A PROJECT ON INTERNATIONAL BUSINESS AND TRADE

“Quantitative Techniques for Decision-making”

submitted to

Dr. Lovinia Reyes

by

Crystalyn A. Ilim

January 2021
 I. DECISION MAKING

Decision-making is an integral part of modern management. Essentially, Rational or

sound decision making is taken as primary function of management. Every manager takes
hundreds and hundreds of decisions subconsciously or consciously making it as the key
component in the role of a manager. Decisions play important roles as they determine both
organizational and managerial activities. A decision can be defined as a course of action
purposely chosen from a set of alternatives to achieve organizational or managerial objectives
or goals. Decision making process is continuous and indispensable component of managing
any organization or business activities. Decisions are made to sustain the activities of all
business activities and organizational functioning.

Decisions are made at every level of management to ensure organizational or business

goals are achieved. Further, the decisions make up one of core functional values that every
organization adopts and implements to ensure optimum growth and drivability in terms of
services and or products offered.

A decision is an act of selection or choice of one action from several alternatives.

Decision-making can be defined as the process of selecting a right and effective course of
action from two or more alternatives for the purpose of achieving a desired result. Decision-
making is the essence of management.

According to P. F. Drucker – “Whatever a manager does he does through making

decisions.” All matters relating to planning, organizing, direction, co-ordination and control are
settled by the managers through decisions which are executed into practice by the operators of
the enterprise. Objectives, goals, strategies, policies and organizational designs are all to be
decided upon in order to regulate the performance of the business.

The entire managerial process is based on decisions. Decisions are needed both for
tackling the problems as well as for taking maximum advantages of the opportunities available.
Correct decisions reduce complexities, uncertainties and diversities of the organizational
environments.

George Terry defines decision-making “as the selection of one behavior alternative from two or
more possible alternatives.”
In the words of D. E. McFarland:

“A decision is an act of choice wherein an executive form a conclusion about what must be done
in a given situation. A decision represents behavior chosen from a number of alternatives.”

The definition of decision-making has three different but inter-related implications.

II. QUANTITATIVE TECHNIQUES IN DECISION MAKING

Decision making is crucial for survival of business. Businesses have to make decision
considering the limited amount of information. Decision making problems are divided into two
types deterministic and probabilistic.

Deterministic model of problem solving depends on the relationship between

uncontrollable factors and continuing process of optimizing system performance. A model is
developed in under assumption related to existing business condition. If the variables under
assumption do not truly reflect the current business conditions, the model developed also will
not reflect the reality.

Mathematical optimization utilizes mathematical equation to determine the business

decision. The business decision derive is in a numerical form.

A business model for decision making is constructed by analyst based on inputs of a

decision maker. A business model is developed over a period of time using a progressive
approach method.

Technique # 1. Mathematical Programming:

Besides the calculus, there are other management science techniques which can be
employed to resolve a variety of decision problems. One such technique is Mathematical
Programming which is useful whenever several factors constrain the choice of strategies.
Consider the inventory problem. If the objective is simply to minimize total cost, there are no
constraints which limit our choice of strategies.

If there are constraints, they might limit either the space in which inventory can be placed, the
funds which can be spent on inventory, or the maximum number of orders that can be placed by
the purchasing department.
This being the case, it would have become a problem in constrained minimization and
mathematical programming techniques could be used to find a solution. The constraints create
the environment within which decision makers strive to maximize or minimize the objectives to
be achieved.

This is the essence of mathematical programming: Constrained maximization or minimization. It

becomes an intuitively appealing framework for the analysis of many types of business
problems. The difficult task, however, is shouldered by the model builder, who must abstract
from the environment those important elements that are to be incorporated in the mathematical
model. Linear programming techniques such as Simplex method, graphical method etc., make
the mathematical models to solve them.

Technique # 2. Cost Analysis (Break-Even Analysis):

Managers want to make money. The objective of the break-even analysis is to decide
the optimum break-even point, that is, where profits will be highest. In making decisions,
managers must pay a great deal of attention to the profit opportunities of alternative courses of
action. This obviously requires that the cost implications of those alternatives are assessed. An
important aspect of such cost analysis is that made between fixed and variable costs.

A cost can be classified as being fixed or variable in relation to changes in the level of activity
within a given period. (In the long run, of course, all costs are variable). Fixed costs are those
which remain fixed irrespective of the volume of production or sales. For example, a managing
director’s salary will not vary (change) with the volume of goods produced during any year.
Road tax payable for a car will not vary with its annual mileage covered. Insurance premiums,
rent charges, R&D costs are a few other typical examples of fixed costs.

Variable costs vary or change in response to changes in, say, volume of production or sales or
any other similar activity. Sales commissions in relation to sales levels, petrol costs in relation to
miles travelled and labour, costs in relation to hours worked are obvious examples.

Mixed costs are of hybrid nature, being partly fixed and partly variable. An example is found in
telephone charges – the rental element is a fixed cost, whereas charges for calls made are a
variable cost. Separating fixed and variable costs.
The total cost at any level of operations is the sum of a fixed cost component and a variable
cost component. The importance of separating variable costs from fixed costs stems from the
different behaviour patterns of each, which have a significant bearing on their control. Variable
Costs must be controlled in relation to the level of activity, whilst fixed costs must be controlled
in relation to time.

From a decision-making point of view, it is also important to know whether or not a particular
cost will vary as a result of a given decision. By adding graphically variable cost to the fixed cost
for different levels of activity (e.g. number of goods produced), a total cost curve can be drawn.

Technique # 3. Cost-Benefit Analysis:

Cost-benefit analysis is a mathematical technique for decision-making. It is a quantitative

technique used to evaluate the economic costs and the social benefits associated with a
particular course of action. In this technique, an effort is made to identify all costs and benefits,
not only those that may be expressed in rupees, but also the less easily calculated effects of a
given decision.

In general, this technique (which is fairly complicated) is advocated for use in decisions on
public projects, in which social costs and social benefits as well as actual out-of-pocket costs
should be taken into account. What counts as a benefit or loss to one part of the economy—to
one or more persons or groups- does not necessarily count as a benefit or loss to the economy
as a whole.

And in cost-benefit analysis we are concerned with the economy as a whole, with the welfare of
a defined society and not any smaller part of it. But cost-benefit analysis may also be applicable
to a single company, for in many cases, it is advisable to place a value on costs and benefits
that are not ordinarily expressed in rupees.

Somewhat similar to cost-benefit analysis is the cost-effectiveness analysis, which is analysis to

determine the least expensive way of reaching an objective or of obtaining the greatest possible
value from a given expenditure.

Technique # 4. Linear Programming:

 Linear programming is a quantitative technique used to determine the optimal mix of
limited resources for maximizing profits or minimizing costs. Linear programming is an extension
of break-even analysis that is very useful in analyzing complex problems. Linear programming
involves the solution of linear equations and is appropriate when the manager must allocate
scarce resources to competing projects.

Technique # 5. Capital Budgeting:

A manager relies heavily on linear programming when he allocates resources to

competing projects. Similarly, Capital budgeting provides a set of techniques a manager can
use to evaluate the relative attractiveness of various projects in which a lump payment is made
to generate a stream of earnings over a future period.

Examples of capita! budgeting projects include an investment in a new machine that will
increase future profits by reducing costs, an investment of a sum of money into an advertising
campaign to increase future sales (and profits) etc.

In essence, capital budgeting techniques provide management with a useful method for
analyzing the profitability of potential investments that have dissimilar earnings characteristics.
Without these techniques, it would be nearly impossible to weigh the advantages of dissimilar
investments.

Technique # 6. Inventory Management:

In quest to make money, a manager should employ his resources as efficiently as

possible. Inventory management involves determining and controlling the amount of raw
material an organization should keep in stock to operate effectively and efficiently.

Efficient management of inventory requires balancing several conflicting goals. The first goal is
10 Keep inventories as small as possible to minimize the amount of warehouse space and the
amount of money tied up in inventories.

This goal is in conflict with the need to fill all customer requirements, to optimize the number of
orders placed, and to take advantage of the economies of long production runs and quantity
discounts. To solve inventory problems, the manager can use the economic order quantity
(EOQ) model. This model can be expressed as a mathematical formula. The solution of EOQ
formula tells the manager how many items he should purchase, and how often.

Technique # 7. Expected Value:

To understand expected value model, it is important to comprehend the concept of

probability which refers to the likelihood that an event will happen. Mathematically, probability is
expressed as a fraction or percentage.

For example, there is a 30% (or 0.3) probability that it will rain tomorrow. Probabilities may be
established empirically, by observing some phenomenon over time. When several courses of
action are available and the outcome of each is uncertain, the decision maker can use
probabilities to select his final choice.

Technique # 8. Decision Tree:

Another increasingly useful tool for management decision-makers is the so-called

decision tree. This is basically a conceptual map of possible decisions and outcomes in a
particular situation. It is useful in cases where a manager is required to make a number of
sequential decisions i.e., where earlier decisions will affect later ones.

Technique # 9. Simulation:

Simulation techniques are especially applicable to what if problems, in which a manager

or technician wants to know, If we do this, what will happen. Simulation can, of course, be
conducted by the manipulation of physical models. For example, one might have a physical
model of a machine and actually keep on increasing its speed to determine at what point it
would begin to jam, fly apart or walk across the floor.

With no loss, one may, instead, use a mathematical model in which each of the terms
represents one of the variables, and observe the effect on the others when different values are
given to one or more of the terms. With the help of a computer, it is possible to examine what
will happen in an enormous number of cases-without spending a prohibitive amount of time.

Because large electronic computers have become easily accessible in recent years,
management can simulate complex situations in order to determine the best course of action.
Simulation is the process of building, testing and operating models of real-world phenomena
through the use of mathematical relationships that exist among critical factors.

This technique is useful for solving complex problems that cannot be readily solved by other
techniques. A simulation model can be deterministic if the manager knows exactly the value of
the factors he employs in the equations.

However, simulation is essentially probabilistic, since the manager typically must estimate the
future values of these factors. Simulation is very helpful in engineering and design problems,
where the medium may be either the mathematical model or a diagram on a screen (VDU)
connected to the computer. In the latter case, the engineer-designer can modify the design by
using a light pen. The technique is equally applicable to management decision-making.

It is obviously much cheaper, safer and easier to experiment with a mathematical model or
diagrammatic simulator than to experiment with real machines or even physical models of
machines. In some cases, however the variables that one manipulates are not exact quantities
but probabilities. Then what are known as Monte Carlo techniques must be used. These make it
possible to stretch as far as possible such few actual data as are available to begin with.

Technique # 10. Queuing or Waiting Line Theory:

Queuing theory is an O.R. technique which aids the manager in making decisions
involving the establishment of service facilities to meet irregular demands. Cost problems arise
when there are more service facilities available than are needed, or when too few facilities are
available and consequently, long waiting lines form.

For example, in a battery of machines, breakdowns will occur randomly, and whenever the
maintenance service falls below that demanded by the breakdowns, a waiting line of unrepaired
machines forms. This idle capacity is a cost that has to be balanced against the costs of
keeping maintenance services available.

Queuing theory is applied to any situation producing a need to balance the cost of increasing
available service against the cost of letting units wait. To arrive at the best number of service
facilities, the manager and the O.R. team must first determine (in the example above) the
breakdown rate and the time required to service each machine.
These data can then be used to construct a mathematical model of the problem, which can
become extremely complex. Simulation methods are widely used to solve waiting line problems.
Simulation is a systematic, trial and error procedure for solving waiting line & problems that are
too complex for easy mathematical analysis.

Reasonably good solutions may often be obtained by simulating important elements of the
problem. A widely used method of simulating business problems in which events occur with
assigned or computed probabilities is known as the Monte Carlo Method. This method utilizes
the mathematics of probability, and is often run on the computer.

Technique # 11. Game Theory:

Game theory is a technique of operations research. This provides a basis for

determining, under specified conditions, the particular strategy that will result in maximum gain
or minimum loss, no matter what opponents do or do not do. (An opponent would be the enemy
general in military application, or a competitor in a business situation etc.)

The simplest application of the game theory is the two-person, zero-sum game, in which there
are only two players and one player can gain only at the expense of the other. These two
conditions are generally fulfilled when two armies are opposing each other. In business they are
fulfilled only in special cases.

In real life, however, there are more than two competitors and the demand for most products is
not stable or fixed. If all competitors cut prices, the market for all may be increased and possibly
all may gain. Or, if the market remains the same, all may lose. Therefore, the losses of one do
not necessarily equal the gains of another.

Game Models:

The next quantitative decision-making model consists of game models or competitive strategies.
These models are derived from game theory which provides many useful insights into situations
involving elements of competition.

Decision situations are of a game nature when a rational opponent (e.g., a competitor in the
market) is involved, so that resulting effects are dependent on the specific strategies selected by
the decision maker and his opponent. This assumes that the opponent will carefully consider
what the decision maker may do before he selects his own strategy.

Technique # 12. Information Theory:

A central element in all decision making is the process of obtaining, using and
disseminating information. Information theory is a rigorous mathematical effort to solve
problems in communication engineering. Since information theory deals with the flow of
information and communication net-works, it has important implications for organization design
and for man-machine relationships.

Information theory provides a means of measuring the information content of both symbolic and
verbal languages and relating the characteristics of an efficient communication system to the
information content of messages transmitted. This body of theory has been of great use in the
design of communication systems and computers.

Technique # 13. Preference Theory/Utility Theory:

One of the interesting and practical supplements of modern decision theory is (the work
that has been done and) the techniques developed to supplement statistical probabilities with
analysis of individual preferences in the assumption or avoidance of risk. While referred to here
as preference theory, it is more classically denoted Utility theory. It might seem reasonable that
if we had a 60% chance of a decision being the right one, we would take it.

But this is not necessarily true, since the risk of being wrong is 40% and a manager might not
wish to take this risk, particularly if the penalty for being wrong is severe, whether in terms of
monetary losses, reputation or job security. If we doubt this, we might ask ourselves whether we
would risk, say Rs. 40,000 on the 60% chance that we might make Rs. 100,000.

We might readily risk Rs. 4 on a chance of making Rs. 10, and gamblers have been known to
risk much more on a lesser chance of success. Therefore, in order to give probabilities practical
meaning in decision making, we need better understanding of the individual decision maker’s
aversion to, or acceptance of risk. This varies not only with people but also with the size of the
risk, with the level of managers in an organization and according to whether the funds involved
are personal or belong to a company.
Higher level managers are accustomed to taking larger risks than lower-level managers. The
same top manager who may take a decision involving risks of millions of rupees for a company
would not like to do that with his own personal fortune. Moreover, the same manager willing to
opt for a 75% risk in one case might not be willing to, in another.

For example, he may go for a large advertising program where the chances of success are
70%, but might not decide in favour of an investment in plant and machinery unless the
probabilities for success were higher. In other words, attitudes toward risk vary with events, as
well as with people and positions.

Most of us are gamblers when small stakes are involved, but soon take on the role of risk
averters when the stakes rise. Many managers are risk averters and thereby miss opportunities.

Technique # 14. Heuristic Programming:

Heuristic programming, sometimes called heuristic problem solving, is an approach to

decision making that has gained increasingly wide usage in recent years. It is in fact a branch of
simulation model analysis. It is applied to problems in such areas as assembly line balancing,
plant layout, job shop scheduling, warehouse location and resource allocation. A heuristic is any
device or procedure used to reduce problem-solving effort. A rule-of-thumb is a commonly used
heuristic.

For example, the rule that “when there are only ten parts in the bin, reorder the part” or “do not
drink liquor and drive a car”, are examples of heuristics. Much business behaviour and much in
everyday life is guided by this kind of rule. When heuristics are combined to solve a problem, a
heuristic program is formed. Complex programs require computers for their solution. Heuristic
programs are used wherever the problem is too large or too complex to solve by mathematical
or statistical techniques.

It is also used to deal with ill-structured problems that cannot be stated in mathematical terms,
so that quantitative techniques (such as O.R.) are not suitable for such problems. The chief
inputs in heuristic programming are subjective, based on the managers past experience, the
pooling of knowledge and judgments of colleagues, the use of judgment, intuition, creativity,
learning processes and other qualitative variables.
The decision maker immerses himself in the total problem, and searches by means of trial and
error for a satisfactory solution in a reasonable time and at a reasonable cost, rather than
striving for an optimal solution at all costs.

Technique # 15. Decision Theory:

Decision Theory may be defined as a set of general concepts and techniques that assist
a decision maker in choosing among alternatives.

Decision theory problems are commonly cast in a standard framework, termed a decision
matrix which consists of the following components:

(a) Strategies or alternatives (S), available to the decision maker. For example, make and buy
would be two strategies in a make-or-buy decision problem. Strategies are within the control of
the decision maker.

(b) States of nature (N), which are characteristics of the environment and are beyond the control
of the decision maker. The term derives from the Weather, where we might observe, say, three
states of nature: sunshine, rain or snow.

In business decisions, states of nature might be various levels of demand for a product, the
number of competitors, governmental actions etc.

(c) Predictions of likelihood (Pr) or the probability associated with the occurrence of each state
of nature. If a particular state of nature is sure to occur (P r = 1.0), the decision situation is
termed one of certainty.

If the decision maker can assign probability of occurrence to one or more states of nature, with
no one state given a value of 1.0, it is termed a risk situation.

Finally, if the decision maker has no idea of the probabilities of occurrence of any state of
nature, the situation is defined as decision making under uncertainty.

Thus, in the decision matrix above, there would be an entry for probability if the situation is one
of certainty or risk and no entry if it is one of uncertainty.
(d) Pay offs or outcomes (O), which represent the value associated with each combination of
strategy and state of nature. The value may be stated in terms of utility, cost, profit, satisfaction
etc.

Solving a decision theory problem obviously requires some choice to be made from among the
alternatives, and thus some rule or decision criterion must be selected for this purpose. For
example, in certainty situations, the decision criterion is to select the single strategy with the
highest pay off. Since only one state of nature is relevant, this entails a simple scanning of the
payoff column under the certain N and picking the best one.

Technique # 16. Cost Effectiveness Analysis:

Cost effectiveness analysis is a decision-making methodology that ultimately leads to a

comparison of alternatives in terms of their costs and effectiveness in attaining some specific
objective.

It differs from conventional economic analysis in that it attempts to devise a quantitative criterion
that can simultaneously measure both the quantitative and qualitative elements of a decision
problem.

Because its methodology permits analysis of alternatives with widely ranging physical and
operational characteristics, it has been applied in situations where a general objective can be
achieved in many ways.

III. IMPORTANCE OF DECISION MAKING

Management is essentially a bundle of decision-making process. The managers of an

enterprise are responsible for making decisions and ascertaining that the decisions made are
carried out in accordance with defined objectives or goals.

Decision-making plays a vital role in management. Decision-making is perhaps the most

important component of a manager’s activities. It plays the most important role in the planning
process. When the managers plan, they decide on many matters as what goals their
organization will pursue, what resources they will use, and who will perform each required task.

When plans go wrong or out of track, the managers have to decide what to do to correct the
deviation.
In fact, the whole planning process involves the managers constantly in a series of decision-
making situations. The quality of managerial decisions largely affects the effectiveness of the
plans made by them. In organising process, the manager is to decide upon the structure,
division of work, nature of responsibility and relationships, the procedure of establishing such
responsibility and relationship and so on.

In co-ordination, decision-making is essential for providing unity of action. In control, it will have
to decide how the standard is to be laid down, how the deviations from the standard are to be
rectified, how the principles are to be established how instructions are to be issued, and so on.

The ability to make good decisions is the key to successful managerial performance. The
managers of most profit-seeking firms are always required to take a wide range of important
decision in the areas of pricing, product choice, cost control, advertising, capital investments,
dividend policy, personnel matters, etc. Similarly, the managers of non-profit seeking concerns
and public enterprises also face the challenge of taking vital decisions on many important
matters.

Decision-making is also a criterion to determine whether a person is in management or not. If he

participates in decision-making, he is regarded as belonging to management staff. In the words
of George Terry: “If there is one universal mark of a manager, it is decision-making.”

According to P. F. Drucker:

“Whatever a manager does, he does through making decisions.”

In any business, whether large or small, the conditions are never static, they are perceptively
dynamic. The old order is always yielding place to new either in personnel or in unforeseen
contingencies. Changes in conditions are the usual rule. Such a situation calls for actions that
involve decision-making.

So, decision-making is deeply related with management functions and both are bound up
together inseparably. When a manager plans or organizes, orders or advises, approves or
disapproves anything, he will have to move with the process of decision-making. In all
managerial functions, decision-making is an indispensable accompaniment.
 IV. PRINCIPLES OF DECISION MAKING

Effective decision involves two important aspects—the purpose for which it is intended,
and the environmental situation in which it is taken. Even the best and correct decision may
become ineffective if these aspects are ignored; because in decision-making there are so many
inside and outside chains of unavoidable reactions.

These principles are stated as follows:

1. Subject-matter of Decision-making:

Decisional matters or problems may be divided into groups consisting of programmed

and non-programmed problems. Programmed problems, being of routine nature, repetitive and
well-founded, are easily definable and, as such, require simple and easy solution. Decision
arrived in such programmed problems has, thus, a continuing effect. But in non-programmed
problems, there is no continuing effect because they are non-repetitive, non-routine, and novel.
Every event in such problems requires individual attention and analysis and its decision is to be
arrived at according to its special features and circumstances.

2. Organizational Structure:

The organizational structure, having an important bearing on decision-making, should be

readily understood. If the organizational structure is rigid and highly centralized, decision-
making authority will remain confined to the top management level. This may result in delayed
and confused decision and create suspicion among the employees.

On the contrary, if the organizational structure provides scope for adequate delegation and
decentralization of authority, decision-making will be flexible and the decision-making authority
will be close to the operating centers. In such a situation, decision-making will be prompt and
expected to be more effective and acceptable.

3. Analysis of the Objectives and Policies:

 Proper analysis of the objectives and policies is needed for decision-making. The clear
definition of objectives and policies is the basis that guides the direction of decision-making.
Without this basis, decision-making will be aimless and unproductive.

4. Analytical Study of the Alternatives:

For decision-making, analytical study of all possible alternatives of a problem with their
merits and demerits is essential. This is necessary to make out a correct selection of decision
from among the alternatives.

5. Proper Communication System:

Effective decision-making demands a machinery for proper communication of

information to all responsibility centers in the organization. Unless this structure is built up,
ignorance of decision or ill-informed decision will result in misunderstanding and loose co-
ordination.

6. Sufficient Time:

Effective decision-making requires sufficient time. It is a matter of common experience

that it is usually helpful to think over various ideas and possibilities of a problem for the purpose
of identifying and evaluating it properly. But in no case a decision can be delayed for an
indefinite period, rather it should be completed well in advance of the scheduled dates.

7. Study of the Impact of a Decision:

Decision is intended to be carried out for the realization of the objectives of the
organization. A decision in any particular area may react adversely in other areas of the
organization. As all business activities are inter-related and require co-ordination, it is necessary
that a study and analysis of the impact of any decision should precede its application.

8. Participation of the Decision-maker:

The decision-maker should not only be an observer while others will perform as per his
decision. He should also participate in completing the work for which decision was taken by him.
This experience will help him in decision-making in future. The principle of participation in work
of the decision-maker will enable him to understand whether the decision taken is practical and
also guide him in forthcoming decisional matters.

9. Flexibility of Mind:

This is essential in decision-making, because decisions cannot satisfy everybody. Rigid

mental set-up of the decision-maker may upset the decisions. The flexible mental disposition of
the decision-maker enables him to change the decision and win over the co-operation of all the
diverse groups.

10. Consideration of the Chain of Actions:

There is a chain relationship in all the activities of any organization. Different activities
are tied up in a chain sequence. Any decision to change a particular work brings change in
other related works also. Similarly, decision-making also proceeds following the chain of action
in different activities. Therefore, before taking a decision one should consider the chain
relationship among different activities.

REFERENCES

https://www.yourarticlelibrary.com/management/decision-making-management/decision-
making-definition-importance-and-principles-management/70038

https://www.managementstudyguide.com/what-is-decision-making.htm

https://www.businessmanagementideas.com/management/functions/quantitative-techniques-in-
decision-making-management/10037