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Question A:

International Institute of Management, Billekahali has an in-take of 250 students for its MBA
program in 2002. In the IS (Introduction to Statistics) course, the students are given an
assignment of drawing a sample of 30 students from a database (which has the records of prior
work experience, in months, of all 250 students) using simple random sampling with
replacement. Some of the relevant characteristics that are of interest are:
A = average work experience of all the 250 students
B = standard deviation of work experiences of all students
C = proportion of students who have no work experience
Since each student can only select thirty observations from this database, none of them knows the
exact value of A, B, or C; however, once a student selects the sample, (s)he is required to
compute the
 mean work experience of students in the sample,
 variance of work experiences of the students in the sample,
 number of students in the sample having no work experience.
Each student reports not only these values, but also a 90% confidence interval for C (based on
his/her sample) to their CR(class representative). CR then enters all the data in an Excel sheet (1
row for each student’s results) and also calculates the average and standard deviation of each
column entries, before submitting the file to the Professor. The sheet that Professor received looks
like this:

Mean of Variance of No. with Confidence interval for C


Roll No. work exp work exp no exp lower limit upper limit
1 9.300 65.045 10 e F
2 7.033 56.033 14 0.317 0.616
. . . . . .
. . . . . .
250 9.633 64.861 d 0.162 0.438

column mean x = 8.61 z v = 9.60 r t


column s.d. y = 1.3364 u w m k

i) Calculate as many of the following missing/unknown values as possible: (if you


cannot find out two or more of the missing values, but you know their inter-relations,
then mention them as well)
[6 points]
A = z =

B = w =

C = d =
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ii) What would have been the value of y, had each student adopted simple random
sampling without replacement?
[2 points]

iii) How many students are expected to have their confidence interval containing the
value of C?
[2 points]

iv) What must be the confidence interval for the student with Roll No. 1?
[4 points]

v) Which of the following statements do you agree with (and why)?


[2 points]

a) It is certain that C lies in the interval (r,t).


b) There is a 90% chance that C lies in the interval (r,t).
c) It is not possible to comment on the likelihood of C lying in the interval (r,t)
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Question B

Hari is studying the electricity spot price behaviour in certain unregulated competitive
markets. Following a special request to the relevant authority in Norway (which has one such
market), he is able to get the price data for 1998 and 1999. These prices are recorded in
intervals of 5 minutes, so that for all practical purpose, it may be considered to be available
on a continuous time domain. When Hari analysed the data, one particular feature of the price
series immediately caught his attention. From time to time, price really shot up, resulting in
spike-like features in the price vs. time plot. Hari decided to study two aspects of these spikes
more closely. The first was the timing of the spikes (or price hikes) --- careful investigation
suggested that the timings seemed to have the memory-less property, indeed the timings of
the spike may be modelled as a Poisson Process. The second aspect was the magnitudes of
these spikes. Hari decided to define ‘magnitude’ as the percentage of increase in price from
just before the occurrence of the spike. The magnitude is clearly random; to start with, Hari
thought that the magnitude must be having a Normal distribution since the 2 years of data had
as many as 438 spikes. However, following suggestion from his friend Rajesh, Hari decided
to look at the magnitudes more closely. The following frequency table reflects the magnitudes
of the spikes in the two-years’ of price data:

lower limit upper limit No of spikes


200% 300% 20
300% 400% 100
400% 500% 175
i) 500% 750% 93 Calculate
the 750% 1000% 50 mean and
the standard deviation of the magnitudes of the spikes in the last two years.
[2+2=4 points]

mean =

standard deviation =
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ii) Find a 99% confidence interval for the true mean magnitude of the price spikes.
[3 points]

iii) Hari wants that the above confidence interval to have a length of 10% or less without
sacrificing his level of confidence. How many years of data would he need to achieve
that?
[4 points]

iv) What is the average number of price spikes per day?


[2 points]
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v) What is the chance that the gap between any two consecutive price spikes is less than
a day?
[4 points]

vi) Given that there were 6 price spikes on a given week, what is the probability that
more than 1 of them occurred during the weekend (Saturday + Sunday) of that week?
[6 points]

vii) How critical are Hari’s assumptions (spike timings constituting a Poisson Process and
spike magnitudes following a Normal distribution) in your answers to parts i) through
vi)?
[2 points]
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Question C
Mavuru Islands (popularly known as Mavi) attained independence 3 years ago. At the
time of independence, the islands were divided into two separate countries namely Northern Mavi
and Southern Mavi, divided by the 37th parallel. As a result of the division, the oil refineries are
in the Southern Mavi where as the oil wells are in the Northern Mavi. There is an irrevocable
treaty signed between the two countries with regard to the crude and the refined products.
Southern Mavi has to buy the required crude only from Northern Mavi and Northern Mavi has to
buy the refined oil products only from Southern Mavi.
Southern Mavi has three refineries namely Amity Oil, Fortune Oil and People’s Oil. The
first two refineries, which account for 25% each of the refining capacity, are in the private sector
where as People’s Oil, accounting for 50% of the refining capacity is a public sector company.
Recently, the Government of Southern Mavi decided to privatize the People’ Oil and accordingly
invited bids from the two private companies. The company with the higher bid will acquire
People’s Oil at the bid amount.
Amity Oil is considering two possible bids, one at $2 billion and the other at $3 billion.
They came to know that Fortune Oil is also considering bids of similar amounts; but, of course,
the chance that the two bids will be exactly identical is zero. If Fortune Oil’s bid happens to be
higher (even very marginally) than that of Amity’s bid, Amity will fail in the acquisition race. On
the other hand, if Amity’s bid is higher (even very marginally) than Fortune’s, then Amity will
succeed in the acquisition race. Helen Reddy, the Managing Director of Amity estimated that
there is a 70% chance that Fortune’s bid will be higher than that of Amity, irrespective of Amity’s
bid. Amity has to borrow heavily at a high interest rate, from the banks abroad to finance the
acquisition, if they decide to bid $ 3 billion.
Acquiring such a large additional capacity has its own problems. The crude prices in the
Northern Mavi have been fluctuating widely in the recent months. The treaty between the two
countries requires that the higher cost of the crude, if the price goes up, has to be borne by the
refining company. On the other hand, Southern Mavi has an administered pricing mechanism for
the refined products. As a result, the refineries have to sell their products pre-determined prices.
If Amity successfully bids $ 3 billion and acquires Peoples oil, their interest commitment will be
very high and be a drain on their resources. Consequently, if the crude prices go up, they will not
be able to operate at full capacity and end up making heavy losses. On the other hand, if they bid
only $2 billion and are successful in the acquisition, there are no interest costs and they will make
decent profits, irrespective of the crude prices. Helen Reddy estimated the profits under each
possible scenario. This data is given in the table below:
Profits under each scenario
Crude Prices
Bid Acquisition Increase Decrease
Success -70 80
$3 Billion
Fail 40 -40
Success 30 40
$2 Billion
Fail -20 -50

She has also estimated that the probability of the crude prices going up in the next year is 0.60.
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i) Draw the decision tree and advise Helen Reddy on the appropriate action.
[8 points]

ii) What is the maximum possible value that Helen would be willing to pay for any kind
of information? [Hint: EVPI]
[4 points]
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Question C (cont.)
John Denver, a freelance consultant approached Helen Reddy with very valuable information.
He told Ms. Reddy that he has a mole inside Fortune Oil, who can get the exact bid value of
Fortune, well in advance. He also collected data on the crude prices and the terrorist activity
in Northern Mavi in the past 50 weeks. He presented that following frequency table to Helen
Reddy.

Terrorist Crude Prices


Activity Increased Decreased Total
Intensified 20 5 25
Weakened 10 15 25
Total 30 20 50

He has also informed Helen that he will be able to predict the terrorist activity with absolute
certainty because he has direct contacts with the terrorist leaders. Helen considered Mr. Denver’s
offer and decided that she will put in a bid such a way that it will be successful only if it is
predicted that the terrorist activity will be weakened.

iii) Should Helen Reddy take the information from Mr. Denver? What is the maximum
amount that she can afford to pay Mr. Denver?
[5 points]
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iv) What is the efficiency of the information provided by Mr. Denver?
[2 points]

[Bonus question: worth 2 points]

How do you justify the efficiency of Mr. Denver’s information being over 100%?

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