10 – Partial Budgets and Decision Analysis

Question 1

Types of costs

Answer 1

• Fixed
• Variable
• Opportunity

Question 2

Fixed costs

Answer 2

• Paid regardless of which choice is taken
• With a short time horizon=these can usually be ignored
• Ex. taxes, electrical

Question 3

Variable costs

Answer 3

• Vary depending on which action is taken

Question 4

Opportunity costs

Answer 4

• Cost incurred by not making some other choice
• Usually ASSUME that we will borrow the needed funds
  o If shot=usually ignore

Question 5

Partial budgets and benefit cost analysis

Answer 5

• Attempt to forecast financial events that follow a management decision
• Considers a limited aspect of total enterprise (ONLY VARIABLE COSTS)
• Areas of irrelevance=ignored
• *use it to compare 2 or more different options
  o current program often used as baseline

Question 6

Partial budgets

Answer 6

• calculate total change in revenues and expenses
• net revenue change – net expense change = net profit
• *only consider costs that will change depending on which option you choose (VARIABLE COSTS!!!)
• Spreadsheets allow you to to “what if” games

Question 7

Partial budget example: (stupid example)

Answer 7

• Beef herd (100cows) with 1 cow abort due to IBR
• If don’t vaccinate=1 more cow will abort
  o Sell her and buy another: $600/cow
• If vaccinate=no more abortions
  o $50 total + 1 hour ($40)=$90
• **individual numbers by themselves mean NOTHING! NEED TO COMPARE!
• *$510 benefit to vaccination

Question 8

Partial budge for value of calf hutches

Answer 8

• Consider present calf morbidity and motality due to pneumonia
• Effect of pneumonia on future production=important for calculating economic costs
• Treatment costs and death losses
• Hutch cost, maintenance/labour, life of hutch
• *INCREASE REVENUES (increased milk production) vs. INCREASED EXPENSES (costs to build, treatment)

Question 9

Decision analysis is a systematic method that evaluates

Answer 9

• Future events
• Consequences of actions
• Likelihood of upcoming occurrences
• Value of various endpoints
• *money is NOT a major component of this analysis
• *focus on probabilities and logic
  o Money keeps ‘score’

Question 10

Advantages of decision analysis

Answer 10

• Explicit
• Quantitative
• Prescriptive
• Allows us to play ‘what if’ games

Question 11

Explicit: decision analysis

Answer 11

• Forces us to formulate a problem by its component parts

Question 12

Quantitative: decision analysis

Answer 12

• Forces us to make precise statements about probabilities, costs and revenues

Question 13

Prescriptive: decision analysis

Answer 13

• Helps us choose a course of action

Question 14

Allows us to play ‘what if’ games: decision analysis

Answer 14

• Sensitivity analysis: change one factor and see if decision changes

Question 15

Disadvantages of decision analysis

Answer 15

• Simplistic view of a complex biological system
• *approximation of reality
• Forecasting is extremely difficult
• Can never create a complete model
• Risk is NOT considered
• *best for commonplace decisions that are made over and over again!

Question 16

4 steps of decision analysis

Answer 16

1. ID the problem and choices
2. Structure the decision problem
3. Characterize the info needed
4. Choose a preferred course of action

Question 17

Decision tree

Answer 17

• Graphic arrangement
• Branches L to R: alternate action or choice event
• Probability of each outcome can be considered
• Starts with decision ‘node’
• Usually represented by a square

Question 18

Decision (choice) node

Answer 18

• Indicates a clinical event which decision maker has control
• Exhaustive (all possible choices) or exclusive (only one choice is possible at the node)

Question 19

Each branch of the decision node can lead to one of three options

Answer 19

• Another decision node
• Chance node
• Terminal branch or outcome

Question 20

Chance nodes

Answer 20

• Essence of decision tree
• Uncertain points in a decision tree
• Branches represent all possible outcomes that can result at that point
• Probabilities assigned to each branch
  o Probabilities of all branches from that node must add up to 1

Question 21

Chance node can lead to

Answer 21

• Decision node
• Chance node
• Terminal branch

Question 22

Paths

Answer 22

• Stream of events over time
• Bounded by a decision node and final outcome event
  o In between: number of decision nodes and chance nodes
• Each is unique and represents alternative choices and events that can occur

Question 23

Terminal branches

Answer 23

• Far right of decision tree
• Each has an outcome specific to that chain of events of that branch
• Outcome value is assigned to the terminal branch

Question 24

Outcome values

Answer 24

• Various endpoints must be differentiated
  o Usually done by assigning a cash value
  o In vet med: may be utilities rather than cash values

Question 25

Expected monetary values: If you had only 20% chance of receiving a $500 bill in a game, how much would you be willing to pay to play that game?

Answer 25

• Expected monetary value=$100
• *probability of wining multiplied by amount you would win

Question 26

Folding back decision tree

Answer 26

• Work backwards from R to L
• Calculate expected monetary value for each pathway
• Costs along each pathway must be taken into account
• *most advantageous value is assigned to that decision node and other choice is ‘pruned out’

Question 27

Expected value=

Answer 27

value of branch multiplied by probability it will occur

Question 28

Expected value at the node=

Answer 28

sum of expected values of all branches at that node

Question 29

To maximize profit the best decision is the branch with the

Answer 29

• Highest expected value