How to Make an Influence Diagram-Step by Step(with Influence Chart)
Recommended for early stages of any problem formulation task
What is Influence Diagram?
Influence Diagram is a simple diagram to show outputs and how they are calculated from inputs, it is a useful tool for complex, unstructured problems.
Influence Chart Principles
- Built from output to input
- Identify input data and decisions as they arise
- A variable should appear only once
- Decompose outcome measure into independent variables that directly determine it
- Repeat decomposition for each variable, in turn, until no variable left
Conventions on types of variables
- Objectives — hexagon
- Variables — circle
- Fixed parameters — triangle
- Random parameters — double circle (I am not familiar with this one yet, if someone can explain to me, please comment below thanks!)
- Decisions — box
Hand-on practice
This is a case from my first assignment of Decision Modeling course, I will show you how to make an influence diagram step by step
Case:
The Great Threads Company sells hand-knit sweaters. Great Threads is planning to print a catalog of its products and undertake a direct mail campaign. The cost of printing the brochure is $20,000 plus $0.10 a catalog. The cost of mailing each catalog is $0.15. In addition, the company will include direct reply envelopes in its mailings. If a customer places an order upon receiving the catalog, he/she will use the direct reply envelope to mail it back, and it costs the company extra $0.20 in postage for each direct mail envelope used by a respondent. If a customer does not place an order, the direct reply envelope will not be used, and no extra cost is incurred for the company. The average value of a customer order is $40, and the company’s variable cost per order averages around 80% of the order’s value. The company plans to mail 100,000 catalogs, and it expects the response rate (percentage of customers that mails back an order) to be at 5%. It wants to develop a spreadsheet model to analyze its profit.
Step1: Identify the outcome, the thing we want to know, and decompose into independent variables that directly determine it.
Profit = Revenue - Cost
Step2: Repeat decomposition for each variable, in turn, until no variable left
I started from the side of Revenue.
- Revenue = Order Value($40) * Number of response(Variable)
- Number of response = Response Rate(5%) * Number of catalogs(plans to mail 100,000 catalogs) (Stop here! No more variable left)
Then, decomposition the side of cost
- Cost = Total order cost + Total catalog cost + Fixed cost($20,000)
- Total order cost = Cost of goods +Total envelope cost
- Total catalog cost = [Printing cost($0.10/ per catalog) + Mailing cost($0.15/ per catalog)]* Number of catalogs(plans to mail 100,000 catalogs)
- Cost of goods = Order value * Number of response(already decompose above) * Cost percentage(80% of the order’s value)
- Total envelope cost = Number of response(already decompose above) * Envelope cost($0.20 in postage)
There is no any variable left! We Just made our first nice and clear Influence Diagram!
Let’s make the spreadsheet for this case!
↑Click the link to learn about Spreadsheet Engineering.