Scenario 6.1 - The Big Box
Bahouth Ltd.is planning for the next two years of production and debating whether to construct a large cross-dock facility with 40 truck bays or a smaller one with 20 truck bays.The cost to build the large facility is $2 million and the cost to build the small one is $1.2 million.If they construct a large facility and demand is as high as they hope,then operating costs are $450,000 annually.If they construct a large facility and demand is low,then operating costs are $300,000.If they construct a small facility and demand is low,the operating costs are $275,000 but if they experience high demand,the operating cost of a small facility increases to $600,000.After having conducted some market research,they feel that the likelihood of high demand is 0.7 and the likelihood of small demand is 0.3.
-Use the information from Scenario 6.1 to determine the expected cost of operating a small facility for a period of two years.

Question

Quizplus · Accepted Answer

To determine the expected cost of operating a small facility for a period of two years:
Expected cost = (probability of high demand * cost of operating a small facility at high demand) + (probability of low demand * cost of operating a small facility at low demand)
Expected cost = (0.7 * $600,000) + (0.3 * $275,000)
Expected cost = $420,000 + $82,500
Expected cost = $502,500
Therefore, the expected cost of operating a small facility for a period of two years is $502,500.
The best choice is to construct the small facility, as it has a lower initial cost and the expected operating cost is lower compared to the large facility.

Scenario 6.1 - the Big Box