1. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 1 Chapter 8 Fundamentals of Decision Making

2. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 2 Learning Objectives State the conditions under which individuals make decisions. Describe the characteristics of routine, adaptive, and innovative decisions. Explain the three basic models of decision making.

3. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 3 Decision making includes defining problems, gathering information, generating alternatives, and choosing a course of action.

4. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 4 Conditions Under Which Decisions are Made (adapted from Figure 8.1) Risk Objective probabilities Subjective probabilities CertaintyUncertainty Certainty: When we have a feeling of complete belief or complete confidence in a single solution to the problem is called certainty. Risk: A state of uncertainty where some possible outcomes have an undesired effect or significant loss. Uncertainty: A state of having limited knowledge where it is impossible to exactly describe existing state or future outcome, more than one possible outcome.

5. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 5 Framework for Decision Making (adapted from Figure 8.2) Solution Types (Alternative Solutions) Adaptive Decisions Innovative Decisions Routine Decisions Conditions under which decisions are made Certainty Uncertainty Risk Unusual and ambiguous Known and well defined Untried and ambiguous Problem Types

6. Framework for Decision Making Contd. Routine Decisions:- Routine decisions are ones that you make on a regular basis, in which the answers are obvious to you and require little or no consideration of an alternative. Adaptive Decisions:- Decisions which require human judgment based on clarified criteria and are made using basic quantitative decision. Innovative Decisions:- Decisions which address novel problems, lack pre-specified courses of action and are made by senior managers Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 6

7. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 7 Models of Decision Making The rational model prescribes a set of phases that individuals or teams should follow to increase the likelihood that their decisions will be logical and optimal.

8. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 8 Rational Decision-Making Model (adapted from Figure 8.3) 1 Define and diagnose problem Environmental forces 7 Follow-up and control results 6 Implement the solution selected 5 Choose among alternative solutions 4 Compare and evaluate alternative solutions 3 Search for alternative solutions 2 Set goals

9. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 9 A Simple Hierarchy of Goals (adapted from Figure 8.4) Corporation Increase profits per share of common stock [based on millions shares by 8% in 2006. Organizational goals Manufacturing Division Reduce manufacturing costs by average $0.50 per unit on volume of 1 million units in 2006. Total savings targeted at $500,000. Divisional goals Reduce internal and contract maintenance by $75,000 in 2006 without more that 3% equipment downtime Plant Engineering Department Departmental goals Reduce overtime for preventive maintenance inspections by 200 labor hours during 2006 without decreasing frequency of inspections. Total overtime savings estimated at $6,000. Maintenance Section Sectional goals Purchase and install microcomputer software system for monitoring bearing wear in 10 machines, reducing overtime by 600 hours for production employees. 2006 overtime of $15,000. Purchase price estimated at $6,000. Mechanical Engineer Individual goals

10. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 10 Models of Decision Making (cont.) The bounded rationality model contends that the capacity of the human mind for formulating and solving complex problems is small, compared with what is needed for objectively rational behavior.

11. Models of Decision Making (cont.) According to Herbert Simon, “ Human beings are not rational calculating machines. Our rationality is bounded by our own limited cognitive capabilities. Bounded Rationality refers to limits in our ability to formulate complex problems, to gather and process the information necessary for solving those problems, and thus solve problems in a rational way”. Due to constraint of bounded rationality, we tend not to optimize, rather we satisfice, aiming for a satisfactory level of a particular performance variable, rather than theoretical maximum. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 11

12. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 12 Bounded Rationality Model (adapted from Figure 8.5) Satisficing Decision Biases Inadequate Problem Description Limited Search for Alternatives Limited Information

13. Political Model of Decision Making The view that recognizes the role of conflict and conflict resolution in the decision-making process is known as political model of decision making. This view was first proposed by Cyert and March (1963) who argued that organizations should be understood as consisting of shifting coalitions that form and reform around issues of concern to them. By contrast with the unitary frame of the rational model, the political approach is pluralistic in nature, recognizing the role of various stakeholders in affecting and shaping matters of significance to the organization. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 13

14. Political Model of Decision Making In addition, the model is described as being based on "reconciling the interests of different stakeholders" while recognizing the organization as "a system adapting and learning to cope with a variety of internal and external constraints" (Fulop & Linstead, 1999, p. 316). This model can be applied to the situation where the company needs to increase production and is deciding how to achieve this." Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 14

15. Copyright © 2005 by South-Western, a division of Thomson Learning All rights reserved 15 Political Model of Decision Making (adapted from Figure 8.6) Political decision making Multiple Stakeholders with power such as: Divergence in problem definition Divergence in goals Divergence in solutions Customers Investors Employees Unions Competitors Suppliers Regulatory Agencies Legislative Bodies