Gopwani Inc., manufactures and distributes clay pots. Over the years due to neglect of this product, sales have decreased to approximately 20,000 units per year from a previous high of 100,000 units. De Souza Pottery Inc has redesigned the clay pots and Marie-Alice the new sales manager, is unsure how many clay pots can be sold next year. Marie-Alice estimates of the number of units that can be sold during the next year and the related probabilities are as follows:

Estimated

Sales in Units

Probability

40,000

.10

60,000

.40

80,000

.30

100,000

.20

The units will sell for $20 each.

The entire year's sales must be manufactured in one production run. If demand is greater than the number of units manufactured, sales will be lost. If demand is below supply, the extra units cannot be carried over to the next season and must be discarded. The costs of discarding the clay pots are $2 per clay pot.

Variable costs are as follows:

Manufacturing

$8

Selling

2

Fixed costs are $240,000 for production volumes of 40,000 to 60,000 and $320,000 for volumes of 80,000 and more.

The company must decide on the optimal size of the production run.

Required

1.Using expected value analysis, determine the optimal production size that would maximize profits [20 marks].

2.The company has the option of hiring a consultant that could predict with a high degree of accuracy the sales before production starts. Calculate the maximum amount that the company should pay for this perfect information. [5 marks]