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3.3, Decision to be made, Chance node, Decision node - Coggle Diagram

- - - - Useful visual representations of potential outcomes, easy to understand
      - Objective and quantitative comparison of options
      - More specific and quantitative than vague statements about different options, better informed decision making
      - Useful where businesses can make accurate estimates of probabilities and financial benefits
      - Takes risk into account
    - - Quantitative, ignores opinions and input from qualitative data which may be just as useful
      - Probabilities which are estimated are unlikely to be accurate, there is a lot of uncertainty which can be bad as it influences financial decisions, you need to be certain or you may make a bad choice
      - Subjective, the values and probabilites can be affected by whoever made it, for example a pessimistic or optimistic manager may have a very different prediction of success, this will lead to numerical variations which makes this method innaccurate as it isn't reliable
      - There may be a wider range of outcomes than the decision trees cover, due to the dynamic nature of business, the decision tree is too reductionist to consult alone when making a decision
      - Doesn't take external factors into account such as interest rates or consumer trends (dynamic nature of business)
  - - - Then add these two values together and get the expected value
      - Expected value lives in the chance node circle :smiley:
      - Callcuate the expected value- Multiply the financial outcomes for each potential outcome by thier probabilities
      - Next, calculate the net gain
      - Subtract the cost of the option from the expected value
      - Write the net gain for each option in the decision node where you can compare them nicely
      - Net gain and financial values may be negative remember
- - - - Step 1
        
        Calculate annual profit
        
        Total net cash flow/ number of years
        
        Total net cash flow= Initial investment (outflow)+ Net cash flow for each year
      - Step 2
        
        Calculate ARR
        
        Divide annual average profit by initial investment X 100
        
        This will give you a percentage value
  - - - Step 1
        
        You have to find the annual net present value (NPV) for each year
        
        You multiply each inflow by the corresponding discount factor, for example £7m/ 0.68
        
        You will get a table with years, inflows and discount factors
        
        The NPV for each year will be in £££
      - Step 2
        
        Add up all the annual NPVs to calculate the total return on the investment
        
        Remember to include the initial outflow
  - - - You need to know how much the project will make a year in order to compare it to investment sum
      - Easy to calculate if the annual net cash flow is consistent
    - - When things aren't so straightforward, we use a cash flow forecast instead of annual net cash flow
    - - Compare the payback period of different projects
      - Want their money back as soon as possible
      - Choose the option with the shortest payback period
    - - Step 2- Calculate the month in which it can be paid back, go back to the most recent year and see how much will be paid off at the end of that year. Then find the remainder of the money needing to be paid. Divide the annual netcash flow by 12, and add up each month until you reach a point where the value can be payed back
      - Payback can now be put into exact years and months
      - Step 1- Find the year in which investment cost will be covered, this gives you, for example, two years and x months if it can be paid off by the 3rd year
    - - Assumes that within the year of payback, the inflows are identical each month (annual inflows / 12)
      - Does not take into account what happens after payback
  - - - How long will it take to get back the money spent?
      - How much profit will be made from investment
    - - Low risk high reward
      - Short payback time
      - High ARR
    - - Using numerical techniques to predict the financial outcomes of potential capital investments
      - The faster money comes in the less risk in the long term
      - Incorrect predictions may lead to businesses making the wrong choice!
      - Trying to minimise risk and help inform decision making
  - - - Advantages
        
        Easy to calculate and understand
        
        Good for risky projects where things may go obsolete or out of fashion, the business can focus on getting a short payback period
        
        Gives businesses a good comparable indicator of risk in an investment
      - Disadvantages
        
        Ignores cash flow after payback, the investment could not be profitable, only pay off the original investment. Project A could make 2,000 a year after payback, but project B could make only enough to pay back the investment. Payback doesn't take this into account so the best option may not be chosen
        
        Ignores the time value of money, this is important when looking at the duration of payback
        
        Assumes in the year of payback that the inflows are equal each month
    - - Advantages
        
        Easy to calculate and understand
        
        Quick and easy way to compare profitability of two choices
        
        Takes all cash flows into account, even after payback, gives the business a long term idea of the project's performance
      - Disadvantages
        
        Ignores the timings of the cash flows, the business may prefer money sooner and not just as a percentage of investment
        
        Ignores the time value of money
    - - Advantages
        
        Only technique which takes into account the time value of money
        
        Simple to understand, positive and negative NPVs
      - Disadvantages
        
        The discount factor is only a prediction
        
        The profitability indication may not be correct- this is because it doesn't take into account hidden costs
- - - - When you reach the end of the paths, the EST in the last node = the LFT in that node, so you can fill that in easily
      - EST is calculated from left to right by adding the duration of the activity to the previous EST
      - Now working backwards, subtract the duration from the LFT for each activity
      - When two nodes go backwards into one, put the lowest LFT in there (one will match the EST of the next node if it's on the critical path)
      - Node 1 always has matching EST and LFT (0)
      - The critical path is the series of nodes where LFT = EST, mark these off by diagonal lines
      - Critical path can also be epressed as an initialism of the activity letters for eample, critical path is BFGH
      - When two or more activities go into the same node, favour the highest EST
    - - If an activity has leeway, it is said to have float time
      - Total float for an activity calculation= LFT- duration - EST
      - Float time is the leeway, spare time, which a business has when completing critical tasks
  - - - Helps the management of deadlines
      - Highlights the most important tasks (critical)
      - Provides a clear visualisation of the project
    - - Does not take into account external influences on the duration of tasks- staff shortages, breaking machinery
      - Ignores how the non- critical activities are still valuable
      - Relies on estimations of duration, if these are incorrect the whole project may be delayed, thrown off
      - Not suitable for large complex projects
      - Cannot actually prevent unexpected delays itself, nor predict them
      - Is only a starting point, nothing has yet been done on the project, only planning
  - - - The node number, takes up the left half of the circle
      - Earliest start time (EST) the earliest an activity can start, based on the duration of the previous activity, in the top quarter of the right half of the circle
      - Latest finish time (LFT) the latest an activity can start without disrupting the next task and delaying the whole project, like dominos, this number is in the bottom quarter of the right half.
    - - A letter assigned to each activity, seen above the line
      - A number under the line to show the duration of the activity
- - - - Inform cash flow and budgets
      - Aid workforce planning
      - Inform resource management with inventory levels, output and logistics
  - - - Three period moving averages
        
        Each column you calculate, the amount of values you get should decrease as you combine 3 into 1
        
        Video on this-
        
        A period can be any fixed amount of time, day, week, year
        
        Can be shown on a scattergraph
      - Four quarter moving averages
        
        There isn't a clear middle point- use centering
        
        quarter means a 3 month time period, 4 quarters in a year
        
        Takes averages of the quarters of the year
        
        Video on this-
        
        Can be shown on a scattergraph
      - Scatter graphs
        
        Extrapolation
        
        Allows managers to set targets and then compare sales performance to these
        
        Relies on the assumption that past trends will continue- good for stable environments
        
        Trends in past sales can be extrapolated to predict future sales
        
        Graphs to use it on
        
        Scatter- on graphs which have a line of best fit, the extrapolation is done by extending the line of best fit in the direction it is heading, pos or neg ect
        
        General
        
        When there is no line of best fit, the most recent direction of the trends are extrapolated
        
        This is good as it focuses on recent data
        
        Interpretation
        
        Example- Promotional spending and advertising
        
        Negative correlation- The more spent on promotion, the less sales, this means that more promotion doesn't increase sales, therefore budget doesn't need to increase, it is likely something else is affecting sales
        
        No correlation- more research needed to ensure promotional spending is effective, as it has not affected sales
        
        Positive correlation
        
        Weak- keep budget the same, promotion is working but sales are still influenced by other variables so focus on them
        
        Strong- Promotional spending has a strong relationship with sales, raise the budget to make the more of this, in theory, more promotional spending= more sales
        
        Correlation
        
        A measure of how closely two variables are related
        
        The closer the line of best fit is to the points, the stronger the correlation is
        
        Does NOT prove CAUSE and EFFECT
        
        Does not take into account external factors which could affect the two variables
        
        Shows positive- negative weak- strong
        
        Used for
        
        Finding a relationship between two variables
        
        Can see the amount of sales made over time
        
        Axis examples
        
        X- Promotional spending
        Y- Sales in units
        
        X- Temperature
        Y- Ice cream sales
        
        X- Quarters
        Y- Sales volume
      - Smooths out fluctuations to decide whether a trend is significant
      - Identifies factors which influence sales such as seasons, random, cyclical
      - Requires sufficient data to make the identified trend valid
      - Video on this
    - - Identify trends
      - Predict future sales
      - Reveal underlying patterns
  - - - Year A+B+C / 3
      - Year B+C+D /3
      - Year C+D+E /3
- - - - £££ value of option 1
    - - £££ value of option 2
- - - - £££ value of option 1
    - - £££ value of option 2