DECISION MAKING AND HEURISTICS IN BUSINESS

RELATIONSHIPS

REPORT
Submitted By

NANDHINI R (2213059)
MITHUN GANESH (2213057)

In partial fulfilment for the award of the degree of

POST GRADUATE DIPLOMA

IN MANAGEMENT
THIAGARAJAR SCHOOL OF MANAGEMENT MADURAI,
TAMILNADU-625005.
Introduction
In many everyday decisions, for example purchasing situations, economic actors often rely on

simple heuristics rather than on elaborate calculations (Hauser 2011). In the course of the last

decades, literature has identified many different types of heuristics that could be applied in

such simple decision situations, like the recognition heuristic (Gigerenzer and Goldstein 2011)

or the take-the-best heuristic (Gigerenzer and Goldstein 1996; Newell et al. 2003).

What Is Decision Making?

Decision making refers to making choices among alternative courses of action—which may

also include inaction. While it can be argued that management is decision making, half of the

decisions made by managers within organizations ultimately fail (Ireland & Miller, 2004; Nutt,

2002; Nutt, 1999). Therefore, increasing effectiveness in decision making is an important part

of maximizing your effectiveness at work.

Individual Decision Making

The process by which decision makers choose the decision parameters they will use to evaluate

decision alternatives usually involves cognitive biases constrained by past events and

individual cognitive styles. The decision-making process is the stage where all alternatives are

evaluated to produce a final choice. This process can be based on reasoning or it can be an

emotional process. It can be rational or irrational and can be based on explicit or tacit

assumptions. In the final step, actions need to be planned and decisions are implemented.

Group Decision Making

Group decisions free any single member from accountability for the group’s final choice, so

more extreme position can be taken. It’s also likely that people take on extreme positions

because they want to demonstrate how different they are from the outgroup.
Individual Vs Group Decision Making

Individual decision-making does not involve a group or even more than one person.

Individual decision-making is quick and generally cost-effective, because it does not require

gathering others and scheduling a meeting or multiple meetings or sending a single email. An

individual generally makes prompt decisions, while a group is dominated by various people,

making decision-making very time consuming. Moreover, assembling group members

consumes lots of time. Individuals do not escape responsibilities. They are accountable for their

acts and performance. In a group, it is not easy to hold any one person accountable for a wrong

decision. Individual decision-making saves time, money and energy as individuals usually

make prompt and logical decisions. There are also cons to individual decision-making. These

include: A group has the potential to collect more complete information, compared to an

individual, while making decisions. An individual uses his own intuition and views. A group

has many members, so its many views and many approaches result in better decision-making.

A group discovers the hidden talent and core competency of employees of an organization. An

individual will not take into consideration every member's interest, while a group will take into

account interest of all members of an organization. Group decision-making and teamwork

involve multiple individuals that analyse various issues and situations and consider how to

solve them. The overall effectiveness of group decision-making depends on many factors. For

example, time constraints or any underlying conflicts can impact the group decision-making

outcomes. That’s why, before problems occur, it’s vital to establish group decision-making

procedures and monitor them along with their implementation.

Techniques In Group Decision Making

1. Interacting Group

The most common form of group decision making takes place in interacting groups. Members

meet face to face and rely on both verbal and nonverbal interaction to communicate.

2. Brainstorming

Brainstorming overcomes the pressures for conformity that dampen creativity by encouraging

any and all alternatives while withholding criticism. (A. F. Osborn, 1963; McGlynn et al, 2004;

Litchfield, 2008). To encourage members “to think the unusual,” no criticism is allowed, even

of the most bizarre suggestions, and all ideas are recorded for later discussion and analysis.

Production blocking: When people are generating ideas in a group, many are talking at once,

which blocks the thought process and eventually impedes the sharing of ideas (Kerr and

Tindale, 2004).

3. The Nominal Group Technique

The nominal group technique restricts discussion or interpersonal communication during the

decision-making process, hence the term nominal. Group members are all physically present,

as in a traditional committee meeting, but they operate independently. A problem is presented

and then the group takes the following steps: Before any discussion takes place, each member

independently writes down idea son the problem. After this silent period, each member presents

one idea to the group. No discussion takes place until all ideas have been presented and

recorded. The group discusses the ideas for clarity and evaluates them. Each group member

silently and independently rank-orders the ideas. The idea with the highest aggregate ranking

determines the final decision. Advantage: Permits a group to meet formally but does not restrict

independent thinking, as does an interacting group. Research generally shows nominal groups

outperform brainstorming groups.

4. The Electronic Meeting

The Electronic Meeting blends the nominal group technique with sophisticated computer

technology (Baltes, Dickson, Sherman, Bauer, and LaGanke, 2002). Up to 50 people sit around

a horseshoe-shaped table, empty except for a series of networked laptops. Issues are presented

to them, and they type their responses into their computers. These individual but anonymous

comments, as well as aggregate votes, are displayed on a projection screen. This technique also

allows people to be brutally honest without penalty, and it’s fast because chitchat is eliminated.

What is Heuristics?

A heuristic is a word from the Greek meaning ‘to discover’. It is an approach to problem-

solving that takes one’s personal experience into account. Heuristics provide strategies to

scrutinize a limited number of signals and/or alternative choices in decision-making. Heuristics

diminish the work of retrieving and storing information in memory and of streamlining the

decision-making process by reducing the amount of integrated information necessary in

making the choice or passing judgement. However, whilst heuristics can speed up our problem-

solving and decision-making processes, they can introduce errors and bias judgements.

Factors Influencing the Use Of Heuristics

Empirical literature has shown that heuristics are not universally used: they are used only by a

fraction of subjects, and only in certain situations. For example, Newell et al. (2003) found that

roughly one third of subjects were actually using take-the best. Similarly, in the experiments

of Bro¨der (2000) and Bro¨der and Schiffer (2006), between 28 and 53 % of the subjects were

classified as using take-the-best. Other studies found even lower numbers, for example

Glo¨ckner and Bro¨der (2011) found that less than 10 % of their subjects used recognition, and

only about 15 % used take-the-best. Concerning the recognition heuristic, Pachur et al. (2008)

found that about half of their subjects used recognition in a strict sense (without incorporating
additional information). This limited extent of actual use of heuristics has led researchers to

study factors that could influence the application of heuristics. Gigerenzer and Goldstein (2011)

thus noted that decision makers seem to apply different decision strategies, but little is known

about the factors that influence their choice. One framework to explain the choice of different

approaches to decision making is the effort-accuracy framework by Payne et al. (1993).

According to this framework, a decision-making strategy is selected by considering the trade-

off between the cognitive effort needed to make a decision, and the quality of the decision,

since methods leading to better decisions typically also require higher effort. However, since

the fast and frugal heuristics we consider here are all characterized by very little cognitive

effort, this framework cannot be applied to the choice between these heuristics. Two types of

factors can be distinguished: factors that refer to individual characteristics of the decision

maker, and factors related to the decision problem or the environment. Research on individual

factors has indicated that intelligence moderates the choice of decision strategies such as

heuristics. Researchers also studied the impact of the Big Five personality characteristics on

the use of heuristics and found that persons high in neuroticism are more likely to use the

recognition heuristic. Furthermore, additional knowledge (beyond recognition) a decision

maker has about alternatives has some impact on choices (Pohl 2006), although its impact

seems to be limited (Hilbig et al. 2009). The type of environment in which a decision is made

has also an impact on the decision-making strategy (Bro¨der 2003). In particular, a high amount

of uncertainty present in the environment seems to increase reliance on heuristics like take-the-

best (Hogarth and Karelaia 2006; Newell et al. 2003). The choice of strategies also depends on

the availability of additional cues, their validity and the cost at which such information can be

obtained. If the validity of the primary cue is high, take-the best is more often used (Newell et

al. 2003), while higher validity of other cues reduces its usage (Newell and Fernandez 2006).

Some authors also report that the cost of additional information increases the use of heuristics
(Newell et al. 2003), while others report that choices can still be better explained by alternative

models even if information acquisition has high costs. Decision making styles and the use of

heuristic. Another important factor that influences the use of heuristics is time pressure. A

positive effect of time pressure on the use of the recognition heuristic was found by Pachur and

Hertwig (2006). Furthermore, Hilbig et al. (2012) found that time pressure increases reliance

on the recognition heuristic even when violating time constraints does not have a negative

impact on the decision maker. It thus seems that the mere presence of time pressure has a strong

effect on the choice of a decision strategy. Time pressure was also used as an experimental

factor to induce heuristic choice behavior in consumer decision experiments. Since the

presence or absence of time pressure is likely to induce different levels of use of heuristics for

the same decision problem, it was taken as an experimental factor in the subsequent empirical

study to trigger the use of heuristics in decision making.

Decision Making Styles

In contrast to factors related to the choice problem, research on individual factors that might

trigger the use of heuristics is so far limited. However, decision making behaviour in general

has been studied more intensively, and different classifications of decision-making styles can

be found in the literature. Many of them refer to specific settings like shopping situations

(Sproles and Kendall 1986). For this paper, we use a more general classification of decision-

making styles developed by Scott and Bruce (1995). They distinguish five dimensions of a

decision-making style:

1.Rational: This style is characterized by making decisions in a logical and systematic way, or

considering various options in terms of a specific goal.

2. Intuitive: This style is characterized by relying on intuition and making decisions that ‘‘feel

right’’.
3.Dependent: This style represents decision makers who tend to consult others before making

a decision, and who rely on the assistance and support of others.

4. Avoiding: This style is characterized as putting off decisions or making decisions only at the

last minute.

5.Spontaneous: This style refers to making quick and impulsive decisions. These five styles

represent different dimensions of a decision-making process. The instrument of Scott and

Bruce (1995) does not classify decision makers uniquely into one style, but assigns each

decision maker a score in each dimension indicating how much that decision maker’s

individual style resembles each of the five prototypical styles. The instrument developed by

Scott and Bruce (1995) has been extensively used in studies on decision making behavior.

Among them, and in direct relation with the present paper, Crossley and Highhouse (2005)

used a variant of the instrument to classify different approaches applicants use in searching for

jobs. Curseu and Schruijer (2012) studied the relationship of decision making styles to actual

decision performance and found that subjects scoring high in the rational dimension were less

affected by decision biases, and subjects scoring high on the avoiding style were more

indecisive. Similarly, de Bruin et al. (2007) found a positive relationship between rational

decision making style and decision competence. Gettinger et al. (2013) used the instrument to

classify users of a decision support system and their preferences for different graphical

information representations.

Common Biases In Judgement

The Confirmation Bias

The confirmation bias is the tendency to listen more often to information that confirms our

existing beliefs. Through this bias, people tend to favor information that reinforces the things

they already think or believe.

The Hindsight Bias

The hindsight bias is a common cognitive bias that involves the tendency to see events, even

random ones, as more predictable than they are. It's also commonly referred to as the "I knew

it all along" phenomenon.

The Anchoring Bias

The anchoring bias is the tendency to be overly influenced by the first piece of information

that we hear. Some examples of how this works: The first number voiced during a price

negotiation typically becomes the anchoring point from which all further negotiations are

based.

Misinformation Effect

The misinformation effect is the tendency for information received after an event to interfere

with one's memory of the original happenings. Research has shown that the introduction of

even relatively subtle new information later on can have a dramatic effect on how people

remember events they have seen or experienced.

Actor-Observer Bias

According to the actor-observer bias, people explain their own behavior with situational

causes and other people's behavior with internal causes. False Consensus Effect: The false

consensus effect is the tendency people have to overestimate how much other people agree

with their own beliefs, behaviors, attitudes, and values.

The Halo Effect

The halo effect is the tendency for an initial impression of a person to influence what we

think of them overall. Also known as the "physical attractiveness stereotype" or the "what is

beautiful is 'good' principle" we are either influenced by or use the halo to influence others

almost every day.

The Self-Serving Bias

The self-serving bias is a tendency for people tend to give themselves credit for successes but

lay the blame for failures on outside causes.

The Availability Heuristic

The availability heuristic is the tendency to estimate the probability of something happening

based on how many examples readily come to mind.

The Optimism Bias

The optimism bias is a tendency to overestimate the likelihood that good things will happen

to us while underestimating the probability that negative events will impact our lives.

Heuristic Decision-Making

The understanding of organizational decision-making is largely built on the concept of

boundedly rational decision-makers, an idea originating from the work of the Carnegie School,

notably March and Simon (1958) and Cyert and March (1963). The central assumption of

bounded rationality is that decision-makers are constrained by their cognitive limitations and

pursue solutions that are satisfactory rather than objectively optimal (Cyert & March, 1963;
March & Simon, 1958). Indeed, the organizational sphere is too complex and uncertain to be

fully understood in every detail at the managerial level, who must, therefore, base their

decisions on simplified mental representations of their business environment (e.g., Simon,

1991; Gavetti & Levinthal, 2000). Building on the notion of bounded rationality, recent

research suggests that managers do not base their decisions on a careful assessment of all

available information in a given instance. Instead, they rely on heuristics that can reduce the

cognitive effort in decision-making by ignoring some of the possible information (Gigerenzer

& Gaissmaier, 2011). Specifically, heuristics are learned rules, both conscious and

unconscious, that individuals apply to their sense-making and decision-making processes in

place of deliberately thinking about and processing large amounts of information (e.g.,

Gigerenzer & Gaissmaier, 2011). Heuristics are especially useful in situations where decisions

are made in conditions of limited information, processing capability, and time (Newell &

Simon, 1972). Furthermore, it is argued that heuristics enable effective decision-making in

unfamiliar environments by providing direction and coherence (Bingham & Haleblian, 2012).

It is important to note, however, that this ability is dependent on prior managerial experience

of a particular situation (Maitland & Sammartino, 2015a). Recent research has also ascertained

this link by showing that firms develop heuristics that are idiosyncratic to their own operations

through process experience (Bingham & Eisenhardt, 2011), and that negative outcomes may

enhance the learning of heuristics (Bingham & Haleblian, 2012). Ultimately, past and

underlying experience is regarded as central to understanding how heuristic-based decision-

making functions.
After The Decision

After a decision is made, people experience a variety of reactions. In addition, present decisions

influence future decision making. Several of the outcomes that may result from a decision are

regret or satisfaction; both of which influence upcoming decisions.Regret, feelings of

disappointment or dissatisfaction with a choice made is one potential outcome of decision

making. Interestingly, regret may shape the decision making process. According to Abraham

and Sheeran (2003), anticipated regret is the belief that the decision will be result of inaction.

Anticipated regret may prompt behavior; that is, when a person indicates they will do

something, such as exercise, they may follow through with their intended decision, to avoid

regret. Once the decision is made, the impact of the decision, if regret is experienced, will

impact future decisions. People can often get consumed with examining the other options that

were available; the path not taken (Sagi & Friedland, 2007).Sagi and Friedland (2007)

theorized people feel regret in accordance with how the decision was made; regret may be

dependent on the number of options that were available during the decision making process;

and how varied the options were may impact how regret is experienced after the decision was

made. Through a series of experiments, Sagi and Friedland concluded that people feel remorse

because they feel they were able to make a better choice by looking at more information,

previously disregarded, and carefully weighing the pros and cons of each choice. In addition,

regret is magnified when individuals revisit the other available options and considering what

satisfaction the other option would have brought them. Interestingly, people who are

dissatisfied with their decision feel obligated to embrace the decision, as a means to reducing

anxiety regarding the quality of the decision (Botti & Iyengar, 2004; see also Gilbert & Ebert,

2002). For example, when a job applicant does not get hired, he may restructure the experience,

and find many reasons that explain why he did not want to work for the company. In addition

to regret, individuals may also experience satisfaction with their decisions. Satisfaction refers
to how pleased the decision maker is with the outcome of the decision. There are many things

that impact levels of satisfaction. Botti and Iyengar (2004) observed individuals prefer to make

their own decisions and believe they will be more satisfied with their choices; however, when

people are given only undesirable options, decision makers are less satisfied than those who

have had the choice made for them. Botti and Iyengar posited the explanation for this

phenomenon is that the decision maker assumes responsibility for the decision made. As a

result, if the available choices are bad, they may feel as though they are responsible for making

poor choices.

Implications For Management

Given that research on heuristics shows heuristic rules are used commonly in situations of

limited information, limited time, and limited cognitive capacity, it is plausible to assume that

heuristics are used extensively when actors interact in business relationships, since such

conditions are typical for interaction situations. To what extent heuristics are used and affect

interaction behaviours in business relationships is an empirical question, and comprehensive

empirical evidence is yet to be produced in future research. However, assuming heuristics are

used in business relationships has some implications for management practice. The first is that

management should become conscious of the power of interaction and of the role heuristics

can play in the adaptive capacity of their businesses. This requires understanding that the

development and outcomes of business relationships depend on individual interaction

behaviours, and that adaptive capacity and interaction effectiveness at company level are an

aggregate of the interaction capabilities at relationship level. Past research offers consistent

evidence of the link between interaction and relationship outcomes and also of the link between

business performance and the organization's capacity to adapt and innovate. Consciousness

about the role of heuristics in the adaptive capacity of an organization means being able to see
the limits and potential of the use of heuristics, and to cope with these. The use of heuristics

has drawbacks that are partly related to their tacit and personal nature; they can result in biases

when applied to situations in which there is scope for systematic analysis as in analysis of past

performance, for instance. One possible way to contain the negative consequences of the use

of heuristics is to make them less tacit and more explicit, which will make it easier to identify

when the use of heuristics is desirable or not. The potential for using heuristics relates to their

‘accuracy’ and time and data efficiency in situations where the scope for systematic analytical

approaches is limited. Some studies show that, under certain circumstances, heuristics are more

effective for producing strategically relevant business behaviours because they enhance the

capacity of an organization to adapt and innovate when the context is in motion (Astebro

&Elhedhli, 2006; Bingham & Eisenhardt, 2011; Davis, Eisenhardt, & Bingham, 2009;

Eisenhardt & Sull, 2001). These confirm indications from heuristic research that under certain

circumstances the use of heuristics produces more effective behavioural strategies than more

analytically based approaches. The effectiveness of behaviours based on heuristics compared

to other types of rule-based behaviours, such as following routines and norms, is related to the

‘local’ matching of heuristic rules to the context, on the one hand, and the actor's own features

and skills, on the other. Such an ‘ad hoc’ matching is likely to be a mechanism that ensures

flexibility in managing the myriad different issues arising during interactions and also in coping

with the variety of mindsets and toolboxes an organization faces when it interacts with, and

adapts to, others with whom it does business. It is plausible that similar effects can be found

regarding interaction effectiveness in business relationships. The above studies also point out

that a business's ability to adapt and innovate is related to the “portfolio of heuristics” and the

“collective heuristics toolbox” available to the organization (Bingham &Eisenhardt, 2011). A

heuristic toolbox at the organizational level is an aggregation (in a non-cumulative sense) of

the toolboxes individual actors use and activate in various interaction episodes. Given the role
of the collective toolbox in company performance it should be effectively managed. That bring

us to the need to settle for a policy that ensures heuristics accompany uses are effective.

Currently, we know too little about heuristics in interaction, and management

recommendations will depend on further research and insights from management practice. But,

on the basis of limited past research, we can make a few observations. Enhancing the adaptive

toolbox at organizational level requires accepting the temporary nature of rules and the fact

that their use is personal. Management should spare no effort in supporting the development

and refinement of the toolbox of the individuals involved in business relationships. Effective

development of the individual heuristic toolboxes is likely to be related particularly to the

degree of involvement in external interactions, as it is through interaction behaviours that new

experience based heuristics are acquired. That, in turn, has some organizational implications in

terms of autonomy and coordination. Defining a policy on the heuristics to be used in a

company's interactions involves at least four issues suggested in Fig. 1: (1) How to sustain the

acquisition of individual heuristic rules: this involves finding ways that favour the acquisition

and development of individual heuristics and aggregating them into an effective set (toolbox)

at collective level; (2) How to cope with the diffusion of certain heuristics within an

organization; should there be an effort to render the heuristics less personal, or should they be

left to the individuals to match to situations. Should the diversity in heuristics used be tolerated

or favoured? How, if at all, should heuristics be shared within an organization?; (3) Whether

and how to share heuristics externally; should clarification be given as to what heuristics are in

use in interaction across the boundaries of an organization? To what extent does sharing

heuristics externally favour effective interaction processes and adaptations?; (4) Is evolution in

heuristics in use desirable, and to what extent should the use of heuristics evolve both at the

individual level and at the level of the entire organization? How is the learning of heuristics to

be favoured? How can individual heuristics that are counterproductive be dealt with?
Opening the black box of interaction and finding that the space for systematic analysis and

decision making in interaction is severely limited do not mean management should give up

trying to behave sensibly in pursuit of its intended aims. In practice, management remains

accountable for the economic outcomes of business relationships, which depend on how

effectively the parties involved can cope in interaction in business relationships. Once we

reckon that the use of heuristics is widespread (rather than practicing extensive problem

solving), there is a need to focus on tools of management that might appear counterintuitive in

the traditional rationalistic perspective on managerial practice.

Conclusion

Heuristics are ingrained cognitive processes utilized by all humans, and can lead to a

concerning variety of biases. Both of these statements are established facts. However, this does

not mean that the biases that heuristics produce are unavoidable. As the wide ranging impacts

of such biases on societal institutions has become a popular research topic, psychologists have

emphasized techniques for reaching more sound, thoughtful and fair decisions in our daily

lives. Ironically, many of these techniques are themselves heuristics.

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