Clear Preferences and Trade-Offs

Preferences (or values) are “what we want” and the fourth dimension of decision quality. We all want more money, sooner, with less risk, but in the real world we cannot optimise in all three directions at once. Add in values such as saving lives, creating jobs and preserving the environment, and the task is truly impossible. We need therefore to make trade-offs, to give up one thing we want to get more of another. Making the right trade-offs is at the core of many decisions, particularly portfolio decision making.

The money vs time trade-off is often managed by discounting cash flows to calculate a net present value. But what about value vs risk? How much expected value should a decision maker give up in order to reduce the risk?

Assessing corporate risk attitude and calculating a certain equivalent goes a long way to helping, but this can be controversial. And is it appropriate to put a money value—what money value?—on a human life, a job or the planet?

Having a conversation on these topics early in the dialogue decision process can help direct the strategy effort, but typically decision makers cannot assess these trade-offs in a hypothetical arena. They need clear discrete choices, and a clear understanding of the lotteries they represent. That is, they need the results of the a full evaluation of all the alternatives.

Tools:

• Discount rate and NPV
• Risk tolerance

Failure Modes:

• Neglecting a key stakeholder group
• Insufficient clarity on trade-offs
• Ignoring “intangibles”
• Double-counting risk

100% decision quality is when we have clear, explicit trade-offs among the criteria that matter for all relevant stakeholders:

• Value vs risk
• Short- vs long-term
• Cost vs jobs vs the environment
• Customers vs patients vs employees vs shareholders vs other stakeholders
• Etc.

Where have you seen a decison fail because of a failure to understand what was truly wanted?

This article is one of a series looking at the six dimensions of decision quality.

• Useful frame—are we answering the right question?
• Creative yet feasible alternatives—having a small set of wide-ranging choices
• Meaningful and reliable information, particularly about risk
• Clear preferences and trade-offs
• Sound reasoning, and clear communication about complex issues
• Commitment to action.