Controls for Differentiated Strategies

Focus of chapter is Contingency Theory: A specific structure and process for an organization depends upon various external and internal factors. Research studies have identified important factors that influence control system design: Size

Business Environment
Technology
Interdependence
Strategies

Corporate Strategy
Logic for linking controls to strategy depends on:
Different organizations operate in different strategic contexts. Different strategies require different:
Task priorities
Key success factors
Skills
Perspectives
Behavior patterns
Control systems are measurement systems that influence people being measured The design of the control system should be monitored for behavior induced by system is consistent with corporate strategy.

Implications for Organization Structure
Corporate strategy is a continuum line from a single industry strategy to an unrelated diversification strategy on the other pole. Various corporate strategies imply different organization structures and different control systems. Review (Exhibit 13.1) At the single industry pole companies tend to be functionally organized. Not all single industry firm are organized as such – for instance: Fast food chains

Hotels
Supermarkets
Drugstores
They are organized by business units with both production and marketing functions at many facilities. However, every unrelated, diversified company or conglomerate is organized by autonomous business units. Senior managers in these firms focus on portfolio management and delegate the development of product/market to the BU managers. Single industry managers are very familiar with their industry and have expertise in many operating facets.

On the other hand, conglomerate managers tend to be experts mainly in finance. As a firm moves from a single industry firm to the unrelated diversified firm finds the autonomy of the BU manager tends to increase. Implications for Organization Structure – Continued

There are two reasons for this:
Unlike in a single industry firm senior managers in unrelated diversified firms do not possess expertise to make strategic and operating decisions for disparate BU’s. There is virtually no interdependence across BU’s in a conglomerate. The unrelated nature of conglomerates varied BU’s does not effectively allow transferring executives.

Implications for Management Control
Organizations no matter how well aligned they are to their strategy, cannot effectively implement it without a consistent management control system. Different corporate strategies imply differences in context for control systems: As firms diversify, managers lack expertise so performance valuation tends to be at arm’s length. Implications for Management Control – Continued

Single industry and related diversified firms possess corporate-wide core competencies which define BU strategies – Communication channels are key to success. Low levels of interdependence among BU’s in conglomerates means it is desirable to adjust balance in control systems from cooperation to entrepreneurial.

Strategic Planning in conglomerates tend to be vertical.
Strategic planning in single industry and related diversified firms can be both horizontal and vertical. Horizontal portion comes form:
Group of executives develop group strategies to take advantage of synergies. Individual BU’s have an interdependence and managers identify linkages with each other and try to maximize them Corporate office requires joint strategic plans for independent BU’s. Plans of individual BU’s would be circulated to similar BU’s for critiques. Implications for Management Control – Continued

Budgeting in a single industry firm with CEO’s that know operations well employ more personal contact with BU managers, etc. Budgeting in a conglomerate relies on formal processes because of the size and scope of the firm – informal communication is nil. Budgeting Characteristics of conglomerates revolve around:

BU managers have more influence in developing their budgets because of their knowledge base. Greater emphasis is placed on meeting the budget since the CEO has no other way to monitor performance. Inter-company transfer pricing between BU’s are more frequent in single industry and related diversified firms than conglomerates. Conglomerates – BU sourcing flexibility

Single or related firms – synergies are important – no sourcing decision ability is allowed. Incentive Compensation policy differs across corporate strategies : Use of Formulas – Conglomerates use more formulas to calculate bonuses – Subjective factors are prevalent in Single and related firms. Profitability Measures – Conglomerates employ BU’s profitability as bonuses calculation tool – Single and related firms employ individual BU performance and that of the entire organization as the base form bonuses.

Business Unit Strategy
Diversified corporations segment themselves into BU’s and assign different strategies to each BU. BU strategy depends on:
Its Mission
Its Competitive Advantage
BU’s choose from the following missions: Build, Hold, Harvest, and Divest. BU’s have two ways to compete: low cost or differentiation.

Mission
The control – mission fit line reasoning is:
Mission of BU influences uncertainties and their short vs long term tradeoffs. Control systems are varied to motivate managers toward making appropriate tradeoffs. Different Missions require different control systems.

Mission and Uncertainty are magnified in Build Units than are found in Harvest Units: Build strategies are found in growth stage of product life cycle – Harvest strategies are employed during a product’s decline stage. Build BU’s focus on increasing market share which puts them in greater conflict with competitors – Harvest strategy is more benign. Build managers tend to experience more productivity dependencies than Harvest managers. Build units in new evolving industries have less business experience in these type of operations.

Mission and Time Span have short and long term tradeoffs for build versus
harvest strategies: Share-building
Price cutting
Large R&D Expenditures
Major Market Development Expenditures
Long term goals over short
Harvest concentrates on short-term profits
Strategic Planning processes depends on several issues while pursuing its mission. An uncertain environment creates an important strategic planning process. A stable environment calls for a “broad-brush” planning process. Harvest Units are stable and employ DCF’s.

Build Units get lower discount rates because of their life cycle position.

Budgeting
Implications in designing budgeting systems support varied missions. (Review Exhibit 13.4) Budgets are relied on less in Build Units than in Harvest Units. Further differences between Build and Harvest Units:

Build units will have more budget revisions because of their product life cycle position Build unit managers have greater input and influence than Harvest Managers.

Incentive Compensation System
Incentive Compensation system for BU managers must address:
Size of bonus to GM’s base salary.
What measures performance for bonus calculation.
How high of reliance on subjective factors.
How frequently should awards be made?
Mission of BU influences design variables. (Review Exhibit 13.5) Answers to the previous questions:
First: Riskier the strategy the higher the incentive bonus.
Second: Rewards tied to performance will create certain optimal outcomes with respect to the criteria. Third: It depends on the nature of the criteria – long-term vs short-term, long-term favors more subjective because it is harder to measure. Fourth: More frequent awards focus on short-term goals –
build managers.

Competitive Advantage
Choosing a differentiation approach over low-cost increases a business unit’s uncertainty for three reasons: Production innovation is harder – uniqueness.
Low cost units have narrow product lines, low inventory carrying costs, economies of scale. Low cost BU’s produce no-frill commodity products and succeed because they are priced below competition. Top Management Style

Management style is a function of:
Background
Personality
Age
Education
Experience
Various dimensions of management style will influence the operation of control systems.

Personal vs Impersonal Controls
Some managers are number driven – large amounts of data for decisions. Others are people-orientated – they gather information based on discussions. Manager’s attitudes toward reports affect the detail provided, mainly they like graphs instead of tables, etc.

Tight vs Loose Control
Manager’s style affects the degree of tight versus loose control environment based on how routine the situation is overall. The more routine process the looser the control while, new processes need constant monitoring and changes to improve the entire processes. Higher level managers typically utilize less detail to manage and more to overall results.