Decisions and Risk
Risk management means preparing for future uncertainties. We look into the future and make predictions about what might happen. If the outlook is undesirable, we plan ahead to avoid or minimize the probability and impact of bad news.
Risks are managed through the decisions we make about how to plan for the future. A choice (or decision) is made between alternative forecasts of future events. Once made, we hope our choices turn out to have been “good” decisions.
Effective risk management, therefore, requires an understanding of the quality of decisions that are being made to manage risks. These decisions must be informed and balanced about what might realistically happen in the future.
Defining decision quality
But what is a good decision? How do we measure decision quality? How do we know if the risk management decisions we make today are going to solve our future problems?
High-quality decisions are choices made with a full understanding of uncertainties. Poor decisions are choices that are made without a full understanding of what might go wrong. Making high-quality decisions involves recognizing what risks you are taking by making one choice over another. It is about being informed before making a decision.
Every decision is a balance between what we believe to be true and what we are forced to predict. Every decision involves analysis of information and ultimately the selection of a choice among alternatives with uncertain outcomes.
A “good” decision in foresight is one in which “we know what we are getting ourselves into.” High-quality decisions are informed, reasoned, and thorough. Poor quality decisions are shallow, biased, and expedient.
Risks are the residual uncertainties left behind when risk management decisions are made without perfect information. But, of course, we never have perfect information. It is always necessary to make decisions based on what we believe to be true and to take a chance (accept the risks) of being wrong.
The question is: How much of a chance are we taking? With high-quality decisions, the magnitude of uncertainties is understood. With poor-quality decisions, uncertainties are unrecognized, understated, or ignored.
Errors in decision making
Improving the quality of decision begins by understanding the four steps of decision-making. By controlling each of the steps, we are able to judge the quality of the resulting decisions.
Step 1–Identification of a problem
Step 2–Identification of options or choices
Step 3–Comparative analysis
Step 4–A choice is made
Step 1 – Problem Identification
Identifying a problem involves recognition and interpretation. How one perceives the problem ultimately determines how the problem is analyzed.
The quality issues associated with this step relate to how well the problem has been defined. Are the root causes of a problem being addresses or just the symptoms?
Step 2 – Generating Options
The breadth and depth of choices that are considered is determined both by how the problem has been identified and the creative effort put into generating alternative choices.
The quality issues associated with this step relate to whether the best possible solution is identified or are the same old solutions being considered.
Step 3 – Comparative Analysis
The next step is the comparison of the pros and cons, costs and benefits, of each alternative. Comparisons require meaningful metrics.
The quality issues in this step come from one’s ability to select suitable metrics and to then systematically compare options.
Step 4 – Decision-Making
The ultimate decision reflects the decision-makers’ interpretation of the available information and their unique outlook.
The quality issues associated with the final step relate to the ability of the decision-makers to make objective, balanced choices. Are they interpreting the options through a haze of bias and assumptions?
Decision quality is measured in terms of residual risk left behind as a result of limited information and biased analysis. The highest-quality decisions have little or no uncertainly, the poorest are based on ill informed guesswork; they are “a stab in the dark.”
So, to understand the quality of a decision, we must understand the weaknesses in the inputs that have gone into the decision-making process and in the approaches taken to reach the decision.
The degree to which the various sources of risk in a decision have been analyzed determines the quality of the decision. The quality of a decision determines how effectively that decision will contribute to risk management efforts in the long run.
Risk management therefore begins by ensuring that decisions are of the highest possible quality. It means checking that your facts and assumptions are correct before making decisions about how to mitigate risk. Only then are your decisions likely to be good in hindsight as well as foresight.
This article was originally published in Global Knowledge’s Business Brief e-newsletter. Global Knowledge delivers comprehensive hands-on project management, business process, and professional skills training. Visit our online Knowledge Center at www.globalknowledge.com/business for free white papers, webinars, and more.
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