The employees of a leading mail-order computer software company are secretly thinking of breaking away to form their own rival company. This would require an investment of $3 million and the employees will make the decision largely on the basis of the net present value of this investment. To help them with their decision a risk analysis model has been formulated. Development of the model involved estimating a large number of probabilities including those set out below:
(a) probability distributions for the size of the market (measured in total turnover) for each of the next five years – following the recent launch of a major new international software product, the employees have experienced a buoyant market over the last few months;
(b) probability distributions of the market share that could be obtained by the new company in each of the next five years – these distributions were obtained by first estimating a most likely value and then determining optimistic and pessimistic values;
(c) the probability that magazine advertising costs would increase over the next five years – this was considered to be less likely than an increase in advertising costs resulting from increased costs of paper and an associated fall in the number of computer magazines. Discuss the heuristics which the employees might have employed to estimate these probabilities and any biases which might have emanated from the use of these heuristics.