STEPHEN G.

POWELL

KENNETH R. BAKER

MANAGEMENT CHAPTER 8 POWERPOINT

SCIENCE NONLINEAR OPTIMIZATION
The Art of Modeling with Spreadsheets

Compatible with Analytic Solver Platform

FOURTH EDITION
OPTIMIZATION

• Find the best set of decisions for a particular measure of

performance
• Includes:
– The goal of finding the best set
– The algorithms (procedures) to accomplish this goal

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EXCEL OPTIMIZATION SOFTWARE

• Solver
– Standard with Excel
• Analytic Solver Platform
– Comes with text – install off text CD
– More advanced than standard solver
– Is preferred tool throughout text

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DECISION VARIABLES

• Levers used to improve performance

• Want to find the best values for the variables
• Finding these best values can be challenging
– Need Solver’s sophisticated software
– Still relatively easy to construct models beyond Solver’s
capabilities

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 SOLVER WINDOW

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FORMULATION

• Decision variables
– What must be decided? Be explicit with units
• Objective function
– What measure compares decision variables?
– Use only one measure (as a “yardstick”) – put in target cell
• Constraints
– What restrictions limit our choice of decision variables?

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CONSTRAINTS

• Left-hand-side (LHS)
– Usually a function
• Right-hand-side (RHS)
– Usually a number (i.e., a parameter)
• Three types of constraints
– LHS <= RHS (less-than [LT] constraint)
– LHS >= RHS (Greater than [GT] constraint)
– LHS = RHS (Equality [EQ] constraint)

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TYPES OF CONSTRAINTS

• LT constraints (LHS<RHS)
– Capacities or ceilings
• GT constraints (LHS>RHS)
– Commitments or thresholds
• EQ constraints (LHS=RHS)
– Material balance
– Define related variables consistently

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LAYOUT

• Standard model template is advisable

• Enhances ability to communicate
– Provides common language
– Reinforces understanding how models shaped
• Improves ability to spot modeling errors
• Enables “scaling up” more easily

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LAYOUT

• Organize worksheet in modules

– Decision variables, objective function, constraints
• Place decision variables in single row (or column)
• Use color or border highlighting
• Place objective in single highlighted cell
• Arrange constraints for visual comparison of LHS and
RHS

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SOLVER TIP: RANGES FOR DECISION VARIABLES

• Arrange worksheet with all decision variables in adjacent

cells
– Enables a single reference to their range
– Makes data entry efficient
– Reduces clutter in Solver interface
– Makes task pane description easier to interpret

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INTERPRETING RESULTS

• Optimal values of decision variables

– Best course of action for the model
• Optimal value of objective function
– Best level of performance possible
• Constraint outcomes
– Constraint is tight or binding if LHS=RHS in LT or GT
constraint
– Throughout optimization, generally only some constraints
are binding

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INTERPRETING RESULTS: OPTIMIZATION SOLUTION

• Tactical information
– Plan for decision variables
• Strategic information
– What factors could lead to better levels of performance?
– Binding constraints are economic factors that restrict the
value of the objective.

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MODEL CLASSIFICATION AND THE NONLINEAR SOLVER

• Linear optimization or linear programming

– Objective and all constraints are linear functions of the
decision variables
• Nonlinear optimization or nonlinear programming
– Either objective or a constraint (or both) are nonlinear
functions of the decision variables
• Techniques for solving linear models are more powerful
– Use wherever possible

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“HILL CLIMBING”

• Technique used by Solver for nonlinear optimization

• Called LSGRG (Large-Scale Generalized Reduced
Gradient) algorithm
• Hill climbing in a fog
– Try to follow steepest path going up
– After each step, or group of steps, again find steepest path
and follow it
– Stop if no path leads up

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LOCAL AND GLOBAL OPTIMUM

• The highest peak is the global optimum.

– What we want to find
• Any peak higher than all points around it is a local
optimum.
– What the LSGRG algorithm locates
– Except in special circumstances, there is no way to
guarantee that a local optimum is the global optimum.
– If multiple local optima, then which is found depends on
starting point for decision variables – may want to run
Solver starting from multiple points

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PROGRAMMING EXAMPLES

• Facility location
• Revenue maximization
– Maximize revenue in the presence of a demand curve
• Curve fitting
– Fit a function to observed data points
• Economic Order Quantity
– Trade-off ordering and carrying costs for inventory

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SOLVER TIP: SOLUTIONS FROM THE LSGRG ALGORITHM

• When the GRG algorithm concludes with the convergence message,

“Solver has converged to the current solution, all constraints are
satisfied”, the algorithm should be rerun from the stopping point.
• This message may then reappear, in which case Solver should be
rerun once more.
• Eventually, the algorithm should conclude with the optimality
message, “Solver found a solution, all constraints and optimality
conditions are satisfied”, which signifies that it has found a local
optimum.
• To help determine whether the local optimum is also a global
optimum, Solver should be restarted at a different set of decision
variables and rerun.
• If several widely differing starting solutions lead to the same local
optimum, that is some evidence that the local optimum is likely to be
a global optimum, but in general there is no way to know for sure.

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SOLVER TIP: AVOID DISCONTINUOUS FUNCTIONS

• A number of functions familiar to experienced Excel

programmers should be avoided when using the
nonlinear solver.
• These include:
– Logical functions (e.g., IF or AND)
– Mathematical functions (e.g., ROUND or CEILING)
– Lookup and reference functions (e.g., CHOOSE or VLOOKUP)
– Statistical functions (e.g., RANK or COUNT).
• In general, avoid using any function that changes
discontinuously.

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SENSITIVITY ANALYSIS FOR NONLINEAR PROGRAMS

• Tests our initial assumptions to see what impact they

have on our conclusions.
• Analysis of one or two variables can lead to optimal
values of those variables.
– E.g., using the Parametric Sensitivity tool.
• Solver tool for larger numbers of variables and
constraints

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SOLVER TIP: WHAT KIND OF SENSITIVITY ANALYSIS?

• Easy to confuse parametric sensitivity with optimization

sensitivity, which answer different questions:
– Optimization sensitivity determines how the optimal
solution changes with a change in parameter.
– Parametric sensitivity answers how specific outputs
change with parameters.
• The Solver tool can answer questions about how specific
outputs change with a change in one or two parameters.

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THE PORTFOLIO OPTIMIZATION MODEL

• The performance of a portfolio of stocks is measured in

terms of return and risk.
• When we create a portfolio of stocks, our goals are
usually to maximize the mean return and to minimize the
risk.
• Both goals cannot be met simultaneously, but we can
use optimization to explore the trade-offs involved.

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*EXCEL MINI-LESSON: THE COVAR FUNCTION

• The COVAR function in Excel calculates the covariance

between two equal-sized sets of numbers representing
observations of two variables.
• The covariance measures the extent to which one
variable tends to rise or fall with increases and decreases
in the other variable.
– If the two variables rise and fall in unison, their covariance
is large and positive.
– If the two variables move in opposite directions, then their
covariance is negative.
– If the two variables move independently, then their
covariance is close to zero.

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SUMMARY

• Optimization: Answers “What values of the decision

variables lead to the best possible value of the
objective?”
• Excel Solver: Collection of optimization procedures
– Nonlinear Solver is Solver’s default choice
• Steps: 1) formulating, 2) solving, and 3) interpreting
optimization problems.

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SUMMARY

• These guidelines for model builders are the craft skills

typically exhibited by experts:
– Follow a standard form whenever possible.
– Enter cell references in the Solver windows; keep
numerical values in cells.
– Try out some feasible (and infeasible) possibilities as a way
of debugging the model and exploring the problem.
– Test intuition and suggest hypotheses before running
Solver.

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COPYRIGHT © 2013 JOHN WILEY & SONS, INC.

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