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 vi Preface

Christopher M. Rump, Bowling Green State University

Samuel L. Seaman, Pepperdine University
Maureen Sevigny, Oregon Institute of Technology
Larry E. Shirland, The University of Vermont
Andrew Shogan, Haas School of Business, University of California, Berkeley
Thomas R. Steinhagen, Colorado Christian University
Pandu R. Tadikamalla, University of Pittsburgh, Katz School of Business
Nabil Tamimi, University of Scranton
I also thank Tom Bramorski of the University of Wisconsin-Whitewater for preparing
the test bank that accompanies this book. David Ashley also provided many of the sum-
mary articles found in “The World of Business Analytics” feature throughout the text
and created the queuing template used in Chapter 13. Jack Yurkiewicz, Pace University,
contributed several of the cases found throughout the text. Tallys Yunes, University of
Miami, provided some especially helpful feedback and suggestions for this edition of
the book.
My sincere thanks goes to all students and instructors who have used previous edi-
tions of this book and provided many valuable comments and suggestions for making it
better. I also thank the wonderful SMDA team at Cengage : Aaron Arnsparger, Product
Manager; Maggie Kubale, Content Development; Cliff Kallemeyn, Sr. Content Project
Manager; and Chris Valentine, Media Developer. I feel very fortunate and privileged to
work with each of you.
A very special word of thanks to my friend Dan Fylstra and the crew at Frontline
Systems (http://www.solver.com) for conceiving and creating Analytic Solver Platform
and supporting me so graciously and quickly throughout my revision work on this
book. In my opinion, Analytic Solver Platform is the most significant development in
OR/MS education since the creation of personal computers and the electronic spread-
sheet. (Dan, you get my vote for a lifetime achievement award in analytical modeling
and induction in the OR/MS Hall of Fame!)
Once again, I thank my dear wife, Kathy, for her unending patience, support, encour-
agement, and love. (You will always be the one.) This book is dedicated to our sons,
Thomas, Patrick, and Daniel. I am proud of each one of you and will always be so glad
that God let me be your daddy and the leader of the Ragsdale ragamuffin band.

Final Thoughts
I hope you enjoy the spreadsheet approach to teaching quantitative analysis as much
as I do and that you find this book to be very interesting and helpful. If you find crea-
tive ways to use the techniques in this book or need help applying them, I would love
to hear from you. Also, any comments, questions, suggestions, or constructive criticism
you have concerning this text are always welcome.

Cliff T. Ragsdale
e-mail: [email protected]

Copyright 201 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s).
Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
 Brief Contents
1 Introduction to Modeling and Decision Analysis 1
2 Introduction to Optimization and Linear Programming 17
3 Modeling and Solving LP Problems in a Spreadsheet 46
4 Sensitivity Analysis and the Simplex Method 139
5 Network Modeling 187
6 Integer Linear Programming 245
7 Goal Programming and Multiple Objective Optimization 313
8 Nonlinear Programming and Evolutionary Optimization 358
9 Regression Analysis 433
10 Data Mining 484
11 Time Series Forecasting 550
12 Introduction to Simulation Using Analytic Solver Platform 619
13 Queuing Theory 703
14 Decision Analysis 736
15 Project Management (Online) 15-1
Index 811

vii
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Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
Contents
1. Introduction to Modeling and Decision Analysis 1
Introduction 1
The Modeling Approach to Decision Making 3
Characteristics and Benefits of Modeling 3
Mathematical Models 4
Categories of Mathematical Models 6
Business Analytics and the Problem-Solving Process 7
Anchoring and Framing Effects 10
Good Decisions vs. Good Outcomes 11
Summary 12
References 12
The World of Business Analytics 12
Questions and Problems 14
Case 15

2. Introduction to Optimization and Linear Programming 17

Introduction 17
Applications of Mathematical Optimization 17
Characteristics of Optimization Problems 18
Expressing Optimization Problems Mathematically 19
Decisions 19 Constraints 19 Objective 20
Mathematical Programming Techniques 20
An Example LP Problem 21
Formulating LP Models 21
Steps in Formulating an LP Model 21
Summary of the LP Model for the Example Problem 23
The General Form of an LP Model 23
Solving LP Problems: An Intuitive Approach 24
Solving LP Problems: A Graphical Approach 25
Plotting the First Constraint 26 Plotting the Second Constraint 27 Plotting the Third
Constraint 28 The Feasible Region 28 Plotting the Objective Function 29 Finding the
Optimal Solution Using Level Curves 29 Finding the Optimal Solution by Enumerating
the Corner Points 32 Summary of Graphical Solution to LP Problems 33 Understand-
ing How Things Change 33
Special Conditions in LP Models 34
Alternate Optimal Solutions 34 Redundant Constraints 34 Unbounded Solutions 36
Infeasibility 37

viii
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 Contents ix

Summary 38
References 39
Questions and Problems 39
Case 44

3. Modeling and Solving LP Problems in a Spreadsheet 46

Introduction 46
Spreadsheet Solvers 46
Solving LP Problems in a Spreadsheet 47
The Steps in Implementing an LP Model in a Spreadsheet 47
A Spreadsheet Model for the Blue Ridge Hot Tubs Problem 49
Organizing the Data 50 Representing the Decision Variables 50 Representing the
Objective Function 50 Representing the Constraints 51 Representing the Bounds on the
Decision Variables 51
How Solver Views the Model 52
Using Analytic Solver Platform 54
Defining the Objective Cell 55 Defining the Variable Cells 56 Defining the Constraint
Cells 57 Defining the Nonnegativity Conditions 60 Reviewing the Model 61 Other
Options 62 Solving the Problem 63
Using Excel’s Built-in Solver 64
Goals and Guidelines for Spreadsheet Design 65
Make vs. Buy Decisions 66
Defining the Decision Variables 67 Defining the Objective Function 67 Defining the
Constraints 68 Implementing the Model 68 Solving the Problem 70 Analyzing the
Solution 71
An Investment Problem 71
Defining the Decision Variables 72 Defining the Objective Function 72 Defining the
Constraints 72 Implementing the Model 73 Solving the Problem 74 Analyzing the
Solution 74
A Transportation Problem 75
Defining the Decision Variables 76 Defining the Objective Function 77 Defining the
Constraints 77 Implementing the Model 78 Heuristic Solution for the Model 79
Solving the Problem 80 Analyzing the Solution 81
A Blending Problem 82
Defining the Decision Variables 82 Defining the Objective Function 82 Defining the
Constraints 83 Some Observations About Constraints, Reporting, and Scaling 83
Rescaling the Model 84 Implementing the Model 85 Solving the Problem 86
Analyzing the Solution 86
A Production and Inventory Planning Problem 88
Defining the Decision Variables 89 Defining the Objective Function 89 Defining the
Constraints 89 Implementing the Model 90 Solving the Problem 92 Analyzing the
Solution 93
A Multiperiod Cash-Flow Problem 93
Defining the Decision Variables 94 Defining the Objective Function 95 Defining the
Constraints 95 Implementing the Model 97 Solving the Problem 99 Analyzing the
Solution 100 Modifying the Taco-Viva Problem to Account for Risk (Optional) 101
Implementing the Risk Constraints 103 Solving the Problem 104 Analyzing the
Solution 104

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 x Contents

Data Envelopment Analysis 105

Defining the Decision Variables 106 Defining the Objective 106 Defining the
Constraints 106 Implementing the Model 107 Solving the Problem 109 Analyzing
the Solution 112
Summary 113
References 114
The World of Management Science 115
Questions and Problems 115
Cases 133

4. Sensitivity Analysis and the Simplex Method 139

Introduction 139
The Purpose of Sensitivity Analysis 139
Approaches to Sensitivity Analysis 140
An Example Problem 140
The Answer Report 141
The Sensitivity Report 143
Changes in the Objective Function Coefficients 143 A Comment about Constancy 145
Alternate Optimal Solutions 146 Changes in the RHS Values 146 Shadow Prices for
Nonbinding Constraints 147 A Note about Shadow Prices 147 Shadow Prices and the
Value of Additional Resources 149 Other Uses of Shadow Prices 149 The Meaning of
the Reduced Costs 150 Analyzing Changes in Constraint Coefficients 152 Simultane-
ous Changes in Objective Function Coefficients 153 A Warning about Degeneracy 154
The Limits Report 154
Ad Hoc Sensitivity Analysis 155
Creating Spider Plots and Tables 155 Creating a Solver Table 159 Comments 162
Robust Optimization 162
The Simplex Method 166
Creating Equality Constraints Using Slack Variables 166 Basic Feasible Solutions 167
Finding the Best Solution 170
Summary 170
References 170
The World of Management Science 171
Questions and Problems 171
Cases 181

5. Network Modeling 187

Introduction 187
The Transshipment Problem 187
Characteristics of Network Flow Problems 187 The Decision Variables for Network
Flow Problems 189 The Objective Function for Network Flow Problems 189 The
Constraints for Network Flow Problems 190 Implementing the Model in a
Spreadsheet 191 Analyzing the Solution 193
The Shortest Path Problem 194
An LP Model for the Example Problem 196 The Spreadsheet Model and Solution 196
Network Flow Models and Integer Solutions 198

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 Contents xi

The Equipment Replacement Problem 199

The Spreadsheet Model and Solution 200
Transportation/Assignment Problems 202
Generalized Network Flow Problems 203
Formulating an LP Model for the Recycling Problem 205 Implementing the Model 206
Analyzing the Solution 208 Generalized Network Flow Problems and Feasibility 209
Maximal Flow Problems 212
An Example of a Maximal Flow Problem 212 The Spreadsheet Model and Solution 214
Special Modeling Considerations 216
Minimal Spanning Tree Problems 219
An Algorithm for the Minimal Spanning Tree Problem 220 Solving the Example
Problem 220
Summary 221
References 221
The World of Business Analytics 222
Questions and Problems 223
Cases 239

6. Integer Linear Programming 245

Introduction 245
Integrality Conditions 245
Relaxation 246
Solving the Relaxed Problem 246
Bounds 248
Rounding 250
Stopping Rules 252
Solving ILP Problems Using Solver 253
Other ILP Problems 256
An Employee Scheduling Problem 256
Defining the Decision Variables 257 Defining the Objective Function 258 Defining
the Constraints 258 A Note About the Constraints 259 Implementing the Model 259
Solving the Model 260 Analyzing the Solution 261
Binary Variables 262
A Capital Budgeting Problem 262
Defining the Decision Variables 263 Defining the Objective Function 263 Defining
the Constraints 263 Setting Up the Binary Variables 263 Implementing the Model 263
Solving the Model 264 Comparing the Optimal Solution to a Heuristic Solution 266
Binary Variables and Logical Conditions 266
The Fixed-Charge Problem 267
Defining the Decision Variables 268 Defining the Objective Function 268 Defining the
Constraints 268 Determining Values for “Big M” 269 Implementing the Model 270
Solving the Model 271 Analyzing the Solution 271 A Comment on IF( ) Functions 273
Minimum Order/Purchase Size 274
Quantity Discounts 275
Formulating the Model 275 The Missing Constraints 276

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 xii Contents

A Contract Award Problem 276

Formulating the Model: The Objective Function and Transportation Constraints 277
Implementing the Transportation Constraints 278 Formulating the Model: The Side
Constraints 279 Implementing the Side Constraints 280 Solving the Model 282
Analyzing the Solution 282
The Branch-and-Bound Algorithm (Optional) 282
Branching 284 Bounding 285 Branching Again 286 Bounding Again 288 Summary
of B&B Example 288
Summary 290
References 290
The World of Business Analytics 290
Questions and Problems 291
Cases 307

7. Goal Programming and Multiple Objective Optimization 313

Introduction 313
Goal Programming 313
A Goal Programming Example 314
Defining the Decision Variables 315 Defining the Goals 315 Defining the Goal Con-
straints 315 Defining the Hard Constraints 316 GP Objective Functions 317 Defining
the Objective 318 Implementing the Model 319 Solving the Model 320 Analyzing the
Solution 321 Revising the Model 322 Trade-Offs: The Nature of GP 323
Comments about Goal Programming 324
Multiple Objective Optimization 325
An Molp Example 327
Defining the Decision Variables 327 Defining the Objectives 327 Defining the
Constraints 328 Implementing the Model 328 Determining Target Values for the
Objectives 329 Summarizing the Target Solutions 331 Determining a GP Objective 332
The MINIMAX Objective 334 Implementing the Revised Model 335 Solving the
Model 335
Comments on Molp 338
Summary 339
References 339
The World of Business Analytics 340
Questions and Problems 340
Cases 353

8. Nonlinear Programming and Evolutionary Optimization 358

Introduction 358
The Nature of NLP Problems 358
Solution Strategies for NLP Problems 360
Local vs. Global Optimal Solutions 361
Economic Order Quantity Models 363
Implementing the Model 366 Solving the Model 366 Analyzing the Solution 368
Comments on the EOQ Model 368

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Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
 Contents xiii

Location Problems 369

Defining the Decision Variables 370 Defining the Objective 370 Defining the
Constraints 371 Implementing the Model 371 Solving the Model and Analyzing
the Solution 372 Another Solution to the Problem 373 Some Comments about the
Solution to Location Problems 374
Nonlinear Network Flow Problem 375
Defining the Decision Variables 375 Defining the Objective 375 Defining the
Constraints 376 Implementing the Model 377 Solving the Model and Analyzing
the Solution 378
Project Selection Problems 380
Defining the Decision Variables 380 Defining the Objective Function 381 Defining
the Constraints 381 Implementing the Model 382 Solving the Model 383
Optimizing Existing Financial Spreadsheet Models 385
Implementing the Model 385 Optimizing the Spreadsheet Model 386 Analyzing
the Solution 388 Comments on Optimizing Existing Spreadsheets 388
The Portfolio Selection Problem 388
Defining the Decision Variables 390 Defining the Objective 390 Defining the
Constraints 391 Implementing the Model 391 Analyzing the Solution 393
Handling Conflicting Objectives in Portfolio Problems 395
Sensitivity Analysis 397
Lagrange Multipliers 400 Reduced Gradients 400
Solver Options for Solving NLPs 400
Evolutionary Algorithms 402
Forming Fair Teams 403
A Spreadsheet Model for the Problem 404 Solving the Model 405
Analyzing the Solution 405
The Traveling Salesperson Problem 406
A Spreadsheet Model for the Problem 407 Solving the Model 409
Analyzing the Solution 410
Summary 411
References 411
The World of Business Analytics 411
Questions and Problems 412
Cases 428

9. Regression Analysis 433

Introduction 433
An Example 433
Regression Models 435
Simple Linear Regression Analysis 436
Defining “Best Fit” 437
Solving the Problem Using Solver 438
Solving the Problem Using the Regression Tool 440
Evaluating the Fit 442
The R2 Statistic 444

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 xiv Contents

Making Predictions 446

The Standard Error 446 Prediction Intervals for New Values of Y 447 Confidence
Intervals for Mean Values of Y 449 Extrapolation 449
Statistical Tests for Population Parameters 450
Analysis of Variance 450 Assumptions for the Statistical Tests 451 Statistical Tests 452
Introduction to Multiple Regression 453
A Multiple Regression Example 455
Selecting the Model 456
Models with One Independent Variable 457 Models with Two Independent
Variables 457 Inflating R2 460 The Adjusted-R2 Statistic 460 The Best Model
with Two Independent Variables 461 Multicollinearity 461 The Model with
Three Independent Variables 461
Making Predictions 463
Binary Independent Variables 463
Statistical Tests for the Population Parameters 464
Polynomial Regression 465
Expressing Nonlinear Relationships Using Linear Models 466 Summary of Nonlinear
Regression 470
Summary 470
References 470
The World of Business Analytics 471
Questions and Problems 471
Cases 479

10. Data Mining 484

Introduction 484
Data Mining Overview 484
Classification 487
A Classification Example 488
Classification Data Partitioning 495
Discriminant Analysis 497
Discriminant Analysis Example 499
Logistic Regression 505
Logistic Regression Example 507
k-Nearest Neighbor 510
k-Nearest Neighbor Example 511
Classification Trees 513
Classification Tree Example 515
Neural Networks 519
Neural Network Example 521
Naïve Bayes 524
Naïve Bayes Example 526
Comments on Classification 530
Combining Classifications 530 The Role of Test Data 531

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 Contents xv

Prediction 531
Association Rules (Affinity Analysis) 532
Association Rules Example 533
Cluster Analysis 535
Cluster Analysis Example 537
k-Means Clustering Example 537 Hierarchical Clustering Example 539
Time Series 542
Summary 542
References 542
The World of Business Analytics 543
Questions and Problems 544
Case 548

11. Time Series Forecasting 550

Introduction 550
Time Series Methods 551
Measuring Accuracy 551
Stationary Models 552
Moving Averages 553
Forecasting with the Moving Average Model 555
Weighted Moving Averages 557
Forecasting with the Weighted Moving Average Model 558
Exponential Smoothing 559
Forecasting with the Exponential Smoothing Model 562
Seasonality 563
Stationary Data with Additive Seasonal Effects 564
Forecasting with the Model 567
Stationary Data with Multiplicative Seasonal Effects 568
Forecasting with the Model 571
Trend Models 572
An Example 572
Double Moving Average 572
Forecasting with the Model 575
Double Exponential Smoothing (Holt’s Method) 576
Forecasting with Holt’s Method 579
Holt-Winter’s Method for Additive Seasonal Effects 579
Forecasting with Holt-Winter’s Additive Method 583
Holt-Winter’s Method for Multiplicative Seasonal Effects 583
Forecasting with Holt-Winter’s Multiplicative Method 587
Modeling Time Series Trends Using Regression 587
Linear Trend Model 587
Forecasting with the Linear Trend Model 590
Quadratic Trend Model 590
Forecasting with the Quadratic Trend Model 592

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 xvi Contents

Modeling Seasonality with Regression Models 593

Adjusting Trend Predictions with Seasonal Indices 593
Computing Seasonal Indices 593 Forecasting with Seasonal Indices 595 Refining the
Seasonal Indices 597
Seasonal Regression Models 599
The Seasonal Model 599 Forecasting with the Seasonal Regression Model 602
Combining Forecasts 603
Summary 603
References 604
The World of Business Analytics 604
Questions and Problems 605
Cases 614

12. Introduction to Simulation Using Analytic Solver Platform 619

Introduction 619
Random Variables and Risk 619
Why Analyze Risk? 620
Methods of Risk Analysis 620
Best-Case/Worst-Case Analysis 621 What-If Analysis 622 Simulation 622
A Corporate Health Insurance Example 623
A Critique of the Base Case Model 625
Spreadsheet Simulation Using Analytic Solver Platform 625
Starting Analytic Solver Platform 626
Random Number Generators 626
Discrete vs. Continuous Random Variables 628
Preparing the Model for Simulation 629
Alternate RNG Entry 631
Running the Simulation 633
Selecting the Output Cells to Track 633 Selecting the Number of Replications 634
Selecting What Gets Displayed on the Worksheet 635 Running the Simulation 636
Data Analysis 636
The Best Case and the Worst Case 636 The Frequency Distribution of the Output Cells
637 The Cumulative Distribution of the Output Cells 638 Obtaining Other Cumulative
Probabilities 639 Sensitivity Analysis 640
The Uncertainty of Sampling 641
Constructing a Confidence Interval for the True Population Mean 641 Constructing
a Confidence Interval for a Population Proportion 643 Sample Sizes and Confidence
Interval Widths 643
Interactive Simulation 644
The Benefits of Simulation 645
Additional Uses of Simulation 646
A Reservation Management Example 646
Implementing the Model 647 Details for Multiple Simulations 648 Running the
Simulations 650 Data Analysis 650

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Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
 Contents xvii

An Inventory Control Example 651

Creating the RNGs 653 Implementing the Model 654 Replicating the Model 657
Optimizing the Model 658 Analyzing the Solution 664 Other Measures of Risk 666
A Project Selection Example 668
A Spreadsheet Model 668 Solving and Analyzing the Problem with Analytic Solver
Platform 670 Considering Another Solution 671
A Portfolio Optimization Example 673
A Spreadsheet Model 674 Solving the Problem with Analytic Solver Platform 676
Summary 679
References 679
The World of Business Analytics 680
Questions and Problems 680
Cases 694

13. Queuing Theory 703

Introduction 703
The Purpose of Queuing Models 703
Queuing System Configurations 704
Characteristics of Queuing Systems 705
Arrival Rate 706 Service Rate 707
Kendall Notation 709
Queuing Models 709
The M/M/s Model 711
An Example 712 The Current Situation 712 Adding a Server 713 Economic Analysis 714
The M/M/s Model with Finite Queue Length 714
The Current Situation 715 Adding a Server 716
The M/M/s Model with Finite Population 716
An Example 717 The Current Situation 718 Adding Servers 719
The M/G/1 Model 720
The Current Situation 721 Adding the Automated Dispensing Device 722
The M/D/1 Model 724
Simulating Queues and the Steady-State Assumption 724
Summary 725
References 725
The World of Business Analytics 726
Questions and Problems 727
Cases 733

14. Decision Analysis 736

Introduction 736
Good Decisions vs. Good Outcomes 736
Characteristics of Decision Problems 737
An Example 737

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 xviii Contents

The Payoff Matrix 738

Decision Alternatives 738 States of Nature 739 The Payoff Values 739
Decision Rules 740
Nonprobabilistic Methods 740
The Maximax Decision Rule 741 The Maximin Decision Rule 742 The Minimax Regret
Decision Rule 742
Probabilistic Methods 744
Expected Monetary Value 745 Expected Regret 746 Sensitivity Analysis 747
The Expected Value of Perfect Information 749
Decision Trees 751
Rolling Back a Decision Tree 752
Creating Decision Trees with Analytic Solver Platform 753
Adding Event Nodes 754 Determining the Payoffs and EMVs 758 Other Features 758
Multistage Decision Problems 759
A Multistage Decision Tree 760 Developing a Risk Profile 761
Sensitivity Analysis 762
Tornado Charts 763 Strategy Tables 766 Strategy Charts 768
Using Sample Information in Decision Making 770
Conditional Probabilities 771 The Expected Value of Sample Information 772
Computing Conditional Probabilities 773
Bayes’ Theorem 775
Utility Theory 776
Utility Functions 776 Constructing Utility Functions 777 Using Utilities to Make
Decisions 780 The Exponential Utility Function 780 Incorporating Utilities in
Decision Trees 781
Multicriteria Decision Making 782
The Multicriteria Scoring Model 783
The Analytic Hierarchy Process 787
Pairwise Comparisons 787 Normalizing the Comparisons 788 Consistency 789
Obtaining Scores for the Remaining Criteria 791 Obtaining Criterion Weights 792
Implementing the Scoring Model 792
Summary 793
References 793
The World of Business Analytics 794
Questions and Problems 795
Cases 805

15. Project Management 15-1

Introduction 15-1
An Example 15-1
Creating the Project Network 15-2
Start and Finish Points 15-4
CPM: An Overview 15-5
The Forward Pass 15-6

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 Contents xix

The Backward Pass 15-8

Determining the Critical Path 15-10
A Note on Slack 15-11
Project Management Using Spreadsheets 15-12
Important Implementation Issue 15-16
Gantt Charts 15-16
Project Crashing 15-18
An LP Approach to Crashing 15-19 Determining the Earliest Crash Completion Time
15-20 Implementing the Model 15-22 Solving the Model 15-23 Determining a Least
Costly Crash Schedule 15-24 Crashing as an MOLP 15-25
PERT: AN Overview 15-26
The Problems with PERT 15-27 Implications 15-29
Simulating Project Networks 15-29
An Example 15-30 Generating Random Activity Times 15-30 Implementing the Model
15-31 Running the Simulation 15-32 Analyzing the Results 15-34
Microsoft Project 15-35
Summary 15-37
References 15-38
The World of Business Analytics 15-38
Questions and Problems 15-39
Cases 15-49

Index 811

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