Question
Johnson's Composite Materials (JCM), a manufacturer of cellular phone casings made from one of their specialty composite materials, is attempting to decide whether to enter
Johnson's Composite Materials (JCM), a manufacturer of cellular phone casings made from one of their specialty composite materials, is attempting to decide whether to enter the competition to be a supplier of cellular phone casings for Sonorola. In order to complete, the firm must design a test mold and, using this mold, produce ten casings (with its existing equipment) that Sonorola will test. JCM's total development cost of the test mold plus production of the ten test casings is $50,000. If JCM is not chosen as a supplier by Sonorola, the total development cost is lost. If, based on the testing by Sonorola, JCM is chosen as Sonorola's supplier - estimated to have a probability of 40% of happening - then, (using the developed mold and existing equipment) it will be possible to sell 10,000 casings to Sonorola for $50.00 each.
If JCM is chosen as Sonorola's supplier, JCM may choose either to produce casings with its existing equipment or purchase a new piece of production equipment for this use. It's estimated it would cost $40,000 to make plant modifications to facilitate full production of the new casing with existing equipment, and that the per-casing production cost would be $20.00, but, if existing equipment is used, there's a risk of incurring new plant overtime costs due to disruption in the other uses of the existing equipment. The likelihoods of demand for other uses of existing equipment - at three specific levels - and the associated estimates of overtime costs are as follow:
Heavy-Other-Uses Demand - 20% with $200,000 cost,
Normal-Other-Uses Demand - 70% with $100,000 cost; and
Light-Other-Uses Demand - 10% with no overtime cost.
The possible new piece of equipment that could be acquired for producing casings for Sonorola would cost $260,000 to be acquired, an entirely new associated mold developed, and be readied for production, and the associated per-casing production cost would be only $10.00. Also, having this new piece of equipment would eliminate any possibility of overtime costs being incurred, and the casings would still be supplied to Sonorola for $50.00 each.
Develop an appropriate decision tree model for maximizing the expected value of this business decision scenario, and then, without using software, use the developed model to derive the EVPI for the information as to whether or not JCM is chosen as Sonorola's supplier.
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