVs) for each state of nature node.

8. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-8 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Thompson’s Decision Tree Fig. 4.2 1 2 A Decision Node A State of Nature Node Favorable (0.5) Market Unfavorable (0.5) Market Favorable (0.5) Market Unfavorable (0.5) Market Construct Large Plant Construct Small Plant Do Nothing $200,000 -$180,000 $100,000 -$20,000 0 EMV=$40,000 EMV=$10,000

9. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-9 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Example: Using Decision Tree Analysis on R&D Projects

10. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-10 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Thompson’s Decision Tree Fig. 4.3

11. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-11 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Thompson’s Decision Tree Fig. 4.4

12. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-12 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Thompson Decision Tree Problem Using QM for Windows

13. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-13 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Thompson Decision Tree Problem using Excel

14. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-14 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Expected Value of Sample Information with Expected value of best decision with sample information, assuming no cost to gather it without Expected value of best decision without sample information EVSI EVSI =

15. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-15 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Estimating Probability Values by Bayesian Analysis  Management experience or intuition  History  Existing data revise  Need to be able to revise probabilities based upon new data Prior probabilities New data Posterior probabilities Bayes Theorem

16. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-16 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Table 4.1

17. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-17 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Table 4.2

18. To accompany Quantitative Analysis for Management, 7e by (Render/Stair 4-18 © 2000 by Prentice Hall, Inc., Upper Saddle River, N.J. 07458 Table 4.3