MANAGERIAL DECISION MAKING

Managers challenge
Marjorie Yang is contemplating the biggest decision of her careerperhaps the biggest decision in her companys history. As chairperson and CEO of Esquel Group, a textile manufacturer in Hong Kong that makes clothes for J. Crew, Tommy Hilfiger, Brooks Brothers, and other top brands, Yang has the ultimate say in whether the company invests $150 million in a brand-new fabric mill that will be the best mill in China and could make Esquel the top shirt maker in the world. Like most textile manufacturers, Esquel is going through a rough period. With the end of U.S. textile quotas in early 2005, world capacity is going up, prices are going down, and profit margins are squeezed in the middle. Esquels strategy for years has been to go for top quality, first aiming to achieve Japanese quality in the 1980s and now shooting to reach Italian quality, the best in the world. Esquel grows its own high quality cotton in western China, and Yang figures the new factory can help them make the most of it. With the end of quotas, she reasons that more competitors will be investing in the low-quality end of the market; thus, if Esquel can be the first company in China to reach the pinnacle of quality, it will have a huge advantage with higher profit margins and less competition. Yet doing the deal now is risky. At least half of the money will have to be borrowed, and profits are sure to suffer in the short run. Although most of Esquels top executives agree that the idea is good, at least half of them believe building the factory now is too risky and that Yang should wait a couple of years until the industry settles down and trends are clearer. Every organization grows, prospers, or fails as a result of decisions by its managers, and top executives like Marjorie Yang make difficult decisions every day. Managers often are referred to as decision makers. Although many of their important decisions are strategic, such as Yangs decision whether to build a new factory. Managers also make decisions about every other aspect of an organization, including structure, control systems, responses to the environment, and human resources. Managers scout for problems, make decisions for solving them, and monitor the consequences to see whether Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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additional decisions are required. Good decision making is a vital part of good management, because decisions determine how the organization solves its problems, allocates resources, and accomplishes its goals. A decision is a choice made from available alternatives. For example, an accounting managers selection among Colin, Tasha, and Carlos for the position of junior auditor is a decision. Many people assume that making a choice is the major part of decision making, but it is only a part. Decision making is the process of identifying problems and opportunities and then resolving them. Decision making involves effort both before and after the actual choice. Thus, the decision as to whether to select Colin, Tasha, or Carlos requires the accounting manager to ascertain whether a new junior auditor is needed, determine the availability of potential job candidates, interview candidates to acquire necessary information, select one candidate, and follow up with the socialization of the new employee into the organization to ensure the decisions success. Programmed decision A decision made in response to a situation that has occurred often enough to enable decision rules to be developed and applied in the future. Non-programmed decision A decision made in response to a situation that is unique, is poorly defined and largely unstructured, and has important consequences for the organization. Many nonprogrammed decisions involve strategic planning, because uncertainty is great and decisions are complex. Decisions to build a new factory, develop a new product or service, enter a new geographical market, or relocate headquarters to another city are all nonprogrammed decisions. Programmed decisions are made in response to recurring organizational problems. The decision to reorder paper and other office supplies when inventories drop to a certain level is a programmed decision. Other programmed decisions concern the types of skills required to fill certain jobs, the reorder point Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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for manufacturing inventory, exception reporting for expenditures 10 percent or more over budget, and selection of freight routes for product deliveries. Once managers formulate decision rules, subordinates and others can make the decision, freeing managers for other tasks.

Certainty, Risk, Uncertainty, and Ambiguity One primary difference between programmed and non-programmed decisions relates to the degree of certainty or uncertainty that managers deal with in making the decision. In a perfect world, managers would have all the information necessary for making decisions. In reality, however, some things are unknowable; thus, some decisions will fail to solve the problem or attain the desired outcome. Managers try to obtain information about decision alternatives that will reduce decision uncertainty. Every decision situation can be organized on a scale according to the availability of information and the possibility of failure. The four positions on the scale are certainty, risk, uncertainty, and ambiguity, as illustrated in Exhibit 9.1. Whereas programmed decisions can be made in situations involving certainty, many situations that managers deal with every day involve at least some degree of uncertainty and require nonprogrammed decision making.

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Certainty Certainty means that all the information the decision maker needs is fully available. Managers have information on operating conditions, resource costs or constraints, and each course of action and possible outcome. For example, if a company considers a $10,000 investment in new equipment that it knows for certain will yield $4,000 in cost savings per year over the next five years, managers can calculate a before-tax rate of return of about 40 percent. If managers compare this investment with one that will yield only $3,000 per year in cost savings, they can confidently select the 40 percent return. However, few decisions are certain in the real world. Most contain risk or uncertainty. Risk Risk means that a decision has clear-cut goals and that good information is available, but the future outcomes associated with each alternative are subject to chance. However, enough information is available to allow the probability of a successful outcome for each alternative to be estimated.8 Statistical analysis might be used to calculate the probabilities of success or failure. The measure of risk captures the possibility that future events will render the alternative unsuccessful. For example, to make restaurant location decisions, McDonalds can analyze potential customer demographics, traffic patterns, supply logistics, and the local competition and come up with reasonably good forecasts of how successful a restaurant will be in each possible location. Many decisions made under uncertainty do not produce the desired results, but managers face uncertainty every day. They find creative ways to cope with uncertainty in order to make more effective decisions. Ambiguity Ambiguity is by far the most difficult decision situation. Ambiguity means that the goals to be achieved or the problem to be solved is unclear, alternatives are difficult to define, and information about outcomes is unavailable. Ambiguity is what students would feel if an instructor created student groups, told each group to complete a project, but gave the groups no topic, direction, or guidelines whatsoever. Ambiguity has been called a wicked decision problem. Managers Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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have a difficult time coming to grips with the issues. Wicked problems are associated with manager conflicts over goals and decision alternatives, rapidly changing circumstances, fuzzy information, and unclear linkages among decision elements. Sometimes managers will come up with a solution only to realize that they hadnt clearly defined the real problem to begin with.

Decision-making models
The approach managers use to make decisions usually falls into one of three types the classical model, the administrative model, or the political model. The choice of model depends on the managers personal preference, whether the decision is programmed or nonprogrammed, and the extent to which the decision is characterized by risk, uncertainty, or ambiguity.

Classical Model
The classical model of decision making is based on economic assumptions. This model has arisen within the management literature because managers are expected to make decisions that are economically sensible and in the organizations best economic interests. The four assumptions underlying this model are as follows: 1. The decision maker operates to accomplish goals that are known and agreed upon. Problems are precisely formulated and defined. 2. The decision maker strives for conditions of certainty, gathering complete information. All alternatives and the potential results of each are calculated. 3. Criteria for evaluating alternatives are known. The decision maker selects the alternative that will maximize the economic return to the organization. 4. The decision maker is rational and uses logic to assign values, order preferences, evaluate alternatives, and make the decision that will maximize the attainment of organizational goals. The classical model of decision making is considered to be normative, which means it defines how a decision maker should make decisions. It does not describe how managers actually make decisions so much as it provides guidelines on how to reach an ideal outcome for the organization. The value of Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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the classical model has been its ability to help decision makers be more rational. Many managers rely solely on intuition and personal preferences for making decisions. In many respects, the classical model represents an ideal model of decision making that is often unattainable by real people in real organizations. It is most valuable when applied to programmed decisions and to decisions characterized by certainty or risk, because relevant information is available and probabilities can be calculated. Administrative Model The administrative model of decision making describes how managers actually make decisions in difficult situations, such as those characterized by nonprogrammed decisions, uncertainty, and ambiguity. Many management decisions are not sufficiently programmable to lend themselves to any degree of quantification. Managers are unable to make economically rational decisions even if they want to. Bounded Rationality and Satisfying The administrative model of decision making is based on the work of Herbert A. Simon. Simon proposed two concepts that were instrumental in shaping the administrative model: bounded rationality and satisfying. Bounded rationality means that people have limits, or boundaries, on how rational they can be. The organization is incredibly complex, and managers have the time and ability to process only a limited amount of information with which to make decisions. Because managers do not have the time or cognitive ability to process complete information about complex decisions, they must satisfies. Satisfying means that decision makers choose the first solution alternative that satisfies minimal decision criteria. Rather than pursuing all alternatives to identify the single solution that will maximize economic returns, managers will opt for the first solution that appears to solve the problem, even if better solutions are presumed to exist.

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The decision maker cannot justify the time and expense of obtaining complete information. The administrative model relies on assumptions different from those of the classical model and focuses on organizational factors that influence individual decisions. It is more realistic than the classical model for complex, nonprogrammed decisions. According to the administrative model: 1. Decision goals often are vague, conflicting, and lack consensus among managers. Managers often are unaware of problems or opportunities that exist in the organization. 2. Rational procedures are not always used, and, when they are, they are confined to a simplistic view of the problem that does not capture the complexity of real organizational events. 3. Managers searches for alternatives are limited because of human, information, and resource constraints. 4. Most managers settle for a satisficing rather than a maximizing solution, partly because they have limited information and partly because they have only vague criteria for what constitutes a maximizing solution. The administrative model is considered to be descriptive, meaning that it describes how managers actually make decisions in complex situations rather than dictating how they should make decisions according to a theoretical ideal. The administrative model recognizes the human and environmental limitations that affect the degree to which managers can pursue a rational decision-making process.

Political Model
The third model of decision making is useful for making nonprogrammed decisions when conditions are uncertain, information is limited, and managers may disagree about what goals to pursue or what course of action to take. Most organizational decisions involve many managers who are pursuing different goals, and they have to talk with one another to share information and reach an agreement. Managers often engage in coalition building for making complex organizational decisions. A coalition is an informal alliance among managers Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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who support a specific goal. Coalition building is the process of forming alliances among managers. In other words, a manager who supports a specific alternative, such as increasing the corporations growth by acquiring another company, talks informally to other executives and tries to persuade them to support the decision. When the outcomes are not predictable, managers gain support through discussion, negotiation, and bargaining. Without a coalition, a powerful individual or group could derail the decision-making process. Coalition building gives several managers an opportunity to contribute to decision making, enhancing their commitment to the alternative that is ultimately adopted. The political model begins with four basic assumptions: 1. Organizations are made up of groups with diverse interests, goals, and values. Managers disagree about problem priorities and may not understand or share the goals and interests of other managers. 2. Information is ambiguous and incomplete. The attempt to be rational is limited by the complexity of many problems as well as personal and organizational constraints. 3. Managers do not have the time, resources, or mental capacity to identify all dimensions of the problem and process all relevant information. Managers talk to each other and exchange viewpoints to gather information and reduce ambiguity. 4. Managers engage in the push and pull of debate to decide goals and discuss alternatives. Decisions are the result of bargaining and discussion among coalition members. The key dimensions of the classical, administrative, and political models are listed in Exhibit 9.2. Recent research into decision-making procedures found rational, classical procedures to be associated with high performance for

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organizations in stable environments. However, administrative and political

decision making environments in which decisions must be made rapidly and under more difficult conditions.

Decision-Making Steps
Whether a decision is programmed or nonprogrammed and regardless of managers choice of the classical, administrative, or political model of decision making, six steps typically are associated with effective decision processes. These steps are summarized in Exhibit 9.3.

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Recognition of Decision Requirement

Managers confront a decision requirement in the form of either a problem or an opportunity. A problem occurs when organizational accomplishment is less than established goals. Some aspect of performance is unsatisfactory. An opportunity exists when managers see potential accomplishment that exceeds specified current goals. Managers see the possibility of enhancing performance beyond current levels. Awareness of a problem or opportunity is the first step in the decision sequence and requires surveillance of the internal and external environment for issues that merit executive attention.

Diagnosis and Analysis of Causes

Once a problem or opportunity comes to a managers attention, the understanding of the situation should be refined. Diagnosis is the step in the decision-making process in which managers analyze underlying causal factors associated with the decision situation. Managers make a mistake here if they jump right into generating alternatives without first exploring the cause of the problem more deeply. Kepner and Tregoe, who conducted extensive studies of manager decision making, recommend that managers ask a series of questions to specify underlying causes, including the following: :: What is the state of disequilibrium affecting us? :: When did it occur? :: Where did it occur? :: How did it occur? :: To whom did it occur? :: What is the urgency of the problem? :: What is the interconnectedness of events? :: What result came from which activity? Such questions help specify what actually happened and why. Managers at General Motors are struggling to diagnose the underlying factors in the Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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companys recent troubles. The problem is an urgent one, with sales, profits, market share, and the stock price all plummeting and the giant corporation on the verge of bankruptcy. Managers are examining the multitude of problems facing GM, tracing the pattern of the decline, and looking at the interconnectedness of issues such as changing consumer tastes in vehicles, surging gas prices etc.

Development of Alternatives
Once the problem or opportunity has been recognized and analyzed, decision makers begin to consider taking action. The next stage is to generate possible alternative solutions that will respond to the needs of the situation and correct the underlying causes. Studies find that limiting the search for alternatives is a primary cause of decision failure in organizations. For a programmed decision, feasible alternatives are easy to identify and in fact usually are already available within the organizations rules and procedures. Nonprogrammed decisions, however, require developing new courses of action that will meet the companys needs. For decisions made under conditions of high uncertainty, managers may develop only one or two custom solutions that will satisfies for handling the problem. Decision alternatives can be thought of as the tools for reducing the difference between the organizations current and desired performance. For example, to improve sales at fast-food giant McDonalds, executives considered alternatives such as using mystery shoppers and unannounced inspections to improve quality and service, motivating demoralized franchisees to get them to invest in new equipment and programs, taking R&D out of the test kitchen and encouraging franchisees to help come up with successful new menu items, and closing some stores to avoid its own sales.

Selection of Desired Alternative

Once feasible alternatives are developed, one must be selected. The decision choice is the selection of the most promising of several alternative courses of action. The best alternative is one in which the solution best fits the overall goals and values of the organization and achieves the desired results using the fewest Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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resources. The manager tries to select the choice with the least amount of risk and uncertainty. Because some risk is inherent for most nonprogrammed decisions, managers try to gauge prospects for success.

Implementation of Chosen Alternative

The implementation stage involves the use of managerial, administrative, and persuasive abilities to ensure that the chosen alternative is carried out. The ultimate success of the chosen alternative depends on whether it can be translated into action. Sometimes an alternative never becomes reality because managers lack the resources or energy needed to make things happen. Implementation may require discussion with people affected by the decision. Communication, motivation, and leadership skills must be used to see that the decision is carried out. When employees see that managers follow up on their decisions by tracking implementation success, they are more committed to positive action At Boeing Commercial Airplanes, CEO Alan R. Mulally engineered a remarkable turnaround by skillfully implementing decisions that reduced waste, streamlined production lines, and moved Boeing into breakthrough technologies for new planes.48 If managers lack the ability or desire to implement decisions, the chosen alternative cannot be carried out to benefit the organization.

Evaluation and Feedback

In the evaluation stage of the decision process, decision makers gather information that tells them how well the decision was implemented and whether it was effective in achieving its goals. Feedback is important because decision making is a continuous, never-ending process. Decision making is not completed when an executive or board of directors votes yes or no. Feedback provides decision makers with information that can precipitate a new decision cycle. The decision may fail, thus generating a new analysis of the problem, evaluation of alternatives, and selection of a new alternative. Many big problems are solved by trying several alternatives in sequence, each providing modest improvement. Feedback is the part of monitoring that assesses whether a new decision needs to be made Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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Personal decision framework

Imagine you were a manager at Toms of Maine, Boeing Commercial Airplanes, a local movie theater, or the public library. How would you go about making important decisions that might shape the future of your department or company? So far we have discussed a number of factors that affect how managers make decisions. For example, decisions may be programmed or nonprogrammed, situations are characterized by various levels of uncertainty, and managers may use the classical, administrative, or political model of decision making. In addition, the decision making process follows six recognized steps. However, not all managers go about making decisions in the same way. In fact, significant differences distinguish the ways in which individual managers may approach problems and make decisions concerning them. These differences can be explained by the concept of personal decision styles. Following Exhibit illustrates the role of personal style in the decision-making process. Personal decision style refers to distinctions among people with respect to how they perceive problems and make decisions. Research identified four major decision styles: directive, analytical, conceptual, and behavioural.

1. The directive style is used by people who prefer simple, clear-cut solutions to problems. Managers who use this style often make decisions quickly because they do not like to deal with a lot of information and may consider only one or two alternatives. People who prefer the directive style generally are efficient and rational and prefer to rely on existing rules or procedures for making decisions. 2. Managers with an analytical style like to consider complex solutions based on as much data as they can gather. These individuals carefully consider Khalil Ur Rehman malik Khalil_rehman@Comsats.edu.pk 0323-5807442

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alternatives and often base their decisions on objective, rational data from management control systems and other sources. They search for the best possible decision based on the information available. 3. People who tend toward a conceptual style also like to consider a broad amount of information. However, they are more socially oriented than those with an analytical style and like to talk to others about the problem and possible alternatives for solving it. Managers using a conceptual style consider many broad alternatives, rely on information from both people and systems, and like to solve problems creatively. 4. The behavioural style is often the style adopted by managers having a deep concern for others as individuals. Managers using this style like to talk to people one on- one and understand their feelings about the problem and the effect of a given decision upon them. People with a behavioural style usually are concerned with the personal development of others and may make decisions that help others achieve their goals.

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