Question

Quick easy questions!

The SweetTooth Candy Company knows it will need 10 tons (20,000 lbs) of sugar six months from now to implement its production plans. Jean Dobson, SweetTooth's purchasing manager, has essentially two options for acquiring the needed sugar. One option is to by buy the sugar at the going market price when she needs it, six months from now. Ms. Dobson has assessed the probability distribution for the possible prices of sugar six months from now (in dollars per pound) as shown below:

Price in 6 month Probability
$0.078    0.05
   0.083    0.25
   0.087    0.35
   0.091    0.20
   0.096    0.15     

The second purchasing option is to buy a futures contract now. The contract guarantees delivery of the sugar in six months but the cost of purchasing it will be based on today'smarket price. Assume that possible sugar futures contracts available for purchase are for five tons or ten tons only. No futures contracts can be purchased or sold in the intervening months. Thus, SweetTooth's possible decision alternative are to (1) purchase a futures contract for ten tons of sugar now, (2) purchase a futures contract for five tons of sugar now and purchase five tons of sugar later in six months, or (3) purchase all ten tons of needed sugar later in six months. The price of sugar now is $0.0851 per pound. The transaction costs for five-ton and ten-ton futures contracts are $65 and $110, respectively.

Question 1

There are ___ decision alternatives for SweetTooth.

Question 1 options:

	2
	3
	4
	5

Question 2 (1 point)

There are ___ states of nature.

Question 2 options:

	2
	3
	4
	5

Question 3 (1 point)

They buy the futures contract for 10 tons now and the price per pound in six months turns out to be $0.087. The total cost is

Question 3 options:

	1786
	1740
	1702
	1812

Question 4 (1 point)

They buy the futures contract for 10 tons now and the price per pound in six months turns out to be $0.078. The total cost is

Question 4 options:

	1702
	1560
	1696
	1812

Question 5 (1 point)

They do not buy the futures contract and the price per pound in six months turns out to be $0.083. The total cost is

Question 5 options:

	1812
	1660
	1681
	1746

Question 6 (1 point)

They buy the futures contract for 5 tons now and the price per pound in six months turns out to be $0.096. The total cost is

Question 6 options:

	1920
	1811
	1876
	1812

Question 7 (1 point)

They do not buy the futures contract and the price per pound in six months turns out to be $0.096. The total cost is

Question 7 options:

	1876
	1812
	1920
	1811

Question 8 (1 point)

The best decision alternative by the Maxmin method is

Question 8 options:

	Buy the futures contract for 10 tons.
	Buy the futures contract for 5 tons.
	Buy the futures contract for 2.5 tons.
	Buy the futures contract for 0 ton.

Question 9 (1 point)

The best decision alternative by the Maxmax method is

Question 9 options:

	Buy the futures contract for 10 tons.
	Buy the futures contract for 5 tons.
	Buy the futures contract for 2.5 tons.
	Buy the futures contract for 0 ton.

Question 10 (1 point)

The expected cost of buying the futures contract for 10 tons is

Question 10 options:

	1702
	1812
	1793
	1754

Question 11 (1 point)

The expected cost of buying the futures contract for 5 tons now is

Question 11 options:

	1812
	1702
	1754
	1793

Question 12 (1 point)

The expected cost of not buying the futures contract is

Question 12 options:

	1754
	1812
	1793
	1702

Question 13 (1 point)

The best decision alternative by the expected value method is

Question 13 options:

	Buy the futures contract for 10 tons.
	Buy the futures contract for 5 tons.
	Buy the futures contract for 2.5 tons.
	Buy the futures contract for 0 ton.

Answer 1

1. 3 decision alternatives - buy in cash later, buy 10 ton futures (complete hedge) and buy 5 ton futures (partial hedge)

2. 2 states of nature - unhedged and hedged

3. total cost = current price * 20000 lbs sugar - profit on future + transaction cost = (0.087*20000) - (0.087-0.0851)*20000 +110 = 1812

4. total cost = current price * 20000 lbs sugar + loss on future + transaction cost = (0.078*20000) - (0.851-0.078)*20000 + 110 = 1812

5. total cost = 0.083 * 20000 = 1660

6. COst of 5 tons future lot: current price * 10000 lbs sugar - profit on future - transaction cost = 0.096 * 10000 - (0.096-0.0851)*10000 + 65 = 916

Cost of 5 tons purchased from market = 10000 * 0.096 = 1876

7. total cost = 20000 * 0.096 = 1920

8.