Class Decision Making under Uncertainty DMUU Decision Model

Class Decision Making under Uncertainty (DMUU) Decision Model. Classical model. Administrative model (Simon, Arrow). DMUU techniques (4) WIUU RM, Fall 2012, © A. Zaporozhetz 1

Decision Making (DM) “Decision making - the process by which managers respond to opportunities and threats by analyzing options and making determinations about specific organizational goals and courses of action. ” (G. Jones, “Contemporary Management”, 2 nd edition, p. 196). In theory of management, DM is one of the 2 “linking processes”. Decision model - A formal framework, which may involve quantitative analysis, for choosing among alternatives. (SMA 2 A) WIUU RM, Fall 2012, © A. Zaporozhetz 2

Decision Models Steps in Decision Making process (“Classical Model”): Recognize the problem Formulate the objective Collect and analyze information Generate alternatives Assess alternatives based on the agreed criterion(-a) Choose the optimal alternative Implement the alternative Receive feedback and evaluate the consequences Decision variables – factors controlled by the managing system. Decision parameters – non-controllable factors, conditions, limitations. (see: Olga Nikolaeva, etc). WIUU RM, Fall 2012, © A. Zaporozhetz 3

Administrative Model (Simon, 1947, 1957; K. Arrow, 1965) explains why DM is inherently uncertain and risky, and why managers usually make satisfactory rather than optimal decisions. Herbert Simon (1916 – 2001, Carnegie Mellon University) Kenneth Joseph Arrow (born 1921), Nobel prize in 1972 WIUU RM, Fall 2012, © A. Zaporozhetz 4

Administrative Model: Ø Bounded rationality Ø Satisficing Ø Incomplete information • Risks and Uncertainty • Ambiguous Information • Time Constraints • Information Costs WIUU RM, Fall 2012, © A. Zaporozhetz 5

Information Considerations Generating alternatives: preparation and presentation of information for decision making. Quality of information (See: “Qualitative characteristics of financial information”. ) Format of the gathered info, analysis, reports. Quantitative factors – Those factors that can be expressed in numerical terms, such as projected alternative costs of direct materials, direct labor, and factory overhead. (SMA 2 A) Qualitative factors – Factors that are relevant to a decision but which are not expressed numerically. (SMA 2 A) E. g. , product quality, reputation, logistics, insurance, service, etc. Need to be taken into consideration, - apart from/in addition to financial benefits of the decision to be made. WIUU RM, Fall 2012, © A. Zaporozhetz 6

Qualitative Characteristics of Accounting Information WIUU RM, Fall 2012, © A. Zaporozhetz 7

Decision Making under Uncertainty Criteria selection methods for Decision making under uncertainty (DMUU): Inductive probability (Pierre-Simon Laplace, 1814) Minimization of maximum possible loss, “Minimax criterion” (Abraham Wald, 1939) Optimism-pessimism index (Leonid Hurwicz) Minimax regret criterion (L. Jimmie Savage, 1951) WIUU RM, Fall 2012, © A. Zaporozhetz 8

DMUU Typical Task: Motel Construction Planning in a Newly Area* (*Prof. E. Goizman, CSUH / IBE) WIUU RM, Fall 2012, © A. Zaporozhetz 9

DMUU Typical Task: Solution WIUU RM, Fall 2012, © A. Zaporozhetz 10

Class 9 Short-Term Decisions Additional materials WIUU RM, Fall 2012, © A. Zaporozhetz 11

Information Paradigm “We would agree that “the most valuable information for corporate decision-making is concentrated in a relatively small number of sweet spots of information that flow through a corporation. ” [6]. Information “sweet spots” (that is, the pieces of information with perfect balance of understandability and ambiguity) help managers make better both financial (operational, investing, and financing) and non-financial decisions. The driving logic here is the cost of acquiring, analyzing, transferring, and storage of information vs. the intrinsic value of the latter, realized in its qualitative characteristics (i. e. , understandability, relevance, reliability, etc). ” (A. Zaporozhetz, “MANAGING INFORMATION TO DRIVE PERFORMANCE: TODAY’S CHALLENGES”, 2009. ) WIUU RM, Fall 2012, © A. Zaporozhetz 12

Information Paradigm (cont’d) “While this benefit/cost principle (balance) is always valid, the following factors and considerations are crucial today: -The increasing volume of the input data triggers processing (conversion) costs to increase; -The urgency of the needed information puts the quality at stake; -The “enrichment” of information (that is, the ability to serve different functions of decision-makers) requires it to be more refined and “tuned”; -The understandability/ambiguity balance loads extra burden on both the cost and the quality. ” (A. Zaporozhetz, “MANAGING INFORMATION TO DRIVE PERFORMANCE: TODAY’S CHALLENGES”. 2009. ) WIUU RM, Fall 2012, © A. Zaporozhetz 13

Information Paradigm (cont’d) VOLUME COST QUALITY ENRICHMENT URGENCY - Increase - Demand - Balance WIUU RM, Fall 2012, © A. Zaporozhetz 14