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Managerial Perspectives on Risk and Risk Taking

Author(s): James G. March and Zur Shapira

Source: Management Science, Vol. 33, No. 11 (Nov., 1987), pp. 1404-1418
Published by: INFORMS
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Vol. 33, No. 11, November 1987
Printed in U.S.A.


GraduateSchool of Business, Stanford University,Stanford,California94305-5015
Hebrew Universityof Jerusalem,Jerusalem,Israel
This paper explores the relation between decision theoretic conceptions of risk and the
conceptions held by executives. It considers recent studies of risk attitudes and behavior among
managers against the background of conceptions of risk derived from theories of choice. We
conclude that managers take risks and exhibit risk preferences, but the processes that generate
those observables are somewhat removed from the classical processes of choosing from among
alternative actions in terms of the mean (expected value) and variance (risk) of the probability
distributions over possible outcomes. We identify three major ways in which the conceptions of
risk and risk taking held by these managers lead to orientations to risk that are different from
what might be expected from a decision theory perspective: Managers are quite insensitive to
estimates of the probabilities of possible outcomes; their decisions are particularly affected by
the way their attention is focused on critical performance targets; and they make a sharp
distinction between taking risks and gambling. These differences, along with closely related
observations drawn from other studies of individual and organizational choice, indicate that the
behavioral phenomenon of risk taking in organizational settings will be imperfectly understood
within a classical conception of risk.

1. Risk as a Factor in Decision-Making

The importance of risk to decision making is attested by its position in decision
theory (Allais 1953; Arrow 1965), by its standing in managerial ideology (Peters and
Waterman 1982), and by the burgeoning interest in risk assessment and managment
(Crouch and Wilson 1982). However, empirical investigations of decision making in
organizations have not generally focused directly on the conceptions of risk and risk
taking held by managers (March 198 la); and empirical investigations of risk in decision
making have not generally focused on managerial behavior (Vlek and Stallen 1980;
Schoemaker 1980, 1982; Slovic, Fischhoff and Lichtenstein 1982). As a result, the
relation between decision theoretic conceptions of risk and conceptions of risk held by
managers remains relatively murky.
The Definition of Risk
In classical decision theory, risk is most commonly conceived as reflecting variation
in the distribution of possible outcomes, their likelihoods, and their subjective values.
Risk is measured either by nonlinearities in the revealed utility for money or by the
variance of the probability distribution of possible gains and losses associated with a
particular alternative (Pratt 1964; Arrow 1965). In the latter formulation, a risky alter-
native is one for which the variance is large; and risk is one of the attributes which,
along with the expected value of the alternative, are used in evaluating alternative
gambles. The idea of risk is embedded, of course, in the larger idea of choice as affected
by the expected return of an alternative. Virtually all theories of choice assume that
decision makers prefer larger expected returns to smaller ones, provided all other
factors (e.g., risk) are constant (Lindley 1971). In general, they also assume that deci-
sion makers prefer smaller risks to larger ones, provided other factors (e.g., expected

* Accepted by Arie Y. Lewin, former Departmental Editor; received June 9, 1986. This paper has been with
the authors 4 months for 2 revisions.
0025-1909/87/331 1/1404$0l .25
Copyright ?) 1987, The Institute of Management Sciences

value) are constant (Arrow 1965). Thus, expected value is assumed to be positively
associated,and riskis assumedto be negativelyassociated,with the attractivenessof an
Findinga satisfactoryempiricaldefinitionof riskwithinthis rudimentaryframework
has provendifficult.Simple measuresof mean and variancelead to empiricalobserva-
tions that can be interpretedas being off the mean-variancefrontier.This has led to
efforts to develop modified conceptions of risk, particularlyin studies of financial
markets.Earlycriticismsof variancedefinitionsof risk(Markowitz1952)as confound-
ing downside risk with upside opportunitiesled to a number of effortsto develop
modelsbased on the semivariance(Fishburn1977;Coombs 1983). Both varianceand
semivarianceideas of risk, however, have been shown to be inconsistentwith von
Neumann axioms except underrathernarrowconditions(Levy and Markowitz1979;
Levy and Sarnat 1984);and this resulthas stimulatedeffortsto estimaterisk and risk
preferencefrom observedprices.This procedureis essentiallythe approachof much of
the contemporaryliteratureon risk in financialmarkets.One example is the capital
asset pricing model that has become one standard approach to financial analysis
(Sharpe1964, 1977). It definesthe degreeto which a given portfoliocovarieswith the
marketportfolioas the systematicrisk.The residual(in a regressionsense)is definedas
nonsystematicor specificrisk.These elaborationshave contributedsubstantiallyto the
understandingof financialmarkets,but the risk-returnimplicationsof the model have
not alwaysfound empiricalsupport(Gibbons 1982).
Thereare numerousadditionalcomplicationswith decisiontheoreticconceptionsof
risk when they are taken as descriptionsof the actual processesunderlyingchoice
behavior.There are suggestions,for example,that individualstend to ignorepossible
events that are very unlikely or very remote, regardless of their consequences
(Kunreuther1976). There are suggestionsthat individualslook at only a few possible
outcomes ratherthan the whole distribution,and measurevariationwith respectto
those few points (Boussardand Petit 1967;Alderferand Bierman 1970);and that they
aremore comfortablewith verbalcharacterizations of riskthan with numericalcharac-
terizationseven though the translationof verbalrisk expressionsinto numericalform
showshighvariabilityand contextdependence(Budescuand Wallsten1985).Thereare
suggestionsthat the likelihoodsof outcomesand theirvalues enter into calculationsof
risk independently,ratherthan as their products(Slovic, Fischhoffand Lichtenstein
1977). Such ideas seem to indicate that the ways in which human decision makers
definerisk may differsignificantlyfrom the definitionsof risk in the theoreticallitera-
ture, and that differentindividualswill see the same risk situation in quite different
ways (Kahnemanand Tversky 1982).

Earlytreatmentsby Pratt (1964), Arrow(1965) and others, as well as more recent
work(Ross 1981),assumedthat individualhumandecisionmakersareriskaverse,that
is, that when faced with one alternativehavinga given outcome with certainty,and a
second alternativewhich is a gamble but has the same expectedvalue as the first,an
individualwill choose the certainoutcome ratherthan the gamble.Thus,it followsthat
decision makerswould normally have to be compensatedfor variabilityin possible
outcomes;and the greaterthe returnon investmentthat is observedin a situation,the
greatershould be the varianceinvolved. Levy and Sarnat(1984) studied 25 years of
investmentsin mutual funds and discoveredthat investorswere averseto the variance
of returns.It is not certain, however,that managersbelieve that risk and returnare
positively correlated.Some studies of mergers(Brenne and Shapira 1983; Mueller
1969) suggestthat this is not the case. Moreover,the aggregatedata yield ambiguous

results.Bowman (1980) has shown a negativerelation between traditionalrisk (i.e.,

simple variance)and averagereturnacrossindustries.
Attitudestowardriskare usuallypicturedas stablepropertiesof individuals,perhaps
relatedto aspectsof personalitydevelopmentor culture(Douglasand Wildavsky1982);
and effortshave been made to associateriskpreferencewith dimensionsof personality,
such as achievementmotivation (McClelland1961;Atkinson 1964;Kogan and Wal-
lach 1964).Globaldifferencesbetweenpresumedrisktakersand otherswithina culture
or job have, however, remained relativelyelusive. For example, Brockhaus(1980)
attemptedto study the risk takingpropensitiesof entrepreneurs.The individualswho
quit their managerialjobs and became owners of business or managersof business
ventureswerecomparedto regularmanagers.Using the choice dilemmaquestionnaire
of Kogan and Wallach(1964), he found no differencesin risk propensityamong the
It is possiblethat risk preferenceis partlya stable featureof individualpersonality,
but a numberof variablefactorssuch as mood (Hastorfand Isen 1982),feelings(John-
son and Tversky 1983), and the way in which problems are framed (Tverskyand
Kahneman 1981) also appear to affect perception of and attitudes toward risk. In
particular,Kahnemanand Tversky(1979) have observedthatwhen dealingwith a risky
alternativewhose possible outcomes are generallygood (e.g., positive monetaryout-
comes), human subjectsappearto be risk averse;but if they are dealingwith a risky
alternativewhose possible outcomes are generallypoor, human subjectstend to be
risk-seeking.This patternof contextdependenceis familiarto studentsof risktakingby
animals (Kamil and Roitblat 1985), individuals(Griffith1949; Snyder 1978; Laugh-
hunn, Payne and Crum 1980;Payne, Laughhunnand Crum 1981), and organizations
(Mayhew 1979; Bowman 1982). It forms the basis for severalmodern treatmentsof
context-dependentrisk taking (MaynardSmith 1978; Kahnemanand Tversky 1979;
Lopes 1987;March 1988).
There are unresolvedproblems, however. The idea of risk taking in the face of
adversitycertainlyfinds support,but the idea that majorinnovationsand changeare
producedby misery is not well-supportedby history.For example, Hamilton (1978)
analyzedthe structuralsourcesof adventurismusing demographicdata from the days
of the gold rushin California.He found that gold rush "entrepreneurs" wereprimarily
professionals,upperclassand young.They werenot frommarginalsocialgroups.More
inclusive studies of innovation (Mansfield1968) and revolution(Brinton 1938) simi-
larlysuggestthat risktakingis not connectedto adversityin a simple way.
Dealing withRisk
In conventionaldecision theory formulations,choice involves a trade-offbetween
riskand expectedreturn.Risk aversedecisionmakerspreferrelativelylow risksand are
willing to sacrificesome expected returnin orderto reduce the variationin possible
outcomes. Risk seekingdecision makerspreferrelativelyhigh risksand are willingto
sacrificesome expectedreturnin orderto increasethe variation.The theory assumes
that decision makersdeal with risksby firstcalculatingand then choosingamong the
alternativerisk-returncombinationsthat are available.
It is not clearthat actualdecisionmakerstreatriskin sucha way. Forexample,Israeli
defensedecision makersseem to have dealt with the subjectof shelterconstructionin
a way that ignoreda decisiontheorydefinitionof risk(Lanirand Shapira1984).There
areindicationsthat decisionmakerssometimesdeny risk,sayingthatthereis no riskor
that it is so smallthat it can be ignored.A common form of denialinvolvesacceptance
of the actuarialrealityof the riskcombinedwith a refusalto associatethat realitywith
one's self (Weinstein 1980). The word "denial"suggestsa psychologicalpathology;it
may, of course, be a more philosophicalrejection of the relevance of probabilistic

reasoningfor a single case, or a belief in the causalbasis of events. The tendencyfor

individualsto perceivechance events to be causal and under control has been docu-
mented in variousexperiments(Langer1975), as has the tendencyto develop causal
theoriesof events even when the relationsbetweenevents are known to be only inci-
dental(Tverskyand Kahneman 1982).

2. ManagerialPerspectives
Two recent studies of managerialperceptionsof risk (MacCrimmonand Wehrung
1986;Shapira1986) can be used to considermanagerialperspectiveson these issues.'
The study by MacCrimmonand Wehrungis based on questionnaireresponsesfrom
509 high-levelexecutivesin Canadianand Americanfirmsand interviewswith 128 of
those executives(all from Canadianfirms).The studyby Shapirais basedon interviews
with 50 Americanand Israeliexecutives.The MacCrimmonand Wehrungstudieswere
conducted in 1973-1974. The Shapirastudy was conducted in 1984-1985. Taken
together,these studies providesome ratherconsistentobservationson how managers
definerisk,their attitudestowardrisk,and how they deal with risk.
The Definition of Risk
The managerssee risk in ways that are both less preciseand differentfrom riskas it
appearsin decision theory.In particular,there is little inclinationto equatethe risk of
an alternativewith the varianceof the probabilitydistributionof possibleoutcomesthat
might follow the choice of the alternative.Three differencesfrom decision theoryare
obvious:First,most managersdo not treatuncertaintyabout positive outcomes as an
importantaspect of risk. Possibilitiesfor gain are of primarysignificancein assessing
the attractivenessof alternatives(MacCrimmonand Wehrung1986),but "risk"is seen
as associatedwith the negativeoutcomes. Shapira(1986) askedrespondents:"Do you
think of riskin termsof a distributionof all possibleoutcomes?Justthe negativeones?
Or just the positive ones?"Eightypercentof the executivessaid they consideredthe
negativeones only. Thereis, therefore,a persistenttensionbetween"risk"as a measure
(e.g. the variance)on the distributionof possibleoutcomesfrom a choice and "risk"as
a dangeror hazard.Fromthe formerperspective,a riskychoice is one with a widerange
of possibleoutcomes. From the latterperspective,a riskychoice is one that containsa
threatof a very poor outcome.
Second, for these managers,risk is not primarilya probabilityconcept. About half
(54%)of the managersinterviewedby Shapira(1986) sawuncertaintyas a factorin risk,
but the magnitudesof possiblebad outcomesseemedmore salientto them. A majority
felt that riskcould betterbe definedin termsof amount to lose (or expectedto be lost)
than in termsof moments of the outcome distribution.This led the vice-presidentof a
venture capital firm to say, "I take large risks regardingthe probabilitybut not the
amounts."And a vice-presidentfor financereported,"I don't look at the probabilityof
successor failurebut at the volume of risk."In describingthe differencebetweenrisk
takingand gamblingone managersaid, "A gamble of one million dollarsin terms of
success in a project is risk; however, a gamble of half a dollar is not a risk." This
tendency to ignore or downplay the probabilityof loss comparedto the amount is
probablybetter defined as loss aversion(Kahnemanand Tversky 1982), or as regret
aversion(Bell 1983), than as risk aversionin conventionalterms. It is also reflectedin
the tendency found by MacCrimmonand Wehrung(1986) for less risk taking when
greaterstakeswereinvolved.In evaluatinguncertainprospects,80%of Shapira'sexecu-
tives asked for estimatesof the "worstoutcome" or the "maximumloss." From such
' A more complete description of the Shapira study, its methodology, and its results is available on request
from the TIMS office in Providence, Rhode Island.

responses,it is difficultto assessthe extentto whichthereareconsiderationsof "plausi-

bility" introducedin determiningthe possible exposure involved in the alternative.
Nevertheless,it is clear that these managersare much more likely to use a few key
values to describetheir exposurethan they are to compute or use standardsummary
statisticsgroundedin ideas of probability.
Third,althoughquantitiesareusedin discussingrisk,and managersseekprecisionin
estimatingrisk,most show little desireto reduceriskto a singlequantifiableconstruct.
When MacCrimmonand Wehrung(1986) asked executivesto rank nine investment
alternatives,the ranksmatchedan orderingbasedon expectedvaluein only 11%of the
respondents.Even fewer executivesrankedthe alternativesstrictlyin terms of maxi-
mizing majorgain, breakingeven, minimizingmajorloss, or minimizingvariation.A
vice-presidentfor financereported(Shapira1986)that "No one is interestedin getting
quantifiedmeasures";and a senior vice-presidentobserved,"You don't quantifythe
risk,but you have to be able to feel it." Recognizingthat thereare financial,technical,
marketing,production,and other aspectsof risk, a majorityof the intervieweesin the
Shapirastudyfelt that riskcould not be capturedby a singlenumberor a distribution,
that quantificationof riskswas not an easy task;and 42%arguedthat therewas no way
to translatea multidimensionalphenomenon into one number. On the other hand,
24%of the same managersfelt it could be done and with additionalprobingsaid that
actuallyit shouldbe. As one projectmanagersaid, "Everythingshouldbe expressedin
termsof the profit(or loss) at the end of the project,shouldn'tit?".Severalfelt that one
should averagethe differentdimensionsand get an overallweightedindex of risk,but
even amongthose who thoughtsuch a numbershouldbe produced,most reportedthat
they didn'tdo it that way.
Managerialrisk taking propensitiesvary across individuals and across contexts.
Among the managersinterviewedby Shapira(1986), the variationacrossindividualsis
seen as resultingfrom incentivesand experience.In keepingwith much of the litera-
ture, they think some people are more risk aversethan others,that there are intrinsic
motivationalfactorsassociatedwith riskand encodedas a partof an individualperson-
ality (McClelland1961;Atkinson 1964;Deci 1975). They see these differences,how-
ever, as less significantthan differencesproducedby incentivesand normativedefini-
tions of propermanagerialbehavior.They feel that a managerwho fails to take risks
shouldnot be in the businessof managing.Whenaskedif they could identifyriskprone
and risk aversemanagers,middle level managerswere inclined to say that risk prone
individualsdisappearedas you move up the hierarchy.Higherlevel managers,on the
otherhand,feel thereis a definiteneed to educatenew managersinto the importanceof
risk taking. In the Shapirastudy, the inclination to encourageothers to take risks
increasedas one moved up the hierarchy,and MacCrimmonand Wehrung(1986)
found that higherlevel executivesscoredhigheron theirrisktakingmeasuresthan did
lowerlevel executives.
Managersrecognizeboth the necessityand the excitementof risktakingin manage-
ment, but they reportthat risk takingin organizationsis sustainedmore by personal
than by organizationalincentives. Shapira(1986) found that managersat all levels
generallypictureorganizationallife as inhibitingrisktakingon the partof managers.As
a resultand in contrastto theirnormativeenthusiasmforrisktaking,theserespondents
were mostly conservativewhen askedwhat practicaladvice they would give to a new
manager.They did not encouragerisktaking.Rather,they said thingslike: "Letother
managersparticipatein your decisions." "Don't gamble." "Arrangefor a blanket."
This negative attitude toward individual risk taking is particularlycharacteristicof
managerswho see riskas unconnectedto uncertainty,that is as being definedin terms

of the magnitudeof a projectedloss or gain ratherthan that magnitudeweightedby its

Despite this pessimism about organizationalincentives for risk taking, or perhaps
becauseof it, most of the managersinterviewedby Shapira(1986) portrayedthemselves
as judicious risk takersand as less risk aversethan their colleagues.Similarly,Mac-
Crimmon and Wehrung (1986) found that managers tended to believe they were
greaterrisk takersthan they were. The executivesstudiedby Shapiraexplainedtheir
willingnessto take calculatedrisksin terms of three powerfulmotivations.First,they
saidthat risktakingis essentialto successin decisionmaking.87%of the executivesfelt
that riskand returnwere related,thoughthey added"ifs,""buts"and "it depends"to
qualify this relation. In general,the managersstudied by Shapira(1986) expect the
choice of an alternativeto be justifiedif largepotentiallosses are balancedby similarly
largepotentialgains,but they do not seem to thinkthattheywouldrequirethe expected
value of a riskieralternativeto be greaterthan that of the less riskyin orderto justify
Second,these managersassociaterisktakingmore with the expectationsof theirjobs
than with a personalpredilection.They believe that risktakingis an essentialcompo-
nent of the managerialrole. In the wordsof a seniorvice-presidentof one firm,"Ifyou
are not willingto assume risks,go deal with anotherbusiness."This link betweenrisk
takingand managementis less a statementof the measurableusefulnessof risktaking
to a managerthan an affirmationof a role. As the presidentof an electronicfirmsaid,
"Risktakingis synonymouswith decisionmakingunderuncertainty."In keepingwith
contemporarymanagerialideology,he might have addedthat managementis synony-
mous with decision making. Consistentwith such a spirit, both MacCrimmonand
Wehrung(1986) and Shapira(1986) found that managersare inclinedto show greater
propensitytoward risk taking when questions are framedas business decisions than
when they are framedas personaldecisions.
Third,these managersrecognizethe emotionalpleasuresand painsof risktaking,the
affectivedelightsand thrillsof danger.Risk takinginvolves emotions of anxiety,fear,
stimulationandjoy. Many of the Shapira(1986) respondentsseemedto believethatthe
pleasureof successwere augmentedby the threatof failure.One presidentsaid, "Satis-
faction from success is directlyrelatedto the degreeof risk taken."As we shall note
below, this excitement with dangeris confoundedby a concomitant anticipationof
mastery,the expectationthat dangerwill be overcome.
Thesethreemotivationalfactorsarebackgroundfor a greatervariationin risktaking
attributableto contextual factors. The managersinterviewedby Shapira(1986) saw
themselvesand other managersas exhibitingdifferentrisk preferencesunderdifferent
conditions,and the MacCrimmonand Wehrung(1986) measuresof managerialrisk
propensitywere poorly correlatedacross decision situations. Some of this variation
appearsto be idiosyncraticto the details of particularsituations, but there is one
consistenttheme. Both the managersinterviewedby Shapiraand those interviewedby
MacCrimmonand Wehrung(1986) believe that fewer risks should, and would, be
taken when things are going well. They expect riskierchoices to be made when an
organizationis "failing".In short,risktakingis affectedby the relationbetweencurrent
positionand some criticalreferencepoints (Kahnemanand Tversky1979).
Two comparisonsorganizemanagerialthinkingabouthow thingsaregoing.The first
of these is a comparisonbetweensome performanceor position (e.g., profit,liquidity,
sales)and an aspirationlevel or "target"for it. Most managersseem to feel that risk
takingis morewarrantedwhen facedwith failureto meet targetsthanwhen targetswere
secure.In "bad"situationsriskswould be taken. Some also feel that attentionto the
survivalof an individual as a manageris involved, that executiveswill take riskier
actions when their own positions or jobs are threatenedthan when they are safe. A

second comparisonis betweenthe currentposition of an organizationand its demise.

Thereis strongsentimentthat survivalshouldnot be risked.Over90%of the executives
interviewedby Shapirasaid they would not take riskswherea failurecouldjeopardize
the survivalof the firm,althoughone executivecommentedthat "in situationswherea
competitorthreatensthe marketposition of the firm,you haveto take one of two risks:
not survivingon the one hand and riskingnew strategieson the other."
There is some obvious ambiguityin the ideas. Generally,the argumentis that a
strongposition leads to conservativebehaviorwith respectto risk that the dangerof
falling below a targetis minimized. At the same time, however,the greaterthe asset
position relativeto the target,the less the dangerfrom any particularamount of risk
(Arrow1965).As one vice-presidentsaid(Shapira1986),"Logicallyand personallyI'm
willing to take more risks the more assets I have." Conversely,performancebelow a
target is arguedto lead to greaterwillingnessto take risks, in order to increasethe
chance of reaching the target;but the poorer the position, the greaterthe danger
reflectedin the downsiderisk.This would suggestthatthe valueattachedto alternatives
differingin risk may depend not only on whetherthey are "framed"as gains or losses
but also on which of two targets(the "success"targetor the "survival"target)is evoked
(Lopes 1987).
Dealing with Risk
Earlystudiesof managers(Cyertand March 1963)concludedthat businessmanagers
avoid risk, ratherthan acceptit. They avoid risk by using short-runreactionto short-
run feedback rather than anticipation of future events. They avoid the risk of an
uncertainenvironment by negotiatinguncertainty-absorbing contracts.In a similar
way, MacCrimmonand Wehrung(1986) found managersavoidingrisksin a simulated
in-baskettask. They delay decisionsand delegatethem to others.
Other studies suggestthat managersavoid acceptingrisk by seeing it as subjectto
control. They do not accept the idea that the risks they face are inherent in their
situation (Strickland,Lewicki and Katz 1966). Ratherthey believe that risks can be
reducedby using skillsto controlthe dangers.Keyes(1985) picturedentrepreneursand
otherrisktakersas seekingmasteryover the odds of fate, ratherthan simplyaccepting
long shots. Adler (1980) distinguishedamong managerswho were risk avoiders,risk
takersand risk makers.The latterare those who not only take risksbut try to manage
and modify them. The managersinterviewedby MacCrimmonand Wehrung(1986)
and by Shapira(1986) are similar.They believe that risk is manageable.Seventy-five
percentof the Shapirarespondentssaw risk as controllable.As a result,they make a
sharpdistinctionbetweengambling(wherethe odds are exogeneouslydeterminedand
uncontrollable)and risktaking(whereskill or informationcan reducethe uncertainty).
The situationsthey face seem to them to involve risk taking,but not gambling.They
reportseekingto modifyrisks,ratherthan simplyacceptingthem;and they assumethat
normally such a modificationwill be possible. As the presidentof a successfulhigh
technology company told Shapira,"In startingmy company I didn't gamble;I was
confidentwe weregoing to succeed."
In casesin which a given alternativepromisesa good enoughreturnbut presentsan
unacceptabledanger,mangersfocus on ways to reducethe dangerwhile retainingthe
gain. One simple action is to rejectthe estimates.Thus, only two of the 50 executives
interviewedby Shapira(1986) said they acceptriskestimatesas given to them. In most
cases, rejectionis supplementedby effortsto reviseestimates.Seventy-fourpercentof
the managerssaid they tried to modify the risk descriptions,partlyby securingnew
information,partlyby attackingthe problemwith differentperspectives.More impor-
tantly, however,they try to changethe odds. Managerssee themselvesas takingrisks,
but only aftermodifyingand workingon the dangersso that they can be confidentof

success.Prior to a decision, they look for risk controllingstrategies.Most managers

believe that they can do better than is expected, even after the estimateshave been
revised. This tactic, called "adjustment"by MacCrimmonand Wehrung(1986), is
reportedas a standardexecutiveresponseto risk. In the Shapirainterviews,managers
spoke of "eliminatingthe unknowns"and "controllingthe risk." Managerialconfi-
dence in the possibilitiesfor post-decisionreductionin riskcomes from an interpreta-
tion of managerialexperience.Most executivesfeel that they have been able to better
the odds in theirpreviousdecisions.Thus, managersacceptrisks,in part,becausethey
do not expectthat they will have to bearthem.

3. Implications for Understanding Risk Taking by Managers

Theseempiricalobservationscall attentionto threepervasivefeaturesof managerial
treatmentof risk that deviate from simple conceptionsof risk and are importantfor
understandingmanagerialdecision making:
Insensitivityof Risk Takingto ProbabilityEstimates
There are strong indications in these studies, as well as in others (Slovic 1967;
Kunreuther1976;Fischhoff,Lichtenstein,Slovic, Derby and Keeney 1981),that indi-
vidualsdo not trust,do not understand,or simplydo not much use preciseprobability
estimates.Crudecharacterizationsof likelihoodsare used to exclude certainpossibili-
ties from enteringthe decision calculus.Possibleoutcomeswith very low probabilities
seem to be ignored,regardlessof theirpotentialsignificance.Wherelow priorprobabil-
ity is combinedwith high consequence,as in the case of unexpectedmajordisastersor
unanticipatedmajordiscoveries,the practiceof excludingvery low probabilityevents
from considerationmakes a difference.In a world in which there are a very large
numberof verylow probability,veryhigh consequencepossibleevents,it is hardto see
how an organizationcan reasonablyconsiderall of them. But if, as seems likely,some
particularvery low probability,high consequence events are certain to occur, the
organizationis placedin the position of preparingfor a world(i.e., a worldin which no
low probability,high consequenceevents occur)that is certainnot to be realized.It is,
of course, not necessarilygiven that there is an attractivesolution to this dilemma,
regardlessof the treatmentof probabilityestimates;but the practiceof ignoringvery
low probabilityevents has the effectof leavingorganizationspersistentlysurprisedby,
and unpreparedfor, realizedevents that had, a priori,very low probabilities.
The insensitivityto probabilityestimatesextendsbeyondthe case of verylow proba-
bility events, however.Within a wide rangeof plausibility,it appearsto be the magni-
tude of the value of the outcome that defines risk for managers,ratherthan some
weightingof that magnitudeby its likelihood.This is reflectedin the use of termssuch
as "maximumexposure","opportunity",or "worstor best (plausible)case". The be-
haviorhas consequences.It leads to a propensityto acceptgreaterrisk(in the sense of
variance)when the probabilitydistributionof possibleoutcomesis relativelyrectangu-
lar than wherethereare relativelylong tails.
Although it is arguablethat this behavior is less intelligent than taking a fuller
accountof variationsin likelihood,it may be usefulto observethat the "confusions"of
managersabout risk are echoes of ambiguityin the choice engineeringliterature.In
decisiontheoryterms,riskrefersto the probabilisticuncertaintyof outcomesstemming
froma choice. In recenttreatiseson riskassessmentand riskmanagement,on the other
hand, risk has become increasinglya term referringnot to the unpredictabilityof
outcomesbut to theircosts,particularlytheircosts in termsof mortalityand morbidity
(Fischhoff,Watsonand Hope 1984). Within the latterterminology,the main focus of
concernhas been not on variabilitybut on definingtrade-offsbetweena specific"risk"

and other costs, for example, between the frequencyand severityof injury and the
monetarycosts of safetymeasures.The typicalstyleis to dealwith the expectedvalueof
the probabilitydistributionover adverseoutcomes, ratherthan any highermoments.
Thus, "risk"becomes "hazard",the expected value of an outcome ratherthan its
variability;and the central insight of theories of decision making under risk-the
importanceof consideringthe whole distributionof possible outcomes-tends to be-
come obscuredin considerationsof "risk".
Managerialinsensitivityto probabilityestimates may reflect such terminological
elasticityamongwriterson riskand decisionengineers,in part.It may also be attribut-
able to some realitiesof decision makingthat are not habituallynoted by studentsof
rationalchoice. Typically,none of the guessesof choice are easy ones. Estimatingthe
probabilitiesof outcomesis difficult,as is estimatingthe returnsto be realized,and the
subjectivevalue that might be associatedwith such returnswhen they are realizedis
unclear.Informationis compromisedby conflict of interestbetweenthe sourceof the
information and the recipient. Since these difficultiesare particularlyacute in the
estimation of probabilities,it is entirely sensible for a managerto conclude that the
credibilityof probabilityestimatesis systematicallyless than is the credibilityof esti-
matesof the valueof an outcome;and it is certainlyarguablethatthe relativecredibility
of estimatesshould affectthe relativeattentionpaid to them.
The Importance of Attention Factors for Risk Taking
Empiricalstudiesof risktaking,includingthe ones discussedhere, indicatethat risk
preferencevaries with context. Specifically,the acceptabilityof a risky alternative
dependson the relationbetweenthe dangersand opportunitiesreflectedin the riskand
some criticalaspirationlevels for the decisionmaker.From a behavioralpoint of view,
this contextual variation in risk taking seems to stem less from the revision of a
coherentpreferencefor risk (March 1988) than from a changein focus among a set of
inconsistentand ambiguouspreferences(March1978).As a resultof changingfortunes
or aspirations,focus is shiftedaway from the dangersinvolved in a particularalterna-
tive and towardits opportunities(Lopes 1987).
The tendencyfor managerialevaluationsof alternativesto focus on a few key aspects
of a problemat a time is a recurrenttheme in the study of human problemsolving.
Consider,for example,the discussionof "eliminationby aspects"by individualdeci-
sion makers(Tversky1972), analysesof attentionin human problemsolving(Nisbett
and Ross 1980),the "sequentialattentionto goals"by organizationaldecisionmakers
(Cyertand March 1963), or "garbagecan models of choice" (Marchand Olsen 1976).
These observationssuggestthat choice behaviornormallyinterpretedas being driven
primarilyby preferencesand changesin them is susceptibleto an alternativeinterpre-
tation in terms of attention.Theoriesthat emphasizethe sequentialconsiderationof a
relativelysmall number of alternatives(Simon 1955; March and Simon 1958), that
treat slack and searchas stimulatedor reducedby a comparisonof performancewith
aspirations(Cyertand March 1963; Levinthaland March 1981; Singh 1986), or that
highlightthe significanceof order of presentationand agendaeffects (Cohen, March
and Olsen 1972;Kingdon 1984)areall remindersthat understandingactionin the face
of incompleteinformationmay depend more on ideas about attentionthan on ideas
about decision.
In several of these theories, there is a single critical focal value for attention, for
example,the aspirationlevel that dividessubjectivesuccessfromsubjectivefailure.The
present observationswith respect to the shifting focus of attention in risk seem to
confirmthe importanceof two focalvaluesratherthan a singleone (Lopes 1987;March
1988). The most frequentlymentioned values are a targetlevel for performance(e.g.,
breakeven)and a survivallevel. Thesetwo referencepointspartitionpossiblestatesinto

three:success, failure,and extinction. The addition of a focus value associatedwith

extinctionchangessomewhatthe predictionsabout risk attention(or preference)as a
functionof success.
In general,if one is above a performancetarget,the primaryfocus is on avoiding
actionsthat mightplace one below it. The dangersof fallingbelow the targetdominate
attention;the opportunitiesfor gain are less salient.This leadsto relativeriskaversion
on the part of successfulmanagers,particularlythose who are barelyabove the target.
As long as the distributionof outcomesis symmetric,the dangersand the opportunities
covary;but since it is the dangersthat are noticed,the opportunitiesare less important
to the choice.For successfulmanagers,attentionto opportunitiesand thus risktakingis
stimulatedonly when performanceexceedsthe targetby a substantialamount.
For decision makers who are, or expect to be, below the performancetarget,the
desireto reachthe targetfocusesattentionin a way thatleadsgenerallyto risktaking.In
this case, the opportunitiesfor gain receive attention,ratherthan the dangers,except
whennearnessto the survivalpoint evokesattentionto thatlevel. If performanceis well
above the survivalpoint, the focus of attentionresultsin a predilectionfor relatively
high variance alternatives,thus risk prone behavior. If performanceis close to the
survivalpoint, the emphasison highvariancealternativesis moderatedby a heightened
awarenessof their dangers.
Risk Taking,Gambling,and ManagerialConceit
Managershave a strongnormativereactionto riskand risktaking.They care about
theirreputationsfor risktakingand are eagerto expoundon theirsentimentsaboutthe
deficienciesof others and on the inadequacyof organizationalincentivesfor making
risky decisions intelligently.The rhetoricof these values is, however,decidedlytwo-
pronged.On the one hand, risktakingis valued,treatedas essentialto innovationand
success. At the same time, however, risk taking is differentiatedfrom "playingthe
odds."A good manageris seen as "takingrisks"but not as "gambling".To a studentof
statisticaldecision theory, the distinction may be obscure since the idea of decision
makingunderriskin that traditionis paradigmatically capturedby a vision of betting,
eitheragainstnatureor againstotherstrategicactors.Fromthat perspective,the choice
of a particularbusiness strategydepends on the same general considerationsas the
choice of a bettingstrategyin a game of poker.The significanceof this parallelhas been
recognizedby decision engineerswho have tried, with only modest success,to cham-
pion a criterionfor evaluatingmanagersthat rewards"good decisions"ratherthan
"good outcomes", arguingthat the determinationof a properchoice should not be
confoundedwith the chance realizationsof a riskysituation.
We believe that managersdistinguishrisk taking from gamblingprimarilybecause
the society that evaluatesthem does and because their experienceteaches them that
they can controlfate. Societyvaluesrisktakingbut not gambling,and whatis meantby
gamblingis risktakingthat turnsout badly.From the point of view of managersand a
societydedicatedto good management,the problemis to developand maintainmana-
gerial reputationsfor taking "good" (i.e., ultimately successful)risks and avoiding
"bad"(i.e., ultimatelyunsuccessful)risks,in the face of (possiblyinherent)uncertain-
ties about which are which. The situation was describedratherpreciselyto Shapira
( 1986)by one seniorvice-president.He said, "You haveto be a risktaker,but you have
to win more than you lose."
Managerscan engage in relativelyconscious strategiesdesignedto inflate the per-
ceived riskinessof successfulactions, but deliberateeffortson the part of managersto
portraythemselvesas risktakersare only a minorpartof the story.Managerialreputa-
tions for risktakingratherthan gamblingare sustainedby the ordinarysocialprocesses
for interpretinglife and gettingahead. In historicalperspective,we have no difficulty

distinguishingthose who have been brilliantrisk takers from those who have been
foolish gamblers,howeverobscurethe differencemay have been at the time they were
makingtheirdecisions.Post hoc reconstructionpermitshistoryto be told in sucha way
that "chance"-either in the senseof genuinelyprobabilisticphenomenaor in the sense
of unexplainedvariation-is minimized as an explanation(Fischhoff1975;Fischhoff
and Beyth 1975).Thus, riskychoicesthat turnout badlyareseen, afterthe fact,to have
been mistakes.The warningsigns that were ignoredseem clearerthan they were;the
coursesthat were followedseem unambiguouslymisguided.
History not only sorts decision makersinto winners and losers but also interprets
those differencesas reflectingdifferencesin judgment and ability. The experienceof
successfulmanagersteaches them that the probabilitiesof life do not apply to them.
Neithersocietynor the managershave any particularreasonto doubtthe validityof the
assessmentthat successfulmanagershave the skill to choose good risksand rejectbad
risks,thus that they can solve the apparentinconsistencyof social normsthat demand
both risktakingand assuredsuccess.Managersbelieve,and theirexperienceappearsto
have told them, that they can changethe odds, that what appearsto be a probabilistic
process can usually be controlled.The result is to make managerssomewhat more
prone to acceptrisksthan they might otherwisebe.
Such risk taking also fits into social definitionsof managerialroles. Managersare
expected to make things happen, to take (good) risks. Managerialideology pictures
managersas makingchanges,thus leadingto a tendencyformanagersto be biasedin the
directionof making organizationalchanges and for others to be biased in expecting
them to do so (March198lb). In a similarfashion,managerialideologyalso portraysa
good manager as being a risk taker. Managerialconceits include beliefs that it is
possibleat the time of a decisionto tell the differencebetweenriskswithgood outcomes
and riskswith bad outcomes,and that it is possibleto managerisksso as to improveon
the apparentodds.And suchconceitsmakerisktakingseem entirelyconsistentwiththe
normativeexpectationthat decisionswill also reliablyturn out well (Keyes 1985).

4. Conclusion
In the traditionof behavioralstudiesof organizationaldecisionmaking(Marchand
Simon 1958; Marchand Shapira1982), behavioraldecision research(Edwards1954,
1961; Nisbett and Ross 1980; Kahneman,Slovic and Tversky 1982), and the behav-
ioralassessmentof riskperception(Slovic,FischhoffandLichtenstein1985;Englander,
Farago,Slovic and Fischhoff1985),we have examinedhow executivesdefineand react
to risk,ratherthan how they oughtto do so. We concludenot only that managersfail to
followthe canonsof decisiontheory,but also thatthe waysthey thinkaboutriskarenot
easily fit into classicaltheoreticalconceptionsof risk.
These observationsmake standardconceptionsof risk, with their emphasison trait
differencesamong individualdecision makers,problematicas bases for talkingabout
managerialrisk taking behavior. To a substantialextent, probabilityestimates are
treatedas unreliableand subjectto post-decisioncontrol,and considerationsof trade-
offs are framedby attentionfactorsthat considerablyaffectaction. Managerslook for
alternativesthat can be managedto meet targets,ratherthan assess or accept risks.
Althoughthey undoubtedlyvary in their individualpropensitiesto take risks, those
variationsare obscuredby processesof selectionthat reducethe heterogeneityamong
managersand encouragethem to believein theirabilityto controlthe odds, by systems
of organizationalcontrolsand incentivesthat dictaterisktakingbehaviorin significant
ways, and by variationsin the demand for risktakingproducedby the context within
whichchoicetakesplace.These factorsareembeddedin a managerialbeliefsystemthat
emphasizesthe importanceof risk and risk takingfor being a manager.

These features of managerialapproachesto risk have implications not only for

understandingdecision making in organizations,but also for the engineeringof risk
takingand riskmanagement.It is conventionalin moderndiscussionsof management
to deplorethe patternof risktakingobservedin management.Individualmanagersare
often criticizedfor taking too many (or too few) risks,as is managementas a whole.
Proposalsfor changingthe incentivesfor risk takingare common. The presentobser-
vationssuggestthat some of the policiesproposedto changerisktakingmay not match
the situation as it is seen by managers.In the short run, if we wish to encourage,or
inhibit, risk taking on the part of managers,we probablyneed to shape our interven-
tions to meet the ways in which managersthink. For example,it may be more effica-
cious to try to modify managerialattentionpatternsand conceitsthan to try to change
beliefsabout the likelihoodof events or to try to induce preferencesfor high variance
In the longerrun, thereare possibleimplicationsfor the educationof managers.The
managerswho participatedin these studiesdo not follow decisiontheoryvery closely.
Theydo not rejectthe theoryin an informed,reasonedway, but ratheract accordingto
some rules and proceduresthat are implicitlyat variancewith the theory, even while
acknowledgingit as decision dogma. This suggeststhat there might be solid prospects
for changingmanagerialperspectivesthroughdirecttrainingin decision theoreticap-
proachesto risk and risk management.As we have recordedabove, however, the
perspectivesthat managershave are not simply matters of individual taste but are
embeddedin social norms and expectations.Historyand common sense both suggest
that changes may be relativelyslow, respondingmore to broad shifts in beliefs and
formulationsthan to simple changesin the selectionor trainingof managers.
Before we leap too enthusiasticallyinto a programof comprehensivemanagerial
education and social reform, moreover,we may wish to recognizethe elements of
intelligencein these managerialperspectives.Althoughthereis ampleevidencethatthe
risktakingbehaviorof managersis often farfromoptimal,we may wantto examinethe
extent to which the managerialbeliefs and behaviorswe observeare accommodations
of human organizationsand theirmanagersto the subtlepracticalproblemsof sustain-
ing appropriaterisk taking in an imperfectlycomprehendedworld. It is not hard to
showthat contextuallyvaryingriskpreferences,insensitivityto probabilities,and man-
agerialillusions are intelligentunder plausibleconditions(Ibsen 1884;Einhorn 1986;
March 1988). Perhapsthe most troublingfeatureof decision theory in this context is
the invitation it providesto managerialpassivity.By emphasizingthe calculationof
expectationsas a responseto risk, the theory poses the problem of choice in terms
appropriateto decisionmakingin an uncontrollableworld,ratherthan in a worldthat
is subject to control. It is not intrinsic to that frame that decision makers become
passivewith respectto modifyingthe probabilitiesthey face,but that dangeris real.We
may preferto have managersimagine (sometimesfalsely)that they can control their
fates, ratherthan sufferthe consequencesof their imagining(sometimesfalsely)that
they cannot. What are harderto specify are the details of the ways in which such
impulses for discoveringmethods to improve the odds can be meshed with standard
"rational"calculationsto induce more sensiblemanagerialbehavior.2
2This research has been supported by grants from the Recanati Foundation, the Russell Sage Foundation,
the Spencer Foundation, and the Stanford Graduate School of Business. We are especially grateful for the
support of Marshall Robinson, as well as for the assistance of Julia Ball and the comments of Elaine Draper
and Dan Galai.
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