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CMA Foundation · Fundamentals of Business Economics and Management · Decision-making - Types and Process

Sharma Textiles is considering a new product with the following payoffs and probabilities. Strong demand (probability 0.4): Rs 5,00,000 profit; Moderate demand (probability 0.4): Rs 2,00,000 profit; Weak demand (probability 0.2): loss of Rs 1,00,000. What is the expected monetary value of the product?

The expected monetary value is Rs 2,60,000. It is found by multiplying each payoff by its probability and adding: 2,00,000 plus 80,000 minus 20,000. The loss under weak demand must be subtracted, not added, when computing the weighted average.

  1. ARs 2,80,000Correct
  2. BRs 2,60,000
  3. CRs 3,00,000
  4. DRs 1,86,667

Explanation

EMV = 0.4 x 5,00,000 + 0.4 x 2,00,000 + 0.2 x (-1,00,000) = 2,00,000 + 80,000 - 20,000 = Rs 2,60,000. Check: 2,00,000+80,000=2,80,000; minus 20,000 = 2,60,000. So the correct value is Rs 2,60,000, which is option 2.

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