Foundations of Decision Making

Introduction

Managerial Decision Making

• Decision making: the process by which managers respond to opportunities and threats by analyzing options, and making decisions about goals and courses of action.

• Decisions in response to opportunities

• Decisions in response to threats

Decision Making

• Decision

– A choice from two or more alternatives.

• The Decision-Making Process

– A set of eight steps that include identifying a problem, selecting an alternative, and evaluating the decision’s effectiveness.

The Decision-Making Process• The eight steps in the decision-making

process

1. Identifying a problem- “My Sales reps need new Computers”

2. Identifying decision criteria- Memory and Storage, Display quality, Better life, Warranty, Carrying Weight

3. Allocating weights to the criteria-M&s-10;DQ-8;BL-6;W-4;CW-3

Contd.,

4. Developing alternatives-Toshiba, SonyVaio, Dell, Lenovo,HP,

5.Analyzing alternatives- Toshiba, Sony Vaio, Dell, Lenovo, HP,

6. Selecting an alternative

7. Implementing the alternative-Toshiba

8. Evaluating decision effectiveness

Step 1: Identifying a Problem

Finding a discrepancy (difference) between an existing (current) and a desired state of affairs (things are not going as they should).

Three Characteristics (aspects) of Problems.

A problem is identified when:

– A manager becomes aware (conscious) of it.

– There is pressure to act and solve the problem.

– The resources needed to take action are available (means, authority, information).

Step 2: Identifying Decision Criteria

• Managers must determine and list the relevant criteria the problem identified in step 1.

– Costs that will be incurred

– Risks likely to be encountered

– Outcomes that are desired

Prioritizing the criteria that were identified in step 2 by assigning a “weight” to each.

Decision criteria are not of equal importance Assigning a weight to each item places the items in the correct priority in the decision making process.

Step 3: Allocating Weights to the Criteria

Step 4: Developing Alternatives

• Listing viable alternatives that could resolve the problem.

– Alternatives are only listed without evaluation.

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Step 5: Analyzing Alternatives

• Appraising each alternative’s strengths and weaknesses against the criteria established in steps 2 and 3.

– Alternatives are analyzed for their effectiveness in resolving the issue.

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Step 6: Selecting an Alternative

• Choosing the best alternative from among those considered.

Step 7: Implementing the Decision

• Putting the chosen alternative into action.

– Conveying the decision to those who will implement it and gaining their commitment to the decision.

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Step 8: Evaluating the Decision Effectiveness

• Evaluating the outcome of the decision to see if the problem has been resolved.

• The soundness of the decision is judged by its outcomes.

– How effectively was the problem solved resulting from the chosen alternatives?

– If the problem was not solved, what went wrong?

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Evaluating Alternatives

Legal?Legal?

EthicalEthical

Economical?Economical?

Practical?

Is the possible course of action:

Types of Decision Making• Programmed Decisions: routine, almost

automatic process.– Managers have made decision many times before.– There are rules or guidelines to follow.– Example: Deciding to reorder office supplies.

• Non-programmed Decisions: unusual situations that have not been often addressed.– No rules to follow since the decision is new.– These decisions are made based on information,

and a manager’s intuition, and judgment. – Example: Should the firm invest in a new

technology?

A GeneralDecision Making Model

Types of Programmed Decisions

• A Policy– A general guideline for making a decision

about a structured problem.

• A Procedure– A series of interrelated steps that a manager

can use to respond (applying a policy) to a structured problem.

• A Rule– An explicit statement that limits what a

manager or employee can or cannot do in carrying out the steps involved in a procedure.

Slide 20

Problems and Decisions (cont’d)

• Non-programmed Decisions

– Decisions that are unique and nonrecurring

– Decisions that generate unique responses.

Unstructured Problems– Problems that are new or unusual and for which

information is ambiguous or incomplete.

– Problems that will require custom-made solutions.

Types of Problems, Types of Decisions, and Level in the

Organization

The Classical Model

• Classical model of decision making: a prescriptive model that tells how the decision should be made.

The Classical Model

List alternatives List alternatives & consequences& consequences

Rank each alternative Rank each alternative from low to highfrom low to high

Select bestSelect bestalternativealternative

Assumes all informationis available to manager

Assumes manager canprocess information

Assumes manager knowsthe best future course of

the organization

The Administrative Model

• Administrative Model of decision making: Challenged the classical assumptions that managers have and process all the information.– As a result, decision making is risky.

Contd.,

●Bounded rationality: There is a large number of alternatives and information is vast so that managers cannot consider it all.– Decisions are limited by people’s cognitive

abilities.

●Incomplete information: most managers do not see all alternatives and decide based on incomplete information.

Why Information is Incomplete

UncertaintyUncertainty& risk& risk

AmbiguousAmbiguousInformationInformation

Time constraints &information costs

IncompleteIncompleteInformationInformation

Incomplete Information Factors

• Satisficing: Managers explore a limited number of options and choose an acceptable decision rather than the optimum decision.

Making Decisions

• Rational decision making describes choices that are consistent and value-maximizing within specified constraints

Assumptions of Rationality

Influences on Decision MakingCertain assumptions of rationality in the decision-

making process are not always realistic

• Bounded Rationality

– Managers tend to make decisions rationally, but are often limited (bounded) by their ability to process information.

• Satisficing

– Because they cannot possibly analyze all information on all alternatives, managers accept solutions that are “good enough”. They satisfice rather than maximize.

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Influences on Decision Making

Decision making may be influenced by the organization’s culture, internal politics, power considerations and by…

– Escalation of Commitment

• An increasing or continued commitment to a previous decision despite evidence that the decision may have been wrong.

Influences on Decision Making• The Role of Intuition

• Intuitive decision making• Making decisions on the basis of experience,

feelings, and accumulated judgment.

• Intuition or “gut feeling” and rational analysis complement each other.

What is Intuition?

Source: Based on L.A. Burke and M.K. Miller. “Taking the Mystery Out of Intuitive Decision Making.” Academy of Management Executive. October 1999. pp. 91–99.

Cognitive Biases

•Suggests decision makers use heuristics to deal with bounded rationality.

•Systematic errors can result from use of an incorrect heuristic.

– These errors will appear over and over since the rule used to make decision is flawed.

Types of Cognitive Biases

Prior Hypothesis

Representativeness

Illusion of Control

Escalating Commitment

C o g n it iv eB ia s e s

Types of Cognitive BiasesPrior hypothesis bias: manager allows strong prior

beliefs about a relationship between variables and makes decisions based on these beliefs even when evidence shows they are wrong.

Representativeness: decision maker incorrectly generalizes a decision from a small sample or one incident.

Illusion of control: manager over-estimates their ability to control events.

Escalating commitment: manager has already committed considerable resource to project and then commits more even after feedback indicates problems.

Group Decision Making

Many decisions are made in a group setting.– Groups tend to reduce cognitive biases and

can call on combined skills, and abilities.

There are some disadvantages with groups:Group think: biased decision making resulting

from group members striving for agreement.– Usually occurs when group members rally

around a central manger’s idea (CEO), and become blindly committed without considering alternatives.

– The group tends to convince each member that the idea must go forward.

Improved Group Decision Making

• Devil’s Advocacy: one member of the group acts as the devil’s advocate and critiques the way the group identified alternatives.– Points out problems with the alternative

selection.

• Dialectical inquiry: two different groups are assigned to the problem and each group evaluates the other group’s alternatives. – Top managers then hear each group present

their alternatives and each group can critique the other.

Devil’s Advocacy v. Dialectic Inquiry

Devil’s Advocacy

Presentation of Presentation of alternativealternative

Critique of Critique of alternativealternative

ReassessReassessalternativealternative

accept, modify, rejectaccept, modify, reject

Dialectic Inquiry

Alter. 1Alter. 1

Debate the two Debate the two alternativesalternatives

ReassessReassessalternativesalternatives

accept 1 or 2, combineaccept 1 or 2, combine

Alter. 2Alter. 2

Organizational Learning & Creativity

• Organizational Learning: Managers seek to improve member’s ability to understand the organization and environment so as to raise effectiveness.

• Creativity: is the ability of the decision maker to discover novel ideas leading to a feasible course of action.

Senge’s Learning Organization Principles

Develop PersonalMastery

Build SharedVision

Build complex, Build complex, challengingchallenging

mental modelsmental models

Promote TeamPromote TeamLearningLearning

EncourageEncourageSystems Systems ThinkingThinking

Creating a Learning Organization

Senge suggests top managers follow several steps to build in learning:– Personal Mastery– Mental Models– Team Learning– Build a Shared Vision– Systems Thinking

Individual Creativity

• Organizations can build an environment supportive of creativity.– Many of these issues are the same as for the

learning organization.– Managers must provide employees with the

ability to take risks.– If people take risks, they will occasionally fail.

• Thus, to build creativity, periodic failures must be rewarded.

Building Group Creativity

• Brainstorming: managers meet face-to-face to generate and debate many alternatives.

• Production blocking is a potential problem with brainstorming.

• Members cannot absorb all information being presented during the session and can forget their own alternatives.

Building Group Creativity

• Nominal Group Technique: Provides a more structured way to generate alternatives in writing.

• Avoids the production blocking problem.• Similar to brainstorming except that each member is

given time to first write down all alternatives he or she would suggest.

• Alternatives are then read aloud without discussion until all have been listed.

• Then discussion occurs and alternatives are ranked.

Building Group Creativity

• Delphi Technique: provides for a written format without having all managers meet face-to-face.

• Problem is distributed in written form to managers who then generate written alternatives.

• Responses are received and summarized by top managers.

• These results are sent back to participants for feedback, and ranking.

• The process continues until consensus is reached.

Making Decisions

• Decision-Making Styles

– Directive: Use minimal information and consider few alternatives.

– Analytic: Make careful decisions in unique situations.– Conceptual: Maintain a broad outlook (wide perception) and

consider many alternatives in making long-term decisions.– Behavioral: Avoid conflict by working well with others and

being receptive (accept) to suggestions.

Quantitative Techniques for Planning and Decision Making

• Gantt Chart- A chart that depicts the planned and actual progress of work during the life of the project (Time and Activity chart)

• PERT (Programmed Evaluation Review Technique)- A network model used to track the planning activities required to complete a large-scale, non-repetitive project.

Contd.,

• Critical Path Method- The path through the PERT network that includes the time consuming sequence of events and activities

• Break Even-Analysis- A method of determining relationship between total costs and total revenues at various levels of production

Contd.,

Decision Trees- • A decision tree provides a quantitative

estimate of a best alternative. • It is a tool for estimating the outcome of a

series of decisions• When the sequences of the major

decisions are drawn, they resemble a tree with branches

Overview of Managerial Decision Making

Decision Making for Today’s World

Characteristics of an Effective Decision-Making Process

1 - It focuses on what is important.

2 - It is logical and consistent.

3 - It acknowledges both subjective and objective thinking and blends (mixes) analytical with intuitive (instinctive) thinking.

4 - It requires only as much information and analysis as is necessary to resolve a particular dilemma.

5 - It encourages and guides the gathering of relevant information and informed opinion.

6 - It is straightforward (free from ambiguity), reliable, easy to use, and flexible.