Steps Involved in Managerial Decision-Making

The following points highlight the seven main steps involved in managerial decision-making. The steps are: 1. Establishing Objectives 2. Defining the Problem 3. Identification of Variables and their Relation to the Problem 4. Identification of Alternatives 5. Collection of Data 6. Evaluation and Screening of Alternatives 7. Implement and Monitor the Decision.

Step # 1. Establishing Objectives:

Decision-making refers to choosing from alter­native courses of action or alternative ways of do­ing things. When a manager makes a decision, he chooses from some set of alternatives and acts on the one that he believes will best contribute to some particular end result or company objective.

In other words, decisions are made within the context of, and influenced by, the objective or set of objec­tives set by the decision-maker. Thus, the first step in decision-making is to formulate a clear and con­cise statement of the objectives of the firm and management. Throughout the text we assume that management’s main objective is the maximization of the firm’s value or wealth.

Objectives, of necessity, have to be defined in a concrete, operational form. It is because if they are stated in a very general form they create ambigui­ty. Consequently, it becomes virtually impossible to establish whether or not a particular decision brings one closer to the stated goal. Let us consider, for example, the following two ways in which a marketing manager might state one of its objec­tives.

Objective A: To increase the company’s share of the market.

Objective B: To increase its market share by at least 10% in the next accounting year.

With Objective A the firm has hardly any way to evaluate the effectiveness of various decisions as they relate to this goal. A .005% increase in market share satisfied the objective, as does a 1% increase, or 20% increase.

However, with an objec­tive stated as in B, from year to year the specific amount in B might be revised. If the firm consis­tently achieves a given objective, then the objec­tive might be changed to prevent unsatisfactory performance.

In short, if management decides that one of its objectives is to expand its market share, manageri­al economics can assist in determining size of the market, the likely reactions of competitors, and the techniques that will help in the achievement of this goal.

Step # 2. Defining the Problem:

With objectives firmly established, the second element of a decision framework is a clear state­ment of the problem (or problems). The fact that someone in the organization has to make a decision simply implies that there does exist a problem, de­manding solution. In defining problems, one should be as precise as possible and should state the prob­lem explicitly.

As a general rule, the problem facing the deci­sion-maker can be stated as a determination of which specific combination of products, price pro­motion, production techniques and so on will most closely satisfy the objective already set. Thus, a business problem can be defined as any situation in which management, when faced with the problem of resource scarcity, is forced to make a choice — that is, make a decision.

However, before the prob­lem can be solved, it has to be well-defined. It may be added that an accurate assessment of the prob­lem to be solved also assists the decision-maker in the selection of those theoretical tools that will be most useful in problem-solving.

An integral part of this step is a consideration of political, social, moral, ethical and other non- economic factors. If management lacks this broad perspective, it may define and address the econom­ic aspects of a problem just to discover that some other (non-economic) aspect of the decision is more important and critical.

In defining problems, one should take care not to define a symptom rather than the real problem. The symptoms enable one to recognize the existence of a problem, but they are not synonymous.

For ex­ample, let us suppose a firm observed that when monthly sales for 1990 are compared to monthly sales for 1989 for each month, the 1990 sales exceed those for 1989. The decline in sales is not really the problem — it is just a symptom.

Sales have fallen for some reason. The firm’s prices are higher than that of competitors, the product changes have been considered as undesirable by most customers, the promotional programme is ineffective or other sim­ilar circumstances may pose the real problem(s). By asking the appropriate, What? Who? Where? and How? questions, one can surely identify the real problem(s).

Step # 3. Identification of Variables and their Relation to the Problem:

The answers to those questions constitute the third phase of the decision-making process, i.e., the explicit identification of factors that impinge on the problems that have been identified and their influences on important variables. In a broad sense, once the source or sources of the problem have been identified and clarified, management will have to identify, evaluate and compare the alter­native solutions.

In a fundamental sense, the choice among alternatives is the essence of managerial de­cision making, involving accurate assessments of the results of choosing each of the alternatives.

It is absolutely essential that such estimates quantify the benefit to be derived, i.e., the quantum of reve­nue that will be generated in each of the succeeding time periods and the resource cost that is, the value of the scarce resources that will be made use of in arriving at and implementing the decision.

If sound economic decisions about a problem are to be made, it is absolutely essential for the decision maker to carefully consider the variables that have potential impact on the situation and hypo­thesize the relationships between (or among) them. This involves some sort of model building.

For example, for a businessman interested in es­tablishing the retail price for a new product the proximate variables affecting any such decision might be: the price of similar products existing in the market, the projected sales volume at various prices, the warranty (or guarantee) provisions, the various possible distribution channels, the fixed cost of production, total variable costs, the promo­tional expense or selling cost, the price range of the firm’s existing product mix, the price of comple­mentary products, the probability that competitors will market a similar product (and, if so, when?), the production capacity, the income of the target market, the possible changes in factor prices (wage rates, interest rates, etc.) and so on.

After identifying the variables impinging on the decision, one has to hypothesize the relation­ship among these variables, that is, develop a ten­tative explanation of how these factors relate to the problem. This virtually amounts to building a model (or models) of the situation. The important factors are included and less important ones delet­ed.

Each model may subsequently be used to evalu­ate possible alternative courses of action. With further progress along the decision-making process, one will gain additional insights concerning the problem. This will sometimes lead to changing the original model(s) to incorporate this new informa­tion so as to improve the process of problem evalua­tion.

Step # 4. Identification of Alternatives:

The fourth phase of the decision process is to identify alternatives that represent various possi­ble courses of action. At the outset, only the most obvious of these will be evident. One has to be cau­tious not to stop trying to identify alternatives too quickly. The processes of enumerating possible courses of action have to be exhaustive.

Sometimes ‘inaction’ may appear to be an important alterna­tive. Some of the suggested actions may later on have to be dismissed without comprehensive eval­uation because some of their aspects will immedi­ately be recognized as counterproductive.

The remaining alternatives have to be studied carefully and rigorously, using the model(s) devel­oped in order to determine their consequences. It is quite obvious that the more alternatives that are fully evaluated the better the decision is likely to be.

Step # 5. Collection of Data:

In order to evaluate alternatives, the decision maker must have the necessary information to use the model(s). This is the fifth stage of the decision making process.

He has to gather data relating to the important variables having direct and indirect influence on the present decision problem. Some of these data are readily available within the firm, i.e., from records kept in the production, marketing, finance, personnel, accounting, quality control or other departments.

Often this information is not available in readily usable form, but with some ef­fort and a spirit of interdepartmental cooperation, it is possible to obtain such data in readily useable form. At times, however, new data have to be col­lected.

In addition, further information from external sources, (i.e., published documents) is needed for decision-making purposes. Such data may also be purchased from consultancy firms such as Tata Con­sultancy Services or Data India Ltd. or the Centre for Monitoring Indian Economy.

Additional external data may also be collected by direct action of the firm. Various types of sur­veys, such as market surveys, can be made to gather new (or primary) data relating to variables of in­terest to the firm. Collection of such data must be done with great care, especially if the sample method rather than the survey method is used.

Step # 6. Evaluation and Screening of Alternatives:

In the sixth phase of the decision process, the information that has been gathered is fruitfully utilized to evaluate and screen the alternatives previously specified. Some of the original alterna­tives may be eliminated without formal analysis because they are inconsistent with the objectives established initially or they have become too cost­ly to implement even if economic analysis would show them to be desirable.

The remaining alterna­tives will be subject to more comprehensive investi­gation so that their consequences can be determined in the most precise manner. This analysis and in­vestigation process lies at the heart of managerial economics.

The evaluation of alternatives has to be done, keeping closely in mind the prescribed objectives. The best alternative is undoubtedly the one that achieves the goal(s) determined by those objec­tives, or brings the firm closest to that point. This evaluation process has to combine statistical data with sound judgment by persons thoroughly fa­miliar with the institutional and non-quantifiable factors affecting the decision.

Step # 7. Implement and Monitor the Decision:

Once the alternatives have been evaluated and screened, the seventh and final step of the decision process is to implement and monitor the appropri­ate course of actions.

In other words, the final step in the decision-making process is the implementa­tion and monitoring of the alternative chosen. Bearing in mind that all decisions are based on limited information, the importance of monitoring the results of the decision can hardly be overem­phasized.

The dynamics of the market place and the associated uncertainty require that all deci­sions be constantly scrutinized and changed, as and when situation so demands.

Those managers who can recognize these changes re evaluate the possi­ble alternatives and make new decisions to achieve professional success. No doubt, these actions are ex­pected to lead to satisfying the firm’s objectives; yet it may not be possible to realize those expecta­tions.

It is, therefore, of paramount importance to establish procedures to monitor and evaluate the progress of the implemented solution. From time to time, changes are likely to be desirable to adjust for variations in the external (macro) environment of business.

This decision process is widely applicable. However, every problem is unique, having its own characteristics. So the decision process has to be appropriate to each particular situation. There­fore, some steps may have to be eliminated in the case of recurring decisions in order to simplify the whole process.

In a like manner, in case of more complicated decisions, it may also mean extending some phases, or looping back part of the way through the process. For example, in the process of collecting necessary information to evaluate alter­natives, one may have to identify additional vari­ables that may be important or may see a previous­ly neglected alternative.

Some other likely points, where decision loops bear relevance, is also illus­trated in Figure 8.1. It is not enough to have a framework for decision-making; remaining flexible within that framework is equally vital.