Question: The yearly demand for a seasonal profitable item follows the

The yearly demand for a seasonal, profitable item follows the distribution below:
Demand (units) Probability
1,000 ........ .20
2,000 ........ .30
3,000 ........ .40
4,000 ........ .10
A manufacturer is considering launching a project to produce this item and could produce it by one of three methods:
a. Use existing tools at a cost of $6 per unit.
b. Buy cheap, special equipment for $1,000. The value of the equipment at the end of the year (salvage value) is zero. The cost would be reduced to $3 per unit.
c. Buy high-quality, special equipment for $10,000 that can be depreciated over four years (one fourth of the cost each year). The cost with this equipment would be only $2 per unit.
Set up this project as a decision tree to find whether the manufacturer should approve this project, and if so, which method of production to use to maximize profit.

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  • CreatedMay 27, 2014
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