Strategy and Structure Economics of Strategy Besanko, Dranove, Shanley and Schaefer, 3rd Edition Chapter 16 Strategy and Structure Slide show prepared by Richard PonArul California State University, Chico  John Wiley  Sons, Inc.

Structure Follows Strategy According to Alfred Chandler, the choice of organizational structure depends on the business strategy being pursued Structure of an organization affects how division of labor is used to organize tasks how information flow is facilitated how agency problems are dealt with

Organizational Forms A small group of employees within a firm can be organized in several ways Each member may be treated as a unit and is rewarded based on his/her output The group can be a self managed team and individual rewards will be wholly or partly based on team performance Hierarchy of authority may be used with one member of the group coordinating and monitoring the activities of others

Nature of Tasks and Organizational Forms Firms may use different forms in different situations depending on the nature of the tasks When tasks do not require coordination employees can be treated as individuals When coordination is essential and individual contribution is difficult to measure, team approach will be used

Nature of Tasks and Organizational Forms Beyond a certain size, self managed teams may not perform well in coordination and hierarchy of authority may be needed The same firm may use different approaches for different tasks A given employee may perform certain tasks as an individual, others as part of self managed teams and yet others subject to hierarchical control

Coordination and Hierarchy If a group has n members, the number of possible interactions is As n increases, hierarchies can be created to keep the number of interactions within manageable limits When the number of relations for a supervisor goes beyond the optimal span of control a new layer of hierarchy can be created

Coordination and Hierarchy

Complex Hierarchy Large firms tend to have multiple groups and multiple levels of groupings Complex hierarchies are designed to address the following two issues Departmentalization Coordination and control

Departmentalization Formal groupings in large organizations can be based on functional areas, geography, products, types of customers and so on A firm should decide on the organizing dimensions based on economies of scale and scope transactions costs and agency costs

Firm Boundaries and Structure A firm’s decisions regarding vertical and horizontal boundaries will influence its choice of organizing dimensions Diversifying into a new business area will expand the set of formal groupings Decision to outsource will contract a firm’s structure

Coordination and Control Coordination involves the flow of information to facilitate decisions Control involves the distribution of decision making rights and rule making authority within the organization

Coordination, Control and Technical Efficiency Coordination affects the technical efficiency by the provision of information needed to exploit economies of scale and scope To accomplish improvements in technical efficiency, decision making rights should be allocated to those who have the best and timely information

Coordination, Control and Agency Efficiency Allocating decision rights to individuals will affect agency efficiency since the decision makers will have the opportunity for selfish behavior A balance must be struck between technical and agency efficiencies in the allocation of decision rights

Approached to Coordination When a firm consists of self contained units, information related to operating decisions are controlled by the manage of the unit A firm may also organize itself into units that have strong lateral relationships These lateral relationships can be formalized into structure (Matrix Organization) or remain informal

Centralization and Decentralization Authority becomes more centralized (decentralized) as decision making moves to higher (lower) levels It is possible for a firm to be centralized in some dimension while being decentralized in others For example, a university’s administrative functions may be centralized while its teaching function is decentralized

Organizational Structure Organizational structure of large businesses can be classified as follows: The unitary functional structure (U-form) The multidivisional structure (M-form) The matrix structure The network structure

The U-form structure

The U-form structure Each department in the firm is responsible for a particular functional area such as finance or marketing The unitary functional structure is suitable for stable conditions when operating efficiency is the prime consideration

The M-form structure

The M-form structure The multidivisional firm is organized along such dimensions as product line geography or type of customers Divisional managers will be responsible for operating decisions and the top management will handle strategic decisions

Advantages of the M-form Measuring divisional performance is easier under M-form Divisional managers compete for funds in the internal capital markets based on their operating performance in the past Pay for performance schemes are easier to implement in managerial compensation

Matrix Structure

Matrix Structure A firm that uses a matrix structure is organized along two (or more) dimensions - for example, product line and geography In a two-dimensional matrix, an employee belongs to two hierarchies and has two bosses

Advantages of Matrix Structure Matrix structure can help exploit economies of scale and scope A firm may need national coordination to achieve economies of scale for manufacturing a particular product and regional coordination to negotiate with large buyers for different products

Advantages of Matrix Structure Matrix structure allows a firm to economize on scarce human resources Having a firm wide engineering department (or marketing department) will be more efficient than maintaining a separate engineering group for each product group

Network Structure

Network Structure Workers or worker groups contribute to multiple organizational task Work groups are reconfigured when the tasks change Relationships among groups are governed by the requirements of the task

Network Structure Coordination costs will be a major concern in Network Structure The Japanese Keiretsu is a variety of network structure In high technology companies, network structure facilitates information flows, leading to high level of product development

Modular Organization Modular organization is a network structure with subunits that are relatively self contained Subunits are tied together via standardized linkages Modularity may sacrifice economies of scope If may encourage innovations at the subunit level

Contingency Theory Contingency theory suggests that a particular structure will not be the optimal structure for a firm under all circumstances Contingency theory focuses on three factors that affect the efficiency of a structure Technology and task interdependence Information flows Tension between differentiation and integration

Technology and Task Interdependence There can be three modes of task interdependence Reciprocal - when two workers (or work groups) depend on each other Sequential - when one worker (or work group) has a one way dependence on another Pooled - when there is no direct dependence, but indirect dependence exists because of common goals

Technology and Task Interdependence Changes in technology will cause the nature of task independence to change The organizational structure may need to be changed in response to the change in task interdependence Example: Technology has weakened the sequential and reciprocal interdependencies in some industries and has made outsourcing attractive

Information Flows When work is routine, workers can be autonomous When exceptions need to be handled, higher level hierarchies are involved and information flow becomes important The firm’s organizational structure should enable the desired amount and speed of information flow to occur

Information Flows Workers in the higher levels deal with more difficult exceptions that occur less frequently Higher levels have fewer workers with larger human capital Technological changes reduce the cost of information flow and increase the span of control (flatter organization)

Information Retrieval According to Arthur Stinchcombe, the optimal structure should enable efficient information retrieval Different levels of structure will deal with different types of information To make information retrieval efficient, the firm should integrating into the firm activities that provide critical information

Balancing Differentiation and Integration If the organizational structure does not sufficiently differentiate, the firm may inefficiently use a “one size fits all” approach to all products (and regions) For integrated planning and control, too much differentiation can be an impediment The optimal structure should balance differentiation and integration

Structure Follows Strategy The U-form structure allowed firms to exploit the economies of scale in production, marketing and distribution When firms began to diversify, the U-form became cumbersome and M-form emerged as a better alternative

Structure Follows Strategy The M-form lead to duplication of activities when firms expanded globally and created “international divisions” As firms try to balance local responsiveness with global economies, a mix of matrix form and network form help create flexible organizations

Structure, Strategy, Knowledge and Capabilities Critical knowledge and decision capabilities are distributed throughout the firm in large firms Structure determines the shortlist of alternatives that reach the top management Organizations enable generation and manipulation of new knowledge for strategic uses (knowledge-based view of the firm)

Structure, Strategy Knowledge and Capabilities Structure induces biases in the information reaching the top management Structure also influences how strategies are implemented and how top management is informed regarding the implementation Formal administrative control should be supplemental by informal means of winning the cooperation from lower levels

Evolutionary Economics and Structure-Strategy Evolutionary economics offer two new views on structure-strategy relationship Structure and strategy evolve over time through local external interactions rather than through top management initiative Strategy and structure are higher level heuristics that enable the management to respond quickly to difficult and unusual problems

Implications of the Evolutionary Economics View Strategy and structure changes will be evolutionary rather than revolutionary Large scale strategy changes and comprehensive reorganizations will be rare Current decision regarding strategy and structure will be constrained by past decisions