Organizational Theory, Design, and Change

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Organizational Theory, Design, and Change Sixth Edition Gareth R.

2 Learning Objectives 1. Explain why organizations exist and the purposes they serve 2. Describe the relationship between organizational theory and organizational design and change, and differentiate between organizational structure and culture Copyright 2010 Pearson Education, Inc. 1-2

3 Learning Objectives (cont.) 3. Understand how managers can utilize organizational theory to design and change their organizations to increase organizational effectiveness 4. Identify how managers assess and measure organizational effectiveness 5. Appreciate the way contingency factors influence the design of organizations Copyright 2010 Pearson Education, Inc. 1-3

4 What is an Organization? Organizations provide goods and services Organizations employ people Organizations bring together people and resources to produce products and services Copyright 2010 Pearson Education, Inc. 1-4

5 What is an Organization? (cont.) Organization: a tool used by people to coordinate their actions to obtain something they desire or value Entrepreneurship: identify opportunities to satisfy needs, and then gather and use resources to meet those needs Copyright 2010 Pearson Education, Inc. 1-5

6 How Does an Organization Create Value? Value creation takes place at three stages: input, conversion, and output Inputs: include human resources, information and knowledge, raw materials, money and capital Conversion: the way the organization uses human resources and technology to transform inputs into outputs Output: finished products and services that the organization releases to its environment Copyright 2010 Pearson Education, Inc. 1-6

8 Why Do Organizations Exist? To increase specialization and the division of labor Division of labor allows specialization Specialization allows individuals to become experts at their job Copyright 2010 Pearson Education, Inc. 1-8

9 Why Do Organizations Exist? (cont.) To use large-scale technology Economies of scale: cost savings that result when goods and services are produced in large volume Economies of scope: cost savings that result when an organization is able to use underutilized resources more effectively because they can be shared across several different products or tasks Copyright 2010 Pearson Education, Inc. 1-9

10 Why Do Organizations Exist? (cont.) To manage the external environment External environment consists of the political, social, economic, and technological factors that affect organizations Organizations regularly exchange products and services for needed resources Organizations need to manage their external environment Copyright 2010 Pearson Education, Inc. 1-10

11 Why Do Organizations Exist? (cont.) To exert power and control Organizations structure their members to efficiently produce products and services To economize on transaction costs Transaction costs: the costs associated with negotiating, monitoring, and governing exchanges between people who must cooperate Copyright 2010 Pearson Education, Inc. 1-11

13 Organizational Theory, Design, and Change: Some Definitions Organizational theory: the study of how organizations function and how they affect and are affected by the environment in which they operate Organizational structure: the formal system of task and authority relationships that control how people to coordinate their actions and use resources to achieve organizational goals Copyright 2010 Pearson Education, Inc. 1-13

14 Some Definitions (cont.) Organizational culture: is the set of key values, beliefs, and attitudes shared by organizational members and helps shape the behavior within the organization Organizational design: the process by which managers select and manage aspects of structure and culture so that an organization can control the activities necessary to achieve its goals Copyright 2010 Pearson Education, Inc. 1-14

15 Some Definitions (cont.) Organizational change: the process by which organizations move from their present state to some desired future state to increase their effectiveness Organizational redesign and transformation Copyright 2010 Pearson Education, Inc. 1-15

17 Importance of Organizational Design and Change Dealing with contingencies Contingencies are events that might occur and must be planned for Organizations must be designed to be able to respond to changes in the complex and increasingly difficult environment many organizations face Globalization and changing IT technologies are just two challenges organizations must be ready to face Copyright 2010 Pearson Education, Inc. 1-17

18 Importance of Organizational Design and Change (cont.) Gaining competitive advantage The ability to outperform other companies because of the capacity to create more value from resources Core competences: skills and abilities in value creation embedded in the organization s people or structures Strategy: pattern of decisions and actions involving core competences that produces a competitive advantage to outperform competitors Copyright 2010 Pearson Education, Inc. 1-18

19 Importance of Organizational Design and Change (cont.) Managing diversity Differences in the race, gender, and national origin of organizational members have important implications for organizational culture and effectiveness Learning how to effectively utilize a diverse workforce can result in better decision making and more effective workforce Copyright 2010 Pearson Education, Inc. 1-19

20 Importance of Organizational Design and Change (cont.) Promoting efficiency, speed, and innovation The better organizations function, the more value they create The correct organizational design can lead to faster innovation and quickly get new products to market Copyright 2010 Pearson Education, Inc. 1-20

21 Consequences of Poor Organizational Design Decline of the organization s sales and profits Layoffs occur and talented employees leave to take positions in growing organizations Resources become harder to acquire Resulting crisis may result in organizational failure Copyright 2010 Pearson Education, Inc. 1-21

22 How Do Managers Measure Organizational Effectiveness? Control: external resource approach Monitors how effectively an organization manages and controls its external environment Innovation: internal system approach Develops an organization s skills and capabilities to change, adapt, and improve the way it functions Efficiency: technical approach Measures how efficiently an organization converts a fixed amount of resources into finished goods and services Copyright 2010 Pearson Education 1-22

24 Measuring Effectiveness: Organizational Goals Official goals: guiding principles that the organization formally states in its annual report and in other public documents Mission: a mission statement explains why the organization exists and what it should be doing Operative goals: specific long- and short-term goals that guide managers and employees as they perform the work of the organization Copyright 2010 Pearson Education, Inc. 1-24

28 Summary Organizations are a tool people use to achieve their goals Organizational theory is the study of how organizations function and how they affect and are affected by their environment Organizational effectiveness must be monitored by managers Copyright 2010 Pearson Education, Inc. 1-28

30 Learning Objectives 1. Identify the various stakeholder groups and their claims on an organization 2. Understand the choices and problems inherent in distributing the value an organization creates 3. Appreciate who has authority and responsibility at the top of an organization, and distinguish between different levels of management Copyright 2010 Pearson Education, Inc. 2-2

31 Learning Objectives (cont.) 4. Describe the agency problem that exists in all authority relationships and the mechanisms available to control illegal and unethical behaviors 5. Discuss the vital role played by ethics in leading managers and employees to pursue goals that lead to long-run organizational effectiveness Copyright 2010 Pearson Education, Inc. 2-3

32 Organizational Stakeholders Stakeholders: people who have an interest, claim, or stake in an organization Inducements: rewards such as money, power, and organizational status Contributions: the skills, knowledge, and expertise that organizations require of their members during task performance Copyright 2010 Pearson Education, Inc. 2-4

33 Inside Stakeholders People who are closest to an organization and have the strongest and most direct claim on organizational resources Shareholders: the owners of the organization Managers: the employees who are responsible for coordinating organizational resources and ensuring that an organization s goals are successfully met The workforce: all non-managerial employees Copyright 2010 Pearson Education, Inc. 2-5

34 Outside Stakeholders People who do not own the organization, are not employed by it, but do have some interest in it Customers: an organization s largest outside stakeholder group Suppliers: provide reliable raw materials and component parts to organizations The government Wants companies to obey the rules of fair competition Wants companies to obey rules and laws concerning the treatment of employees and other social and economic issues Copyright 2010 Pearson Education, Inc. 2-6

35 Outside Stakeholders (cont.) Trade unions: relationships with companies can be one of conflict or cooperation Local communities: their general economic well-being is strongly affected by the success or failure of local businesses The general public Wants local businesses to do well against overseas competition Wants corporations to act in socially responsible way Copyright 2010 Pearson Education, Inc. 2-7

37 Organizational Effectiveness: Satisfying Stakeholders Goals and Interests An organization is used simultaneously by various stakeholders to achieve their goals Each stakeholder group is motivated to contribute to the organization Each group evaluates the effectiveness of the organization by judging how well it meets the group s goals For an organization to be viable, the dominant coalition of stakeholders has to control sufficient inducements to obtain the contributions required of other stakeholder groups Copyright 2010 Pearson Education, Inc. 2-9

38 Stakeholder Goals Shareholders: return on their investment Customers: product reliability and product value Employees: compensation, working conditions, career prospects Copyright 2010 Pearson Education, Inc. 2-10

39 Competing Goals Organizations exist to satisfy stakeholders goals But which stakeholder group s goal is most important? In the U.S., the shareholders have first claim in the value created by the organization However, managers control organizations and may further their own interests instead of those of shareholders Goals of managers and shareholders may be incompatible Copyright 2010 Pearson Education, Inc. 2-11

40 Allocating Rewards Managers must decide how to allocate inducements to provide at least minimal satisfaction of the various stakeholder groups Managers must also determine how to distribute extra rewards Inducements offered to shareholders affect their motivation to contribute to the organization The allocation of reward is an important component of organizational effectiveness Copyright 2010 Pearson Education, Inc. 2-12

41 Top Managers and Organizational Authority Authority: the power to hold people accountable for their actions and to make decisions concerning the use of organizational resources Shareholders: the ultimate authority over the use of a corporation s resources They own the company They exercise control over it through their representatives Copyright 2010 Pearson Education, Inc. 2-13

42 Top Managers and Organizational Authority (cont.) The board of directors: monitors corporate managers activities and rewards corporate managers who pursue activities that satisfy stakeholder goals Inside directors: hold offices in a company s formal hierarchy Outside directors: not full-time employees Corporate-level management: the inside stakeholder group that has ultimate responsibility for setting company goals and allocating organizational resources Copyright 2010 Pearson Education, Inc. 2-14

43 The Chief Executive Officer s (CEO) Role in Influencing Effectiveness Responsible for setting organizational goals and designing its structure Selects key executives to occupy the topmost levels of the managerial hierarchy Determines top management s rewards and incentives Copyright 2010 Pearson Education, Inc. 2-15

44 The CEO s Role in Influencing Organizational Effectiveness (cont.) Controls the allocation of scarce resources such as money and decisionmaking power among the organization s functional areas or business divisions The CEO s actions and reputation have a major impact on inside and outside stakeholders views of the organization and affect the organization s ability to attract resources from its environment Copyright 2010 Pearson Education, Inc. 2-16

45 Top Management Roles CEO Often has primary responsibility for managing the organization s relationship with external stakeholders COO Responsible for managing the organization s internal operations Exec. Vice Presidents Oversees and manages the company s most significant line and staff roles Copyright 2010 Pearson Education, Inc. 2-17

46 The Top-Management Team Line-role: managers who have direct responsibility for the production of goods and services Staff-role: managers who are in charge of a specific organizational function such as sales or research and development (R&D) Are advisory only Copyright 2010 Pearson Education, Inc. 2-18

47 The Top-Management Team (cont.) Top-management team: a group of managers who report to the CEO and COO and help the CEO set the company s strategy and its long-term goals and objectives Corporate managers: the members of top-management team whose responsibility is to set strategy for the corporation as a whole Copyright 2010 Pearson Education, Inc. 2-19

48 Other Managers Divisional managers: managers who set policy only for the division they head Functional managers: managers who are responsible for developing the functional skills and capabilities that collectively provide the core competences that give the organization its competitive advantage Copyright 2010 Pearson Education, Inc. 2-20

50 An Agency Theory Perspective Agency theory suggests a way to understand the conflict that often arises between shareholder goals and top managers goals Agency relation occurs when one person (the principle, i.e. shareholders) delegates decision-making authority to another (the agent, i.e. managers) Copyright 2010 Pearson Education, Inc. 2-22

51 Agency Problem There is a problem in determining managerial accountability that arises when delegating authority to managers Shareholders are at information disadvantage compared to top managers It takes considerable time to see the effectiveness of decisions managers may make Copyright 2010 Pearson Education, Inc. 2-23

52 The Moral Hazard Problem A moral hazard problem exists when agents have the opportunity and incentive to pursue their own interests Very difficult to evaluate how well the agent has performed because the agent possesses an information advantage over the principal Self-dealing describes the conduct of corporate managers who take advantage of their position in an organization to act in their own interests Copyright 2010 Pearson Education, Inc. 2-24

53 Solving the Agency Problem In agency theory, the central issue is to overcome the agency problem by using governance mechanisms that align the interests of principles and agents The role of the board of directors: Monitor and question top managers decisions Reinforce and develop a code of ethics Find the right set of incentives to align the interests of managers and shareholders Copyright 2010 Pearson Education, Inc. 2-25

55 Top Managers and Organizational Ethics Ethical dilemma: decisions that involve conflicting interests of parties Ethics: moral principles and beliefs about what is right or wrong There are no indisputable rules or principles that determine whether an action is ethical Copyright 2010 Pearson Education, Inc. 2-27

56 Ethics and the Law Laws specify what people and organizations can and cannot do Laws specify sanctions when laws are broken Ethics and laws are relative No absolute or unvarying standards exist to determine how people should behave Copyright 2010 Pearson Education, Inc. 2-28

57 Models of Ethics Utilitarian model: An ethical decision is one that produces the greatest good for the greatest number of people Moral Right Model: An ethical decision is the one that best maintains and protects the fundamental rights and privileges of the people affected by it Justice Model: An ethical decision is a decision that distributes benefits and harms among stakeholders in an impartial way Copyright 2010 Pearson Education, Inc. 2-29

58 Sources of Organizational Ethics Societal ethics: codified in a society s legal system, in its customs and practices, and in the unwritten norms and values that people use to interact with each other Professional ethics: the moral rules and values that a group of people uses to control the way they perform a task or use resources Individual ethics: the personal and moral standards used by individuals to structure their interactions with other people Copyright 2010 Pearson Education, Inc. 2-30

59 Why Do Ethical Rules Develop? Ethical rules and laws emerge to control self-interested behavior by individuals and organizations that threaten the society s collective interests Ethical rules reduce transaction costs, that is the costs of monitoring, negotiating, and enforcing agreements between people Reputation effect: Transaction costs: Are higher for organizations with a reputation for illegality Are lower for organizations with a reputation for honest dealings Copyright 2010 Pearson Education, Inc. 2-31

60 Why Does Unethical Behavior Occur? Personal ethics: developed as part of the upbringing and education Self-interest: weighing our own personal interests against the effects of our actions on others Outside pressure: pressures from the reward systems, industry, and other forces Copyright 2010 Pearson Education, Inc. 2-32

61 Creating an Ethical Organization An organization is ethical if its members behave ethically Put in place incentives to encourage ethical behavior and punishments to discourage unethical behaviors Managers can lead by setting ethical examples Managers should communicate the ethical values to all inside and outside stakeholders Copyright 2010 Pearson Education, Inc. 2-33

62 Designing an Ethical Structure and Control System Design an organizational structure that reduces incentives to act unethically Take steps to encourage whistleblowing encourage employees to inform about an organization s unethical actions Establish position of ethics officer and create ethics committee Copyright 2010 Pearson Education, Inc. 2-34

63 Creating an Ethical Culture Values, rules, and norms that define an organization s ethical position are part of its culture Behaviors of top managers are a strong influence on the corporate culture Creation of an ethical corporate culture requires commitment from all levels Copyright 2010 Pearson Education, Inc. 2-35

64 Supporting the Interests of Stakeholder Groups Find ways to satisfy the needs of various stakeholder groups Pressure from outside stakeholders can also promote ethical behavior The government and its agencies, industry councils, regulatory bodies, and consumer watchdogs all play critical roles in establishing ethical rules Copyright 2010 Pearson Education, Inc. 2-36

66 Learning Objectives 1. List the forces in an organization s specific and general environment that give rise to opportunities and threats 2. Identify why uncertainty exists in the environment 3. Describe how and why an organization seeks to adapt to and control these forces to reduce uncertainty Copyright 2010 Pearson Education, Inc. 3-2

67 Learning Objectives (cont.) 4. Understand how resource dependence theory and transaction cost explain why organizations choose different kinds of interorganizational strategies to manage their environments to gain the resources needed to achieve their goals and create value for their stakeholders Copyright 2010 Pearson Education, Inc. 3-3

68 What is the Organizational Environment? Environment: the set of forces surrounding an organization that have the potential to affect the way it operates and its access to scarce resources Organizational domain: the particular range of goods and services that the organization produces, and the customers and other stakeholders whom it serves Copyright 2010 Pearson Education, Inc. 3-4

70 The Specific Environment The forces from outside stakeholder groups that directly affect an organization s ability to secure resources Outside stakeholders include customers, distributors, unions, competitors, suppliers, and the government The organization must engage in transactions with all outside stakeholders to obtain resources to survive Copyright 2010 Pearson Education, Inc. 3-6

71 The General Environment The forces that shape the specific environment and affect the ability of all organizations in a particular environment to obtain resources Copyright 2010 Pearson Education, Inc. 3-7

72 The General Environment (cont.) Economic forces: factors, such as interest rates, the state of the economy, and the unemployment rate, determine the level of demand for products and the price of inputs Technological forces: the development of new production techniques and new informationprocessing equipment influence many aspects of organizations operations Copyright 2010 Pearson Education, Inc. 3-8

73 The General Environment (cont.) Political, ethical, and environmental forces: influence government policy toward organizations and their stakeholders Demographic, cultural, and social forces: the age, education, lifestyle, norms, values, and customs of a nation s people Shape organization s customers, managers, and employees Copyright 2010 Pearson Education, Inc. 3-9

74 Uncertainty in the Organizational Environment All environmental forces cause uncertainty for organizations Greater uncertainty makes it more difficult for managers to control the flow of resources to protect and enlarge their domains Copyright 2010 Pearson Education, Inc. 3-10

76 Sources of Uncertainty in the Environment Environmental complexity: the strength, number, and interconnectedness of the specific and general forces that an organization has to manage Interconnectedness: increases complexity Copyright 2010 Pearson Education, Inc. 3-12

77 Sources of Uncertainty in the Environment (cont.) Environmental dynamism: the degree to which forces in the specific and general environments change over time Stable environment: forces that affect the supply of resources are predictable Unstable (dynamic) environment: when an organization cannot predict how the changes in the environment will affect them Copyright 2010 Pearson Education, Inc. 3-13

78 Sources of Uncertainty in the Environment (cont.) Environmental richness: the amount of resources available to support an organization s domain Environments may be poor because: The organization is located in a poor country or in a poor region of a country There is a high level of competition, and organizations are fighting over available resources Copyright 2010 Pearson Education, Inc. 3-14

79 Resource Dependence Theory The goal of an organization is to minimize its dependence on other organizations for the supply of scare resources and to find ways of influencing them to make resources available Copyright 2010 Pearson Education, Inc. 3-15

80 Resource Dependence Theory (cont.) The strength of one organization s dependence on another depends on: How vital the resource is to the organization s survival The extent that other organization s control these resources Copyright 2010 Pearson Education, Inc. 3-16

81 Resource Dependence Theory (cont.) An organization has to manage two aspects of its resource dependence: It has to exert influence over other organizations so that it can obtain resources It must respond to the needs and demands of the other organizations in its environment Copyright 2010 Pearson Education, Inc. 3-17

82 Interorganizational Strategies for Managing Resource Dependencies Two basic types of interdependencies cause uncertainty Symbiotic interdependencies: interdependencies that exist between an organization and its suppliers and distributors Competitive interdependencies: interdependencies that exist among organizations that compete for scarce inputs and outputs Organizations aim to choose the interorganizational strategy that offers the most reduction in uncertainty with the least loss of control Copyright 2010 Pearson Education, Inc. 3-18

83 Linkage Mechanisms Linkage mechanisms, while controlling interdependency, require coordination Coordination reduces each organization s freedom to act Organizations should choose the strategy that offers the most reduction in uncertainty for the least loss of control Copyright 2010 Pearson Education, Inc. 3-19

85 Strategies for Managing Symbiotic Resource Interdependencies Developing a good reputation Reputation: a state in which an organization is held in high regard and trusted by other parties because of its fair and honest business practices Reputation and trust are the most common linkage mechanisms for managing symbiotic interdependencies Copyright 2010 Pearson Education, Inc. 3-21

86 Strategies for Managing Symbiotic Resource Interdependencies (cont.) Cooptation: a strategy that manages symbiotic interdependencies by giving them a stake in the organization Make outside stakeholders inside stakeholders Interlocking directorate: a linkage that results when a director from one company sits on the board of another company Copyright 2010 Pearson Education, Inc. 3-22

87 Strategies for Managing Symbiotic Resource Interdependencies (cont.) Strategic alliances: an agreement that commits two or more companies to share their resources to develop joint new business opportunities An increasingly common mechanism for managing symbiotic (and competitive) interdependencies The more formal the alliance, the stronger and more prescribed the linkage and tighter control of joint activities Greater formality preferred with uncertainty Copyright 2010 Pearson Education, Inc. 3-23

88 Types of Strategic Alliances Long-term contracts Networks: a cluster of different organizations whose actions are coordinated by contracts and agreements rather than through a formal hierarchy of authority Minority ownership Keiretsu: a group of organizations, each of which owns shares in the other organizations in the group, that work together to further the group s interests Copyright 2010 Pearson Education, Inc. 3-24

91 Types of Strategic Alliances (cont.) Joint venture: a strategic alliance among two or more organizations that agree to jointly establish and share the ownership of a new business Copyright 2010 Pearson Education, Inc. 3-27

93 Strategies for Managing Symbiotic Resource Interdependencies (cont.) Merger and takeover: results in resource exchanges taking place within one organization rather than between organizations New organization better able to resist powerful suppliers and customers Normally involves great expense and problems managing the new business Copyright 2010 Pearson Education, Inc. 3-29

Figure 3-7: Interorganizational Strategies for Managing

95 Strategies for Managing Competitive Resource Interdependencies Collusion and cartels Collusion: a secret agreement among competitors to share information for a deceitful or illegal purpose May influence industry standards Cartel: an association of firms that explicitly agrees to coordinate their activities May influence price structure of market Copyright 2010 Pearson Education, Inc. 3-31

96 Strategies for Managing Competitive Resource Interdependencies (cont.) Third-party linkage mechanism: a regulatory body that allows organizations to share information and regulate the way they compete Strategic alliances: can be used to manage both symbiotic and competitive interdependencies Merger and takeover: the ultimate method for managing problematic interdependencies Copyright 2010 Pearson Education, Inc. 3-32

97 Transaction Cost Theory Transaction costs: the costs of negotiating, monitoring, and governing exchanges between people Transaction cost theory: the goal of an organization is to minimize the costs of exchanging resources in the environment and the costs of managing exchanges inside the organization Copyright 2010 Pearson Education, Inc. 3-33

98 Sources of Transaction Costs Environmental uncertainty and bounded rationality Bounded rationality: refers to the limited ability people have to process information Opportunism and small numbers When organizations are dependent on a small number for supplies, the potential for exploitation is great Risk and specific assets Specific assets: investments that create value in one particular exchange relationship but have no value in any other exchange relationship Copyright 2010 Pearson Education, Inc. 3-34

100 Transaction Costs and Linkage Mechanisms Transaction costs are low when: Organizations are exchanging nonspecific goods and services Uncertainty is low There are many possible exchange partners Copyright 2010 Pearson Education, Inc. 3-36

101 Transaction Costs and Linkage Mechanisms (cont.) Transaction costs are high when: Organizations begin to exchange more specific goods and services Uncertainty increases The number of possible exchange partners falls Copyright 2010 Pearson Education, Inc. 3-37

102 Transaction Costs and Linkage Mechanisms (cont.) Bureaucratic costs: internal transaction costs Bringing transactions inside the organization minimizes but does not eliminate the costs of managing transactions Copyright 2010 Pearson Education, Inc. 3-38

103 Using Transaction Cost Theory to Choose an Interorganizational Strategy Transaction cost theory can be used to choose an interorganizational strategy Managers can weigh the savings in transaction costs of particular linkage mechanisms against the bureaucratic costs Copyright 2010 Pearson Education, Inc. 3-39

104 Using Transaction Cost Theory to Choose an Interorganizational Strategy (cont.) Managers deciding which strategy to pursue must take the following steps: Locate the sources of transaction costs that may affect an exchange relationship and decide how high the transaction costs are likely to be Estimate the transaction cost savings from using different linkage mechanisms Estimate the bureaucratic costs of operating the linkage mechanism Choose the linkage mechanism that gives the most transaction cost savings at the lowest bureaucratic cost Copyright 2010 Pearson Education, Inc. 3-40

105 Keiretsu Japanese system for achieving the benefits of formal linkages without incurring its costs Example: Toyota has a minority ownership in its suppliers Affords substantial control over the exchange relationship Avoids bureaucratic cost of ownership and opportunism Copyright 2010 Pearson Education, Inc. 3-41

106 Franchising A franchise is a business that is authorized to sell a company s products in a certain area The franchiser sells the right to use its resources (name or operating system) in return for a flat fee or share of profits Copyright 2010 Pearson Education, Inc. 3-42

107 Outsourcing Moving a value creation that was performed inside the organization to outside companies Decision is prompted by the weighing the bureaucratic costs of doing the activity against the benefits Increasingly, organizations are turning to specialized companies to manage their information processing needs Copyright 2010 Pearson Education, Inc. 3-43