Decision Analysis

Section 1

Definitions

Decision Analysis Theory :An analytical and systematic way to

tackle problems and make decisions.

Decision tree: A graphical representation of the decision making

situation

Payoff table/Decision Table (Vij): The consequence resulting from

specific combination of a decision alternative(di) and a state of
nature(sj) or a means of organizing a decision situation, presenting
the payoffs from different decisions/alternatives given the
various states of nature

State of Nature (Sj):The possible outcomes for a chance

event(uncertain future event)

Alternatives: A course of action or a strategy may be chosen by a

decision maker
A good decision is based on logic.

Types of DecisionDecision-Making
Environments

Type 1: Decision making under certainty.

A decision making environment in which the future outcomes or
state of nature are known. Decision maker knows with certainty
the outcome of every alternative or decision choice.

Type 2: Decision making under uncertainty.

A decision making environment in which the future outcomes or
state of nature may occur . The decision maker does not know the
probabilities of the various outcomes. Actually s/he knows
nothing!

Type 3: Decision making under risk.

A decision making environment in which the future outcomes or
state of nature may occur as a result of a decision or alternative.
The decision maker does know the probabilities of the various
outcomes.

Six steps in Decision Making

Decision Making under Uncertainty

1.

Maximax(optimistic)

2.

Maximin(pessimistic)

3.

Equally likely(laplace)

4.

Criterion of Realism(Hurwicz)

5.

Minimax Regret

Decision Making under UncertaintyUncertaintyCont.

1-Maximax: Optimistic Approach
Find the alternative that maximizes the maximum
outcome for every alternative.

MaxiMax

Decision Making under UncertaintyUncertaintyCont.

2- Maximin: Pessimistic (conservative)Approach
Choose the alternative with maximum minimum
output.

MaxiMin

Decision Making under UncertaintyUncertaintyCont.

3- Equally likely (Laplace)
Assume all states of nature to be equally likely,
choose maximum Average.

Equaly likely

Decision Making under UncertaintyUncertaintyCont.

4- Criterion of Realism (Hurwicz)/Weighted Average

Decision maker uses a weighted average

based on optimism of the future.

CR = *(row max)+(1- )*(row min)

Realism

Decision Making under UncertaintyUncertaintyCont.

5- Minimax Regret:

Choose the alternative that minimizes the

maximum opportunity loss .

MiniMax

Structure of Decision Trees

A graphical representation where:
1-A decision node from which one of several alternatives
may be chosen.

decision Node (point):in a decision tree ,this is point

where the best of the available alternative is chosen the
branches represent the alternative

2- A state-of-nature node out of which one state of nature

will occur.

A State of
Nature
Node

Favorable Market
1

Unfavorable Market
A
Decision
Node

Favorable Market
Construct
Small
Plant
2

Unfavorable Market

Favorable (0.5) $200,000

A State of Nature Market
Node
1
180,,000
Unfavorable (0.5)-$180
Market

A Decision
Node

Construct
Small
Plant

Favorable (0.5) $100,000

Market
2
-$20,000

Unfavorable (0.5)
Market
0

Intro to decision analysis (video)

http://www.youtube.com/watch?v=ilr_gUeX
H1s

Lets Start practicing