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Chapter 18
Evaluating Strategies and Writing the Business Plan
Answer to End of Chapter Exercises

Q 18.1
Without advertising
60% x 500,000 = 300,000 + 40% x 50,000 = 320000
With advertising
75% x 500,000 + 25% x 50,000 -100,000 = 287500

Therefore not worthwhile

Q 18.2
0.1 7000 700
0.3 9000 2700
0.3 11000 3300
0.2 13000 2600
0.1 15000 1500

expected units 10800

contribution per unit 1.5
total contribution 16200

discount. present value

year Factor
0 -40000 1 -40000
1 16200 0.9091 14727
2 16200 0.8264 13388
3 16200 0.7513 12171
4 16200 0.6830 11065

Net Present Value 11,351

Q 18.3
Option A Option B Option C
Probability Cost Probability Cost Probability Cost

0.5 28,000 0.2 25,000 0.3 24,000
0.5 33,000 0.4 30,000 0.5 31,000
0.4 35,000 0.2 33,000
expected value 30500 31000 29300

Highest expected value is option B.

2008 John Wiley & Sons Ltd.

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Q 18.4 a)
Contribution Probability Expected value

000 000 000

High sales 750 10% 75

Medium sales 250 30% 75

Low sales -100 60% -60

Manufacture 90

H.S 350 10% 35

Royalties M.S 200 30% 60

L.S 100 60 % 60
155
Sell all right

H.S. 150 10% 15

M.S. 150 30% 45

L.S 150 60% 90

150

Best option is to be paid on a royalty basis as this generates a positive contribution of 155,000,
compared to the next best option of selling the rights, which generates 150,000.

b) Additional expected value given the possibility of developing a further phone. A further
set of branches will develop from the option to manufacture the product.
The contribution would be
i) The expected contribution if the original product is manufactured plus the additional
contribution generated by the new version of the phone. Thus for example if there are
high sales of the existing product and it is manufactured, then from part a) the
contribution has been identified as 750,000, with a probability of occurrence of 10%
and an expected value of 75,000.
Plus
ii) If there is a successful launch of the new phone it will generate a further 600,000
contribution and there is a further 50% chance that this will occur.
iii) The combined contribution is therefore 1,350,000 and the overall probability is 5%
(10% x 50%). This gives an expected value of 67,500. The same method can be used
to calculate the expected value of the other branches.

2008 John Wiley & Sons Ltd.

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Contribution Probability Expected value

000 000 000

Successful launch 1,350 5% 67.5

of product
High sales
Not successful 650 5% 32.5

Successful launch 450 15% 67.5

of product
Manufacture Medium sales
Not successful 150 15% 22.5

Low sales -100 60% -60

130
The expected value given the chance of further developing a new phone is 130,000. The best
choice therefore remains that of royalties.

Q 18.5
a)
Market Poor Good Excellent
conditions
Probability 0.2 0.5 0.3

'000 '000 '000

Project A 1,000 940 1,100
Project B 800 1,100 1,140
Project C 900 800 950

000 000 000 Expected value

000
Project A 200 470 330 1,000
Project B 160 550 342 1,052
Project C 180 400 285 865
on the basis of expected value, project B would be chosen/

b) Using maximin criteria would choose project A as the minimum gain is 940,000.
Using maximax criteria would choose project B as the maximum gain of 1,040,000 is the greatest.

2008 John Wiley & Sons Ltd.

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Q 18.6 Farlington Ltd

Policies of A B C
T&C 1500 1800 1400
T&D 1900 1250 1500
C& D 1600 1450 1500

i) Risk averse would use the maximin criterion which would choose construction and defence as
the worst case scenario would still result in a contribution of 1,450,000.
ii) Risk taker would aim to choose the option that could provide the highest return which is
tourism and defence which at best would provide a contribution of 1,900,000.

3 = 1 x
Q 18.7 2
iteration 1 2 x 40 fixed cost Profit
sales vol margin total
1 10000 50.00% 200000 25,000 175,000
2 13,000 30.00% 156000 20,000 136,000
3 13,000 50.00% 260000 25,000 235,000
4 15,000 30.00% 180000 15,000 165,000
5 13,000 40.00% 208000 25,000 183,000

Expected value 178,800

Q 18.8
<= 0 30%
>60,000 7%

2008 John Wiley & Sons Ltd.

www.wileyeurope.com/college/bowhill