Management of the Telemore Company is considering developing and marketing a new

Question

Management of the Telemore Company is considering developing and marketing a new product. It is estimated to be as likely that the product would prove to be successful as un- successful. It it were successful, the expected profit would be $1,800,000. If unsuccessful, the expected loss would be $1,500,000. A marketing survey can be conducted at a cost of $300,000 to predict whether the product would be successful. Past experience with such surveys indicates that successful products have been predicted to be successful 70 percent of the time, whereas unsuccessful products have been predicted to be unsuccessful 80 percent of the time.

(a) Find the optimal policy regarding whether to conduct the market survey and whether to develop and market the new product.

(b) What is the maximum cost of survey that makes it worth conducting?
(c) What is the survey methods could be improved so that it provides more accurate estimates of market success, what is the maximum cost of such an improved survey?

Explanation / Answer

a) Expected value without survey = [1800000-1500000]/2=150000

a) Expected value with survey = 0.70*0.50*1800000+0.7*0.3*(-1500000) = 315000

SUbtracting cost of survey, Expected value = 15000

We should not conduct the survey and directly develop and market the product since 150000>15000

b) Maximum cost of survey=315000-150000=165000

c) If Market success can be estimated with 100% efficiency, Expected value =0.5*1800000*1=900000

Max cos of survey= 900000-150000=750000

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