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MAS – LECTURE NOTES ARMIN GLENN ARANETA, CPA

QUANTITATIVE METHODS

QUANTITATIVE METHODS(Operations Research) – various application of mathematics in

business or any complex system.

OPERATIONS RESEARCH – specifically, the discipline of applying quantitative methods

oriented to planning.
NETWORK MODELS

NETWORK MODELS involve project scheduling techniques that are designed to aid the
planning and control of large-scale projects having many interrelated activities.

Uses of Network Analysis:

1) Planning 4) Forecasting future progress
2) Measuring progress to schedule 5) Predicting and controlling costs
3) Evaluating changes to schedule

Sample Applications:
1) Building construction 4) Feasibility studies
2) Book publishing 5) Research and developments
projects
3) New product planning 6) Auditing

Project Scheduling Techniques:

1) Gantt or bar charts
2) Program evaluation and Review Techniques (PERT)
3) Critical Path Method (CPM)

Program evaluation and Review Techniques (PERT) – developed to aid managers aid
managers in controlling large-scale, complex problems.

Pert Diagram – a probabilistic diagram of the interrelationship of a complex series of activities;

a free-form network showing each activity as a line between events.

Events – discrete moments in time representing the start or finish of an activity; they consume no
resources.
Activities – tasks to be accomplished; they consume resources, (including time) and have a
duration over time.
Types of Activity:
a) Series – an activity that cannot be performed unless another activity is
undertaken.
b) Parallel – can be performed simultaneously.
Critical Path – longest path through the network.

Expected time (te) – the average time an activity would require if it were repeated a large
number of times.

te = to + 4tm + tp
6
where:
to = optimistic time
tm = most likely time
tp = pessimistic time
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Slack time – the amount of time that can be added to an activity without increasing the
total time required on the critical path; the length of time an activity can be delayed without
forcing a delay for the entire project.

Critical Path method (CPM) – like PERT, it is a network technique, but unlike PERT. It uses
deterministic time and cost estimates; its advantages include cost estimates plus the concept of
crash efforts and costs.

Crash time – time to complete an activity assuming that all variable resources were devoted to
the task (overtime, extra crew, etc.)

EXERCISES IN NETWORK ANALYSIS

1. PERT NETWORK. A company is faced with the following PERT network situation (time in
days):

1–5–9
B
START
2–4–6 FINISH
4 – 8 – 12 2 – 6 – 10
A D E

1–3–5

C 3–4–5

Required:
a) Calculate te (expected time) for each activity. For each activity, the estimates are to, tm,
and tp, in that order.
b) Calculate the total time for each path and identify the critical path.

2. York New City Building Corporation uses the critical path method to monitor construction
jobs. The company is currently 2 weeks behind schedule on Job 143, which is subject to a P10,
500 per week completion penalty. Path A-B-C-F-G-H-I has a normal completion time of 20
weeks, and critical path A-D-E-F-G-H-I has a normal completion time of 22 weeks. The
following activities can be crashed.

Cost to Crash Cost to Crash

Activities 1 week 2 weeks
BC P 8, 000 P 15, 000
DE 10, 000 19, 600
EF 8, 800 19, 500

York New City Building desires to reduce the normal completion time of Job 143 and, at the
same time, report the highest possible income for the year. York New City Building should
crash:
a. Activity BC 1 week and activity EF 1 week c. Activity EF 2 weeks
b. Activity DE 1 week and activity BC 1 week d. Activity DE 1 week and activity
EF 1 week
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LEARNING CURVES

LEARNING CURVES describe the efficiencies arising from experience, because with
experience comes increased productivity. This productivity increases with production size, but at
a decreasing rate as diagrammed below:

Productivity

Experience

The time required to perform a given task becomes progressively shorter, but this is applicable
only to the early stages of production or any new task.

The curve is expressed as a percentage of reduced time (usually between 60% and 80%0 to
complete a task of each doubling of cumulative production. Hence, the time required is reduced
by 20% to 405 each time cumulative production is doubled.

Assumptions:
1) The cumulative average time per unit is reduced by a certain percentage each time
production doubles.
2) Incremental unit time (time to produce the last unit) is reduced when production doubles.

EXERCISES IN LEARNING CURVES

1. A particular manufacturing job is subject to an estimated 50% learning curve. The first unit
required 30 labor hours to complete.

Required:
a. What is the cumulative average time per unit after four units are completed?
b. What is the total time required to produce 2 units?
c. How many hours are required to produce the second unit?

2. CPA Company recently completed and sold an order of 50 units that had the following costs:
Direct materials P1, 500
Direct labor (1, 000 hours @ P8.50) 8, 500
Variable overhead (1, 000 hours @ P4.00)* 4, 000
Fixed overhead** 1, 400
Total P15, 400
*Applied on the basis of direct labor hours
**Applied at the rate of 10 percent of variable cost

The company has now been requested to prepare a bid for 150 units of the same product.

2a. If an 80% learning curve is applicable, CPA Company’s total cost on this order would
be estimated at:
a. P26, 400 c. P37, 950
b. P31, 790 d. P37, 500

2b. If CPA Company had experienced a 70% learning curve, the bid for the 150 units
would:
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a. show a 30% reduction in the total direct labor hours required with no learning
curve.
b. include increased fixed overhead costs.
c. include 2, 560 total direct labor hours at 8.50 per hour.
d. include 6.40 direct labor hours per unit at p8.50 per hour.

3. Accountant Corporation is preparing a bid to produce engines. The company has experienced
the following costs:
Cumulative Total Cumulative Costs
Units Produced Materials Labor
10 P60, 000 P120, 000
20 120, 000 192, 000
40 240, 000 307, 200

At Accountant Corporation, variable overhead is applied on the basis of 100% of direct labor
cost. Based on historical costs, the company knows that the production of 40 engines will incur
P100, 000 of fixed overhead costs. The bid request is for an additional of 40 units; all companies
submitting bids are allowed to charge a maximum of 25% above full cost for each order.

Required:
a. Compute for the rate of learning on the engine contract.
b. The maximum bid price that Accountant Corporation can submit for the 40 units.
c. To ensure that the company will not lose money on the project, what should the minimum
bid price for the project be?

PROBABILITY ANALYSIS

PROBABILITY is important to management decision-making because of the unpredictability of

future events.

Decision-making under conditions of risk – occurs when the probability distribution of the
possible future states of nature is known.

Decision-making under conditions of uncertainty – occurs when the probability distribution of

possible future states of nature is not known and must be subjectively determined.

The probability of an event varies from 0 to 1 (or 0 to 100%)

a. 0 probability – the event cannot occur.
b. Probability of 1 (or 100%) – the event is certain to occur.

BASIC TERMS USED WITH PROBABILITY:

1) Two events are mutually exclusive if they cannot occur simultaneously.
2) The joint probability of two events is the probability that both will occur.
3) The conditional probability of two events is the probability that one will occur given
that the other has already occurred.
4) To events are independent if the occurrence of one has no effect on the probability of the
other.

Expected Value
The expected value of an action is found by multiplying the probability the probability of
each outcome by its pay-off and summing the products.
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EXERCISES IN PROBABILITY

1. In planning its budget for 2014. Future Company prepared the following pay-off probability
distribution describing the relative likelihood of monthly sales volume levels for its product:
Monthly Sales Volume Probability
200 5%
300 10%
500 60%
800 20%
1, 000 5%
Required:
a. What is the expected monthly sales volume, considering the given probabilities?
b. If the product’s contribution margin per unit is P2, what is the expected value of the
monthly contribution margin for this product?

2. A computer store sells four computer models designated as Y143, A143, T143 and S143. The
store manager has made random number assignments to represent customer choices based on
past sales data. The assignments are shown below.
Model Random Numbers
Y143 0–1
A143 2–6
T 143 7–8
S 143 9
Required:
a. What is the probability that a customer will select model Y143, A143, T143 and S143?
b. In running a simulation of the computer demand, the following numbers are drawn in
sequence: 2, 8, and 6. The simulation indicates that the third customer will purchase?

3. The probabilities shown in the table represent the estimates of sales for a new product:
Sales in units Probability
0 – 200 15%
201 – 400 45%
401 – 600 25%
601 – 800 15%
What is the best estimate of the expected sales of the new product?
a. 480 c. 400
b. 380 d. 800
4. A company uses two major material inputs in its production. To prepare its manufacturing
operations budget, the company has to project the cost changes of these material inputs. The cost
changes are independent of one another. The purchasing department provides the following
probabilities associated with projected cost changes:

Cost Change Material 1 Material 2

3% increase 0.3 0.5
5% increase 0.5 0.4
10% increase 0.2 0.1

What is the probability that there will be a 3% increase in the cost of both Material1 and Material
2? ; 5%?; 10%?

Joint probability of occurrence of two independent events = product of their individual

probabilities.
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5. A firm will either produce product A or B. the total costs (TC) for both products can be
estimated by the equations:
Product A: TC = P300, 000 + (P23 x Sales Volume)
` Product B: TC = P100, 000 + (P29 x Sales Volume)

The firm believes there is a 20% chance for the sales volume of each product to equal 10, 000
units and an 80% chance they will both equal 20, 000 units. The selling price of product A is
P42, and the selling price of product B is P40. The expected profit from producing product A
equals? Product B equals?

LINEAR PROGRAMMING

LINEAR PROGRAMMING – a technique used to optimize an objective function (maximize

revenue or profit function, or minimize a cost function), subject to constraints (such as scarce
resources, minimum/maximum levels of production, performance, etc.)

In business, linear programming is used for planning resource allocations (to make optimum use
of limited resources). Conditions calling for the use of linear programming include:

1) Specification of a cost or revenue objective formula.

2) The limited resources must be subject to alternative uses.
3) The alternative uses of the limited resources must be specified.

EXERCISES IN LINEAR PROGRAMMING

]
1. Anim Company has excess capacity on two machines, 24 hours on Machine 142 and 16 hours
on Machine 143. To use this excess capacity, the company has two products, known as Product
A and Product M that must use both machines in manufacturing. Both have excess product
demand, and the company can sell as many units as it can manufacture. The company’s objective
is to maximize profits.

Product A has incremental profit of P6 per unit, and each unit utilizes 2 hours of time on
Machine 142 and then 2 hours of time on Machine 143. Product M has an incremental profit of
P7 per unit, and each unit utilizes 3 hours of time on Machine 142 and then 1 hour of time on
Machine 143. Let A be the number of units for product A, M be the number of units for Product
M, and P be the company’s profit.

Required:
a. Objective function involving maximization of the company’s contribution margin.
b. Constraint function for Machine 142.
c. Constraint function for Machine 143.
d. The optimal mix of products that must be produced by Anim Company.

2. The Click Five Inc. manufactures Product J and Product E which are processed as follows:
Type D Machine Type B Machine
Product J 6 hours 4 hours
Product E 9 hours 5 hours

The contribution margin is P12 for Product J and P7 for Product E. The available time daily for
processing the two products is 120 hours for Machine Type D and 80 hours for Machine Type B.
How would the restriction (constraint) for Machine Type B be expressed?
a. 4J + 5E c. 6J + 9E < 120
b. 4J + 5E < 80 d. 12J + 7E
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3. The Hall of Fame Company makes toys A and B, each of which needs two processes: cutting
and wrapping. The contribution margin is P6 for Product A and P5 for Product B. the table
below shows the maximum number of units (constraint) of each product that may be processed
in two departments.

Maximum Capacities (In Product Units)

CUTTING WRAPPING
Product A 60 80
Product B 60 40

Considering the constraint in processing, which combination of Products A and B maximizes the
total contribution margin?
a. 40 units of A and 20 units of B c. 80 units of A and 0 units of B
b. 60 units of A and 0 units of B d. 0 units of A and 40 units of B

4. A firm decides the mix of production of Product X and Product Z. there are only two resources
used in the two products, resources A and B. data related to the two products are given in the
following table:

Product X Product Z
Resource A 3 7
Resource B 2 1
Unit Profit P8 P6

What is the appropriate objective function to maximize profit?

a. 3X + 7Y c. 8X + 6Y
b. 2X + Y d. 5X + 8Y

“If we are facing the right direction, all we have to do is keep on walking.”
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