A marketing manager for a growing consumer products firm is considering launchin

Question

A marketing manager for a growing consumer products firm is considering launching a new product. If the firm launches the product, and it is a success, the payoff will be $1.2 million; if it is not a success, the payoff will be .5 million. Going directly to the market with no prior testing will result in success 50% of the time. To determine interest in such a product, the manager can conduct a focus group or hire a consulting firm. The focus group will cost $120,000 and has a 70% chance of correctly predicting the success of the product. The consulting firm will research the market at a cost of $400,000 and boasts a correct assessment of product success at 90%. What action will result in the highest expected payoff for the firm?

Explanation / Answer

Answer:

Payoff for 100% sucess will be $ 1.20 million

Payoff for 0% sucess will be $ 0.50 million

To analyse the various aspects we set the above limits as benchmark; any cost added with benefit higher than the cost shall be preferable and any cost higher than the payoff of 100% sucess shall be ignored. Now the given scenarios are as under;

1. Hiring of Focus Group;

For 70% sucess; payoff will be 70% of $ 1.20 million = $ 0.84 million and cost for 70% sucess is $ 120,000. Incremental payoffs = $ 0.84 million - $ 0.50 million = $ 340,000 and incremental cost is $ 120,000. Therefore, incremental benefit = $ 220,000.

2. Hiring of Consulting Firm;

For 90% sucess; payoff will be 90% of $ 1.20 million = $ 1.08 million and cost for 90% sucess is $ 400,000. Incremental payoffs = $ 1.08 million - $ 0.50 million = $ 580,000 and incremental cost is $ 400,000. Therefore, incremental benefit = $ 180,000.

Thus, the action of hiring the focus group will result in higher expected payoff for the firm.

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