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Chapter 4 – Foundations of Decision Making
CHAPTER
4
FOUNDATIONS
OF DECISION
MAKING
LEARNING OUTCOMES
After reading this chapter, students should be able to:
4-1. Describe the decision-making process.
4-2. Explain the three approaches managers can use to make decisions.
4-3. Describe the types of decisions and decision-making conditions managers face.
4-4. Discuss group decision making.
4-5. Discuss contemporary issues in managerial decision making.
Management Myth
Myth: A good decision should be defined by its outcome.
Truth: A good decision should be judged by the process used, not the results achieved.
SUMMARY
The overall quality of a manger’s decisions goes a long way in determining an organization’s
success or failure. This chapter focuses on the types of decisions managers make and how they
should be made.
Teaching Tips:
Have students think about important decisions they have made recently.
Questions for students to consider:
1. Did they follow a series of steps to think through while making this decision?
2. Was there a high degree of uncertainty involved in making the decision?
3. Was a group of people involved in making this decision? If so, did the group help or hurt the
decision-making process?
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Chapter 4 – Foundations of Decision Making
I. HOW DO MANAGERS MAKE DECISIONS?
A. Introduction
1. Decision making is typically described as “choosing among alternatives.”
2. This is simplistic because decision making is a process.
a) See Exhibit 4-1 illustrating the decision-making process.
B. What defines a decision problem?
1. The decision-making process begins with the identification of a problem (Step 1), a
discrepancy between an existing and a desired state of affairs.
a) Pfizer sales manager example.
2. Problem identification is subjective.
3. The manager who by mistake solves the wrong problem perfectly, is likely to perform
just as poorly as the manager who fails to identify the right problem and does nothing.
a) How do managers become aware that they have a discrepancy?
b) Managers compare their current state of affairs against an acceptable standard.
1) Past performance.
2) Previously set goals.
3) Performance of some other unit within the organization or in other
organizations.
C. What Is Relevant in the Decision-Making Process?
1. Once a problem is identified, the decision criteria must be identified (Step 2).
2. Car-buying example continued.
3. Every decision maker has criteria—explicitly stated or not—that guide his/her
decision.
a) What is not identified is as important as what is.
D. How Does the Decision Maker Weight the Criteria and Analyze Alternatives?
1. It is necessary to allocate weights to the items listed in Step 2 in order to give them
their relative priority in the decision (Step 3).
2. A simple approach, give the most important criterion a weight of ten and then assign
weights to the rest against that standard.
a) Exhibit 4-2 lists the criteria and weights in a car-buying decision.
3. Then the decision maker lists the alternatives that could succeed in resolving the
problem (Step 4).
a) No attempt is made to appraise these alternatives, only to list them.
4. Once identified, the decision maker must critically analyze each alternative (Step 5).
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Chapter 4 – Foundations of Decision Making
a) Each alternative is evaluated by appraising it against the criteria and weights
established in Steps 2 and 3.
1) Exhibit 4-3 shows the assessed values for each vehicle; it does not reflect the
weighting done in Step 3.
b) If you multiply each alternative assessment against its weight, you get Exhibit
3-4.
c) Notice that the weighting of the criteria has changed the ranking of alternatives in
our example.
E. What Determines the Best Choice?
1. The critical act of choosing the best alternative from among those enumerated and
assessed (Step 6).
F. What Happens In Decision Implementation?
1. The decision may still fail if it is not implemented properly (Step 7).
2. Decision implementation includes conveying the decision to those affected and
getting their commitment to it.
3. The people who must carry out a decision are most likely to enthusiastically endorse
the outcome if they participate in the decision-making process.
G. What is the Last Step in the Decision Process?
1. The last step (Step 8) appraises the result of the decision to see whether it has
corrected the problem.
2. Did the alternative chosen in Step 6 and implemented in Step 7 accomplish the
desired result?
H. Common Errors Committed in the Decision-Making Process
1. Making decisions is making choices.
2. Heuristics are “rules of thumb” that managers use to simplify their decision making.
3. Exhibit 4-5 identifies 12 common decision errors and biases that managers make.
4. Some common mistakes:
a) Overconfidence bias – they think they know more than they do or hold
unrealistically positive views of themselves and their performance.
b) Immediate gratification bias – describes decision makers who tend to want
immediate rewards and to avoid immediate costs.
c) Anchoring effect – describes when decision makers fixate on initial information as
a starting point and then, once set, fail to adequately adjust for subsequent
information.
d) Selective perception bias – when decision makers selectively organize and
interpret events based on their biased perceptions.
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Chapter 4 – Foundations of Decision Making
e) Confirmation bias – decision makers who seek out information that reaffirms their
past choices and discount information that contradicts past judgments.
f) Framing bias – when decision makers select and highlight certain aspects of a
situation while excluding others.
g) Availability bias – when decisions makers tend to remember events that are the
most recent and vivid in their memory.
h) Representation bias – when decision makers assess the likelihood of an event
based on how closely it resembles other events or sets of events.
i) Randomness bias – describes when decision makers try to create meaning out of
random events.
j) Sunk costs error – when decision makers forget that current choices can’t correct
the past.
k) Self-Serving bias – decision makers who are quick to take credit for their
successes and to blame failure on outside factors.
l) Hindsight bias – the tendency for decision makers to falsely believe that they
would have accurately predicted the outcome of an event once that outcome is
actually known.
II. WHAT ARE 3 APPROACHES MANAGERS CAN USE TO MAKE DECISIONS?
A. Rational Model
1. Decision making is the essence of management. Managers—as they plan, organize,
lead, and control—are called decision makers. (Exhibit 4-6).
2. Managerial decision making is assumed to be rational.
a) Rational decision making involves making consistent, value-maximizing choices
within specified constraints.
3. A decision maker who was perfectly rational would be fully objective and logical.
a) He or she would carefully define the problem and have a clear and specific goal.
b) The steps in the decision-making process would consistently lead to selecting the
alternative that maximizes that goal.
c) Decisions are made in the best interests of the organization.
d) Guide users through problems by asking them a set of sequential questions about
the situation and drawing conclusions based on the answers given.
B. Bounded Rationality
1. Management theory is built on the premise that individuals act rationally, but are
limited by their ability to process information.
2. Most decision makers don’t fit the assumption of perfect rationality.
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Chapter 4 – Foundations of Decision Making
3. No one can possibly analyze all informational on all alternatives so they satisfice –
accept solutions that are “good enough,” rather than spend time and other resources
trying to maximize.
a) Decision making is also likely influenced by the organization’s culture, internal
politics, power considerations, and by a phenomenon called escalation of
commitment, which is an increased commitment to a previous decision despite
evidence that it may have been wrong.
From the Past to the Present
1. Herbert Simon found that within certain constraints, managers do act rationally.
2. Because it is impossible for human beings to process and understand all the information
necessary, they construct simplified models that extract the essential features from
problems.
a) Bounded rationality – decision makers behave rationally within the limits of the
simplified or bounded model.
b) The result is a satisfying decision; the solutions are “good enough.”
Discuss This:
•Is satisfying settling for second best? Discuss.
•How does knowing about bounded rationality help managers be better decision
makers?
C. Intuition and Managerial Decision Making
1. Intuitive decisions making – making decisions on the basis of experience, feelings,
and accumulated judgment.
2. Described as “unconscious reasoning.”
3. Exhibit 4-7 shows 5 different aspects of intuition.
Technology and the Manager’s Job
Making Better Decisions with Technology
1. Expert systems use software programs to encode the relevant experience of an expert and
allow a system to act like that expert in analyzing and solving ill-structured problems.
a) Guide users through problems by asking sequential questions about the situation and
drawing conclusions based on answers given.
b) Make decisions easier for users through programmed rules modeled on actual
reasoning processes of experts.
c) Allow employees and lower-level managers to make high-quality decisions normally
made only by upper-level managers.
2. Neural networks are the next step beyond expert systems.
a) Use computer software to imitate the structure of brain cells and connections among
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Chapter 4 – Foundations of Decision Making
them.
b) People can’t easily assimilate more than two or three variables at once, but neural
networks can perceive correlations among hundreds of variables.
c) For example, most banks today use neural networks to flag potential credit card fraud.
Fraudulent activities on a credit card can be uncovered in a matter of hours with neural
networks.
Discuss This:
Can a manager ever have too much data when making decisions? Explain.
How can technology help managers make better decisions?
III.WHAT TYPES OF DECISIONS AND DECISION-MAKING CONDITIONS DO
MANAGERS FACE?
A. How Do Problems Differ?
1. Some problems are straightforward. The goal of the decision maker is clear, the
problem familiar, and information about the problem easily defined and complete.
a) Examples of structured problems include a supplier’s tardiness with an
important delivery, a customer’s wanting to return an Internet purchase, etc.
2. Many situations, however, are unstructured problems, are new, or unusual.
Information about such problems is ambiguous or incomplete.
a) Examples of unstructured problems include the decision to enter a new market
segment, to hire an architect to design a new office park, etc.
B. How Does a Manager Make Programmed Decisions?
1. Programmed, or routine, decision making is the most efficient way to handle
structured problems.
2. When problems are structured, managers rely on programmed decision making.
a) Automotive mechanic example.
3. Decisions are programmed to the extent that they are repetitive and routine and to the
extent that a specific approach has been worked out for handling them.
a) Programmed decision making is relatively simple and tends to rely heavily on
previous solutions.
b) The develop-the-alternatives stage is given little attention because programmed
decision making becomes decision making by precedent.
4. Procedure is a series of interrelated sequential steps that a manager can use when
responding to a well-structured problem.
a) The only real difficulty is in identifying the problem.
b) Once the problem is clear, so is the procedure.
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c) Example of purchasing manager and request for 250 copies of Norton Antivirus
Software.
5. A rule is an explicit statement that tells a manager what he or she ought or ought not
to do.
a) Rules are frequently used with a well-structured problem because they are simple
to follow and ensure consistency.
6. A policy provides guidelines to channel a manager’s thinking in a specific direction.
a) In contrast to a rule, a policy establishes parameters for the decision maker rather
than specifically stating what should or should not be done.
b) Example, “we promote from within, whenever possible.”
C. How Do Nonprogrammed Decisions Differ from Programmed Decisions?
1. Examples of nonprogrammed decisions: deciding whether to acquire another
organization, deciding which global markets offer the most potential, or deciding
whether to sell off an unprofitable division.
2. Such decisions are unique and nonrecurring, involving an unstructured problem with
no cut-and-dried solution.
The creation of a new organizational strategy is an example of a non-programmed
decision.
a) Example, Amazon.com Jeff Bezos’ strategy to “get big fast”:
1) Bezos’ strategy to “get big fast” helped the company grow but at the cost of
perennial financial losses.
2) To make a profit, Bezos made decisions affecting how the company operated,
including allowing other sellers to sell their books at Amazon. For the first
time, Amazon made a profit.
D. How are Problems, Types of Decisions, and Organizational Level Integrated?
1. Exhibit 4-8 describes the relationship between types of problems, types of decisions,
and level in the organization.
2. Structured problems are responded to with programmed decision making.
a) Lower-level managers essentially confront familiar and repetitive problems.
3. Ill-structured problems require nonprogrammed decision making.
a) The problems confronting managers up the organizational hierarchy are more
likely to become unstructured.
4. Few managerial decisions are either fully programmed or fully nonprogrammed.
5. Organizational efficiency is facilitated by the use of programmed decision making.
a) Whenever possible, management decisions are likely to be programmed.
b) There are strong economic incentives for top management to create policies,
standard operating procedures, and rules to guide other managers.
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c) Programmed decisions minimize the need for managers to exercise discretion.
d) This benefit is important because discretion costs money.
E. What Decision-Making Conditions Do Managers Face?
1. Certainty – a situation where a manager can make accurate decisions because the
outcome of every alternative is known.
2. Risk – conditions in which the decision maker is able to estimate the likelihood of
certain outcomes.
3. Uncertainty – is when you’re not certain about the outcomes and can’t even make
reasonable probability estimates.
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