The Capital Budgeting Decision$-$Making Process

Senior managers are paid to make tough decisions. Much rides on the outcome of those decisions, and executives are judged on their overall success rate. It$$s impossible to eliminate risk from strategic decision making, of course. But we believe that it is possible for executives, and companies, to significantly improve their chances of success by making one straightforward $($albeit not simple$)$ change: expanding their tool kit of decision support tools and understanding which tools work best for which decisions.

Most companies over rely on basic tools like discounted cash flow analysis or very simple quantitative scenario testing, even when they$$re facing highly complex, uncertain contexts. The conventional tools we learn in business school are terrific when you$$re working in a stable environment, with a business model you understand and access to sound information. They$$re far less useful if you$$re on unfamiliar terrain$$if you$$re in a fast$-$changing industry, launching a new kind of product, or shifting to a new business model. That$$s because conventional tools assume that decision makers have access to remarkably complete and reliable information. Yet most business leaders acknowledges that more and more decisions involve judgments that must be made with incomplete and uncertain information.

The problem managers face is not a lack of appropriate tools. A wide variety of tools, including case$-$based decision analysis, qualitative scenario analysis, and information markets, can be used for decisions made under high degrees of uncertainty.

But the sheer variety can be overwhelming without clear guidance about when to use one tool or combination of tools over another. Absent such guidance, decision makers will continue to rely solely on the tools they know best in an honest but misguided attempt to impose logic and structure on their make$-$or$-$break decisions.

The attached article, Chapter $11$ Case $-$ Deciding How to Decide, provides a tool kit for the capital budgeting decision$-$making process within the context of high$-$risk strategic bets. In the first half of the article, the authors describe a model for matching the decision$-$making tool to the decision at hand, on the basis of three factors: $(1)$ How well you understand the variables that will determine success; $(2)$ How well you can predict the range of possible outcomes; and $(3)$ How centralized the relevant information is$.$ In the second half of the article, the authors explore some of the most common complications: $(1)$ Most executives underestimate the uncertainty they face; $(2)$ Organizational protocols can hinder decision making; and $(3)$ Managers have little understanding of when it$$s ideal to use several different tools to analyze a decision, or when it makes sense to delay a decision until they can frame it better.

After reading this article, answer the following six case questions $(15$ points $=2\mathrm{.}5$ points$/$question$)$ using ONLY information $($i$.$e$.,$ this means the exact definitions$)$ found within the article: $[$ Justify all of your responses $]$

Why is it important to Develop a Decision Profile? What are the key questions associated with this process and why are they important?

Why is it important to Choose the Right Tools for decision$-$making? What are the $5$ situational contexts and why they are important?

What $3$ questions do executives need to answer when choosing a decision support tool for major investments?

What are the five Complicating Factors that often occur when major decisions are being made?

What can you start doing tomorrow to become a better business decision$-$maker?

Define the following Decision Support Tools:

Conventional Capital Budgeting Tools

Quantitative Multiple Scenario Tools

Qualitative Scenario Analysis

Case$-$based Decision Analysis

Information Aggregation Tools