#15 Decide strategically or randomly?
In the new episode "Hope is not a strategy" in Strategy Talk #15 "Strategic decision-making or chance principle?", strategy consultant Christian Underwood and Professor Dr. Jürgen Weigand, Deputy Dean of WHU (Otto Beisheim School of Management), talk about strategic decision-making in theory and business practice.
Every day, people make 20,000 to 30,000 decisions. Some only have a short-term effect, such as having a coffee in the morning, while others last longer, such as moving in with your partner. But how exactly do you actually make a decision? And when is it a tactical, operational decision and when is it strategic?
In theory, decision-making according to the rationality principle is not that difficult. But what does it look like in professional practice? This is where cognitive distortions, noise, personal value sets and blind reliance on personal experience come into play.
In this episode, Jürgen and Christian tackle all the big questions surrounding the topic of strategic decision-making. Can humans make purely rational decisions at all or do we need a machine for this? Which influencing factors play a role in the decision-making process and do humans ever have all the information they need to make decisions? You can find out all this and more in the new episode Hope is not a strategy #15 "Strategic decision-making or chance?"
Detailed episode description:
How many decisions are made every day
Humans make between 20,000 and 30,000 decisions every day. 90 to 95% of these decisions are automated. These include, for example, deciding whether to actually get up or what to have for breakfast. Routines are created in the subconscious that have been practiced for a long time, but in essence they are still decisions that are made. In addition to these automated decisions, there are also strategic decisions that have to be made.
Definition of the strategic decision
Strategy and strategic decisions are predominantly used in the military sector. The term differs from the term tactical or operational decision. Operational decisions can be reversed at short notice. For example, you can still decide whether or not to drink a coffee when the coffee machine is already running or the hot cup is in front of you. Strategic decisions, on the other hand, cannot be reversed in the short term.
Strategic decisions have consequences that take effect over a certain period of time, and if the consequences are not right, they cannot simply be made obsolete.
Example: A man and a woman decide to move in together. They sign a tenancy agreement, but after a few weeks they realize that the relationship has no future. However, they can no longer get out of the tenancy agreement without further ado. There are notice periods that must be observed - whether you want to or not. This means that you need to consider in advance how stable the relationship is and whether it will hold up. Does it make sense to move in together at this point and sign a tenancy agreement? Even if the consequences in this example only last three months, they are still longer-term consequences that cannot be immediately reversed.
Theoretical decisions according to the rationality principle
Decision-makers in companies will never have all the relevant information they need to make decisions, so they can never be aware of all the consequences in advance.
Economists work according to the principle of rationality. This means that decision-makers have all the relevant information at all times and are able to identify different options, compare them with each other and select the best option. In theory, this proves to be a very useful principle, allowing certain conclusions to be drawn that can then be compared and measured against reality.
In reality, however, decisions are rarely made rationally and all the information relevant to the decision is never available.
Many choices make decision-making difficult
Normally, there is a rule of thumb: you have two to three options to choose from and decide on one. The more options there are to choose from, the more difficult it is for people to make a decision. Empirical studies show that people tend to be overwhelmed by more than three options, especially when buying consumer goods. It then becomes too complex and in many cases the excessive demands lead to the purchase decision being abandoned.
Experience shapes the decisions of tomorrow
Experiences from the past also shape and influence experiences and decisions today, which will have an impact on the future. Managers are often hired because they did a good job in a previous company and are expected to do the same in the new company. They then usually carry out this task.
Here, too, it should be noted that humans have developed certain routines in the course of evolution in order to survive. One routine is to extrapolate positive experiences from the past and carry them forward into the future. Humans generally think in a very linear way, even if the relationships in reality are not linear. Based on experience and the few observations that people have made themselves, they think that if they just add one point, it will work, but this is often not the case.
Updating particularly difficult in disruptive times
Particularly in disruptive times, as is currently the case, it is difficult to simply continue what has already been experienced. There are exponential processes that are not linear.
One example is the coronavirus pandemic: humans have learned that events develop more quickly with more infections. Exponential growth is taking place here. This is where the heuristic for simplifying decision-making, namely linear thinking, reaches its limits and leads to errors.
So if people do not recognize that something is exponential, they are more likely to make the wrong decision. This is called cognitive bias.
Thinking that the future will be similar to today or the past is a great danger for strategic decision making
Basing the future on past experiences is a typical problem of how the brain selects information. People are by nature little egoists and like to hear themselves talk and also like their own decisions - especially, of course, if these were also successful. The brain then selects precisely this information instead of considering that the future may look very different from the past. The question here should actually be what deviations there are and what information is different. However, it is precisely this information that is often ignored and dismissed as a "random result", while we continue to follow the linear trend.
Personal values influence decision-making
Biases and value sets can also influence the decision-making process.
Example: There is a conscious value behind conscious decisions, such as only living vegan and no longer buying food packaged in plastic. This may be that someone wants to protect the environment or make a value contribution to ensuring that the earth will still be useful for people in the future. These personal values also influence the decision-making process. If there are various options to choose from and one option corresponds to an individual's value system, they will always prefer this decision, even if another option might be more economical or better.
Decisions towards sustainability at companies
The topic of sustainability is currently having a massive impact on the corporate world. Accordingly, other decisions are also being made here, for example about the product range.
Take food manufacturers, for example:
A sausage manufacturer decides to offer vegetarian product ranges under the same brand. This naturally has a high explosive force, which is also felt within the company. If meat is the company's DNA and a vegetarian product range is now added, then this is an issue that also has an external impact. Decisions are then no longer made solely on a factual or rational level.
Many human decisions are driven by emotions
Rationality is often equated with objectivity. But people are also emotional and many decisions are guided by human emotions, even if the decision-maker is not aware of this at the time.
Companies must be guided by what customers want. If customer preferences are changing in such a way that it can be economical to follow these preferences - why not pursue them?
To come back to the sausage example: A company like this naturally has both the production capacity and the skills to offer a variety of vegetarian products. So if the demand is high enough and the costs are covered and profits are made, then such a change makes a lot of sense.
New generation value set influences decision-making in family businesses
The personal value set of the new generation of owners influences the decision-making and ownership strategy in companies.
Take winegrowers, for example:
Many people currently want sustainably produced products.
Among the winegrowers, there are many family-run businesses that are now being managed by the third, fourth or fifth generation. They now deliberately say that they only produce small batches, but do so organically and sustainably. Again, there is a great demand for this and it is therefore the right approach. In principle, companies should develop an understanding of this.
Based on the business model, the business idea and the value system, companies should be able to adapt according to demand and then take this into their own hands and tackle it.
Value sets, biases and emotions have a significant influence on decisions.
Decisions and noise
In the current book "Noise" by Nobel Prize winner Daniel Kahneman, in addition to prejudices and value sets, noise is also described as a decision-making factor.
Christian and Jürgen are sitting in a recording studio, shielded from background noise.
Disturbing noises here would be everyday objects or the ringing telephone, for example.
If you are thinking about something or completing a plan and the phone rings, you could ignore it, but this is not usually done. Such disturbing noises are distracting and things that happen in such telephone conversations can also affect people emotionally. When the call is over, the emotion is not over and the noise remains. This is then carried over into the decision-making process. Noise is therefore something that distracts us from things that we actually want to focus on.
Studies show that people achieve completely different end results in their decisions in the same situations.
This is a combination of the noise and the cognitive distortions. You look at the same facts, you have the same database, but the brains select different information. The human brain, if there is a preconceived notion, even if the person tries to ignore it, will select the information that supports the preconceived notion. This is exacerbated the more external noise there is. There is an interdependence here between what happens externally, i.e. the interference, and what happens in the mind when information is perceived and processed.
Can humans make good decisions or do we need machines?
People can make good decisions, but whether they make the best possible decision is another question.
The rationality principle, which is used in economic theory, is an ideal state that is never achieved. The ideal state would be complete certainty, in which all information relevant to the decision is available and the quantitative consequences are known. As a rule, this is not the case in reality. You then have to look at what this means for you, how far away you are from it and what factors influence your decision-making behavior.
Support from external critics
In order to support the decision-making process in companies and to have a fresh perspective, you should seek external advice, present your own decision set and ask how the other person would decide. The process is particularly helpful when particularly critical people are asked who like to put their finger in the wound and doubt optimistic scenarios. This gives you a sounding board and allows you to define for yourself where you are and what the consequences of certain decisions you might make would be.
Peer review is used in an academic context, but this is more difficult in the corporate sector. Once a new strategy is in place, you can turn to consultants or other strategy experts.
Jürgen talks about an example in which he was commissioned by a large company. Two large management consultancies were in competition with each other, both of which had proposed solutions. The company management reviewed these and brought Jürgen on board as a sounding board. There was enough material to make a decision. In such a case, Jürgen puts these decision proposals through their paces with his economic and strategic expertise. Based on the results of the consultations and his view of the situation, the company management made a final decision. These intensive discussions with the entire Executive Board, in which every single detail is discussed again, are very important.
Openness, self-criticism and external perspectives as success factors
Openness and self-criticism is a key factor in successful decision-making. Everyone makes mistakes in their thinking that they cannot identify on their own. The more self-critical board members and decision-makers are, the more transparency you will find in the company. You find out what the conviction behind individual elements is or how the interpretation of the situation is thought - that helps and is very crucial.
Neutral institutions, such as consultancies or individual advisors, may ask completely different questions that you would not have thought of yourself in your own context, as you may be stuck in a rut. Even board members, even if they have a lot of experience (as already mentioned: even experience can be dangerous), are not exempt from this problem.
At the end of every decision-making phase, there should of course be a decision. Here you should try to integrate many perspectives and consider everything in a 360-degree view. In relation to the strategy process: this is the 360-degree view of the strategy - what was discussed, what decisions should be made and why the decisions should be made as they are on the table.
SHOWNOTES:
WHU - Otto Beisheim School of Management
WHU Strategic decision making programContact: Do you need help planning your strategy process? Please send an e-mail to christian@underwood.de.
Thank you for your interest and until the next episode...
...because HOPE IS NOT A STRATEGY.