Risk and Uncertainty

Using the expected value approach, the best that can be done is to choose a contract size of 700 and on average earn 4,600.

With perfect information you hire someone who will tell you for each period what demand will be. This does not change the probabilities of each demand occurring any more than a perfect weather forecast changes the probability that it will rain tomorrow.

So, using the pay-off table:

If the forecaster says that demand will be 400, you will contract for 800 making 4400, the best profit for that condition.

If the forecaster says demand will be 500, you will contract for 700, making 4600.

Similarly for forecasts of 700 and 900 you would be able to make 5000 and 5400.

AS I said, these best profits will still occur with their old probabilities so long term your profits will be:

0.2 x 4400 + 0.3 x 4600 + 0.4 x 5000 + 0.1 x 5400 = 4800

Without the forecast you could make and average of 4600, with it you can make 4800, so the maximum to pay is 200.

1 All of the PM syllabus is deemed knowledge for APM and Section 6(d) of that syllabus states:

“Apply the techniques of maximax, maximin, and minimax regret to decision-making problems including the production of profit tables”. It’s worth looking at ACCA’s reply to queries about another numerical subject in APM FAQs:

Q The examiners’ approach article states that the exam will require less computational work. Will learning curves, data tables and joint-probability tables still be examinable?

A Yes, as they are assumed knowledge from the Performance Management syllabus.

I agree that a big number-crunching question on risk and uncertainty might be unlikely but, for example, there would be no reason why a pay-off table could not be presented in the question (creating a pay-off table is really a rather general skill) and candidates then asked to apply/discuss maximin etc as decision-making approaches deeply entrenched in decision makers’ attitude to risk.

2 Corporate failure is not in our notes or lectures.

Thanks.