Residents of Mill River have fond memories of ice skating at a local park. An ar

Question

Residents of Mill River have fond memories of ice skating at a local park. An artist has captured the experience in a drawing and is hoping to reproduce it and see framed copes to current and former residents. He thinks that if the market is good he can sell 500 copies of the elegant version at $150 each. If the market is not good, he will sell only 350 at $100 each. He can make a deluxe version of the same drawing instead. He feels that if the market is good he can sell 700 copies of the deluxe version at $100 each. If the market is not good, he will sell only 450 copies at $75 each. In either case, total manufacturing costs will be approximately $30,000. He can also choose to do nothing. If he believes there is a 60% probability of a good market, what should he do? Why? Good Market 00 Units 150 Selling Price Value of this: Good Market Revenue Mfg Cost Net Mfg Cost Elegant Version Not Good Market 350 Units 100 Selling Price Expected monetary Value Value of this: Not Good Mark Revenue Mfg Cost Net Mfg Cost Good Market Good Market Value of this: Units Deluxe Version 100 Selling Price Revenue Mfg Cost Net Mfg Cost Expected monetary Value Not Good Market Value of this: 450 Units Not Good Mark Revenue Mfg Cost Net 75 Selling Price Mfg Cost Solution: Do Nothing 0 Net

Explanation / Answer

The expected sales value will be probability weighted sales in each scenario, as below:

Elegant Version:

Good Market: Revenues = 500* 150 = 75000; Cost = 30000, hence Net = 45000

Not good market: Revenues = 350 * 100 = 35000; Cost = 30000, hence Net = 5000

Expected Net fro Elegant Version: 60% * 45000 + 40% * 5000 = 29000

Deluxe version:

Good Market: Revenues = 700* 100 = 70000; Cost = 30000, hence Net = 40000

Not good market: Revenues = 450 * 75 = 35000; Cost = 33750, hence Net = 3750

Expected Net fro Elegant Version: 60% * 40000 + 40% * 3750 = 25500

Since the expected value of Elegant version is the highest compared to Deluxe Version and Not doing anything, the artist should go for the Elegant Version

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