Decision

Analysis
Prepared by:

Caratchia, Thyron James T.

Coligado, Janine Aerith

Dalisay, Hanah Marie S.

Table of Contents
History of Decision Analysis ……………………. .……………………………………………3

What is Decision Analysis ………………………………………………………. . ..………….4

Influence Diagram, Payoff, Payoff Tables……………………………………………………….5

Decision Tree and Decision Environment……………………………………………………....6

Decision Making Under Certainty ……………………………………………………………...7

Definition Of Terms…………………………………………………………………………...8

Conclusion And Summary………………………………………………………………………9

Recommendation………………………………………………………………………………...10

History of Decision Analysis

Statistician Leonard Jimmie Savage developed an alternate axiomatic framework for

decision analysis in the early 1950s. The resulting expected-utility theory provides a complete
axiomatic basis for decision making under uncertainty.
 Once these basic theoretical developments had been established, the methods of decision
analysis were then further codified and popularized, becoming widely taught in business schools
and departments of industrial engineering.
Although decision analysis is inherently interdisciplinary (involving contributions from
mathematicians, philosophers, economists, statisticians, and cognitive psychologists), it has
historically been considered a branch of operations research. In 1980, the Decision Analysis
Society was formed as a special interest group within Operations Research Society of America
(ORSA), which later merged with The Institute of Management Sciences (TIMS) to become the
Institute for Operations Research and the Management Sciences (INFORMS). Beginning in
2004, INFORMS has published a dedicated journal for these topics, Decision Analysis.
Following along with these academic developments, decision analysis has also evolved
into a mature professional discipline. The method has been used to support business and public-
policy decision-making since the late 1950s; applications from 1990-2001 were reviewed in the
inaugural issue of Decision Analysis. has been especially widely adopted in the pharmaceutical
industry and the oil and gas industry, since both industries regularly need to make large high-risk
decisions (e.g., about investing in development of a new drug or making a major acquisition).

The Decision Analysis Process consists of these steps:

1. Identify the problem

2. Specify objectives and criteria for a solution
3. Develop suitable alternatives
4. Analyze and compare alternatives
5. Select the best alternative
6. Implement the solution
7. Monitor to see that desired result is achieved
What is Decision Analysis?
Decision analysis is a formalized approach to making optimal choices under conditions of
uncertainty.
This can be used to develop an optimal strategy when a decision maker faced with several
decision alternatives and an uncertain or risk-filled pattern of future events.

EXAMPLE: A construction project of Pittsburgh Development Corporation

PDC purchased land that will be the site of a new luxury condominium complex. PDC plans to
price the individual condominium units between $300,000 and $1,400,000.
PDC commissioned architectural drawings for three different projects: one with 30
condominiums, one with 60 condominiums, and one with 90 condominiums. The financial
success of the project depends upon the size of the condominium complex and the chance event
concerning the demand for the condominium.

PDC has the following three decision alternatives:

d1 = a small complex with 30 condominium

d2 = a medium complex with 60 condominium
d3 = a large complex with 90 condominium

PDC’s president acknowledge a wide-range of of possibilities but decided that it would be

adequate to consider two possible chance event outcomes: (strong demand) (weak demand)

In decision analysis, the possible outcomes for a chance event are referred to as the “states of
nature” these states of nature are defined so they are mutually exclusive (no more than one can
occur) and collectively exhaustive (at least one must occur) thus one and only one of the possible
states of nature will occur. For the PDC problem, the chance event concerning the demand for
the condominiums has two states of nature:

S1 = strong demand for the condominiums

S2 = weak demand for the condominiums
Influence Diagram - Is a graphical device that shows the relationships among the decisions, the
chance events, and the consequences for a decision problem.
 The nodes in an influence diagram represents decisions, chance events, and
consequences. Rectangles or squares depict decision nodes, circles, or ovals depict chance
modes. Diamonds depict consequences nodes. The lines connecting the nodes, referred to as
“arcs” it shows the direction of influence that the nodes have on one another.

Payoffs
-can be expressed in terms of profit, cost, time, distance, or any other measure appropriate for the
decision problem being analyzed.
Payoff Table
a table showing payoffs for all combinations of decision alternatives and states of nature.

Decision tree
- provides a graphical representation of the decision-making process. It shows the natural and
logical progression that will occur over time.
3 Decision Environments

1. Certainty - means that relevant parameters such as costs, capacity, and demand have known
values.
2. Risk - means that certain parameters have probabilistic outcomes.
3. Uncertainty- means that it is impossible to asses the likelihood of various possible uncertain
future events or referred to as “chance events”.

DECISION MAKING UNDER CERTAINTY

The decision is usually relatively straightforward. Simply choose the alternative that has the best
payoff under the state of nature.

DECISION MAKING UNDER UNCERTAINTY

No information is available on how likely the various states of nature are. (Do not require
knowledge of the probabilities of states of nature)

5 APPROACHES/ POSSIBLE DECISION CRITERIA

1. Optimistic Approach/ Maximax
2. The Pessimistic Approach/ Maximin
3. Criterion of Realism/ Hurwicz
4. Equal Likelihood/ Laplace
5. Minimax Regret/ Regret Table

DECISION MAKING UNDER RISK

It refers to a situation in which the consequences of the adopted and the probability of its
occurrence are known.

3 COMPETITORS FOR DECISIONS MAKING UNDER RISK

1. Expected Monetary Value (EMV) criterion
2. Expected Payoff with Perfect Information (EPPI)
3. Expected Value of Perfect Information (EVP

DEFINITION OF TERMS

DECISION ANALYSIS- can be used to develop an optimal strategy when a decision maker is
faced with several decision alternatives and an uncertain or risk filled pattern of future events.
STATES OF NATURE- possible outcomes for a chance event.
INFLUENCE DIAGRAM- is a graphical device that shows the relationship among the
decisions, the chance events and the consequences for a decision problem.
NODES- in an influence diagram represent the decision, chance events, and consequences.
PAYOFF TABLE- table showing payoffs for all combination of decision alternatives and states
of nature.
DECISION TREE- provides a graphical representation of the decision-making process
OPTIMISTIC APPROACH- evaluates each decision alternatives in terms of the best payoff
that can occur.
CONSERVATICE APPROACH- evaluates each decision alternative in terms of the worst
payoff that can occur.
MINIMAX REGRET APPROACH- decision making one would choose the decision
alternative that minimizes the maximum state of regret that could occur overall possible states of
nature.
RISK ANALYSIS- help the decision maker recognize the difference between the expected
value of a decision alternative and the payoff that may actually occur.
SENSITIVITY ANALYSIS- also helps the decision maker by describing how changes in the
state of nature probabilities and/or changes in payoffs affect the recommended decision
alternative.
RISK PROFILE- decision alternative shows the possible payoffs along with their associated
possibilities.
DECISION STRATEGY- is a sequence of decision and chance outcomes where the decision
chosen depend on the yet to be determined outcomes of chance events.
UTILITY- is a measure of total worth or relative desirability of a particular outcome.
RISK TAKER- is a decision maker who would choose lottery over a guaranteed payoff when
the expected value of the lottery is inferior to the guaranteed payoff.

CONCLUSION
In conclusion, decision analysis is a valuable tool that empowers individuals and organizations to
make informed and rational decisions by systematically evaluating and comparing different
options. By considering all relevant factors, uncertainties, and potential outcomes, decision
analysis provides a structured framework for weighing the pros and cons of each decision. This
systematic approach helps decision-makers identify and assess the risks and rewards associated
with each option, leading to more confident and well-informed choices.

Furthermore, decision analysis encourages a disciplined and evidence-based approach to

decision-making, helping to mitigate biases and subjectivity that can often lead to suboptimal
outcomes. By quantifying and analyzing the uncertainties and trade-offs involved in decision-
making, decision analysis enables stakeholders to prioritize their objectives and make decisions
that align with their goals. This enables organizations to navigate complex environments and
make strategic decisions that maximize the likelihood of success.

Summary

Decision analysis is a structured approach to making decisions that involves systematically

assessing and evaluating various alternatives under uncertainty. It begins by identifying the
decision problem and defining the objectives and constraints involved. Next, decision makers
gather relevant information and identify possible alternatives. These alternatives are then
analyzed using decision trees, influence diagrams, or other decision analysis tools to model the
potential outcomes and their associated probabilities.
Once the decision model is constructed, decision makers assign probabilities to the different
outcomes based on available data or expert judgment. They also consider their preferences or
utility for each outcome to quantify the desirability of different scenarios. By combining the
probabilities and utilities, decision analysis helps to calculate expected values, which represent
the overall expected outcome for each alternative.

After evaluating the expected values of the alternatives, decision makers can then choose the
option that maximizes their expected utility or achieves their objectives most effectively. This
systematic approach allows decision makers to make more informed and rational choices, taking
into account both the likelihood of different outcomes and their consequences. Decision analysis
is particularly useful in complex decision-making situations where uncertainty is high and
multiple objectives need to be considered.

Recommendation

For individuals or organizations seeking to implement decision analysis, several

recommendations can enhance the effectiveness of the process. Firstly, it's crucial to invest
adequate time and resources into gathering relevant data and information. Decision analysis
heavily relies on accurate and comprehensive data to assess probabilities and outcomes
effectively. Therefore, conducting thorough research and consulting experts in the field can
provide valuable insights and improve the quality of decision-making.

Secondly, it's important to involve all relevant stakeholders in the decision analysis process. By
including perspectives from different departments, teams, or individuals, a more comprehensive
understanding of the decision problem can be achieved. This inclusivity fosters collaboration,
increases buy-in for the chosen course of action, and helps mitigate potential conflicts or
oversights.

Thirdly, decision analysis should be approached with flexibility and adaptability. Uncertainty is
inherent in many decision-making contexts, and circumstances may change over time. Therefore,
decision makers should regularly review and update their decision models to incorporate new
information or changes in the environment. This iterative approach ensures that decisions remain
relevant and responsive to evolving conditions.

Finally, effective communication is essential throughout the decision analysis process. Decision
makers should clearly articulate the objectives, assumptions, and rationale underlying their
decisions to stakeholders. Transparent communication builds trust, fosters alignment, and
encourages constructive feedback, ultimately enhancing the overall quality of decision-making
outcomes. By following these recommendations, individuals and organizations can leverage
decision analysis to make more informed, robust, and impactful decisions.