Aditya Nugroho_Final Report

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FINAL REPORTCOMPLEX DECISION OF BUYING OR NOT BUYING NEW

AIRCRAFT IN AIRLINE COMPANY

National Universityof Singapore

IE 5203 DECISION ANALYSIS

ADITYA NUGROHOHT083276E

DEPARTMENT OF INDUSTRIAL ENGINEERINGNATIONAL UNIVERSITY OF SINGAPORE

2010


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Department of Industrial EngineeringIE 5203 Decision Analysis

EXECUTIVE SUMMARY

This term paper tries to present a real world problem in Decision Analysis. An airlinecompany ABC in Indonesia is plan to develop Jakarta-Singapore route network on short haulflight within ASEAN countries. The present operation makes use of Boeing 737-300. Thecompany must decide whether to maintain present aircraft or buy a new aircraft that willincrease its capacity.

Value-focused thinking was done to identify values that matter to the decision maker. Thus,alternatives were generated. To consider the monetary gain of each alternative in term ofNPV, one pass through DA cycle using DPL programme was done. Uncertainties of futureincome, maintenance cost, and the salvage value of the aircraft was accounted for.

To consider other intangible factors, Analytical Hierarchy Process (AHP) was done usingExpert Choice software. Criteria and subcriteria to determine the best alternative were laiddown in Tree Hierarchy. The weightage of each criteria and subcriteria were calculated usingpairwise comparison technique. All alternatives were then compared to each other. Bestalternative was obtained.

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Table of Contents

1.0 INTRODUCTION AND PROBLEM DESCRIPTION .42.0 FRAMING AND FORMULATION 42.1 Framing 42.2 Formulation 62.3 Influence diagram and generic decision tree 7

3.0 DETERMINISTIC ANALYSIS 84.0 PROBABILISTIC ANALYSIS 95.0 MODEL APPRAISAL 126.0 ANALYTIC HIERARCHY PROCESS MODEL 137.0 RECOMMENDATIONS AND CONCLUSIONS 16

Figures and TablesTable 1 Alternatives comparison 5Table 2 Future uncertainties 6Table 3 Value model of investment decision 7

Figure 1 Influence diagram and generic decision tree of the investment model.. 7Figure 2 Tornado diagram 9Figure 3 PMF for the aleatory variables 9Figure 4 Influence diagram of probabilistic analysis 10Figure 5 Value node definition 11Figure 6 Risk profile 11Figure 7 DPL Optimal decision policy 12Figure 8 Value of information and control.. 12Figure 9 Sensitivity analysis of pax demand node (rainbow diagram) 13Figure 10 AHP Hierarchy 14Figure 11 Hierarchy and synthesis with respect to Goal.. 14Figure 12 Sensitivity analysis with respect to main criterion 15Figure 13 Sensitivity analysis with respect to intangible criterion 16

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1.0 INTRODUCTION AND PROBLEM DESCRIPTIONThe airline company ABC in Indonesia is plan to develop Jakarta-Singapore route network onshort haul flight within ASEAN countries. The present operation makes use of Boeing 737-300. According to air transportation bureau, it is expected that the demand for air passengerwould be 65,000 pax per annum. The company is now considering to invest in a new aircraftwith huge capacity but suitable with annual passenger demand. By this new aircraft the airlinecould carrying more passenger for international route.

Making this decision is hard because of the complexity by the many choices of aircrafttechnologies: the capacity, the reliability of the technology, the market value, after saleservice, and so on. However, only some alternatives will be considered in this paper, becauseof the limited capability of the trial version software used.In addition there are also many objectives to be fulfilled, such tangible and intangible factors.Considering investment in new aircraft not only the expected payback period and futureincome but also the ease and safety of using the technology, maintenance, and the possibilityof business expansion. Thus, there's another reason why making this decision is hard, that isbecause the future is full of uncertainties. This could come from the economic situation inASEAN countries that will affect the the demand annual passenger.

2.0 FRAMING AND FORMULATIONValue-focused thinking is used to formulate the problem. Values & objectives will beidentified and structured. Influence diagram and decision tree will be used to structure theelements of the decision situation.

2.1 Framing

a. Target The company needs to earn money The company wants to become market leader The company wants to expand the business

b. Alternatives Maintain old aircraft: maintain the current profit, limited by the aircraft capacity Buy new aircraft: invest a sum of money, monetary gain in the future, and increase

capacity.

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Alternatives of the new aircraft (2 alternatives have been chosen):Boeing 737 -900ERAirbus 330-200 series

Comparison of the two alternatives and estimated value of the investment from theaircraft manufacturer is shown in Table 1.

c. Problems The old aircraft is giving problem of limited capacity to carrying more passenger

Table 1 Alternatives comparison

Boeing 737-900ER Airbus 330-200 seriesManufacturer Boeing The European AeronauticDefence and Space Company

Max seat capacity 215 passengers in a single- 293 passengers in a two classclassMax take off weight Weights 187,700 lb (85,130 Weights 233,000kgand max range flies kg), Flies up to 3,265 nautical (513,670Ib), Flies up to

miles (6,045 km) 11,850km (6400nm)Maximum fuel capacity 7,837 U.S. gal (29,660 L) 36,750 US gal. (139,100

Litres)Reputation of Established, pioneer ing Established consortium withmanufacturer medium aircraft size European company, very

active in researchService Worldwide including Worldwide including

Singapore SingaporeAircraft safety precision The -900ER is a performance EASA determined that the

category D (The -800 is A330-200F does not presentperformance category C) unique characteristics that

require flight evaluation.Estimated price US$76.0 - 87.0 (millions) US$170.9 - $200.8 (millions)

d. UncertaintiesIt is predicted that the future condition is full of uncertainties. The monetary gain by investing in new aircraft will be greatly affected by future

condition which is determined by the economical situation in ASEAN countries. The consequences of buy new or maintain current aircraft would is shown in Table 2

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Table 2 Future uncertainties

Economic condition Maintain New investmentBetter Limited by capacity Carrying more passenger,

more profitableStable Stable Possibility to expand the

international routesWorse Stay on Lose money

e. Constraints Investment in new aircraft required huge initial cost and need credit service from the

Bank.f. Strategic objective

Value that is absolutely fundamental: more profit

2.2 Formulationa. Decision variables

Buy Boeing 737 -900ER Buy Airbus 330-200 series Maintain old aircraft Boeing 737-300

b. State or system variables Demand (passenger/annual): low, base, high Annual maintenance cost (million /year): low, base, high Salvage value (million): low, base, high

c. Values and preferences NPV (Net Present Value) of net income at MARR = 10% Study period at 15 years It is consder that the company will be take the Risk Neutral

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2.3 Influence diagram and generic decision tree

DemandO&MCost

SalvageValue~

InvestmentChoice NPV

NMARR Grossprofit

I nves tmentCho ice

Buy Boe ing 737 -900ER Low Low Low

f - -B_uy_Ai_ ' _ rb_u_s_33_0_-2_0_0_s_er_ ie_s c ( ~mh i na lM ain ta in o ld a irc ra ft B oe ing 737 -300

Nom i na lI----


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$300$500$100$250

Study periodMARRInitial cost ofB737 900ERInitial cost A330-200Gross operating cargo profit/paxB737900ER

A330-200B737-300

Air fare; per passenger

1510%

$90,000,000$160,000,000

Intermediate valuesUniform series PWF (P/A,1O%,20)Single payment PWF (P/F,1O%,20)

7.60610.2394

Value modelStrategy1.NPV Buy B 737-900ER2. NPV Buy A 330-2003. NPV Maintain B 737-300

$42,795,928$25,698,999$42,488,371

3.0 DETERMINISTIC ANALYSIS

From the above value invesment decision model thus we will consider deterministic analysis.The purpose of deterministic analysis is to choose sensitive variables, which influence theresult greatly with just a little change of value. These variables are called aleatory variablesand will be considered further in the probabilistic analysis, while other insensitive variableswill be set to the base value.

By using the Sensit software, the state system variables are calculated and deterministicanalysis is done and the result is shown as the Tornado Diagram (Figure 2). From the tornadodiagram, we can analyzed as follows:

As the business operating of airline is depend on passenger demand. The model showsthat the annual passenger demand influence the total present worth of NPV incomegreatly.

Secondly the range of operation and maintenance cost of aircraft also influence thevalue ofNPV income although not as great as the annual passenger demand.

The fluctuation of salvage value of aircraft costs don't change the value of presentworth significantly.

As a conclusion of this deterministic analysis, it is decided that the variable of annualpassenger demand and O&M cost of aircraft will be treated as aleatory variables, while othervariables will be set at the base values for subsequent analysis.

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Annual passenger demand I35000 95000O&M costA330-200 $40,280,030 $13,426,677

O&M cost 8737 900ER $29,088,600 $9,696,200

O&M cost 8737-300 $26,454,000 $8,818,000

Salvageval ueA330-200 $40,000,000 I~$120,000,000Salvage value 8737900ER $17,500,000 $52,500,000

Salvagevalue 8737-300 $7,500,000 $22,500,000

-$400,000,000 -$200,000,000 $0 $200,000,000 $400,000,000 $600,000,000TotalNPV

Figure 2 Tornado diagram

4.0 PROBABILISTIC ANALYSISIn this section the pdf (probability distribution function) of each aleatory variables will beassessed, Using the Pearson- Tukey three-point quick approximation method, the CDF(cumulative distribution frequencies) derived is discretized, resulting in the PMF (ProbabilityMass Function) for each aleatory variables, Pearson and Tukey suggested using the 5,50, and95 percentiles and in this case the branch probabilities of the approximate pmf are [0,185,0,630, 0,185], Following figure represent the pmf of each aleatory variables,

Low LowPax IB739

GMd lemarud INomtru .a~1 INomina l

IHlig' t i l H igh,~,s5

Low LowA33:2OM

.tas ,Ml5INom' i rua l

Hl ig 'h lHi igh, , "185

Figure 3 PMF for the aleatory variables

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The probability analysis is done using the DPL program by considering aleatory variables ininfluence diagram (see Figure 4). Some snapshots and results from the DPL analysis areshown in Figure 5 and 6. The optimal decision is shown in Figure 7.

Paxdemand

lnvssnnentchoicefllmR

87379I A '3302I

87379P Airfare~I~~l~

Figure 4 Influence diagram of probabilistic analysis

t ~ . = ' v.1:L'3~_0.'~TLi.iU(i1~f;'~~ o t ~ . = ' v_.t.3~i!_[JrA!i.(ilJl'i-Jo';:~:o l=r n

]I

l=r n]I

(",,,I "


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'1

~.Ir\'

\ 1 .1 . 7. ' ,_ 1 " " ": 1 7 .' ." J ._ n r ~) - 7 ~ ; ~ ~ ( :!J l i ruvestmelrut

e n o r e e

Figure 5 Value node definition100%

~O(lli]-

80%-

70%-

60%-, - .-:0m- e 50%-i i : :o- 8 40%-"5E: : :J0JO%-

20%-

10%-

0%200000000 1 00000000 I} r c c o o c o o o 200000000

Figure 6 Risk profile

Buy_Bue i , I Iu , _ 7 3 7 _900ER

L J lJ)' I " r ou s :n o L O OM a in ta in _B o cin ;J J3 7 _ 30 0

30000DDDO

As Figure 6 shows, the alternative exhibits non stochastic dominance over the otheralternatives. Note, however, in spite of greater variability in parameters associated with theBuy Airbus option, the corresponding risk profile is relatively tight.

Therefore, by considering the monetary gain and future income therefore the optimal decisionpolicy of airline company is to Buy Boeing 737-900ER for operating short haul route forJakarta-Singapore (see Figure 7).

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P ax d e m an dBuy Boeing 7: [52067548.195] /-. I\ o !I ~ /

I nv e stm e n t c h oic e[52067548,195] P ax d e m an dBuy Airbus 33 [25700084.211]/-,( ~I~Ic- r ir-m o, !Jj

. . . , . h -. . m . . . .i i r .n r : : : k : . - . r r t d

Figure 8 Value of information and control

As shown in Figure 8 the manager of airline company can run a value of control or value ofinformation diagram to see which nodes most directly affect the outcomes. As we have fouruncertainty nodes in our model, the graphs show that the passenger demand is importantnodes. In addition, the value of control shows the amount of risk that could be reduced givenperfect control over each probabilistic node, and that it is clear that passenger demand wouldbe the most important variable for risk managers to control. Admittedly, this is a basic

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example, but with a more complex model, analysts could determine which nodes arepositively or negatively affect the outcomes and which uncertainties are most important.

I I

180[1[10000-

1110000000

6 0 [ 1 [ 1 0 0 0 0 -

110[1[10000-

120[1[10000"'--,~ 100[1[10000-"Uf o~ u ou uu oo o-w

40lJlJ fJ 000-

; > O f J f J I I 0 0 0 -

Figure 9 Sensitivity analysis of pax demand node (rainbow diagram)

By usmg DPL software is allow to easily perform sensitivity analysis on key modelassumptions. From the value of information and control above, the Expected Value ofpassenger demand was highly. We can generate sensitivity analysis such as rainbowdiagrams. The rainbow diagram (Figure 9) shows the decision changes as our assumptionabout the nominal value of passenger demand increases. The different shaded regionsrepresent different decisions. In conclusion the company should control the pax demandvariable which would be affect the great outcomes of the model.

6.0 ANALYTIC HIERARCHY PROCESS MODELIn this section considering decision to buy aircraft is not only based on policy tree of NPV,however there is exist tangible and intangible factors should take into account. Therefore inthe AHP analysis these factors will further discuss. In AHP model NPV value for eachalternatives will be use to calculate preference. In example the preference for Buying Boeing737-900ER over the Boeing 737-300 will be 52,067,548/42,488,595=1.225

As can bee seen in Figure 9 by using the AHP hierarchy, the set of main criteria (tangible andintangible) has been considered in second level hierarchy. Each main criteria is decomposed

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into several subcriteria. Each criteria's and subcriteria's weightage is obtained by pairwisecomparison technique. There are 3 alternatives to be considered. AHP analysis is done usingExpert Choice 11.5. The results of expert choice is shown in following figure.

Maintain JBoeing 737-300

Buy Boeing737-900ER Buy Airbus330-200Figure 10 AHP Hierarchy

~ Expert


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--+------_.~DMitt1li!'d;,;,- . 3 2. :n .


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.lfl_"..illi~~ 'EI::lII::il!; ~, ~1l.:!:lo.i~~}

.ae

.r u

. 1 _ 2 ,"J _ 4 _ t .1 _ 0 .u.00

Figure 13 Sensitivity analysis with respect to intangible criterionAs can be seen from the above figure 13, under intangible criteria, preference is sensitive.Preference will change if we change the subcriteria's weightage. As example, Airbus 330-200with respect to safety precision sub criteria dominates other 2 alternatives. However,in overallalternative Buy SLA Boeing 737 -900ER still dominates over the other 2 alternatives.

7.0 RECOMMENDATIONS AND CONCLUSIONSBased on DPL and Expert choice results, some recommendations for investment choice asfollows: Buy Boeing 737-900ER in considering monetary gain However, in the case weightage for intangible criteria is changed to more than 50%, the

preference will be to buy Airbus 330-200

In regards with Decision Analysis cycle following recommendations are needed for 2nd passDA cycle:

Risk neutrality was assumed and the dollar value is used to obtain the expected valueof optimal decision in the 1st pass. So for the 2nd pass the risk attitude can beconsidered and the utility function of the decision maker can be derived.

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Pearson-Tukey three-point short cut approximation method was used in the 1st pass,so in the 2nd pass a more accurate method can be used to discretize aleatory variablessuch as using equal area method or fitting a certain distribution to data.

MARR, study period was set at 10% and 15 years respectively. In the 2nd passanalysis can be done whether the changes of these parameters are significant enoughto treat them as aleatory variables.

The use of AHP implies that an Additive Value Function is used, hence the AdditiveIndependence holds. In reality it might not be the case, so investigation into this mustbe done, and Multi Attribute Utility Function could be used instead.

In calculating NPV, the means of financing this investment has not been considered. Iffinancing comes from outside source and there is cash outflow to pay the interest, thenit's more appropriate to calculate the present worth of cash flow after taxes.

In conclusions, this project presented a real world problem in Decision Analysis. Itmanagesto combine tangible and intangible objectives to obtain the best alternative Itmanages to takeinto account the risk of future value of demand and the uncertainty of maintenance cost andsalvage value of the aircraft.

REFERENCES

R.T. Clemen and T. Reilly, Making hard decisions with DecisionTools. Duxbury ThomsonLearning, 2001.T.L. Saaty, The Analytic Hierarchy Process, McGraw Hill, New York, 1980K.L. Poh, IE5203 Lecture Notes, 2010 Edition.Applied Decision Analyis LLC, DPL 4.0: Professional Decision Analysis Software -Academic Edition, Duxbury, 1998.

Source of data information http://www.airbus.com!store/mm repository/pdf/attOOOI1726/media object file ListPric

es2008.pdf http://www.boeing.com!commercial/prices/ http://www.boeing.com!commercial1737family/pf/pf 900ER fact.html http://www.airbus.com!en/aircraftfamilies/a330a340/a330-200 http://www.icao.intlicao/en/ro/allpirg/allpirg4/wp28app.pdf Using an operating cost model to analyse the selection of aircraft type on short-haul

routes http://www.saice.org.za/Portals/0/pdf/journal/voI48-2-2006/voI48 n2 a.pdf
http://www.airbus.com%21store/mmhttp://www.boeing.com%21commercial/prices/http://www.boeing.com%21commercial1737family/pf/pfhttp://www.airbus.com%21en/aircraftfamilies/a330a340/a330-200http://www.icao.intlicao/en/ro/allpirg/allpirg4/wp28app.pdfhttp://www.saice.org.za/Portals/0/pdf/journal/voI48-2-2006/voI48http://www.saice.org.za/Portals/0/pdf/journal/voI48-2-2006/voI48http://www.icao.intlicao/en/ro/allpirg/allpirg4/wp28app.pdfhttp://www.airbus.com%21en/aircraftfamilies/a330a340/a330-200http://www.boeing.com%21commercial1737family/pf/pfhttp://www.boeing.com%21commercial/prices/http://www.airbus.com%21store/mm

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Aditya Nugroho_Final Report