Ritz Product's materials manager, Tej Dhakar, must determine whether to make or buy a new semiconductor for the wrist TV that the firm is about to produce. One million units are expected to be produced over the life cycle. If the product is made, start-up and production costs of the make decision total $3 million with a probability of 0.6 that the product will be satisfactory and a 0.4 probability that it will not. If the product is not satisfactory, the firm will have to reevaluate the decision. If the decision is re evaluated the choice will be whether to spend another $3 million to redesign the semiconductor or to purchase Likelihood of success the second time that the make decision is made is 0.8. If the second make decision also fails, the firm must purchase. Regardless of when the purchase takes place, Dhakar’s best judgement of cost is that Ritz will pay $0.40 for each purchased semiconductor plus $1 million in vendor development cost.
Assuming that Ritz must have the semiconductor (stopping or doing without is not a viable option), what is the best decision?
The firm should (buy or make) the semiconductor because this decision has an expected cost of $