ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 1 of 9 Homework Assignment #2 Due Wednesday September 15th In this assignment you are required to turn in the probabilistic section only. Again the "Food for thought" section is optional but will help you think in depth about the concepts covered. As mentioned in the course guide, we will expect full knowledge of all sections on this assignment. Assigned Readings 1) “How SmithKline Beecham Makes Better Research-Allocation Decisions” Harvard Business Review– Tom Keelin and Paul Sharpe. 2) Read Chapters 3,4 in Foundations of Decision Analysis 3) Read: A value measure for Public Sector Enterprise Risk Management Definitions From the class lectures, explain the following concepts: • Decision basis. • Sunk cost. • Personal Indifferent Buying Price (PIBP). • Personal Indifferent Selling Price (PISP). • Cycle of Ownership. • Market buying and selling price. • Value in use. • Value in exchange. • Value of Clairvoyance • Expert • Clairvoyance • Value of Clairvoyance • Distinctions − Name − Kind, Degree − Clear − Observable − Useful • Clarity Test • Mutually Exclusive • Collectively Exhaustive • Decision Basis • Probability • Background State of Information • Associative Logic Error • Relevance • Possibility ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 2 of 9 Probabilistic Questions: You will be graded according to the following scoring function: Question Score = ) 4ln ln 1(* 15 100 p + where p is the probability you assign to the correct answer. The graph and table below show the number of points you will receive per question depending on the probability you assign to the correct answer. Relax and make good decisions! -17.50 -15.00 -12.50 -10.00 -7.50 -5.00 -2.50 0.00 2.50 5.00 7.50 0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1 1.1 Probability Assigned to Correct Answer (p) S c o re (p ) p Score 0 − 0.01 -15.48 0.05 -7.74 0.10 -4.41 0.15 -2.46 0.20 -1.07 0.25 0.00 0.30 0.88 0.35 1.62 0.40 2.26 0.45 2.83 0.50 3.33 0.55 3.79 0.60 4.21 0.65 4.60 0.70 4.95 0.75 5.28 0.80 5.59 0.85 5.89 0.90 6.16 0.95 6.42 1.00 6.67 ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 3 of 9 ISE 562: DECISION ANALYSIS HW Answer Sheet Name (print) _________________________________________ ID# ________________ In recognition and in the spirit of the Honor Code, I certify that I will neither receive nor give unpermitted aid on this assignment and that I will report, to the best of my ability, all Honor Code violations observed. I also understand that obtaining a score of negative infinity on this assignment may result in failing this course. If I assign a zero probability to any answer, I declare that it is done consciously and against the advice of the teaching team. Signature: ________________________________________ Date ______________ Question Number a b c d 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 4 of 9 Probabilistic Questions: 1) Which of the following is always true? a) PISP is the value in exchange for a deal you own. b) If you buy groceries for $50, then your PIBP for them is equal to $50. c) PIBP is your value in use for a deal you own. d) Your PIBP and PISP do not change around a cycle of ownership. 2) Consider the following statements: 1) I have to be at the airport by noon. 2) We must not go over budget under any circumstances. 3) I decided to attend, and so I paid the consequences. Which of these are proactive statements? a) 3 only b) 1 and 2 only c) 1 and 3 only d) 1, 2 and 3 3) “Richie” has already flipped a new Massachusetts quarter three times, and each time it has come up heads. He then says to his friend Amir, “I’ll bet you a dollar that the next flip will come up tails.” Amir agrees to the bet. “Richie” flips the coin, it comes up tails, and so he collects a dollar from Amir. Which of the following best describes “Richie’s” decision situation? a) The first three coin flips clearly showed that the Massachusetts quarter is not a “fair” coin. b) Since any ordinary quarter is “fair”, tails was bound to come up eventually. “Richie” made a good decision to bet on the next coin flip being tails, and had a good outcome. c) “Richie” was just lucky and got a good outcome. d) After observing three heads in a row, “Richie” should have bet more that tails would come up next. Betting only one dollar was a bad decision because it reduced his winnings. ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 5 of 9 4) Suppose you were the high bidder (at a bid of $20) for the $100 certificate auctioned off during the first lecture. After winning the certificate you declare you want the thumbtack and determine that your PISP for the certificate is $54. At the next class Professor Abbas shakes the thumbtack in the jar and observes the result. He offers to truthfully tell you how the thumbtack has landed before you make your call. What is your PIBP for this information? a) $20 b) $54 c) $46 d) You need more information to answer this question. 5) What is the result of a high-quality decision analysis? a) Knowledge of what will happen as a result of your decision. b) Guarantee of a good outcome c) Clarity of action d) None of the above 6) Your PIBP for a new Rolls Royce is $135,000. Your friend, Ronnie, offers to give you his own new Rolls Royce for free. Three minutes later, you receive a phone call from your friend asking to buy your Rolls Royce. Which of the following must be true? a) Your PISP must be greater than $135,000. b) Your PISP must be less than or equal to $135,000. c) Your PIBP for a second Rolls Royce is $135,000. d) None of the above. 7) Nathalie is an expert in taxes and she prefers more money to less. She bought a ticket to see “Ariadne auf Naxos” at the opera. It cost her $50. Unfortunately, she is sick on the day of the performance and she decides not to go. The opera does not reimburse tickets but considers unused tickets as donations. Her friend Robyn offers her to buy her ticket for $15. I. She rejects that offer feeling that Robyn is taking advantage of her being sick and that Robyn will have a ticket worth $50 for only $15. II. She rejects that offer because she prefers to donate the unused ticket back to the opera. She knows that a donation of $50 will provide her a tax credit of $20. In which cases is Nathalie violating the sunk cost principle? a) I only b) II only c) Both I and II d) None ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 6 of 9 8) NASDAQ lists the securities of nearly 4,100 of the world's leading companies. Its index is reported each day in the media. How will it change between its closing index on Monday 9/21/20 and its closing index on Tuesday 9/22/2020? (Index will be based on "finance.yahoo.com" at the end of regular trading hours) a) It will go down by more than 25 points b) It will go down by at most 25 points. c) It will either be unchanged or go up by at most 25 points. d) It will go up by more than 25 points. 9) Which of the following is always true? a) Your PIBP must change over time. b) Your PISP for an object must change with wealth. c) Value of clairvoyance on the Medallion toss, if you owned the deal, is equal to your PIBP for the clairvoyant’s services. d) Your PISP exceeds market value. 10) How many of the following is not an example of a violation of the sunk cost principle? I. Lets do some research on past performance of this company before we invest in it. II. I need to think about how much I paid for the house 5 years ago because I do not want to lose on the sale. III. I need to think about how much I paid for the house when I sell it if it will reduce my tax bracket and I will have a higher profit. IV. My car transmission just broke down and I decided to scrap the car because the costs for repairing the car exceeds the amount I paid for the car. a) Only one b) Only two c) Only three d) All of the above. 11) Jasmine believes that the thumbtack has an 80% probability of landing pin down. Winston believes that this probability is closer to 40%. When Prof. Abbas flips the tack, however, it lands pin up. What may we conclude from this event? a) Jasmine’s belief about the tack’s probability of landing pin down was incorrect. It should have been much less. b) Winston’s belief more accurately reflects reality than Jasmine’s. c) The probability of landing pin down is actually 80%, but Jasmine just got a bad outcome. d) None of the above. ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 7 of 9 12) In talking to your friend Gautam, you learn that he has two children. He tells you that at least one of them is a boy. You believe that it is equally likely that a newborn is either a boy or a girl. What is your probability that the older child is a girl? a) 1/4 b) 1/3 c) ½ d) None of the above. 13) ABC Insurance Co. estimates that there is an 80% probability of drivers wear seat belts regularly. They also estimate that there is a 50% probability that drivers are over age 35. A study showed that with a 40% chance, drivers who wear seat belts regularly are over age 35. Given these estimates, what is the probability that a driver who is over age 35 wears a seat belt regularly? a) 0.40 b) 0.64 c) 0.96 d) None of the above (II) Group Assignment: Value Function Build a Value Function (Each Group should turn in only one Value Model) We have presented examples of value functions in Class Lectures. In this assignment, each group will build a value function for a situation of their choice. You may choose a value function related to the final project you will turn in. Be prepared to present the model if called upon in Class. Quantitative Problems ( You do not need to turn in) 1) Half Moon Bay Race Charlie is an avid runner and has made plans to run in a 10K race in Half Moon Bay next month. In order to run in the race, Charlie needs to pay the entrance fee of $20. By paying the fee he will receive a number to wear during the race, which is his ‘ticket’ into the race. Without a number, he cannot run in the race. Consider the following scenarios: Scenario 1: Charlie sent a check for $20 to pay for the entrance fee and received his number in the mail. However, once he arrived at the race, he discovered that he lost his number. He has enough money with him to buy a number at the start of the race. Scenario 2: Charlie decides not to pay for the number through the mail but instead to pay for the number at the start of the race. He arrives at the race only to discover that on the ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 8 of 9 way to the race, he lost a $20 bill. He still has enough money with him to buy a number at the start of the race. I. He pays $20 in both scenarios to run in the race. II. He does not pay $20 in either scenario and does not run in the race. III. He pays in scenario 1 and runs in the race, but not in scenario 2 and does not run in the race. IV. He pays in scenario 2 and runs in the race, but not in scenario 1 and does not run in the race. Which of the above statements show behavior that is consistent with decision analysis concepts that have been discussed in lecture? Why? 2) Project Funding A decade ago you earned your MS in IESE. Since then your great work at XYZ Corporation has propelled you quickly through the corporate ranks. As the President of XYZ’s largest subsidiary, you now have two project proposals on your desk. Note that all monetary values cited are in today’s US dollars. Last year we approved Project I. Upon completion, it will generate $100 MM in revenue for sure, and cost $90 MM. You spent the $90MM. The proposal before you now states that an additional $20MM is required to complete the project to realize the $100MM in revenue. If you do not spend the additional $20MM, no revenues will be realized. Project II will generate $80 MM for sure. A trusted advisor tells you that you can secure this deal at a cost of $20 MM. a) If you had $100 MM to invest today, which project(s) would you fund? b) If you had $20 MM to invest today, which project(s) would you fund? c) If you had known from the start that there would be the additional $20MM required to complete Project I, would it still have deserved funding? Food for thought 1) The purpose of this question is to help you practice on determining your PIBP. a) Using your web browser, refer to one of the Internet auctions (e.g. Ebay.com, Yahoo.com, etc). Select an item you would be interested in. What is it? b) Establish your PIBP for that item. How much is it? c) Could you find your PIBP? Why, or why not? d) Did you reach just one value or a range of values? e) Would you bid for that item in a closed bid system with your PIBP? f) Assuming you did bid with the value of your PIBP and you acquired the item. Think for a while, do you believe you got a good deal? Repeat this step until you narrow it down to where you feel indifferent whether you acquire the item or not. ISE 562 Decision Analysis 8/29/2021 Homework #2 Page 9 of 9 2) The purpose of this question is to emphasize the difference between a decision and its outcome. Give a personal example you have encountered of a: a) Good decision followed by a good outcome. b) Good decision followed by a bad outcome. c) Bad decision followed by a good outcome. d) Bad decision followed by a bad outcome.
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