Electricite Lumiere Organisation (ELO) is a French company that manufactures small diesel-powered electric generators for the home, farm and light-industry markets. Although it is based in France, 90% of its business is overseas, mostly with rural developing countries. The company produces a range of six products, the smallest being the "Accroches-Toi", which generates 500W for lighting, and the largest being the "Ton Rêve", suitable for small irrigation pumping. Competition had traditionally come from a German company, but recently from several manufacturers in Japan, Korea and Taiwan. Most recently the British company Discovery has become very competitive in the South American Market It is with one particular South American country that the current decision problem arises. It is a small, somewhat reclusive, but politically stable country, which we shall refer to as Eldorado. ELO has had 40% of the Eldorado market for the past 10 years. The government is socialist, but has recently been liberalising its position. In fact, it has just approached ELO with the request that it consider setting up a factory in Eldorado to produce generators both for the host Eldorado market and for export to the rest of South and Central America. The advantages to ELO are strategic and largely long term. Operationally, the shortage of skilled labour, support facilities and the small factory operation would make it more expensive to produce there, notwithstanding the transportation savings. However, if ELO were not to do this, it seems that Discovery could.
The terms that the Eldorado Government are offering ELO, in return for a 50% co-ownership of the factory, involve help with training a workforce, the setting up of support facilities, and import protection through quotas and tariffs for the first 7 years. In Present Value terms, over a 10-year horizon, this proposition appears to be worth €6 million to ELO, compared to €10 million for the scenario of Eldorado continuing as presently to import. However, if ELO turned the offer down and Discovery accepted it, then ELO could only expect to make €1.5 million in the Eldorado market over this period. The marketing director of ELO thought the probability of Discovery accepting this offer was about 30%. If Discovery turned it down, then in a second round of negotiations, Eldorado would offer better terms with ELO on quotas and tariffs, giving a present worth of €8 million. If ELO turned these improved terms down, the probability of Discovery then accepting would be about 30%, and in this situation ELO could expect to make only €1.2 million. These would be the best terms that Eldorado could offer, and if both ELO and Discovery turned them down, it is not considered likely that Eldorado and any other manufacturer would negotiate an agreement. The country would continue to import, at least in the short-term.
(a) Using only the information presented so far in the case, draw a decision tree for the decision problem. Based on an expected value criterion, provide advice as to what ELO should do.
(b) How does the optimal course of action change with respect to the probabilities of Discovery accepting the offers?
(c) What is the most that would be worth paying for information regarding whether or not Discovery will accept the initial offer?
(d) Using all the information presented in the case, draw a decision tree for the ELO decision problem. Based on an expected value criterion, provide advice as to what ELO should do.