Chapter XI: Organizational Structure & Controls

Organizational Structure & Performance
Research shows that organizational structure and the controls that are a part of the structure affect firm performance

Performance declines if firm’s strategy is not matched with the most appropriate structure and controls

Organizational Structure
Specifies the firm’s formal reporting relationships, procedures, controls, and authority and decision making processes.

Specifies the work to be done and how to do it, given the firm’s strategy or strategies

It influences how managers work and the decisions resulting from that work

Why is developing a structure difficult?
Developing a structure that supports the firm’s strategy is difficult bc of uncertainty (unpredictable variation) about cause-effect relationships in the global economy
How does an organizational structure support the implementation of strategies?
Structure is concerned with processes used to complete organizational tasks
What are effective structures?
Effective structures provide the stability a firm needs to successfully implement its strategies and maintain its current competitive advantages while simultaneously providing the flexibility to develop advantages it will need in the future.
Structural stability
Provides the capacity the firm requires to consistently and predictably manage its daily work routines
Structural Flexibility
Provides the opportunity to explore competitive possibilities and then allocate resources to activities that will shape the competitive advantages the firm will need to be successful in the future

Allows org. to exploit current competitive advantages while developing new ones that can be used in the future

Organizational Inertia & Structure
Modifications to the firm’s current strategy of selection of a new one call for changes in organizational structure. However, research shows that once in place, organizational inertia often inhibits efforts to change structure, even when the firm’s performance suggests that it is time to do so.
When do organizations change their structure?
Chandler found that they do son only when inefficiencies force them to
Organizational Controls
Guide the use of strategy, indicate how to compare actual results with expected results, and suggest corrective actions to take when the difference is unacceptable.

Provide clear insights regarding behaviors that enhance firm performance (if properly designed)

What are the two different types of organizational controls?
1) Strategic

2) Financial

Strategic Controls
Are largely subjective criteria intended to verify that the firm is using appropriate strategies for the conditions in the external environment and the company’s competitive advantages.

Are concerned with examining the fit between what a firm might do (as suggested by opportunities in external environment) and what it can do (as indicated by its competitive advantages)

Demands rich communication between those managers judging the firm’s performance and those responsible for implementing the firm’s strategy

Financial Controls
Are largely objective criteria used to measure the firm’s performance against previously established quantitative standards.

This includes ROI and ROA as well as market based measures such as economic value added.

Where are financial controls common?
Tend to be commonly used to evaluate the the performance of a firm using the unrelated diversification strategy.

Requires using standardized financial controls to compare performance of different businesses

What type of companies emphasize strategic controls?
Those using the differentiation strategy (related diversification strategies)
Why is balance among controls important?
Overemphasizing one at the expense of the other can lead to performance declines
Relationship between strategy & structure
Strategy and structure have a reciprocal relationship and if properly aligned, performance can improve

In general, structure flows from or following the selection of the firm’s strategy

Once in place though, structure can influence current strategic actions as well as choices about future strategies.

As a firm changes its strategy, it needs to change how the organization completes its work

Can structure constrain strategy?
Yes. Structure likely influences strategy by constraining the potential alternatives considered.

Thus a current structure affects current strategies and future ones.

However, strategy has more influence on performance than does structure

Chandler’s Observation of Firm Growth
Firms grow first by volume, then by geography, then integration (vertical, horizontal) and finally via product/business diversification

Organizational growth creates opportunity for the firm to change its strategy to try to become even more successful, but the firm’s existing structure (procedures, controls etc.) lack the sophistication required to support the new strategy so a new structure is chosen as a company grows

What is the strategy and structure growth pattern?
1) Simple Structure -> Efficient implementation of formulated strategy -> Sales growth leads to coordination and control problems -> 2) Functional Structure -> Efficient implementation of formulated strategy -> Sales growth leads to coordination and control problems -> 3) Multidivisional Structure
What are the 3 major types of organizational strategies?
1) Simple Structure
2) Functional Structure
3) Multidivisional Structure
What is a simple structure?
A structure in which the owner-manager makes all major decisions and monitors all activities while the staff serves as an extension of the manager’s supervisory authority.

Typically the owner-manager works in the business on a daily basis

Strategies used by simple structure companies
Focus strategies and business level strategies. These firms commonly compete by offering a single product line in a single geographic market.

Ex. Local restaurant

As the firm grows (even if strategy remains the same), the added size dictates the need for more sophisticated workflows and integrating mechanisms (move to functional structure)

Functional structure?
Consists of a CEO and a limited corporate staff with functional line managers in dominant organizational areas such as production, accounting, marketing, R&D, engineering, and human resources

This allows for functional specialization which allows for knowledge sharing within each function.

However, this approach can negatively affect communication and coordination among those representing different functions (need to ensure that activities are beneficial for the business and not just a particular function)

Gary Hamel quote
“Top down control and bureaucracy are the fundamental principles of modern business management which are poisonous to innovation
Multidivisional (M-form) Structure
Consists of a corporate office and operating divisions, each operating division representing a separate business or profit center in which the top corporate officer delegates responsibilities for day to day operations and business-unit strategy to division managers.

Each division is a distinct, self contained business with its own functional hiearchy

What are the three benefits of the M-form
1) Enabled corporate officers to more accurately monitor the performance of each business which simplified the control problem

2) It facilitated comparisons between divisions which improved resource allocation

3) Stimulated managers of poorly performing divisions to look for ways to improve.

What are the 3 structural characteristics?
1) Specialization
2) Centralization
3) Formalization

These characteristics drive the differences in each of the functional organizational forms as they are used to implement the cost leadership, differentiation and integrated cost leadership/differentiation strategies

What is specialization?
Concerned with type and number of jobs required to complete work
What is centralization?
The degree to which decision making authority is retained at higher managerial levels
What is formalization?
The degree to which formal rules and procedures govern work
Using functional structure to implement the cost leadership strategy
Cost leadership strategy = large quantities of standardized products. Thus, structure must allow them to achieve efficiencies and produce goods at lower costs than competitors.

Leads to simple reporting structures, with decision making authority at the top, highly specialized jobs which allows increased employee efficiency. Highly formalized rules and procedures are used.

The emphasis is on reducing costs and placing resources to that end (ex. process improvement rather than product R&D)

Ex. Walmart

Using functional structure to implement the cost leadership strategy – graph
President (at top)

Centralized staff oversees each of the different functions (Engineering, Marketing, Operations, Personnel, Accounting)

The structure may be flat or tall

Using the functional strategy to implement the differentiation strategy
Try to create products that are perceived as being different in valuable ways.

Flexible and complex reporting relationships, use of cross functional product development team with a strong focus on mkting and R&D are typical here.

Decentralized decision making is needed to allow rapid response. Jobs are not highly specialized and there are few formal rules.

Low formalization, low specialization, and low centralization allows people to interact frequently to exchange ideas.

Ex. Under Armour

Using the functional strategy to implement the differentiation strategy – graph
President and limited staff at top.

R&D and Marketing sit above the other functions (New Product R&D, Operations, Marketing, HR, Finance)

Using the functional structure to implement the integrated cost leadership/differentiation strategy
Sell products that create value bc of their relatively low cost and reasonable sources of differentiation.

Low prices relative to cost leader with reasonable levels of differentiation.

Success here requires integration of two strategies. Leads to decisionmaking patterns that are partially centralized and partially decentralized. Job are semi-specialized and rules and procedures call for some formal and some informal job behavior

Using the cooperative form of the multidivisional structure to implement the related constrained strategy
What are the three variations of the Multidivisional form?
1) Cooperative Form
2) Strategic Business Unit (SBU) Form
3) Competitive Form
Cooperative Form
An M-form structure in which horizontal integration is used to bring about interdivisional cooperation.
Using the Cooperative form of the multidivisional structure to implement the related constrained strategy
Divisions in a firm using the related constrained diversification strategy commonly are formed around products, markets, or both.

The idea here is to facilitate interdivisional cooperation.

Frequent, direct contact between division managers encourages and supports the sharing of knowledge, capabilities, or other resources.

Success of this strategy depends on how well divisions process information. However, costs of coordination and organizational inertia limit the amount of related diversification attempt (they constrain the economies of scope that can be created)

Matrix Organization
An organizational structure in which there is a dual structure combining both functional specialization and business product or project specialization.

May evolve in firms implementing the related constrained strategy

Strategic Business Unit Form
An M-form structure consisting of three levels: corporate headquarters, SBUs and SBU divisions. This is used by large firms and can be complex, give the associated organization size and product and market diversity
Using the SBU form of the multidivisional structure to implement the related linked strategy
This is for firms with fewer links or less constrained links among their divisions (related linked diversification).

The divisions of each SBU are related in terms of shared products or markets (or both), but the divisions of one SBU have little in common with the divisions of the other SBUs

Divisions within each SBU share product or market competencies to develop economies of scope and possibly economies of scale

Sharing competencies among a unit within an SBU is an important characteristic of the SBU form.

However, a drawback is that multifaceted businesses often have difficulties in communicating this complex business model to stockholders

Competitive Form
An m-form structure characterized by complete independence among the firm’s divisions, which compete for corporate resources.

Unlike the division in the cooperative structure, divisions that are part of the competitive structure do no share common corporate strengths. Strengths aren’t shared, so integrating devices are not developed.

Using the competitive form of the multidivisional structure to implement the unrelated diversification strategy
The idea of unrelated diversification is to create value via efficient internal capital allocations or by restructuring, buying, and selling businesses.

Efficient internal capital market is foundation for using the unrelated diversification strategy.

Headquarters maintains arms length relationship to audit operations and discipline managers. Allocates cash flow on competitive basis rather than automatically returning cash to the division that produced it. Focus of headquarters is on performance appraisal, resource allocation, and long range planning to verify that the firm’s portfolio of businesses will lead to financial success

Three benefits of internal competition
1) Internal competition creates flexibility (corp headquarters can have divisions doing different projects and then ID those with the greatest potential

2) Internal competition challenges the status quo and inertia.Division heads know that future resource allocations are a product of excellent current performance and positioning for future performance

3) Internal competition motivates effort in that the challenge of competing against internal peers can be as great as the challenge of competing against external rivals

Overall structural form of: Cooperative m form (related constrained strategy)
Centralization of Operations: Centralized at corp. office

Use of Integration Mechanisms: Extensive

Divisional Performance Evaluation: Emphasizes subjective (strategic criteria)

Divisional Incentive Compensation: Linked to overall corporate performance

Overall structural form of: SBU M-form (related linked strategy)
Centralization of Operations: Partially centralized (in SBUs)

Use of Integration Mechanisms: Moderate

Divisional Performance Evaluation: Uses a mixture of subjective (strategic) and objective (financial) criteria

Divisional Incentive Compensation: Mixed linkage to corporate, SBU, and divisional performance

Overall structural form of: Competitive M-form (unrelated diversification strategy)
Centralization of Operations: Decentralized to divisions

Use of Integration Mechanisms: Nonexistant

Divisional Performance Evaluation: Emphasizes objective (financial) criteria

Divisional Incentive Compensation: Linked to divisional performance