IES 303
Supplement A: Decision making
Week 3
Nov 24, 2005
Objective:
- Amazon.com Case discussion:
competitive advantage
- Understand practical techniques
in making operational decisions
1
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Case Discussion – Amazon.com

Discussion Question 1 (pg 79)
The onset of exponential growth in the development of information
technologies has encouraged the birth of many “dot-com”
companies. The Internet has enabled these companies to reach
customers in very effective ways. Consider Amazon.com, whose
web site enjoys millions of hits each day and put customers in
touch with more that 18 million services and products. What are
Amazon.com’s competitive priorities and what should its
operations strategy focus on?
In addition to Amazon.com, suggest one other dot-com company or
website and discuss about its competitive priorities.
2
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Break-Even Analysis

Break-even point
The volume at which total
revenue = total cost


Break-even analysis
can be used to compare
processes by finding the
volume at which two
different processes has
equal total costs
Variable costs: Total
cost varies directly with
volume of output
Dollars (in thousands)

(2000, 400)
400 –
Fixed costs: Total cost
remains constant
regardless of changes in
levels of outputFigure A.1
Profits
300 –
(2000, 300)
Total annual revenues
Total annual costs
200 –
Break-even quantity
100 –Loss
0–
Fixed costs
|
|
|
|
500
1000
Patients (Q)
1500
2000
3
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Ex 1: Break-even analysis
[Break even volume]
The owner of a small manufacturing business has patented a new
device for washing dishes and cleaning dirty kitchen sinks.
Before trying to commercialize the device and add it to her
existing product line, she wants reasonable assurance of success.
Variable costs are estimated at $7 per unit produced and sold.
Fixed costs are about $56,000 per year.
•
If the unit selling price is set at $25, how many units must be
produced and sold to break even?
•
Forecasted sales for the first year are 10,000 units if the price is
reduced to $15. With this pricing strategy, what would be the
profit in the first year?
4
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Ex 2: Break-even analysis
[Process selection]
(Midterm exam 04)
The bakery owner is now
deciding on replacing the
current oven. There are 2
oven systems from 2
companies in consideration.
The first company proposes
“Oven A” in which can bake
two 8-inch pies
simultaneously. In other
words, there are 2 pies can
be processed in a baking
batch. On the other hand,
Oven B can bake four 8-inch
pies simultaneously. The
details of relevant costs and
oven capacities are as
follows:
Capacity
Oven
A
Oven
B
2 pies
4 pies
$6
$8
$10
$10
Number of pies that can be baked
simultaneously (number of pie per
baking batch)
Variable Cost per baking batch
Electricity
Cleaning
Staff
Fixed Cost per month
-
Loan payment
Depreciation and others
$400
$800
$100
$200
Determine the break-even point for
the two oven alternatives. Which
oven should the owner select and
why?
5
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Ex 3: Break-even analysis
[Multiple process selection]
Nano Tech is ready to begin
production of its exciting new
technology. The company is
evaluating three methods of
productions
A: a small production facility
with older equipment
B: a larger production facility
that is more automated, and
C: subcontracting to an
electronics manufacturer in
Singapore
Fixed Cost
Variable
Cost
A
$ 200,000
$40
B
$ 600,000
$20
C
$0
$60
Determine for what
level of demand
each production
process should be
chosen.
6
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Group Discussion: Real life example of
break-even analysis



Suggest the scenario
What information do you need to perform this
analysis correctly?
How can you obtain those information
7
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Decision Theory

1.
Ex: Decision on process
capacity; location;
inventory
General approach to decision making when the outcomes
associated with alternatives are often in doubt by following these
processes
Assume finite number
List the feasible alternatives
of alternatives
Events that have impact on outcome of
events
ofunder
nature)
choiceor
butstate
are not
manager’s control
2.
List the events (chance
3.
Ex: total profit or total cost
Calculate the payoff for each
alternative in each event
4.
5.
Ex: 40% chance for
Estimate the likelihood or probability of each
events,
economic
growth’ 20%
chance for stable; 40%
using past data, executive opinion, or forecasting
method
for decline
Select a decision rule to evaluate the alternatives
Ex: minimize cost; maximize
profit; maximize productivity
8
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Simplest method but
unlikely situation
Decisions Under Certainty
Events
Alternative
Small facility
Large facility
Do nothing
Base
line
Possible
Future Demand
Low
High
200
160
0
270
800
0
Payoff – in this
example is profit
Under certainty:
If future demand will be low – Choose the small facility.
If future demand will be high – Choose the large facility.
Example A.5
9
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Decision Under Risk

Lists of events with estimated probability

Use “expected value” decision rule
-Weighing each payoff
with its probability and
then add them up
- Choose the best
expected value
Alternative
Small facility
Large facility
Do nothing
Possible
Future Demand
Low
High
200
160
0
Plow demand = 0.4
Phigh demand = 0.6
270
800
0
Small: 0.4(200) + 0.6(270) = 242
Large: 0.4(160) + 0.6(800) = 544
Example A.7
From
experiment,
past data,
business trend
Choose large facility
10
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Decision Trees


A schematic model of alternatives available to
the decision maker, along with their possible
consequences
Used in product planning, process analysis,
Select the
process capacity, and location
alternative with
the best
expected payoff

Square nodes: decision points

Circle nodes: state of nature (event)

Branch: events
Calculate the
event’s expected
payoff
ΣEi [P(Ei)]
11
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Decision Trees
Calculate the
event’s expected
payoffΣEi [P(Ei)]
Read the problem from left  right
Solve the problem from right  left
E1 [P(E1)]
Payoff 1
E2 [P(E2)]
E3 [P(E3)]
Payoff 2
Payoff 3
Alternative 3
1
1st
decision
= Event node
Alternative 4
2
Ei = Event i
P(Ei) = Probability of event i
Payoff 2
Alternative 5
Payoff 3
Possible
2nd decision
E2 [P(E2)]
E3 [P(E3)]
= Decision node
Payoff 1
Payoff 1
Payoff 2
Select the
alternative with
Figure A.5
the best
expected payoff
12
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Example: Southern Textile Company
adapted from Russell & Taylor III (2003)
See detail in additional handout
0.60
$2,000,000
Market growth
2
0.40
No market
growth
Expand
(-$800,000)
1
$225,000
Expand
(-$800,000)
Market
growth (3 years,
$0 payoff)
Purchase Land
(-$200,000)
Market
growth
0.80
6
0.20
No market
growth
4
Sell land
0.60
3
Market
growth
0.40
Warehouse
(-$600,000)
5
Sell land
$700,000
$2,300,000
0.30
7
0.70
No market
growth (3 years,
$0 payoff)
$3,000,000
$1,000,000
No market
growth
13
$210,000
IES 303 Engineering Management & Cost Analysis | Dr. Karndee Prichanont, SIIT
Next week

Read Case: Jose's Authentic Mexican Restaurant;
pg166

And prepare to discuss the posted questions

Read chapter 4-5
14