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Expected Value Criteria

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Carlisle Tire and Rubber, Inc., is considering expanding production to meet potential increases in the demand for one of its tire products. Carlisle's alternatives are to construct a new plant, expand the existing plant, or do nothing in the short run. The market for this particular tire product may expand, remain stable, or contract. Carlisle's marketing department estimates the probabilities of these market outcomes as 0.25, 0.35, and 0.40, respectively. The file P07_36.xlsx contains Carlisle's estimated payoff (in dollars) table.

Market outcome
Expands Stable Contracts
Decision Construct new plant $400,000 -$100,000 -$200,000
Expand existing plant $250,000 -$50,000 -$75,000
Do nothing $50,000 $0 -$30,000

Use the appropriate Excel computations to identify the strategy that maximizes this tire manufacturer's expected profit. What is the right decision?

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Solution Summary

Solution describes the steps to determine the correct decision based on expected value approach.

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Please refer attached file for better clarity of formulas.

Expected profit in case decision is - Construct new plant=probability in case market expands*Profit in case market expands+probability in case market remains stable*profit in case market remains ...

Solution provided by:
Lokesh Jain, MSc
Education
  • BEng (Hons) , Birla Institute of Technology and Science, India
  • MSc (Hons) , Birla Institute of Technology and Science, India
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