DECISION MAKING JUNE 2009 F4U

In part (a) you are asked to work out the NPV if 300 franchises are sold at 20,000 each anf teh variable cost per franchise is 6,000. The answer was 3,119,120, which is the midddle figure of the pay-off table in Note 2. The examiner has worked out the NPV for other combinations of franchise fee and variable cost per franchise.

Maximax: look for the absolute best NPV: 4,348,226 and price your franchise at 18,000 in the firm belief that this is the NPV you will get.

Maximin: look at the worst that can happen with each pricing approach: 2,245,419, 2,230,610 and 2,674,865. Choose the pricing strategy that is least worst ie 22,000 to achieve 2,674,865.

Minimax regret: for any regret you have to look back and say to yourself “If only I had done that”. So if variable costs turn out to be 5,000 and you had priced franchises at 18,000 you would have no regrets. If you had priced franchises at 20,000 you would only earn 4,007,630 so would regret your decision by the difference: 340,596.

The regret matrix is completely shown in the answer. Then you become Maximin regret by looking at the worst regret for each pricing decision and going with the least nasty one.