Managerial Decision Making

J. Bridge, J. C. Dodds

• Publisher: Taylor & Francis
• Year: 2018
• eBook ISBN: 9781351200455
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

This book, originally published in 1975, is an attempt to bridge the gap between economic theory and business practice by relating the tools of economic analysis to the decision making process itself. It is written from a decision making systems analysis viewpoint. This approach enables the reader to perceive the integrative nature of the subject matter in relation to the functioning of the business enterprise. Although the unifying theme of 'decision making' is at the heart of the book, where necessary some of the theoretical underpinnings of traditional neo-classical theory of the firm are covered.

1 The Firm and Managerial Decisions

1-1 The Business Enterprise and the Nature of Management

When one reads of the business enterprise one normally thinks of a large company in which decisions are made by managers. The type of business unit usually discussed in management textbooks is the Joint Stock Company, possessing limited liability and financed by shareholders.

Large scale production has accompanied technological change and the raising of the necessary capital has been facilitated by the issuing of shares to the public at large. Sole traders, partnerships and family concerns are increasingly rare in the world of big business. The increasing presence of large companies during this century has probably contributed to the improvement in our living standards with the frequent innovations that are characteristic of our industrial system. J. K. Galbraith [43], however, while accepting the ability of the industrial system to create a large volume of output, feels that many of the so-called innovations are wasteful product modifications designed to boost sales and that the increased demand is created through advertising. Industrial growth may also be accompanied by pollution and the depletion of resources, but government economic policy is still in part directed towards growth in output as a means of increasing the welfare of the nation.

Whatever one's views may be about the merits or drawbacks of business enterprise as we know it, it is apparent that the management of large firms is a complex matter. In recent years the talents of economists, accountants, psychologists, sociologists, mathematicians and statisticians have been brought together in such areas as operational research, organisation theory, managerial economics, management science, management accounting and so on, with ‘General Systems Theory'as the ultimate in terms of the multidisciplinary approach. These subjects serve two aims: to improve our understanding of management and to teach managers methods of analysis which will make them more effective in their work.

Before we develop this further we must be more explicit about what a manager's work consists of. J. L. Massie [88] describes the functions of management as: decision making and policy formulation, planning and controlling, organising and staffing, communicating and directing. Decision making is singled out for special attention since it pervades most managerial activity. Indeed all the other functions that Massie describes involve decision at some stage or another. Decision is the act of consciously choosing from among alternative courses of action and while one must always relate any decision to the action that ensues, conceptually the two can be separated for purposes of analysis. It is our view that any analysis of managerial decision making, in particular the kind of analysis designed to improve decisions, can benefit enormously from the subject matter of economics. This is the theme which runs through this book.

1-2 General Systems Theory

Our understanding of organisations and their behaviour has been promoted through general systems theory as described by K. E. Boulding [20]. A system is any entity which consists of inter-related, interacting or interdependent parts. In engineering we encounter mechanical systems and in the natural sciences we encounter physical and biological systems. In the social sciences we are concerned with more complex systems like social organisations and national economies in which the relationships between the parts or subsystems are often numerous and difficult to identify.

In a subject like industrial management which is concerned not just with the disciplines of social science but also technical processes, it is important to understand how all the facets of the managerial function inter-relate. We look here briefly at general systems theory because it attempts to blend the ideas of the many disciplines which are relevant in a study of management.

The most important contribution, in our view, that general systems theory has to offer the subject of management is the emphasis on the total system. The reason for stressing this is that in a large organisation, managers often become obsessed with the subsystems for which they are responsible. The production manager makes decisions about the manufacturing part of a business's operations, the sales manager is concerned with sales, the personnel manager with acquiring and developing human resources and so on. There is a great danger in this kind of organisation of losing sight of the business as a total entity – how the decisions made in one part of the system interact with those made elsewhere and how these influence the direction in which the whole firm will move. To emphasise the sales function in its own right, for example, may result in a level of advertising expenditure and a price structure incompatible with the profitability of the enterprise.^* The growing complexity of military and space missile systems has been very significant for the study of all types of system. In military and space programmes it is vital to ensure that individual components or subsystems within a missile are reliable, particularly in their relationships with other components. All elements must function as an operating, integrated whole. Systems analysis^* in its strict sense involves breaking the system with which one is concerned down into increasingly smaller subsystems until one arrives at the basic components.

Figure 1.1 The basic parts of a system

Systems are usually represented by flow charts in which the input, the process and the output are represented (Figure 1.1). For example, a firm can be described as a system in which inputs of financial, human and physical resources are converted via a process (in fact a complex of managerial and technical processes) into outputs of goods and services, in order to achieve various objectives, e.g. profit.

In order to understand just how a firm achieves this conversion, systems analysis is necessary in which the components of the firm and their relationships are identified. However, quite a lot can be learned about a system by treating it as a ‘black box’, i.e. without probing into the process, or attempting to break the system down into its components. Instead of trying to discover how it works we can simply attempt to relate the input entering the black box to the output which leaves it. This type of approach, which relies on observation over time, helps one to make predictions about the probable behaviour of the system, even if we remain unsure of how it works.

Suppose for instance, we were to study the operation of a particular factory. Over time, the inputs of materials, labour and other resources would vary and the outputs of goods produced in that factory would respond to these variations. Although it would be impossible to deduce a precise relationship from these observations, it should at least be possible to predict in probabilistic terms, the output that would result from a given input.^* The production manager can up to a point regulate output by controlling input. It may therefore be that good management is not so much a question of understanding every little intracacy inside the ‘black box’, but good judgement of the timing and degree of corrective action. We shall return to the question of judgement later in the present chapter.

Figure 1.2 Input, output and management process

It is now time to look at the nature of management in systems terms. Decision making pervades all functions of management. Taking this a step further, it is reasonable to regard the management of an organisation as a problem solving apparatus, which produces decisions and subsequent action in response to the organisation's needs as represented in Figure 1.2. Systems analysis would reveal the management subsystems within the complex, such as sales management, production management and financial management, etc. Each of the latter being concerned with the solution of sales problems, production problems or financial problems by making appropriate decisions. How are organisational problems recognised? The prime source of information for management in recognising problems is feedback data. These are the data which arise from the measurement of the organisation's output in terms of profit, sales and other appropriate characteristics. Accounting statements, sales records and other documents are ways of communicating feedback data. The firm has a multitude of objectives expressed in terms of profit, sales, production, etc. (see Section 1-5) and comparison of actual performance as measured against the objectives or desired performance reveals organisational problems. For example, a sales revenue target of £50,000 for the year 197X might be set at the beginning of the year. At the end of nine months perhaps only £20,000 sales would have been realised with a forecast of a further £10,000 for the remaining three months. This gap between desired and actual (plus forecast) reveals a problem for management to tackle. Systems analysis might reveal that the sales manager is typically called upon to provide solutions to sales problems by making appropriate decisions. A systems analyst however would always look at the sales part of the organisation in relation to the firm as a whole and recognise that solutions might be found in some related subsystem within the organisation. Perhaps the shortfall in sales in this example was caused by poor quality control in production, rather than any deficiency in the pricing and advertising activities of the sales department.

When solutions to a problem have been found they are implemented by acting on the input of the firm, and here it must be borne in mind that management can only partially control the firm's output, not only because of the complexity of inter-relationships within the system, but also on account of the multitude of external or environmental factors which influence the results that a firm produces. This means that when decisions are made, their outcomes are not known precisely (see Chapter 2).

Figure 1.3 Control loop

We can show the sequence of organisational output, feedback, comparison, problem recognition, problem solving and acting on organisational input in a flow diagram drawn as a control loop (Figure 1.3). We use the expression ‘control loop’ because the control or regulation of the organisation within desired limits is achieved by the sequence of activities which form this loop. Readers acquainted with simple mechanical systems such as the thermostat will find Figure 1.3 very familiar. The principle difference is that simple mechanical systems have a closed control loop with no management process necessary for regulation. In the case of the thermostat, measurement of the actual temperature and comparison with the desired, if different, automatically adjusts input (the fuel supply) to control output (temperature).

Before probing into the black boxes of the firm and its management so as to appreciate the nature and structure of decision making, it is time to return to the claim we made at the end of the first section, namely that economics has a substantial contribution to make in the context of managerial decision making. This may not be readily apparent, for as we are about to explain, economics has traditionally failed to treat the firm other than as a black box.

1-3 The Theory of the Firm

Economics is customarily divided into macroeconomics and microeconomics and the ‘firm’ is decisively involved in both aspects. Macroeconomics is concerned with the functioning of the economy in broad aggregate levels, with the factors that determine the level of national income, inflation, employment, economic growth, foreign trade balance and so on, and in doing so recognises that the ‘firm’ plays an important part in determining these key variables. In economics the firm is seen as a unit which employs productive resources and transforms these into goods and services. An appreciation of macroeconomics is important to the business student not only because it allows him to see the part the firm plays in the economy but because it shows him the environment within which decision making takes place. It is beyond the scope of this book to cover macroeconomics in any detail and...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright Page
• Contents
• Acknowledgements
• Preface
• 1. The Firm and Managerial Decisions
• 2. Imperfections In Knowledge
• 3. Production Functions and Linear Programming
• 4. Cost Analysis
• 5. Demand Analysis
• 6. Market Structure
• 7. The Pricing Decision
• 8. The Investment Decision
• Bibliography
• Index