rial Decision Making

8/8/2019 rial Decision Making

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Dr. Amin Ullah, PhD

Managerial Decision Making


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FOM 4.2

Learning Outcomes

Learn the basic concepts of decision making.

Understand Elements and various steps in the

decision-making process. Learn various types of managerial decision

making.

Learn Types of Problems and Problem

solution. Understand External environmental influence

on DM, certainty, risk, and uncertainty as theyrelate to decision making

Understand various Techniques used in


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What is Decision Making?

Decision making is the process ofselecting the mostappropriatealternative among other alternatives ina given environment/situation.

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Managerial Decision MakingDecision Making in Management:

The ability, and particularly the right, to

make decisions clearly holds considerablestatus and is very attractive in the minds

of many people

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Good or Bad DecisionsGood decision is the one where

Decision maker fully understand :-

Background

Objectives

Alternative courses of action

Range of possible consequences of decision

The choice between alternatives is made

In a rational manner

Consistent with objectives of decision

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ELEMENTS OF DECISION

Key elements in a decision :-

The decision body : individual / group authorized

to make final decision The decision options : Alternate courses of action

from which choice will be made

The uncontrollable factor : factors which will

affect the decision but cannot be controlled bydecision body

The consequences of each option: in what terms

can the possible results of each option be

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Types of ManagementDecision

Strategic and operational decisions.

Structured and Un-structured Decisions.

Dependentand independentdecisions.

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Strategic and Operational Decisions

Operational Decisions

Lower and middle management levels in the

organization make operational decisions in theirspecific areas of responsibility.

These are mostly routine and repetitive

Outcome/ consequences oftheir decisions are

predictable in mostcases.

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Strategic Decisions:

These decisions are taken bythe Top management,though lower and middle managers are also involvedand provide their inputs in strategic decisions.

Strategic decisions are crucial to the reputation andfuture ofthe entire organization.

Strategic decisions are made due to changes in theexternal environmental factors and their complexity

which are characterised by great risks and oruncertainty.

Strategic decisions are made in strategic planningand management. Decisions are made on selectionand changes of organization objectives, policies andResources. 9


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Unstructured and Structured

Decisions:

Structured Decisions:

The decision maker knows the extentof decision and

options are very clear. Evaluation criteria are well thought, explicitand

unambiguous.

Clear procedures to follow for making decisions.

These are known as Programmable.

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Un-Structured: Decision body is notclearly defined.

Options are notclear and explicit.

No clear procedures to follow in decision making.

Difficultto reach atan agreementto choose the best

way as well as to reach atan agreed decision

.

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Dependent and Independent

Decisions:

DependentDecision:

Dependency on the pastdecision. Sometimes past

decisions have determined the resource constraintswith in which we can work on the presentdecision.

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FOM 4.13

Procedure

Rule

Policy

Programmed Decision


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Programmed Vs. Non-programmed decisions

Programmed decisions

Repetitive, well defined

Procedures exist for resolvingproblems

Criteria for performance clear

Good information available for current

performance

Alternatives well specified

Relative certainty that chosen

alternative will be successful

Non Programmed decisions

Novel & poorly defined

No procedure exist for solving the problemClear cut decision criteria do not exist

Alternatives are fuzzy

Uncertainty whether a problem solution will

solve the problem

Few alternatives can be developed

A single solution is custom-tailored to the

problem


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Types of problem for solving/decision

making Crisis Problem:

It is a serious difficulty or problem requiring immediate decision

bythe management.

Non crisis problem:

Issues that require resolution but do not simultaneouslyhave

the importance and urgency of a crisis.

Opportunity problem:

A

situation that offers strong potential for great organizationalprofit or benefits if appropriate action is taken.

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The Problem solving/Decision Making

Process

Steps and their Sequence

The diagram indicates various steps in Decision making/

problem solving process: Observation:

It is the firststep in the process. The individualmanager observes / notices either a problem or a

decision opportunity exists in the organization or itsenvironment.

Formal Recognition:

After the accumulation of information and evidence, theneed for decision arises. Bythis time, the problem oropportunity is quite clear and demonstrable. 16


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Interpretation / Diagnosis:

This is the most importantstage for proper diagnosis of

the real problem or opportunity. Differentpeople seemany problems in differentways and thereforereaching agreementover the nature ofthe problem

itself can become a decision process.

Problem statement / Definition:The agreed interpretation of a problem is translated into

the operational form. The problem is formally stated/defined and boundaries of decision are drawn.

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Set Objectives:

Unless the objectives of a decision are CLEAR and well

understood, managers cannotpossibly judge how farthe selected / preferred options will achieve theobjectives ofthe decision. These objectives areusually concerned with filling the gap between thepresentstate and the desired state, which mustbe a

function ofthe overall objectives ofthe organization.

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Determine the Options/ Alternatives:

Atthis stage, various options are determined with in the

decision boundaries. Managers usually encourageand use creativity and innovative skills and processesto determine the mostsuitable options such asbrainstorming sessions etc.

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Evaluating Options:

Each option is speltout in detail Gathering pertinent information andefficientManagement information system (MIS) will greatly help in

determining various options. Quality and Quantity of information willgreatly affectthe evaluation. Test/ check all options for feasibility,viability and validity.

Moreover understand other factors, which can limitthe range and choiceof options or their applicability.

These are:

TIME

Information

Resources

Knowledge

Managers have to know the real (Notassumed) limits, which the above

factors can impose on the options available to them. 20


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Criteria for evaluating alternatives:

a) Legality:

Action is legal and will notviolate the law and regulations.

b) Ethicalness:

Notharming any stakeholders interest.

c) Costeffectiveness or Economical feasibility:

d) Practicality

Have capability and resources to implementthe decision easily.

e) Marginal Analysis:It is the comparison of additional revenues and additional costs arising

from increasing the output.

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Select the Best Option:

It is in factthe desired action or decision making.

The selection will depend largely on the size andconstitution ofthe Decision Making body.

Individual or single decision maker will choose thebestoption based on his/her value system andinterests.

A multi decision-making body could interacttoresolve the choice by any combination of debate,consultation, delegation or political process.

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Three Approaches are used in Selectionof Best Option:

Experience:Reliance on pastexperience plays importantrole in decision

making. Experience is the bestteacher. Managers believe thattheir success and failure are the bestguide for future decisionmaking.

This attitude of managers may be dangerous because: They have not realized the real reason for success or failure

Change of circumstances

Therefore, after careful analysis ofthe pastexperience, then theexperience can be useful.

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Experimentation:

It is quite expensive and may sometimes be risky.

However in certain situations itbecomes necessarytodo research and experimentation such asdevelopmentof prototypes before actual production.

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Research and analysis:

It is one ofthe mosteffective techniques used for

major decisions in case of planning; problem involvesbreaking it into components or parts and studyingthe various quantitative and qualitative factors.

Study and analysis is more costeffective thanexperimentation. A simulation model is one of manyexamples.

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Implementation:

The selected option or decision is implemented. The

effectiveness of decision shall depend upon the skilland ability ofthe manager charged with the task andthe implementability ofthe option itself.

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Monitoring and Feedback:

During the implementation stage, close monitoring

is required to see effectiveness ofthe decision insolving the problem and achieving the decisionobjectives.

This is the Final stage ofthe decision process.

However, in case ofunsatisfactory results, theprocess is repeated. A regular feedback isprovided which shall further improve the decisionmaking.

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FOM 4.28

Identify

Problem

The Decision-Making

Process

Select

Alternative

Implement

Alternative

Evaluate

Results

1

Develop

Alternatives

Analyze

Alternatives

Develop

DecisionCriteria

Allocate

Weights toCriteria

2 3

4 5

6

7

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The Decision Environment:Environment: The totality of circumstances under

which the organization operates.

Organizations are an Open System and interact

with its environmental factors which may provideopportunities to itor pose threats or challenges.

Loss of control over energy sources.

High rate oftechnological development

Critical focus on social responsibilities of businessorganizations (safety, pollution employees welfare)

Political influence over international trading (WTO),European Economic committees.

Changing role of government in the affairs of work 29


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The External Environment CERTAINTY:

Decision making condition in which managers have

accurate and reliable information aboutthe outcomeof various alternatives under consideration. UNCERTAINTY:

Decision making condition in which managers faceunpredictable external conditions OR lack of

information needed to establish the Proability ofcertain events.

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RISK:

Risk occurs whenever we can notpredictout-come of

an alternative with certainty, butwe do have enoughinformation to predictthe Probability itwill lead tothe desired state.

Probability:

A statistical measure ofthe chance, a certain event Or out-Come will occur.

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INCORPORATING UNCERTAINTY IN

DECISION MAKING:

Three possibilities for decision making underconditions ofuncertainty:

Take the bestpossible estimates for decision makingwithoutconsidering uncertainty.

Take estimates with build-in an allowance to accountfor possibility of estimates being optimistic and nottaking uncertainty into consideration.

Take into accountuncertainty into our modeling.

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Techniques for Decision MakingExamining how to quantifyuncertainty, and usingthree techniques to aid decision making under

uncertainty.a. The Decision Matrix

b. The Decision Tree

c. The Risk Simulation.

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a ) Decision Matrix

The decision matrix is a useful method of describing

decisions, which take place under uncertainty.

It lists all the decision options on one dimension ofthe matrix and all possible states of nature on the

other dimension.

Every square in the matrix will then represent a

possible consequence or outcome.These

consequences can be examined by using Decision

Rules in orderto decide which ofthe options is

preferred.

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State of Nature

N1 N2 N3 N4Decision S1 O11 O12 O13 O14

Options S2 O21 O22 O23 O24

S3 031 O32 O33 O34

S4 O41 O42 O43 O44


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S1 = Decision options

N1 =The uncertain event

O1 =The outcomeThese Outcomes or Consequences can be examined

by using Decision Rules in orderto decide which ofthe

options should be preferred.

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The Four Decision Rules

a) The Optimistic Decision Rule.

b) The Pessimistic Decision Rule.

c) The RegretDecision Rule.d) The Expected Value decision Rule.

a) The Optimistic Decision Rule.

This approach of selecting the preferred option is to

consider all circumstances and choose thatoptionwhich gives the bestpossible outcome orconsequence.

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b. The Pessimistic Decision Rule.

The pessimistshall assume thatthe worst is going to

occur and shall choose the bestoutofthe worstoutcome.

c. The Regret Decision Rule:

Itconsiders the measure of regretnothaving chosenthe option, which turns outto be the bestoption fora particular setof circumstances.

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Regret Tables for Two Alternative Production

Processes

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Available SalesVolume

MaximumRegret

1000

units

2000

Units

$3300(200) $ 2000(0) 200

$3100(0) $ 2400(400)

400Method # 2


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Therefore the Maximum regret in method (1) is $ 200and the Maximum regret in method (2) is $ 400.Under this rule, we shallselectmethod (1) being theminimum ofthe Maximum regrets. (differencebetween whatyou getand the bestcase)

d) ExpectedValue Decision Rule:

The above Three Decision Rules guide us to select

the bestoption, butnon ofthem provides thelikelihood of a particular situation occurring.

The principle of expectation weights each outcomebythe likelihood of itoccurring.

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Expected Value for Revenues from the

Addition of One Ski Lift


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d) Risk Simulation

It is also called Risk Analysis.

It is a useful technique which allows a more

sophisticated approach to the way; the uncontrollablefactors withinthe decisionare described.

Risk Analysis is a process of developing probabilitydistribution for some measure of merit for aninvestmentproposal.

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Steps:1. Selectthe uncontrollable exogenous i.e. (inputs)

variables, which have asignificanteffectonthedecision.

2. Estimate probability foreach variable.

3. Choose the Endogenous variables, the measure ofoutcome, which will be used toevaluate the optionssuch as Rate of Returnorprofit.

4. Determine the function, which relates theuncontrollable exogenous variables totheendogenous variables.

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5. Randomly selecta value from each ofthe probabilitydistribution and combine them to determine a valuefor the endogenous variable.

6. Repeatstep 5 a number oftimes until a distributionof values for the endogenous variable is formed.

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The Decision Tree

The Decision Tree formatprovides sequentialdecisions to be presented and the consequences(outcome) of future decisions to be traced back toassess their influences on the presentdecision.

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Planning Tool


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Decision Trees Enable a business to quantify decision

making

Useful when the outcomes areuncertain

Places a numerical value on likely or

potential outcomesAllows comparison of differentpossible

decisions to be made


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Decision Trees Limitations:

How accurate is the data usedin the construction ofthe tree?

How reliable are the estimatesofthe probabilities?

Data may be historical does this data relate toreal time?

Necessity of factoring in the qualitative factors human resources, motivation, reaction, relationswith suppliers and other stakeholders


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Process


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The Process

Expand by opening new outlet

Maintain current status

Economic growth rises

Economic growth declines

0.7

0.3

Expected outcome300,000

Expected outcome-500,000

0

A square denotes the point where a decision is made, In this example, a business is contemplatingopening a new outlet.The uncertainty is the state ofthe economy ifthe economy continues to growhealthilythe option is estimated to yield profits of 300,000. However, ifthe economy fails to grow asexpected, the potential loss is estimated at 500,000.

There is also the option to do nothing and maintain the current status quo! This would have an outcome of0.

The circle denotes the point where different outcomes could occur. The estimates ofthe probability and the knowledge of the expected outcome allow the firm to make a

calculation of the likely return. In this example it is:

Economic growth rises: 0.7 x 300,000 = 210,000

Economic growth declines: 0.3 x 500,000 = -150,000

The calculation would suggest it is wise to go ahead with the decision ( a net benefit

figure of +60,000)


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The Process

Expand by opening new

outlet

Maintain currentstatus

Economic growth rises

Economic growth declines

0.5

0.5

Expectedoutcome300,000

Expected outcome-500,000

0

Look what happens however if the probabilities change. If the firm is unsureof the potential for growth, it might estimate it at 50:50. In this case the

outcomes will be:

Economic growth rises: 0.5 x 300,000 = 150,000

Economic growth declines: 0.5 x -500,000 = -250,000

In this instance, the net benefit is -100,000 the decision looks lessfavourable!


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Advantages


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Disadvantages

Documents

rial Decision Making