Creating Effective Organizational Designs

Creating Effective Organizational Designs
chapter 10

Learning Objectives After reading this chapter, you should have a good understanding of: LO10.1 The growth patterns of major corporations and the relationship between the firm’s strategy and its structure. LO10.2 Each of the traditional types of organizational structure: simple, functional, divisional, and matrix. LO10.3 The implication of a firm’s international operations for organizational structure.

Learning Objectives LO10.4 The different types of boundaryless organizations – barrier-free, modular, and virtual – and their relative advantages and disadvantages. LO10.5 The need for creating ambidextrous organizational designs that enable firms to explore new opportunities and effectively integrate existing operations.

Organizational Structure
Consider… To implement strategy successfully, firms must have appropriate organizational designs. How should a firm coordinate internal operations? And how should a firm integrate its operations with external parties? How can these internal & external boundaries be made both flexible and permeable? To implement strategy successfully, firms must have appropriate organizational designs. These include the processes and integrating mechanisms necessary to ensure that boundaries among internal activities and external parties, such as suppliers, customers, and alliance partners, are flexible and permeable. A firm’s performance will suffer if its managers don’t carefully consider both of these organizational design attributes. Especially in rapidly changing and unpredictable environments, managers typically face two opposing challenges: (1) being proactive and taking advantage of new opportunities, and (2) ensuring the effective coordination and integration of existing operations by managing existing assets and competencies as efficiently as possible. Successful organizations create permeable boundaries among the internal activities as well as between the organization and its external partners. Managers must first decide on the most appropriate type of organizational structure, and then assess the effectiveness of the mechanisms, processes, and techniques that support this structure.

Organizational Structure
Organizational structure refers to formalized patterns of interactions linking Tasks Technologies People Structure provides a balance between The need for division of tasks into meaningful groupings The need to integrate these groupings for maximum efficiency and effectiveness Organizational structure = the formalized patterns of interactions that link a firm’s tasks, technologies, and people. Structures help to ensure that resources are used effectively in accomplishing an organization’s mission. Structure provides a means of balancing two conflicting forces: a need for the division of tasks into meaningful groupings, and the need to integrate such groupings in order to ensure efficiency and effectiveness. Structure identifies the executive, managerial, and administrative organization of a firm and indicates responsibilities and hierarchical relationships. It also influences the flow of information as well as the context and nature of human interactions.

Question? Generally speaking, discussions of the relationship between strategy and structure strongly imply that strategy follows structure. structure follows strategy. strategy can effectively be formulated without considering structural elements. structure typically has a very small influence on a firm’s strategy. Answer: B. A firm’s strategy has implications for how managers need to control and coordinate the firm’s scope of operations, especially as it grows to enter new product-market domains. Such growth places additional pressure on executives to manage the firm’s increasing size and diversity. The most appropriate type of structure that a firm adopts depends on the nature and magnitude of growth.

Organizational Structures
Exhibit 10.1 Dominant Growth Patterns of Large Corporations Source: Adapted from J.R. Galbraith and R.K. Kazanjian. Strategy Implementation: Structure, Systems and Process, 2nd edition. Copyright © 1986. A firm’s strategy and structure change as it increases in size, diversifies into new product markets, and expands its geographic scope. Exhibit 10.1 illustrates the common growth patterns of firms. The choice of structure has to do not only with the direction and magnitude of growth, but also with the degree of integration needed across businesses as this growth occurs.

Organizational Structures: Simple Structure
The simple organizational structure is the oldest & most common organizational form, where The organization is small, with a single or very narrow product line The owner-manager makes most of the decisions The staff is an extension of the top executive’s personality Simple organizational structure = an organizational form in which the owner–manager makes most of the decisions and controls activities, and the staff serves as an extension of the top executive.

Organizational Structures: Simple Structure
Advantages Disadvantages Highly informal Coordination of tasks by direct supervision Centralized decision- making Little specialization Few rules & regulations; informal reward systems Employees may not understand their responsibilities Employees may take advantage of lack of regulations Limited opportunities for upward mobility The simple structure is highly informal and the coordination of tasks is accomplished by direct supervision. Decision-making is highly centralized, there is little specialization of tasks, few rules and regulations, and an informal evaluation and reward system. A simple structure may foster creativity and individualism, however such informality may lead to problems. Employees may not clearly understand their responsibilities, which can lead to conflict and confusion. Employees may also take advantage of the lack of regulations, act in their own self-interest, which can erode motivation and satisfaction and lead to the possible misuse of organizational resources. Small organizations have flat structures that limit opportunities for upward mobility. Without the potential for future advancement, recruiting and retaining talent may become difficult.

Organizational Structures: Functional Structure
The functional organizational structure is where the major functions of the firm are grouped internally The organization is small, with a single or closely related product or service, and high production volume The owner-manager needs specialists in various functional areas The chief executive has responsibility for coordination & integration of the functional areas Functional organizational structure = an organizational form in which the major functions of the firm, such as production, marketing, R&D, and accounting, are grouped internally. When an organization is small (15 employees or less), it is not necessary to have a variety of formal arrangements and groupings of activities. However, as firms grow, excessive demands may be placed on the owner-manager in order to obtain and process all of the information necessary to run the business. Thus, he or she will need to hire specialists in the various functional areas. The coordination and integration of these functional areas becomes one of the most important responsibilities of the chief executive.

Growth in the overall scope and complexity of the business necessitates a functional organizational structure wherein the major functions of the firm are grouped internally. Exhibit 10.2 Functional Organizational Structure

Advantages Disadvantages Impeded communication & coordination due differences in values & orientations – “silos” May lead to short- term thinking Difficult to establish uniform performance standards Enhanced coordination & control Centralized decision- making Enhanced organizational-level perspective More efficient use of managerial & technical talent Facilitated career paths in specialized areas By bringing together specialists into functional departments, a firm is able to enhance its coordination and control within each of the functional areas. Decision-making in the firm will be centralized at the top of the organization. This enhances the organizational level (as opposed to functional area) perspective across the various functions. In addition, the functional structure provides for more efficient use of managerial and technical talent since functional area expertise is pooled in a single department (e.g. marketing) instead of being spread across a variety of product-market areas. Finally, career paths and professional development in specialized areas are facilitated. However, the differences in values and orientations among functional areas may impede communication and coordination, causing the development of “stovepipes” or “functional silos”, in which departments view themselves as isolated, self-contained units with little need for interaction and coordination with other departments. This can erode communication and lead to short-term thinking, and overburden the top executives because they now have to deal with conflicts. Functional structures also make it difficult to establish uniform performance standards across the entire organization.

Organizational Structures: Divisional Structure
The divisional organizational structure is where products, projects, or product markets are grouped internally Divisions are relatively autonomous, consisting of products & services that are different from those of other divisions Each division includes its own functional specialists typically organized into departments Division executives help determine product- market & financial objectives Divisional organizational structure = an organizational form in which products, projects, or product markets are grouped internally. Each of the divisions, in turn, includes its own functional specialists who are typically organized into departments. A divisional structure encompasses a set of relatively autonomous units governed by a central corporate office, and is sometimes called the multidivisional structure or M-form. The operating divisions are relatively independent and consist of products and services that are different from those of other divisions. Operational decision-making in a large business places excessive demands on the firm’s top management. In order to attend to broader, longer-term organizational issues, top level managers must delegate decision-making to lower-level managers. Divisional executives then help determine the product-market and financial objectives for the division.

Increased complexity of the business necessitates a divisional organizational structure wherein the firm is organized around products, projects, or markets. Each of the divisions, in turn, then has its own functional specialists who are typically organized into departments within each division, similar to the functional structure. Exhibit 10.3 Divisional Organizational Structure

Advantages Disadvantages Can be very expensive Can lead to dysfunctional competition among divisions Differences in image & quality may occur across divisions Can focus on short- term performance Separation of strategic & operating control Quicker response to changes in the market environment Minimal problems sharing resources Development of general management talent is enhanced By creating separate divisions to manage individual product markets, there is a separation of strategic and operating control. Divisional managers can focus their efforts on improving operations in the product markets for which they are responsible, and corporate officers can devote their time to overall strategic issues for the entire corporation. This focus on the division’s products and markets gives the firm an enhanced ability to respond quickly to changes in the market environment. Since there are functional departments within each division, the problems associated with sharing resources across functional departments are minimized. Because there are multiple levels of management, the development of talent is enhanced. However, there can be increased costs due to the duplication of personnel, operations, and investment since each division must staff multiple functional departments. There could also be dysfunctional competition among divisions since each division tends to become concerned solely about its own operations. With many divisions providing different products and services, there is the chance that differences in image and quality may occur across divisions. Since each division is evaluated in terms of financial measures such as return on investment and revenue growth, there is often an urge to focus on short-term performance.

Organizational Structures: SBU Structure
The strategic business unit (SBU) structure is where similar products or markets are grouped into units to achieve synergy Variation on the divisional structure Synergies are achieved through related diversification – core competencies, shared infrastructures, market power Each of the SBUs operates as a profit center Strategic business unit (SBU) structure = an organizational form in which products, projects, or product market divisions are grouped into homogenous units. Highly diversified corporations may consist of dozens of different divisions. A purely divisional structure would make it nearly impossible for the corporate office to plan and coordinate activities, because the span of control would be too large. With an SBU structure, divisions with similar products, markets and/or technologies are grouped into homogenous units to achieve synergies, including those available through related diversification such as leveraging core competencies, sharing infrastructures, and market power. Generally the more related businesses are within a corporation, the fewer SBUs will be required. Each of the SBUs in the corporation operates as a profit center.

Organizational Structures: SBU Structure
Advantages Disadvantages Can be difficult to achieve synergies Increased personnel & overhead expenses Corporate office further removed from the divisions Corporate unaware of key changes in market conditions Planning & control done by the corporate office Decentralization of authority Quicker response to changes in the market environment Synergies through sharing core competencies, infrastructures, & market power The SBU structure makes the task of planning and control by the corporate office more manageable. Also, with greater decentralization of authority, individual businesses can react more quickly to important changes in the environment than if all divisions had to report directly to the corporate office. However, since the divisions are grouped into SBUs it may become difficult to achieve synergies across SBUs: if divisions in different SBUs have different potential sources of synergy, it may become difficult for them to be realized. The additional level of management increases the number of personnel and overhead expenses, while the additional hierarchical level removes the corporate office further from the individual divisions. The corporate office may become unaware of key developments that could have a major impact on the corporation.

Example: Challenges of a Divisional Structure
Johnson & Johnson has more than 275 operating companies located in 60 countries, and sells products in virtually all countries around the world. J&J is organized into three business segments: Consumer, Pharmaceutical, and Medical Devices and Diagnostics - a decentralized SBU divisional structure How to keep autonomy while also developing synergies between the business units? How to extend control mechanisms across divisions to better monitor performance? Johnson & Johnson is engaged in the research and development, manufacture and sale of a broad range of products in the health care field. The business of Johnson & Johnson is conducted by more than 275 operating companies located in 60 countries, including the United States, which sell products in virtually all countries throughout the world. The Company's primary focus has been on products related to human health and well-being. The Company is organized into three business segments: Consumer, Pharmaceutical and Medical Devices and Diagnostics. Historically, Johnson and Johnson had had a decentralized SBU divisional structure. There was a need to provide relative autonomy to the business units so the firm could respond swiftly to emerging opportunities. However there was also a need to develop synergies between the various business units across the three divisions. A new corporate office was created to get business units to collaborate on research, development, and marketing efforts. How can J&J get this collaboration without destroying the entrepreneurial spirit that has spearheaded most of the growth of the firm to date? In addition, with looming quality problems, how can control mechanisms be extended across divisions to better monitor performance? Horizontal linking mechanisms were needed. See Case 18: Johnson & Johnson, for more details.

Organizational Structures: Holding Company Structure
The holding company structure is where businesses in a corporation’s portfolio are the result of unrelated diversification Variation on the divisional structure Similarities are few, so synergies are limited Operating divisions have autonomy Corporate staffs are small & have limited involvement, relying on financial controls & incentive programs to obtain performance Holding company structure = an organizational form that is a variation of the divisional organizational structure in which the divisions have a high degree of autonomy both from other divisions and from corporate headquarters. The holding company structure is appropriate when the businesses in a corporation’s portfolio do not have much in common. Plus, the potential for synergies is limited. Holding company structures are most appropriate for firms with the strategy of unrelated diversification, such as with Berkshire Hathaway. Since there are few similarities across the businesses, the corporate offices in these companies provide a great deal of autonomy to operating divisions and rely on financial controls and incentive programs to obtain high levels of performance across the individual businesses. Corporate staffs at these firms tend to be small because of their limited involvement in the overall operation of their various businesses.

Organizational Structures: Holding Company Structure
Advantages Disadvantages Potential for synergies is very limited Corporate office has little control Difficult to replace key divisional executives if they leave Turnaround may be difficult due to limited corporate staff support Cost savings due to fewer personnel and lower overhead Divisional autonomy increases motivation level of divisional executives Quicker response to changes in the market environment The holding company structure has cost savings associated with fewer personnel, and a lower overhead resulting from a small corporate office and fewer hierarchical levels. The autonomy of the holding company structure increases the motivational level of divisional executives and enables them to respond quickly to market opportunities and threats. However, there is an inherent lack of control, and a dependence that corporate level executives have on divisional executives. Major problems could arise if key divisional executives leave the firm, because the corporate office has very little additional managerial talent ready to quickly fill key positions. If problems arise in the division, it may become very difficult to turn around individual businesses because of limited staff support in the corporate office.

Organizational Structures: Matrix Structure
The matrix organizational structure is where functional departments are combined with product groups on a project basis Functional departments, product groups & geographical units are combined Individuals have two managers Project managers & functional managers share responsibility Matrix organizational structure = an organizational form in which there are multiple lines of authority and some individuals report to at least two managers. This approach strives to overcome the inadequacies inherent in the other structures. It is a combination of the functional and divisional structure. Most commonly, functional departments are combined with product groups on a project basis. Some large multinational corporations rely on a matrix structure to combine product groups and geographical units. Personnel may work under the manager of the group for the duration of the project. The individuals who work in a matrix organization become responsible to two managers: the project manager and the manager of their functional area. Product managers may have global responsibility for the development, manufacturing, and distribution of their own line, while managers of geographical regions have responsibility for the profitability of the businesses in their regions.

The matrix structure facilitates the use of specialized personnel, equipment, and facilities. It tries to overcome the inadequacies inherent in the other structures by combining functional and divisional structures on a project basis, under the guidance of a project manager. Employees have dual reporting relationships: they report to the project manager and to the manager of their functional area. Exhibit 10.4 Matrix Organizational Structure

Advantages Disadvantages Dual reporting relationships lead to uncertainty regarding accountability Can lead to power struggles & conflict Human resources are duplicated Decision-making takes longer Increases market responsiveness, collaboration & synergies Allows more efficient utilization of resources Improves flexibility, coordination & communication Increases professional development The matrix structure allows for shared resources instead of duplicating functions, as would be the case in a divisional structure based on products. Individuals with high expertise can divide their time among multiple projects. Such resource sharing and collaboration enables the firm to use resources more efficiently and to respond more quickly and effectively to changes in market conditions. The flexibility inherent in the matrix structure provides professionals with a broader range of responsibility which enables them to develop their skills and competencies. However, the dual reporting structures can result in uncertainty and lead to intense power struggles and conflict over the allocation of personnel and other resources. Working relationships become more complicated. This may result in excessive reliance on group processes and teamwork, along with the diffusion of responsibility, which in turn may erode timely decision-making.

Organizational Structures: International Operations
Firms with international operations must consider a structure based on the following: The type of strategy that is driving the firm’s foreign operations The degree of product diversity The extent to which a firm is dependent on foreign sales In the global marketplace, managers must ensure consistency between their strategies (at the business, corporate, and international levels), and the structure of their organization. As firms expand into foreign markets, they generally follow a pattern of change in structure that parallels the changes in their strategies. The three major contingencies that influence the chosen strategy are (1) the type of strategy that is driving the firm’s foreign operations, (2) product diversity, and 3) the extent to which a firm is dependent on foreign sales. As international operations become an important part of a firm’s overall operations, managers must make changes that are consistent with their firm’s structure.

Multidomestic Strategies use… Global Strategies use… Worldwide functional structure Worldwide product division structure Worldwide holding company structure International division structure Geographic-area division structure Worldwide matrix structure A firm’s international strategy has implications for its chosen structure. Remember from Chapter 7 that a multidomestic strategy is based on a firm’ desire to differentiate its products and services to adapt to local markets, and is usually used in industries where the pressure for local adaptation is high and the pressure for lowering costs is low. The structures consistent with such a strategic orientation are the international division and geographic-area division structures. Here local managers are provided with a high level of autonomy to manage their operations within the constraints and demands of their geographic market. As a firm’s foreign sales increase as a percentage of its total sales, it’ll likely change from an international division to a geographic-area division structure, and, as a firm’s product and/or market diversity becomes large, it is likely to benefit from a worldwide matrix structure. International division structure = an organizational form in which international operations are in a separate, autonomous division. Most domestic operations are kept in other parts of the organization. Geographic-area division structure = a type of divisional organizational structure in which operations in geographical regions are grouped internally. Worldwide matrix structure = a type of matrix organizational structure that has one line of authority for geographic-area divisions and another line of authority for worldwide product divisions. Remember from chapter 7 that global strategies are based on a firm’s need for centralization and control by the corporate office, with the primary emphasis on controlling costs, usually used in industries where the pressure for local adaptation is low and the pressure for lowering costs is high. Economic pressures require managers to handle operations in different geographic areas with overall efficiency. The worldwide functional and worldwide product division structures are consistent with efficiency perspective. Here, division managers view the marketplace as homogenous and devote relatively little attention to local market factors. Firms with relatively low levels of product diversity may opt for a worldwide product division structure. However, if significant product market diversity results from highly unrelated international acquisitions, a worldwide holding company structure should be implemented. Such firms have very little commonality among products, markets, technologies, and have little need for integration. Worldwide functional structure = a functional structure in which all departments have worldwide responsibilities. Worldwide product division structure = a product division structure in which all divisions have worldwide responsibilities.

A global start-up Uses inputs from around the world Sells its products & services to customers around the world Has communication & coordination challenges Has less resources than well-established corporations Must use less costly administrative mechanisms Frequently chooses a boundaryless organizational design Global start-up = a business organization that, from inception, seeks to derive significant advantage from the use of resources and the sale of outputs in multiple countries. Many firms now expand internationally relatively early in their history, and some firms are “born global” – that is, from the very beginning, many start-ups are global in their activities. Right from the beginning, it uses inputs from around the world and sells its products and services to customers around the world. Geographical boundaries of nation states are irrelevant for a global start-up. Being global necessarily involves higher communication, coordination, and transportation costs. Most global start-ups have far less resources than well-established corporations, so must internalize only a few activities and outsource the rest. Managers of such firms must have considerable prior international experience so that they can successfully handle the inevitable communication problems and cultural conflicts. Another key to success is to keep the coordination and communication costs low. The only way to achieve this is by creating less costly administrative mechanisms. A boundaryless organizational design is particularly suitable for global start-ups because of its flexibility and low cost.

Organizational Structures: Boundaryless Designs
A boundaryless organizational design makes these boundaries more permeable: Vertical boundaries between organizational levels Horizontal boundaries between functional areas External boundaries between the firm and its customers, suppliers, & regulators Geographic boundaries between locations, cultures, & markets Boundaryless designs include barrier-free, modular, & virtual organizations Boundaryless organizational design = organizations in which the boundaries, including vertical, horizontal, external, and geographical boundaries, are permeable. Boundaryless does not imply that all internal and external boundaries vanish completely, but that they become more open and permeable. Boundaryless designs should not replace the traditional forms of organizational structure, but they should complement them. See Strategy Spotlight 10.4 for the four types of boundaries that place limits on organizations: (1) vertical boundaries between levels in the organization’s hierarchy that limit the flow of ideas from employees up to managers, (2) horizontal boundaries between functional areas such as marketing, operations, and customer service (silos), (3) external boundaries between the firm and its customers, suppliers, and regulators that limit flexibility in the value chain, (4) geographic boundaries between locations, cultures, and markets that reduce or inhibit the flow of communication. There are three approaches to making boundaries more permeable, that help to facilitate the widespread sharing of knowledge and information across both the internal and external boundaries of the organization: barrier-free, modular, and virtual types of organizations.

A barrier-free organization has permeable internal & external boundaries and requires: Higher level of trust and shared interests Shift in philosophy from executive development to organizational development Greater use of teams Flexible, porous organizational boundaries Communication flows & mutually beneficial relationships with both internal and external constituencies Barrier-free organization = an organizational design in which firms bridge real differences in culture, function, and goals to find common ground that facilitates information sharing and other forms of cooperative behavior. The barrier-free type of organization involves making all organizational boundaries – internal and external – more permeable. Eliminating the multiple boundaries that stifle productivity and innovation can enhance the potential of the entire organization. For barrier-free organizations to work effectively, the level of trust and shared interests among all parts of the organization must be raised. The organization needs to develop among its employees the skill level needed to work in a more democratic organization. Barrier-free organizations also require a shift in the organization’s philosophy from executive to organizational development, and from investments in high-potential individuals to investments in leveraging the talents of all individuals. Teams are a central building block for implementing a barrier-free organization. In barrier-free organizations, managers must also create flexible, porous organizational boundaries and establish communication flows and mutually beneficial relationships with internal (e.g. employees) and external (e.g. customers) constituencies, as well as potential cooperative relationships with competitors.

Although a barrier-free structure can enhance productivity and innovation, creating and managing this type of organization can be frustrating. For instance, product development time might double as a result of team management, and managers trained in rigid hierarchies might find it difficult to make the transition to the more democratic, participative style that this teamwork requires. Exhibit 10.6 Pros and Cons of Barrier-Free Structures

Question? What advantages does outsourcing provide an organization?
Access to the best-in-class goods and services. The ability to expand rapidly with a relatively low capital investment. The opportunity to focus scarce resources on existing core competencies. All of the above. Answer: D. In some circumstances, firms have received bad press for outsourcing, or more often offshoring, what are perceived as key activities. However an organizational design that allows for outsourcing can provide some significant advantages. A modular design allows the firm to outsource non-core functions, thereby decreasing overall costs and focusing scarce resources on the area where it holds a competitive advantage.

A modular organization requires seamless relationships with external organizations: Outsources nonvital functions or non-core activities to outsiders Activates knowledge & expertise of “best in class” suppliers but retains strategic control Focuses scarce resources on key areas Accelerates organizational learning Decreases overall costs, leverages capital Modular organization = an organization in which nonvital functions are outsourced, which uses the knowledge and expertise of outside suppliers while retaining strategic control. Outsiders may be used to manufacture parts, handle logistics, or perform accounting activities. The value chain can be used to identify the key primary and support activities performed by a firm to create value: which activities do we keep “in-house” and which activities do we outsource to suppliers? The organization becomes a central hub surrounded by networks of outside suppliers and specialists, and parts can be added or taken away. Outsourcing non-core functions allows a firm to decrease overall costs, stimulate new product development by hiring suppliers with superior talent to that of in-house personnel, avoid idle capacity, reduce inventory, and avoid being locked into a particular technology. A company can also focus scarce resources on the area where it holds a competitive advantage. Finally an organization can tap into the knowledge and expertise of its specialized supply chain partners, adding critical skills and accelerating organizational learning. Both manufacturing and service units may be modular. The modular type enables a company to leverage relatively small amounts of capital and a small management team to achieve seemingly unattainable strategic objectives. Nike and Reebok are given as examples.

Although a modular structure can help a firm be effective through efficient use of outside suppliers and specialists, it does require that the company finds loyal, reliable vendors who can be trusted with trade secrets. Firms also need assurances that suppliers will dedicate their financial, physical, and human resources to satisfy strategic objectives such as lowering costs or being first to market. In addition, the modular company must make sure that it selects the proper competencies to keep in-house. An organization must avoid outsourcing components that may compromise its long-term competitive advantage. The main strategic concerns are loss of critical skills or developing the wrong skills, the loss of cross-functional skills, and the loss of control over a supplier. Exhibit 10.7 Pros and Cons of Modular Structures

A virtual organization requires forming alliances with multiple external partners: Continually evolving network of independent companies Linked together to share skills, costs, & access to one another’s markets Coping with uncertainty through cooperative efforts Each gains from resulting individual & organizational learning May not be permanent Virtual organization = a continually evolving network of independent companies that are linked together to share skills, costs, and access to one another’s markets. The members of a virtual organization, by pooling and sharing the knowledge and expertise of each of the component organizations, simultaneously “know” more and can “do” more than any one member of the group could do alone. By working closely together, each gains in the long run from individual and organizational learning. Virtual organizations need not be permanent and participating firms may be involved in multiple alliances. Each company that links up with others to create a virtual organization contributes only what it considers its core competencies. It will mix and match what it does best with the best of other firms by identifying its critical capabilities and the necessary links to other capabilities. Participating firms give up part of their control and accept interdependent destinies. They pursue a collective strategy that enables them to cope with uncertainty through cooperative efforts. Virtual organizations enhance the capacity or competitive advantage of participating firms.

The virtual organization demands that managers build relationships with other companies, negotiating win-win deals for all parties by finding the right partners with compatible goals and values, and providing the right balance of freedom and control. Information systems must be designed and integrated to facilitate communication with current and potential partners. Managers must also be clear about the strategic objectives while forming alliances. The virtual organization is a logical culmination of joint venture strategies of the past. Shared risks, costs, and rewards are the facts of life in a virtual organization. When virtual organizations are formed, they involve tremendous challenges for strategic planning. As with the modular corporation, it is essential to identify core competencies. However, for virtual structures to be successful, a strategic plan is also needed to determine the effectiveness of combining core competencies. The strategic plan must address the diminished operational control and overwhelming need for trust and common vision among the partners. Exhibit 10.8 Pros and Cons of Virtual Structures Source: Miles, R.E. & Snow, C.C Organizations: New Concepts for New Forms. California Management Review, Spring: 62-73; Miles & Snow Causes of Failure in Network Organizations, California Management Review, Summer: 53-72; and Bahrami, H The Emerging Flexible Organization: Perspectives from Silicon Valley. California Management Review, Summer:

Example: A Virtual Organization
This textbook is published by McGraw-Hill Education Putting the textbook and supplemental material together is done by a virtual team The authors live in Texas, Michigan, and New York The editors work in Illinois The text compositors are in India The PowerPoint & Case Teaching Notes author works out of her home in Connecticut Deadlines are coordinated by the MH editors in Illinois, to pull the book together and arrange for distribution On November 26, 2012, The McGraw-Hill Companies (NYSE: MHP) (“the Company”) announced it had signed a definitive agreement to sell its McGraw-Hill Education business to investment funds affiliated with Apollo Global Management, LLC. Once the deal closes, either late this year or early next, McGraw-Hill says it will position itself as “high-growth, high-margin benchmarks, content and analytics company” to be renamed McGraw-Hill Financial. The deal follows by more than a year the company’s announcement that it would separate the capital-intensive textbook operation from the unit that includes Standard & Poor’s. Activist hedge fund Jana Partners and the Ontario Teachers’ Pension Plan Board had pushed for the change saying that McGraw-Hill had become too unfocused as educational publishing diluted earnings. Publishing is a low-margin business, requiring the collaboration of multiple entities with extensive skill-sets. The relationships are temporary, but all share in the resulting gains from this effort. See and for more information.

A boundaryless organization requires Mechanisms to ensure effective coordination and integration Common culture and shared values Horizontal organizational structures Horizontal systems and processes Communications and information technologies Human resource practices Awareness of the benefits and costs of developing lasting internal & external relationships Designing an organization that simultaneously supports the requirements of an organization strategy, is consistent with the demands of the environment, and can be effectively implemented by the people around the manager is a tall order for any manager. The most effective solution is usually a combination of organizational types. That is, a firm may outsource many parts of its value chain to reduce costs and increase quality, engage simultaneously in multiple alliances to take advantage of technological developments or penetrate new markets, and break down barriers within the organization to enhance flexibility. When an organization faces external pressures, resource scarcity, and declining performance, it tends to become more internally focused, rather than directing its efforts toward managing and enhancing relationships with existing and potential external stakeholders. This may be the most opportune time for managers to carefully analyze their value chain activities and evaluate the potential for adopting elements of modular, virtual, and barrier-free organizational types. However managers must be aware of two key issues as they work to design an effective boundaryless organization. First, managers need to develop mechanisms to ensure effective coordination and integration. Second, managers need to be aware of the benefits and costs of developing strong and long-term relationships with both internal and external stakeholders. One mechanism for integration is to develop horizontal organizational structures = organizational forms that group similar or related business units under common management control and facilitate sharing resources and infrastructures to exploit synergies among operating units and help to create a sense of common purpose.

Benefits Costs Agency costs are reduced through the use of relational systems Transaction costs between the firm and its suppliers are reduced Individual participants are less likely to perceive a conflict of interest Relationships between individuals become more important than profits Conflicts are resolved through ad hoc negotiations & processes Relationships are driven more by social connections than by needed competencies Managers must become aware of the costs and benefits of developing lasting internal and external relationships. Rather than relying on strict hierarchical and bureaucratic systems, boundaryless organizations are flexible and coordinate action by leveraging shared social norms and strong social relationships between both internal and external stakeholders. Some of the benefits of relying on relationships and social norms to guide behavior include: (1) agency costs are reduced because managers and employees in relationship-oriented firms are guided more by social norms rather than rules, regulations, and financial incentives; (2) transaction costs between the firm and its suppliers and customers will be reduced because the level of trust that’s built up means less need to write detailed contracts or set up strict bureaucratic rules to outline the responsibilities and define the behavior of each firm; (3) since they feel a sense of shared ownership and goals, individuals within the firm as well as partnering firms will be more likely to search for win-win rather than win-lose solutions – firms with strong relationships with their partners are going to look for solutions that not only benefit themselves but also provide equitable benefits and limited downside for the partnering firms. There are also some substantial costs: (1) as the relationships between individuals and firms strengthen, they are also more likely to fall prey to suboptimal lock-in effects. The problem here is that as decisions become driven by concerns about relationships, economic factors become less important. As a result, firms become less likely to make decisions that could benefit the firm since those decisions may harm employees or partnering firms. (2) Since there are no formal guidelines, conflicts between individuals and units within firms as well as between partnering firms are typically resolved through ad hoc negotiations and processes, rather than legal means or bureaucratic rules that may more effectively guide decision-making. (3) The social capital of individuals and firms can drive their opportunities. For instance, rather than identifying the best person to put in a leadership role or the optimal supplier to contract with, these choices are more strongly driven by the level of social connection the person or supplier has. The solution to these costs may be to effectively integrate elements of formal structure and reward systems with stronger relationships.

Organizational Structures: Ambidextrous Designs
Ambidextrous organizational designs address two contradictory challenges: How to maintain adaptability How to achieve alignment Ambidextrous organizations Are aligned and efficient while they pursue modest, incremental innovations Are flexible enough to adapt to changes in the external environment and create dramatic, breakthrough innovations In chapter 1, the concept of “ambidexterity” was introduced. This concept incorporates two contradictory challenges faced by today’s managers. First, managers must explore new opportunities and adjust to volatile markets in order to avoid complacency. They must ensure that they remain adaptable and proactive in expanding and/or modifying their product-market scope to anticipate and satisfy market conditions. Second, managers must also effectively exploit the value of their existing assets and competencies. They need to have an alignment, which is a clear sense of how value is being created in the short term and how activities are integrated and properly coordinated. Firms that achieve both adaptability and alignment are considered ambidextrous organizations. Ambidextrous organizational designs = organizational designs that attempt to simultaneously pursue modest, incremental innovations as well as more dramatic, breakthrough innovations. Adaptability = managers’ exploration of new opportunities and adjustment to volatile markets in order to avoid complacency. Alignment = managers’ clear sense of how value is being created in the short term and how activities are integrated and properly coordinated.

Question? According to a study by O’Reilly and Tushman, effective ambidextrous structures had all of the following attributes except a clear and compelling vision. managerial efforts that were highly focused on revenue enhancement. cross-fertilization among business units. established units that were shielded from the distractions of launching new businesses. Answer: B. Charles O’Reilly and Michael Tushman investigated companies that attempted to simultaneously pursue modest, incremental innovations as well as more dramatic, breakthrough innovations. The study found that the organizational structure and management practices employed had a direct and significant impact on the performance of both the breakthrough initiative and traditional business. The ambidextrous organizational designs were more effective than either functional organizational structures or team structures. The factors contributing to success included (1) a clear and compelling vision, consistently communicated by the company’s senior management team. (2) The existence of cross-fertilization while avoiding cross-contamination, achieved by tight coordination and integration at the managerial levels. This enabled newer units to share important resources derived from the traditional units such as cash, talent, and expertise. Such sharing was encouraged and facilitated by effective reward systems that emphasized overall company goals. (3) The organizational separation ensured that the new units’ distinctive processes, structures, and cultures were not overwhelmed by the forces of “business as usual”. The established units were shielded from the distraction of launching new businesses, and they continued to focus all of their attention and energy on refining their operations, enhancing their products, and serving their customers.

Organizational Structures: Ambidextrous Designs
Ambidextrous organizational designs Effectively integrate and coordinate existing operations Establish project teams that are structurally independent units Pay attention to each unit’s processes, structures, & cultures Effectively integrate each unit into the existing management hierarchy Successful organizations must ensure that they have the proper type of organizational structure. Furthermore they must ensure that their firms incorporate the necessary integration and processes so that the internal and external boundaries of their firms are flexible and permeable. Such a need is increasingly important as the environments of firms become more complex, rapidly changing, and unpredictable. In today’s rapidly changing global environment, managers must be responsive and proactive in order to take advantage of new opportunities. At the same time, they must effectively integrate and coordinate existing operations. Such requirements call for organizational designs that establish project teams that are structurally independent units, with each having its own processes, structures, and cultures. But, at the same time, each unit needs to be effectively integrated into the existing management hierarchy.

Creating Effective Organizational Designs

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