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ACTIVITY 2.6 – MODULE 2 PROBLEMS

ACTIVITY 2.6 – MODULE 2 PROBLEMS

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Activity 2.6 – Module 2 ProblemsComplete the following problems and submit the results in either a Microsoft Word documentor a Microsoft Excel spreadsheet. If you choose to use an Excel spreadsheet, place eachproblem on a separate sheet and label the tab with problem number. Save your document witha descriptive file name, including the assignment and your name.These problems are similar to problems in the text, but have been altered by the coursemonitor.2-1Kenneth Brown is the principal owner of Brown Oil, Inc. After quitting his university teachingjob, Ken has been able to increase his annual salary by a factor of over 100. At the present time, Ken isforced to consider purchasing some more equipment for Brown Oil because of competition. Hisalternatives are shown in the following table:EquipmentSub 100Oiler JTexasFavorable Market ($)300,000265,00085,000Unfavorable Market ($)-200,000-96,000-18,000For example, if Ken purchases a Sub 100 and if there is a favorable market, he will realize a profit of$300,000. On the other hand, if the market is unfavorable, Ken will suffer a loss of $200,000.But Ken has always been a very optimistic decision maker.The Lubricant is an expensive oil newsletter to which many oil giants subscribe, including Ken Brown. Inthe last issue, the letter described how the demand for oil products would be extremely high. Apparently,the American consumer will continue to use oil products even if the price of these products doubles.Indeed, one of the articles in the Lubricant states that the chances of a favorable market for oil products was75%, while the chance of an unfavorable market was only 25%. Ken would like to use these probabilitiesin determining the best decision.(a) What decision model should be used?(b) What is the optimal decision?(c) Ken believes that the $300,000 figure for the Sub 100 with a favorable market is too high. Howmuch lower would this figure have to be for Ken to change his decision made in part b?2-2Mickey Lawson is considering investing some money that he inherited. The following payofftable gives the profits that would be realized during the next year for each of three investment alternativesMickey is considering:Decision AlternativeStock MarketBondsCDsProbabilityState of NatureGood EconomyPoor Economy80000-2000040000210002500025000.5.5(a) What decision would maximize expected profits?(b) What is the maximum amount that should be paid for a perfect forecast of the economy?(c)

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