There are five steps to the general approach to decision theory when outcomes associated with alternatives are often in doubt (as stated in your text book). Summarized these steps in your own words. Apply these five steps to a recent decision in your own company.

1. List the feasible alternatives . One alternative that should always be considered basis for reference is to do nothing . A basic assumption is that the number of alternatives is finite . For example , in deciding where to locate a new retail store in a certain part of the city , a manager could theoretically consider every grid coordinate on the city's map . Realistically , however . the manager must narrow the number of choices to a reasonable number ,

2. List the events ( sometimes called chance events or states of nature ) that have an impact on the outcome of the choice but are not under the manager's control . For example , the demand experienced by the new facility could be low or high , depending not only on whether the location is convenient to many customers but also on what the competition does and general retail trends . Then , group events into reasonable categories . For example , suppose that the average number of sales per day could be anywhere from 1 to 500. Rather than have 500 events , the manager could represent demand with just three events : 100 sales / day , 300 sales / day , or 500 sales / day . The events must be mutually exclusive and collectively exhaustive , meaning that they do not overlap and that they cover all eventualities .

3. Calculate the payoff for each alternative in each event . Typically , the payoff is total profit or total cost . These payoffs can be entered into a payoff table , which shows the amount for each alternative if each possible event occurs . For three alternatives and four events , the table would have 12 payoffs ( 3 x 4 ) . If significant distortions will occur if the time value of money is not recognized , the payoffs should be expressed as present values or internal rates of return ( see MyLab Operations Management Supplement F ) . For multiple criteria with important qualitative factors , use the weighted scores of a preference matrix approach as the payoffs .

4. Estimate the likelihood of each event , using past data , executive opinion , or other forecasting methods . Express it as a probability , making sure that the probabilities sum to 1.0 . Develop probability estimates from past data if the past is considered a good indicator of the future .

5. Select a decision rule to evaluate the alternatives , such as choosing the alternative with the lowest expected cost . The rule chosen depends on the amount of information the manager has on the event probabilities and the manager's attitudes toward risk . Using this process , we examine decisions under three different situations : certainty , uncer tainty , and risk .