12.4: Developing Employees

12.4.1: Training

Learning Objective

Compare and contrast on-the-job and off-the-job training

Key Points

• Training has specific goals of improving one’s capability, capacity, and performance, so that he or she may perform his or her job with higher quality and more efficiency.
• On-the-job training takes place in a normal working situation, and has a general reputation as being most effective for vocational work. Off-the-job training takes place away from normal work situations, and has proven more effective in inculcating concepts and ideas.
• An On the Job Training Plan or an OJT Plan is a detailed plan of what is to be covered, how long it will take, and what the training outcomes should be.
• A more recent development in job training is the On the Job Training Plan or OJT Plan. According to the United States Department of the Interior, a proper OJT plan should include an overview of the subjects to be covered, the number of hours the training is expected to take, an estimated completion date, and a method by which the training will be evaluated.

Key Terms

on-the-job training

Training that takes place in regular working situations using actual tools and equipment that trainees will use when fully trained.

off-the-job training

Training that takes place away from normal work situations, and tends to be more effective in inculcating concepts and ideas.

Example

• Training might involve days of work where employees learn to operate machinery, review safety practices, or be introduced to workplace decorum.

The concept behind training is for the trainee to acquire knowledge, skills, and competencies from the trainer as a result of being taught vocational or practical skills. The trainee gains knowledge that relates to specific useful competencies in his or her field. Training has specific goals of improving one’s capability, capacity, and performance. It forms the core of apprenticeships and provides the backbone of content at institutes of technology (also known as technical colleges or polytechnics). These activities are often focused upon, and evaluated against, the job that an individual currently holds.

Types of Training

One can generally categorize training as on-the-job or off-the-job:

On-the-job training takes place in a normal working situation, using the actual tools, equipment, documents or materials that trainees will use once they are fully trained. On-the-job training has a general reputation as being most effective for vocational work.

Off-the-job training takes place away from normal work situations—implying that the employee does not count as a directly productive worker while such training takes place. Off-the-job training has the advantage in that it allows people to get away from work and concentrate more thoroughly on the training itself. This type of training has proven more effective in inculcating concepts and ideas .

An astronaut in training.

An Example of Training

A more recent development in job training is the On the Job Training Plan or OJT Plan. According to the United States Department of the Interior, a proper OJT plan should include:

• An overview of the subjects to be covered;
• The number of hours the training is expected to take, with an estimated completion date;
• A method by which the training will be evaluated.

The stakeholders in training and development are categorized into several classes. The sponsors of training and development are senior managers. The clients of training and development are business planners. Line managers are responsible for coaching, resources, and performance. The participants are those who actually undergo the processes. The facilitators are Human Resources management staff. And the providers are specialists in the field. Each of these groups has its own agenda and motivations, which sometimes conflict with the agendas and motivations of the others.

12.4.2: Long-Term Development

Learning Objective

Outline the various methods used for long term professional development

Key Points

• Those who engage in professional development share a common purpose of enhancing their ability to do their work. At the heart of professional development is the individual’s interest in lifelong learning and increasing their own skills and knowledge.
• There are a variety of approaches to professional development, including consultation, coaching, communities of practice, lesson study, mentoring, reflective supervision and technical assistance.
• Professional development on the job may develop or enhance process skills, sometimes referred to as leadership skills, as well as task skills. Some examples for process skills are ‘effectiveness skills,’ ‘team functioning skills,’ and ‘systems thinking skills’.
• The 21st century has seen a significant growth in online professional development. Content providers incorporate collaborative platforms such as discussion boards and wikis, thereby encouraging and facilitating interaction, and optimizing training effectiveness.
• The 21st century has seen a significant growth in online professional development. Content providers incorporate collaborative platforms such as discussion boards and wikis, thereby encouraging and facilitating interaction, and optimizing training effectiveness.

Key Terms

technical assistance

A method of professional development that aims to assist individuals and their organization to improve by offering resources and information, supporting networking and change efforts.

reflective supervision

A method of professional development which aims to support, develop, and ultimately evaluate the performance of employees through a process of inquiry that encourages their understanding and articulation of the rationale for their own practices.

communities of practice

Approach to professional development by engaging in shared inquiry and learning with people who have a common goal.

Examples

• Many American states have professional development requirements for school teachers. For example, Arkansas teachers must complete 60 hours of documented professional development activities annually. Professional development credits are named differently from state to state. For example, teachers in Indiana are required to earn 90 Continuing Renewal Units (CRUs) per year; in Massachusetts, teachers need 150 Professional Development Points (PDPs); and in Georgia, must earn 10 Professional Learning Units (PLUs). American and Canadian nurses, as well as those in the United Kingdom, are required to participate in formal and informal professional development (earning Continuing education units, or CEUs) in order to maintain professional registration. Other groups such as engineering and geoscience regulatory bodies also have mandatory professional development requirements.
• Some examples of approaches to professional development include the case study method, consultation, coaching, communities of practice, lesson study, mentoring, reflective supervision, etc.

Long Term Development

In addition to the basic training required for a trade, occupation, or profession, observers of the labor-market recognize the need to continue training beyond initial qualifications: to maintain, upgrade, and update skills throughout working life. This is known as professional development.

Professional development refers to skills and knowledge attained for both personal development and career advancement. Professional development encompasses all types of facilitated learning opportunities, ranging from college degrees to formal coursework, conferences, and informal learning opportunities situated in practice. It has been described as intensive and collaborative, ideally incorporating an evaluative stage. There are a variety of approaches to professional development, including consultation, coaching, communities of practice, lesson study, mentoring, reflective supervision and technical assistance.

Who Participates and Why?

A wide variety of people, such as teachers, military officers and non-commissioned officers, health care professionals, lawyers, accountants and engineers engage in professional development. Individuals may participate in professional development because of an interest in lifelong learning, a sense of moral obligation, to maintain and improve professional competence, enhance career progression, keep abreast of new technology and practice, or to comply with professional regulatory organizations.

Many American states have professional development requirements for school teachers. For example, Arkansas teachers must complete 60 hours of documented professional development activities annually. American and Canadian nurses, as well as those in the United Kingdom, are required to participate in formal and informal professional development to maintain professional registration. Other groups such as engineering and geoscience regulatory bodies also have mandatory professional development requirements.

Approaches

In a broad sense, professional development may include formal types of vocational education, typically post-secondary or poly-technical training leading to a qualification or credential required to obtain or retain employment . Professional development may also come in the form of pre-service or in-service professional development programs. These programs may be formal, or informal, group, or individualized. Individuals may pursue professional development independently, or programs may be offered by human resource departments. Professional development on the job may develop or enhance process skills, sometimes referred to as leadership skills, as well as task skills. Some examples for process skills are ‘effectiveness skills,’ ‘team functioning skills,’ and ‘systems thinking skills. ‘

CPR Training

This first-aid course is a form of professional development. While not directly relevant to, say, teachers, it nonetheless provides an important skill that may be used in case of an emergency, and thus would indirectly benefit a teacher who learns these skills.

Some examples of approaches to professional development include:

Case Study Method – the case study method is a teaching approach that consists of presenting the students with a case, putting them in the role of a decision maker facing the problem.

Consultation – to assist an individual or group of individuals to clarify and address immediate concerns by following a systematic problem-solving process.

Coaching – to enhance a person’s competencies in a specific skill area by providing a process of observation, reflection, and action.

Lesson Study – to solve practical dilemmas related to intervention or instruction through participation with other professionals in systematically examining practice.

Mentoring – to promote an individual’s awareness and refinement of his or her own professional development by providing and recommending structured opportunities for reflection and observation.

Other methods include communities of practice, reflective supervision, and technical assistance.

Online Professional Development

The 21st century has seen a significant growth in online professional development. Content providers incorporate collaborative platforms such as discussion boards and wikis, thereby encouraging and facilitating interaction, and optimizing training effectiveness.

Whereas many other industries have used online sources of continuing education and professional practices for many years, traditionally, educators have turned solely to internal professional development departments, local education agencies (LEAs), and local colleges and universities to acquire the necessary education to meet the required hours/units for renewal of their state teaching licenses.

However, the economic pressures facing school districts, combined with a greater conviction that online professional development can be effective, has led to increased interest in this option. Rather than replacing traditional sources of professional development, online sources and providers have served to augment existing options and can bring a widening access to topics and a broader scope to “learning communities. ” As teacher performance comes under increased scrutiny, a study conducted by Boston College found that English and math teachers who took professional development courses online improved their instructional practices and boosted their subject knowledge scores, producing modest performance gains for their students. This type of research-based and outcomes-focused study has lent credibility to the idea that online professional development can and will serve an important role in supporting the educational goals of the United States Department of Education.

12.4.3: Performance Assessment

Learning Objective

Explain the steps in performance appraisal (PA)

Key Points

• A performance appraisal is a systematic and periodic process that assesses an individual employee’s job performance and productivity in relation to certain preestablished criteria and organizational objectives.
• There are three main methods used to collect performance appraisal data: objective production, personnel, and judgmental evaluation. The latter are the most commonly used with a large variety of evaluation methods.
• A performance assessment is typically conducted annually, though the frequency of an evaluation, and policies concerning them, varies widely from workplace to workplace.
• An evaluation may include an assessment on how well the employee is doing, and employee goals that are expected to be met (or have significant progress made) by a set time, such as the next evaluation.
• Performance assessment is often included in performance management systems. These systems are used “to manage and align” all of an organization’s resources in order to achieve the highest possible performance.

Key Terms

Evaluation

An assessment, such as an annual personnel performance review, used as the basis for a salary increase or bonus, or a summary of a particular situation.

performance appraisal

a method by which how well an employee did a job is evaluated

Example

• Sometimes, an employee who has performed very well since his last review period may get an increase in pay or be promoted to a more prestigious position. However, a pay raise that is denied is not always the result of a poor review, as economic conditions and other factors dictate the ability for employers to raise their workers’ pay.

A performance appraisal (PA) or performance evaluation is a systematic and periodic process that assesses an individual employee’s job performance and productivity, in relation to certain preestablished criteria and organizational objectives. Other aspects of individual employees are considered as well, such as organizational citizenship behavior, accomplishments, potential for future improvement, strengths and weaknesses .

Performance Appraisal

A performance appraisal (PA) or performance evaluation is a systematic and periodic process that assesses an individual employee’s job performance and productivity in relation to certain preestablished criteria and organizational objectives.

Three main methods are used to collect PA data: objective production, personnel, and judgmental evaluation. The latter are the most commonly used with a large variety of evaluation methods.

A PA is typically conducted annually. However, the frequency of an evaluation, and policies concerning them, varies widely from workplace to workplace. Sometimes, an evaluation will be given to a new employee when a probationary period lapses, after which they may be conducted on a regular basis (such as every year).

Usually, the employee’s supervisor (and frequently, a more senior manager) is responsible for evaluating the employee. A private conference is often scheduled to discuss the evaluation. The interview could function as:

“Providing feedback to employees, counseling and developing employees, and conveying and discussing compensation, job status, or disciplinary decisions”.

The process of an evaluation may include one or more of these things:

• An assessment on how well the employee is doing. Sometimes, this may include a scale rating indicating strengths and weaknesses in key areas (e.g., following instructions, promptness, and ability to get along with others). Often, the supervisor and manager will discuss the key areas. Or, as some have dared to expose, employers often don’t care about following instructions, arriving on time, or the ability to get along with others.
• Employee goals that are expected to be met (or have made significant progress) by a set time, such as the next evaluation. Sometimes, the employee may voluntarily offer a goal, while at other times it will be set by his boss. A significantly-underperforming employee may be given an performance improvement plan, which details specific goals that must be met to maintain his/her job.
• Sharing of feedback by a worker’s fellow employees and supervisors. The employee is given his chance to share his/her feelings, concerns and suggestions about the workplace as well.
• Details about workplace standing, promotions and pay raises. Sometimes, an employee who has performed very well since his last review period may get an increase in pay or be promoted to a more prestigious position. However, a pay raise that is denied is not always the result of a poor review, as economic conditions and other factors dictate the ability for employers to raise their workers’ pay.

PA is often included in performance management systems. These systems are used “to manage and align” all of an organization’s resources in order to achieve the highest possible performance. How performance is managed in an organization determines to a large extent its success or failure. Therefore, improving PA for everyone should be among the highest priorities of contemporary organizations.

12.4.4: Reducing Turnover

Learning Objective

Explain the root causes for high turnover

Key Points

• Turnover is measured for individual companies and for their industry as a whole.
• Turnover can be optimal when a poorly performing employee decides to leave an organization. Turnover can be dysfunctional if a high turnover rate increases the costs associated with recruitment and training of new employees, or if good employees consistently decide to leave.
• Research on job turnover has attempted to understand the causes of individual decisions to leave an organization. It has been found that lower performance, lack of reward contingencies for performance, and better external job opportunities are the main causes.
• Providing a stimulating workplace environment, which fosters happy, motivated, and empowered individuals, lowers employee turnover and absentee rates.

Key Term

staff turnover

The relative rate at which an employer gains and loses staff.

Example

• In the United States, the average total non-farm seasonally adjusted monthly turnover rate was 3.3% for the period from December 2000 to November 2008. However rates vary widely when compared over different periods of time or different job sectors. For example, during the period 2001 to 2006, the annual turnover rate for all industry sectors averaged 39.6% before seasonal adjustments, while the leisure and hospitality sector experienced an average annual rate of 74.6% during the same period.

Turnover Defined

In a human resources context, turnover is the rate at which employees leave an organization. Simple ways to describe it are “how long employees tend to stay” or “the rate of traffic through the revolving door. “

Staff turnover can be optimal when a poorly performing employee decides to leave an organization, or dysfunctional when the high turnover rate increases the costs associated with recruitment and training of new employees, or if good employees consistently decide to leave .

Employee Turnover

Turnover can be optimal when a poorly performing employee decides to leave an organization.

Measuring Turnover

Turnover is measured for individual companies and for their industry as a whole. If an employer is said to have a high turnover relative to its competitors, it means that employees of that company have a shorter average tenure than those of other companies in the same industry. High turnover may be harmful to a company’s productivity if skilled workers are often leaving and the worker population contains a high percentage of novice workers.

In the United States, the average total non-farm seasonally adjusted monthly turnover rate was 3.3% for the period from December 2000 to November 2008. However rates vary widely when compared over different periods of time or different job sectors. For example, during the period 2001 to 2006, the annual turnover rate for all industry sectors averaged 39.6% before seasonal adjustments, while the leisure and hospitality sector experienced an average annual rate of 74.6% during the same period.

Preventing Turnover

Preventing the turnover of employees is important in any business. Without them, the business would be unsuccessful. However, more and more employers today are finding that employees remain for approximately 23 to 24 months, according to the 2006 Bureau of Labor Statistics. The Employment Policy Foundation states that it costs a company an average of $15,000 per employee, which includes separation costs, including paperwork, unemployment; vacancy costs, including overtime or temporary employees; and replacement costs including advertisement, interview time, relocation, training, and decreased productivity when colleagues depart.

Research on employee job turnover has attempted to understand the causes of individual decisions to leave an organization. It has been found that lower performance, lack of reward contingencies for performance, and better external job opportunities are the main causes. Other variables related to turnover are the conditions in the external job market, the availability of other job opportunities, and the length of employee tenure.

Providing a stimulating workplace environment, which fosters happy, motivated, and empowered individuals, lowers employee turnover and absentee rates. Promoting a work environment that fosters personal and professional growth promotes harmony and encouragement on all levels, so the effects are felt company wide.

Continual training and reinforcement also develops a workforce that is competent, consistent, competitive, effective, and efficient. Beginning on the first day of work, providing individuals with the necessary skills to perform their job is important. Before the first day, it is important the interview and hiring process expose new hires to an explanation of the company, so individuals know whether the job is their best choice.

Networking and strategizing within the company provides ongoing performance management and helps build relationships among coworkers. It is also important to motivate employees to focus on customer success, profitable growth, and the company well-being. Employers can keep their employees informed and involved by including them in future plans, new purchases, policy changes, as well as introducing new employees to the employees who have gone above and beyond in meetings. Engagement shows employees that they are valuable through information or recognition rewards and makes them feel included.

In addition, by paying above-market wages, the worker’s motivation to leave the job and look for a job elsewhere will be reduced. This strategy makes sense because it is often expensive to train replacement workers.

When companies hire the best people, new hired talent and veterans are enabled to reach company goals, maximizing the investment of each employee. Taking the time to listen to employees and making them feel involved will create loyalty, in turn reducing turnover and allowing for growth.

12.5: The Functions and Goals of HR

12.5.1: Activities in the Human Resources Department

Human resource departments are responsible for a wide variety of activities across a number of core organizational functions

Learning Objective

Understanding the activities of human resource departments 

Key Points

• Human resource management is a central pillar of many organizations. Human resource departments are responsible for activities spanning a wide variety of core functions.
• In short, human resource activities fall under the following five core functions: staffing, development, compensation, safety and health, and employee and labor relations.
• Within each of these core functions, HR conducts a wide variety of activities. 
• These activities are all linked by a concern for employee well-being and ensuring organizations treat employees in a way that provides mutual benefit for both the employee and the organization.

Key Terms

On-boarding

A series of activities designed to train new employees and prepare them for integration with the organization and their responsibilities.

unions

Legal groups of professionals in a given field who collectively address common issues within that discipline.

Core Functions of HR

Human resources (HR) professionals conduct a wide variety of tasks within an organizational structure. A brief review of the core functions of human resource departments will be useful in framing the more common activities a human resource professional will conduct. The core functions can be summarized as:

Staffing

This includes the activities of hiring new full-time or part-time employees, hiring contractors, and terminating employee contracts

Staffing activities include:

• Identifying and fulfilling talent needs (through recruitment, primarily)
• Utilizing various recruitment technologies to acquire a high volume of applicants (and to filter based on experience)
• Terminating contracts when necessary
• Maintaining ethical hiring practices and aligning with the regulatory environment
• Writing employee contracts and negotiating salary and benefits

Development

On-boarding new employees and providing resources for continued development is a key investment for organizations, and HR is charged with maintaining a developmental approach to existing human resources. 

Development activities include:

• Training and preparing new employees for their role
• Providing training opportunities (internal training, educational programs, conferences, etc.) to keep employees up to date in their respective fields
• Preparing management prospects and providing feedback to employees and managers

Compensation

Salary and benefits are also within the scope of human resource management. This includes identifying appropriate compensation based on role, performance, and legal requirements. 

Compensation activities include:

• Setting compensation levels to match the market, using benchmarks such as industry standards for a given job function
• Negotiating group health insurance rates, retirement plans, and other benefits with third party providers
• Discussing raises and other compensation increases and/or decreases with employees in the organization
• Ensuring compliance with legal and cultural expectations when it comes to employee compensation

Safety and Health

Achieving best practices in various industries include careful considering of safety and health concerns for employees.

Safety and health activities include:

• Ensuring compliance with legal requirements based on job function for safety measures (i.e. hard hats in construction, available counseling for law enforcement, appropriate safety equipment for chemists, etc.)
• Implementing new safety measures when laws change in a given industry
• Discussing safety and compliance with relevant government departments
• Discussing safety and compliance with unions

Employee and Labor Relations

Defending employee rights, coordinating with unions, and mediating disagreements between the organization and its human resources is also a core HR function. 

Employee and labor relations activities include:

• Mediating disagreements between employees and employers
• Mediating disagreements between employees and other employees
• Considering claims of harassment and other workplace abuses
• Discussing employee rights with unions, management, and stakeholders
• Acting as the voice of the organization and/or the voice of the employees during any broader organizational issues pertaining to employee welfare

HR Competencies

This chart highlights a few of the key competencies expected of human resource teams in organizations.

This image is a small chart which highlights a few of the key competencies expected of human resource teams in organizations.

12.5.2: Development of Human Resources

Human resource development combines training and career development to improve the effectiveness of the individual, group, and organization.

Learning Objective

Explain the function of Human Resource development (HRD)

Key Points

• Human resources is the set of individuals who make up the workforce of an organization, business sector, or an economy.
• As a process, human resource development takes place within organizations and includes both training and development and organization development.
• Human resources development (HRD) as a theory is a framework for the expansion of human capital within an organization through the development of both the organization and the individual to achieve performance improvement.

Key Term

human capital

Human capital is the stock of competencies, knowledge, and social and personality attributes, including creativity, embodied in the ability to perform labor so as to produce economic value. It is an aggregate economic view of the human being acting within economies, which is an attempt to capture the social, biological, cultural, and psychological complexity as they interact in explicit and/or economic transactions.

Example

• Examples of human resource development include formal activities like classroom training, college coures, and a change effort planned by the organization. An example of an informal activity is a manager coaching his or her employee.

Human resources is the set of individuals who make up the workforce of an organization, business sector, or an economy. “Human capital” is sometimes used synonymously with human resources, although human capital typically refers to a more narrow view (i.e., the knowledge the individuals embody and can contribute to an organization). Likewise, other terms sometimes used include “manpower,” “talent,” “labor,” or simply “people. “

Human resources development (HRD) as a theory is a framework for the expansion of human capital within an organization through the development of both the organization and the individual to achieve performance improvement. Adam Smith states, “The capacities of individuals depended on their access to education. ” The same statement applies to organizations themselves, but it requires a much broader field to cover both areas.

Human resource development is the integrated use of training, organization, and career development efforts to improve individual, group, and organizational effectiveness. HRD develops the key competencies that enable individuals in organizations to perform current and future jobs through planned learning activities. Groups within organizations use HRD to initiate and manage change. Also, HRD ensures a match between individual and organizational needs.

HRD as a process occurs within organizations and encapsulates:

1. Training and development (TD), the development of human expertise for the purpose of improving performance
2. Organization development (OD), empowering the organization to take advantage of its human resource capital.

TD alone can leave an organization unable to tap into the increase in human, knowledge, or talent capital. OD alone can result in an oppressed, under-realized workforce. HRD practicitioners find the interstices of win/win solutions that develop the employee and the organization in a mutually beneficial manner. HRD does not occur without the organization, so the practice of HRD within an organization is inhibited or promoted upon the platform of the organization’s mission, vision, and values.

Human Resource

Human resource development combines training and career development to improve the effectiveness of the individual, group, and organization.

12.5.3: The Mission of Human Resource Management

Human resource management is responsible for the attraction, selection, training, assessment, and rewarding of employees.

Learning Objective

Break down human resource management (HRM) to Attraction, Selection, Training, Assessment, Rewarding

Key Points

• HR also oversees organizational leadership and culture, and ensures compliance with employment and labor laws.
• Employer brand was first used in the early 1990s to denote an organization’s reputation as an employer. Since then, it has become widely adopted by the global management community. Employer branding is “the image of your organization as a ‘great place to work'”.
• Just as a customer brand proposition is used to define a product or service offer, an employee value proposition (EVP) is used to define an organization’s employment offer.
• A performance appraisal (PA) or performance evaluation is a systematic and periodic process that assesses an individual employee’s job performance and productivity in relation to certain pre-established criteria and organizational objectives.
• Remuneration is the total compensation that employees receive in exchange for the service that they perform for their employer.
• A performance appraisal (PA) or performance evaluation is a systematic and periodic process that assesses an individual employee’s job performance and productivity in relation to certain pre-established criteria and organizational objectives. To collect PA data, there are three main methods: objective production, personnel, and judgmental evaluation.
• Remuneration is the total compensation that an employee receives in exchange for the service they perform for their employer. Typically, this consists of monetary rewards, also referred to as wage or salary, and complementary benefits including healthcare, pension plans, and stock options. The HR department plays a critical role in determining raises or bonuses based on employee performance.

Key Terms

candidate

A person who applies to a job position.

recruiter

One who recruits, particularly one employed to recruit others.

Example

• An HR manager at a firm such as an investment bank may work to recruit new researchers for the bank, train those entry-level researchers for other positions at the bank, monitor their performance throughout their tenure at the bank, and may determine their pay raises.

Human resource management (HRM, or simply HR) is the management of an organization’s workforce, or human resources . It is responsible for the attraction, selection, training, assessment, and rewarding of employees. HR also oversees organizational leadership and culture, and ensures compliance with employment and labor laws.

Human Resource Management

Human resource management is the management of an organization’s workforce, or human resources.

Attraction

Employer brand was first used in the early 1990s to denote an organization’s reputation as an employer. Since then, it has become widely adopted by the global management community. Employer branding is “the image of your organization as a ‘great place to work.'” Just as a customer brand proposition is used to define a product or service offer, an employee value proposition (EVP) is used to define an organization’s employment offer. Likewise, the marketing disciplines associated with branding and brand management have been increasingly applied by the human resources and talent management community to attract, engage, and retain talented candidates and employees.

Selection

The stages in selection include sourcing candidates by networking, advertising, or other methods. The HR recruiter utilizes professional interviewing techniques to understand the candidate’s skills, motivations to make a move, and to screen potential candidates using testing (skills or personality). The process is meant to evaluate the candidate and also evaluate how the candidate will fit into the organization. The recruiter will meet with the hiring manager to obtain specific position and type information before beginning the process. After recruiters understand the type of person the company needs, they begin the process of informing their network of the opportunity. Recruiters play an important role by preparing the candidate and company for the interview, providing feedback to both parties, and handling salary and benefits negotiations.

Training

Training and development (T&D) encompasses three main activities: training, education, and development. Garavan, Costine, and Heraty, of the Irish Institute of Training and Development, note that these ideas are often considered to be synonymous. However, to practitioners, they encompass three separate, although interrelated, activities:

Training: This activity is both focused upon, and evaluated against, the job that an individual currently holds.

Education: This activity focuses upon the jobs that an individual may potentially hold in the future, and is evaluated against those jobs.

Development: This activity focuses upon the activities that the organization employing the individual, or that the individual is part of, may partake in the future, and is almost impossible to evaluate.

Assessment

A performance appraisal (PA) or performance evaluation is a systematic and periodic process that assesses an individual employee’s job performance and productivity in relation to certain pre-established criteria and organizational objectives. Other aspects of individual employees are considered as well, such as organizational citizenship behavior, accomplishments, potential for future improvement, and strengths and weaknesses.

To collect PA data, there are three main methods: objective production, personnel, and judgmental evaluation. Judgmental evaluations are the most commonly used with a large variety of evaluation methods. A PA is typically conducted annually. The interview could function as “providing feedback to employees, counseling and developing employees, and conveying and discussing compensation, job status, or disciplinary decisions.”

Rewarding

Remuneration is the total compensation that employees receive in exchange for the service that they perform for their employer. Typically, this consists of monetary rewards, also referred to as wage or salary, and complementary benefits including healthcare, pension plans, and stock options. The HR department plays a critical role in determining raises or bonuses based on employee performance.

12.5.4: Demand Planning

HR forecasting is the process of ascertaining the net requirements for staff by determining present and future HR needs.

Learning Objective

Explain the benefits of HR forecasting

Key Points

• HR forecasting can be categorized into transaction-based forecasting, event-based forecasting, and process-based forecasting.
• Transaction-based forecasting focuses on tracking internal change by the organization’s managers. Event-based forecasting is concerned with changes in the external environment. Process-based forecasting is focused on the flow or sequencing of several work activities.
• HR forecasting can reduce HR costs, increase organizational flexibility, ensure a close linkage to the Macro Business Forecasting Process, and ensure that organizational requirements take precedence over issues of resource constraint and scarcity.
• The five stages of the HR forecasting process are: identifying organizational goals, objectives and plans, determining overall demand requirements for personnel, assessing in-house skills and other internal supply characteristics, determining the net demand requirements that must be met from external, environmental supply sources and developing HR plans and programs to ensure that the right people are in the right place.
• The HR process may be affected by environmental factors including the economy, labor markets and unions, governmental laws and regulations, industry product life cycles, technology changes, demographic changes, etc. The HR process may also be affected by organizational factors such as restructuring, strategic goals, corporate missions, job satisfaction, workforce coverage, job analysis, organizational culture, etc.
• HR forecasting can be categorized into current, short-run, medium-run and long-run forecasting. Current forecasting can be used to meet the immediate operational needs of the organization (up to the end of the current operating cycle, or a maximum of one year into the future). On the other hand, long-run forecasting typically extends five or more years ahead of the current operational period. Due to the number of changes that could affect an organization’s operations, the long-run forecast is extremely flexible.

Key Terms

mission

A set of tasks that fulfills a purpose or duty; an assignment set by an employer.

forecast

An estimation of a future condition.

restructuring

A reorganization; an alteration of structure.

Example

• An HR forecaster at a large firm, like a pharmaceutical company, may examine a variety of different internal and external factors. She may consider the workforce demand for the pharmaceutical company, like how many researchers and chemists the company may need, assess the in-house skills of the current employees, and develop programs to develop the new and existing workforce of the company. The HR forecaster will also consider environmental factors, such as the pharmaceutical market, technological changes in pharmaceutical production, and demographic changes of employees and customers. The forecaster will consider organizational factors as well, such as the company’s corporate mission, operational goals, and pharmaceutical production budgets. Finally, the HR forecaster will consider these plans over a time horizon that is approved by an HR manager.

Demand Planning

HR Forecasting and Planning

HR forecasting is the heart of the HR planning process. The purpose of HR forecasting is to ascertain the net requirements for staff by determining the levels of demand for, and supply of, human resources now and in the future.

Forecasting Activity Categories

• Transaction-based forecasting focuses on tracking internal change instituted by the organization’s managers.
• Event-based forecasting is concerned with changes in the external environment.
• Process-based forecasting is not focused on a specific internal organizational event but on the flow or sequencing of several work activities.

Benefits of HR Forecasting

• Reduces HR costs.
• Increases organizational flexibility.
• Ensures a close linkage to the Macro Business Forecasting Process.
• Ensures that organizational requirements take precedence over issues of resource constraint and scarcity.

HR Demand is the organization’s projected requirement for human resources, whereas HR Supply is defined as the source of workers to meet demand requirements, obtained either internally (current members of the organization’s workforce) or from external agencies.

Key Personnel Analyses Conducted by HR Forecasters

• Specialist/Technical/Professional Personnel: These employees tend to be in high demand due to trade qualifications that are essential.
• Employment Equity-Designated Group Membership: Should be a proportional representation of each grouping. Examples of these groups include African Americans, women, and those with disabilities.

5 Stages of the Forecasting Process

• Identify organizational goals, objectives, and plans.
• Determine overall demand requirements for personnel.
• Assess in-house skills and other internal supply characteristics.
• Determine the net demand requirements that must be met from external, environmental supply sources.
• Develop HR plans and programs to ensure that the right people are in the right place.

Environmental factors affecting the HR process include the following:

• economy,
• labor markets and unions,
• governmental laws and regulations,
• industry and product life cycles,
• technological changes,
• competitor labor usage,
• global market for skilled labor,
• demographic changes.

The following are the organizational factors affecting HR forecasting:

• Corporate mission, strategic goals;
• Operational goals, production budgets;
• HR Policies;
• Organizational structure, restructuring;
• Worker KSA’s, competencies, expectations;
• HRMS level of development;
• Organizational culture, climate, job satisfaction, communications;
• Job analysis, workforce coverage, current data.

HR Forecasting Time Horizons

Current Forecast

The current forecast is the one being used to meet the immediate operational needs of the organization (up to the end of the current operating cycle, or a maximum of one year into the future).

Short-Run Forecast

The short-run forecast extends forward from the current forecast and states the HR requirements for the next one-to-two year period beyond the current operational requirements.

Medium-Run Forecast

Typically, the medium-run forecast identifies requirements for two to five years into the future.

Long-Run Forecast

The long-run forecast extends five or more years ahead of the current operational period. Due to the number of changes that could affect an organization’s operations, the long-run forecast is extremely flexible.

12.6: Diversity in Human Resources

12.6.1: Defining Diversity

Diversity in an organization should reflect a globalized and multicultural workforce where value is placed on diversity of thought.

Learning Objective

Differentiate between a Monolithic, a Plural, and a Multicultural organizational structure

Key Points

• A company that employs a diverse workforce is better able to understand the demographics of the marketplace it serves. It is thus better equipped to thrive in that marketplace than a company that has a more limited range of employee demographics.
• According to the deficit model, organizations that do not have a strong culture of diversity and inclusion will invite lower productivity, higher absenteeism, and higher turnover, all of which will result in higher costs to the company.
• One of the greatest challenges an organization has when trying to adopt a more inclusive environment is assimilation for any member outside of the dominant group.

Key Term

Diversity

A variety; the quality of being different

Example

• Beginning in the 1970s, women began to enter fields like medicine, law, and business. More women were going to college and expected to be employed at the age of 35, as opposed to past generations of women who only worked intermittently due to marriage and childbirth. Women entering the workforce created diversity.

Components of a Diverse Organization

A multicultural or diverse organization not only contains many different cultural groups, but it values this diversity. It encourages healthy conflict as a source of avoiding groupthink. Groupthink can occur when group members try to minimize conflict and reach a consensus decision without critical evaluation of alternative ideas or viewpoints.

In this globalized economy, a multicultural workforce should reflect a diversity of thought. The perspectives shared from individual standpoints will benefit organizations that are savvy enough to capitalize on them. The theory is that a company with a diverse workforce is better able to understand the demographics of the marketplace it serves. It is thus also better equipped to thrive in that marketplace than a company that has a more limited range of employee demographics.

Productivity and costs can be analyzed to assist in building the business case for diversity. According to the deficit model, organizations that do not have a strong diversity inclusion culture will invite lower productivity, higher absenteeism, and higher turnover, all of which will result in higher costs to the company.

According to the investment model, or value-added model to diversity inclusion strategies, a company choosing to foster an inclusive environment will experience many benefits. These benefits include increased productivity, better problem solving capabilities, and increased market share. Either model, however, requires an intentional implementation from top leadership for the organizational culture to truly be one of inclusion and acceptance.

Three Types of Organizations

In a journal article entitled “The Multicultural Organization”, Taylor Cox, Jr. talks about three organization types that focus on the development of cultural diversity. These three types are the monolithic organization, the plural organization, and the multicultural organization. In the monolithic organization, the amount of structural integration (the presence of persons from different cultural groups in a single organization) is minimal and white male privilege is very tangible. This type of organization may have women and marginalized members within the workforce, but not in positions of leadership and power.

The plural organization has a more heterogeneous membership than the monolithic organization and takes steps to be more inclusive of persons from cultural backgrounds that differ from the dominant group. This type of organization seeks to empower those from a marginalized standpoint to encourage opportunities for promotion and positions of leadership. The multicultural organization contains many different cultural groups and it highly values this diversity and encourages healthy conflict to avoid groupthink.

12.6.2: How Businesses Benefit from Diversity

Diversity brings substantial potential benefits such as better decision making and problem solving, and greater creativity and innovation.

Learning Objective

Explain the benefits of diversity in an organization

Key Points

• Diversity provides organizations with the ability to compete in global markets.
• Simply recognizing diversity in a corporation helps link the variety of talents within the organization. The act of recognizing diversity also allows for those employees with these talents to feel needed and have a sense of belonging, which in turn increases their commitment to the company.
• Standpoint theory suggests that marginalized groups bring a different perspective to an organization that challenges the status quo since their socially constructed world view will differ from that of the dominant group.

Key Term

Diversity

A variety; the quality of being different

Example

• An example of a company involved with creating diversity in the workplace is MentorNet, a nonprofit online mentoring organization that focuses on women and underrepresented minorities in the STEM (Science, Technology, Engineering, and Mathematics) fields. MentorNet has used an algorithm to match over 30,000 mentor relationships since 1997. The organization gives students, especially women and underrepresented minorities, the chance to seek mentors to discuss how to overcome obstacles in their fields and eventually their workplace.

Diversity is beneficial to both the organization and its members. Diversity brings substantial potential benefits such as better decision making and improved problem solving; greater creativity and innovation, which leads to enhanced product development; and more successful marketing to different types of customers. Diversity provides organizations with the ability to compete in global markets.

Simply recognizing diversity in a corporation helps link the variety of talents within the organization. The act of recognizing diversity also allows for those employees with these talents to feel needed and have a sense of belonging, which in turn increases their commitment to the company and allows each of them to contribute in a unique way. Standpoint theory suggests that marginalized groups bring a different perspective to an organization that challenges the status quo since their socially constructed world view will differ from that of the dominant group.

Although the standpoint of the dominant group will often carry more weight, a transformational leader will encourage conflicting standpoints to coexist within an organization. This will create a forum for sanctioned conflict to ensue. Conflict stems from challenging the way things have always been done, and ideas and problems that have not been explored from multiple perspectives. Standpoint theory gives a voice to those in a position to see patterns of behavior that those immersed in the culture have difficulty acknowledging. These unique and varying standpoints help eradicate groupthink which can develop within a homogenous group. But there are still many challenges to fostering an inclusive environment in the workplace for diversity of thought and ideas.

12.7: Recruitment

12.7.1: Finding Good Candidates

It is beneficial to attract applicants with the highest potential for success at the organization.

Learning Objective

Explain the different types of hiring concepts and placement classifications

Key Points

• Selective hiring helps prevent the costly turnover of staff and increases the likeliness of high employee morale and productivity.
• The proper start to a recruitment effort is to perform a job analysis—to document the actual or intended requirement of the job to be performed. This information is captured in a job description and provides the recruitment effort with the boundaries and objectives of the search.
• Job descriptions need to be reviewed or updated prior to a recruitment effort to reflect present day requirements. Each job description should be associated with a list of critical skills, behaviors or attitudes that will make or break the job performance.
• When screening potential employees, managers need to select based on cultural fit and attitude as well as technical skills and competencies.

Key Terms

recruitment

Recruitment refers to the process of attracting, screening, and selecting a qualified person for a job.

job analysis

Job analysis is the formal process of identifying the content of a job in terms of activities involved and attributes needed to perform the work.

job description

an outline of the description of the tasks and responsibilities in a post within an organization

Example

• There are some companies, such as Southwest Airlines, based out of the United States, who hire primarily based on attitude because they espouse the philosophy that you hire for attitude, train for skill. According to former CEO Herb Kelleher, “We can change skill levels through training. We can’t change attitude” (O’Reilly & Pfeffer).

In recruiting, it is beneficial to attract not only a large quantity of applicants but a group of individuals with the necessary skills and requirements for the position. After obtaining a large, qualified applicant base managers need to identify those applicants with the highest potential for success at the organization. According to Pfeffer and Veiga 1998, selecting the best person for the job is an extremely critical piece of the human resources inflow process. Selective hiring helps prevent the costly turnover of staff and increases the likeliness of high employee morale and productivity.

The proper start to a recruitment effort is to perform a job analysis, to document the actual or intended requirement of the job to be performed. This information is captured in a job description and provides the recruitment effort with the boundaries and objectives of the search. Often a company will have job descriptions that represent a historical collection of tasks performed in the past. These job descriptions need to be reviewed or updated prior to a recruitment effort to reflect present day requirements. Each job description should be associated with a list of critical skills, behaviors, or attitudes that will make or break the job performance. When screening potential employees, managers need to select based on cultural fit and attitude as well as technical skills and competencies. In recent years, the focus of hiring is increasingly shifted from solely the immediate hard skills such as engineering, finances, or accounting, to the longer term soft skills such as communication, team leadership, brand building.

There are some companies, such as Southwest Airlines, who hire primarily based on attitude because they espouse the philosophy that one must “hire for attitude and train for skill. ” According to former CEO Herb Kelleher, “We can change skill levels through training. We can’t change attitude” (O’Reilly & Pfeffer). After determining the most important qualifications, managers can design the rest of the selection process so that it is in alignment with the other human resource processes. Starting a recruitment with an accurate job analysis and job description ensures the recruitment process effort starts off on a proper track for success. This soft skills requirement is especially critical for multinationals, where expatriates, local employees, customers, and vendors would need to work together. To ease the situation, recruiters are beginning to adopt the IITTI (pronounced as “ET”) standardized image and etiquette certification tool to measure the background soft skills of job-seekers.

After the job analysis, the process moves onto sourcing, which involves 1) advertising, a common part of the recruiting process, often encompassing multiple media, such as the Internet, general newspapers, job ad newspapers, professional publications, window advertisements, job centers, and campus graduate recruitment programs; and 2) recruitment research, which is the proactive identification of passive candidates who are happy in their current positions and are not actively looking to move companies. This initial research for so-called passive candidates, also called name generation, results in a contact information of potential candidates who can then be contacted discreetly to be screened and approached on behalf of an executive search firm or corporate client.

Managers must strive to identify the best applicants at the lowest cost. Companies have a variety of processes available to screen potential employees, so managers must determine which system will generate the most accurate results. The methods of selection vary both in levels of effectiveness and in cost of application. In addition to biographical information, companies can conduct personal interviews, perform background checks, or request testing. Because of the costs associated with these measures, companies try to narrow down the number of applicants in each round of hiring. In some countries, such as the United States, the selection procedures are subject to Equal Employment Opportunity guidelines. Therefore, the companies also need to ensure that the process is accurate, with a high level of validity, reliable, and related to critical aspects of the job. Proactively taking these measures will help companies avoid litigation related to discrimination in the selection process.

Recruitment

Recruitment for the Army

12.7.2: Selecting the right People

Having a common set of information about applicants allows hiring managers to avoid prejudices.

Learning Objective

List the various interview styles used by employers to hire efficiently

Key Points

• Many companies choose to use several rounds of screening with different interviewers to discover additional facets of the applicant’s attitude or skill as well as develop a more well-rounded opinion of the applicant from diverse perspectives.
• There are two common types of interviews: behavioral and situational.
• The purpose of behavioral interviewing is to find links between the job’s requirement and how the applicant’s experience and past behaviors match those requirements.
• A situational interview requires the applicant to explain how he or she would handle a series of hypothetical situations. Situational-based questions evaluate the applicant’s judgment, ability, and knowledge.

Key Term

interview

A formal meeting, in person, for the assessment of a candidate or applicant.

Examples

• Example of situational interview question: You and a colleague are working on a project together; however, your colleague fails to do his agreed portion of the work. What would you do?
• Examples of behavioral interview questions: Describe a time when you were faced with a stressful situation. How did you handle the situation? Give me an example of when you showed initiative and assumed a leadership role?

Having a common set of information about the applicants upon which to compare after all the interviews have been conducted allows hiring managers to avoid prejudices . This also ensures that all interviewees are given a fair chance (Smith G.). Many companies choose to use several rounds of screening with different interviewers to discover additional facets of the applicant’s attitude or skill as well as develop a more well-rounded opinion of the applicant from diverse perspectives. Involving senior management in the interview process also acts as a signal to applicants about the company culture and value of each new hire. There are two common types of interviews: behavioral and situational.

Online Recruiting

Monster.com is a popular job board for people seeking employment.

Behavioral Interview

In a behavioral interview, the interviewer asks the applicant to reflect on his or her past experiences (Janz, 1982). After deciding what skills are needed for the position, the interviewer will ask questions to find out if the candidate possesses these skills. The purpose of behavioral interviewing is to find links between the job’s requirement and how the applicant’s experience and past behaviors match those requirements. Examples of behavioral interview questions:

• Describe a time when you were faced with a stressful situation.
• How did you handle the situation?
• Give me an example of when you showed initiative and assumed a leadership role.

Situational Interview

A situational interview requires the applicant to explain how he or she would handle a series of hypothetical situations. Situational-based questions evaluate the applicant’s judgment, ability, and knowledge (Latham & Saari, 1984). Before administering this type of interview, it is a good idea for the hiring manager to consider possible responses and develop a scoring key for evaluation purposes. Examples of situational interview questions:

• You and a colleague are working on a project together; however, your colleague fails to do his agreed portion of the work. What would you do?
• A client approaches you and claims that she has not received a payment that supposedly had been sent five days ago from your office. She is very angry. What would you do?

Selection Tests

When making a hiring decision, it is critical to understand the applicant’s personality style, values, and motivations (Smith G.). Technical aptitude is important, but attitude is often more important. The reality is that technical skills can be learned, but interpersonal work attitudes are usually more difficult to change (Schaefer). Behavioral assessments and personality profiles are a good way for hiring managers to learn how the individual will interact with their coworkers, customers, and supervisors (Smith G.). Tests such as the Myers Briggs and D.I.S.C profile assessments are popular tools that provide an accurate analysis of an applicant’s attitudes and interpersonal skills; however, it is critical that the tests are administered, scored, and interpreted by a licensed professional. Other selection tests used in hiring may include cognitive tests, which measure general intelligence, work sample tests that demonstrate the applicant’s ability to perform specific job duties, and integrity tests, which measure honesty (Kulik, 2004).

Background Checks

Background checks are a way for employers to verify the accuracy of information provided by applicants in resumes and applications. Information gathered in background checks may include employment history, education, credit reports, driving records, and criminal records. Employers must obtain written consent from the applicant before conducting a background check, and the information gathered in a background check should be relevant to the job.

Evaluation

Employers may choose to use just one or a combination of the screening methods to predict future job performance. It is important for companies to assess the effectiveness of their selective hiring process using metrics. This provides a benchmark for future performance as well as a means of evaluating the success of a particular method. Companies can continuously improve their selection practices to ensure a good fit for future employees that will successfully accomplish all that the job entails as well as fit into the organizational culture. If companies are not successful in their hiring practices, high turnover, low employee morale, and decreased productivity will result. Research shows that the “degree of cultural fit and value congruence between job applicants and their organizations significantly predicts both subsequent turnover and job performance” (Pfeffer & Viega, Putting People First for Organizational Success, 1998). Thus, companies need to assess their hiring in terms of technical success as well as cultural fit. Evaluating the hiring process will help ensure continuing success because human capital is often a company’s most important asset.

11.4: Motivation Techniques in Practice

11.4.1: Behavior Modification

Learning Objective

Differentiate between the various stimuli managers use to create or reinforce certain types of behavior

Key Points

• Behavior modification is a central concept in organizational behavior, pulling from a wide variety of multidisciplinary perspectives such as psychology and sociology.
• An important concern for creating a business is the environment, which will actively modify behavior in a variety of ways. Being able to proactively predict how a given environment may impact behavior is a great opportunity.
• Reinforcement, both positive and negative, can be created via incentives or the removal and avoidance of negative stimuli. 
• Punishments, such as demotions, are also used to avoid repeating undesirable past behaviors.

Key Terms

reinforcement

The process which enables behavior with desirable consequences to be repeated.

stimuli

An external force which generates a response or a reaction from something else

Identifying how to keep employees interested and motivated in their work is a substantial aspect of organizational behavior. This area of business is uniquely combined with psychology and sociology to create an understanding of how people behave at work, and why. As an overview, there are a few key concepts which will help to frame motivational theory, and how it is commonly applied in the workplace.

Environment Matters

How people behave is largely impacted by how they interact with the world around them. As an organization, it’s useful to consider how the structure of an office, and the availability of certain resources, may impact overall behavior of all employees. External forces that impact behavior are referred to as stimuli, and understanding what type of stimuli may modify behavior is useful in leading organizations.

Take an example of an open office environment, as compared to an environment of cubicles and individual offices. With easy access to privacy and walls between employees, tendencies toward individual work and decision-making via small groups and small meetings may be more likely compared to an office with long tables, no offices, and no walls. This is just a simple example of a cultural decision that will result in modified behavior. 

Reinforcement (Positive and Negative)

Behavior modification in organizational management is often linked with B.F. Skinner’s contributions to the study of behavior. Reinforcement, both positive and negative, can be created via incentives or the removal and avoidance of negative stimuli. These influences on behavior are different than environmental influences because they are deliberately reactive to employee behaviors (as opposed to proactive or incidental). Hence the idea of reinforcing something deliberately, after it occurs.

Concepts like this tend to look much simpler in action than in theory. A simple example can be seen in the restaurant industry. A server might be motivated to perform better after receiving higher tips for exceptional service. This is positive reinforcement. On the other hand, a server might be motivated to perform better after his or her boss received negative feedback from an unhappy customer. This is negative reinforcement.

Punishment

Punishments, such as demotions, are also used to avoid repeating undesirable past behaviors. For example, a restaurant manager might require the server who makes the most mistakes (such as mixing up orders) to pick up the least desirable shifts. 

Operant Conditioning

Behavior can be promoted or demoted through strategic use of positive and negative reinforcements, as well as positive and negative punishments.

This is an excellent diagram, which quickly demonstrates the way in which operant conditioning via reinforcement (positive and negative) and punishment (positive and negative). In essence, behavior can be promoted or demoted through strategic use of positive and negative reinforcements, and positive and negative punishments.

11.4.2: Job Design

Learning Objective

List the various core dimensions of strategic job design, along with the psychological states which accompany them

Key Points

• Job design is the process of specifying the contents, objectives, responsibilities, and relationships the job will fulfill or interact with.
• Clever job design can be a highly motivating aspect of an employee’s day-to-day operations. Effectively building motivation and satisfaction into the job design itself empowers positive employee behaviors.
• Skill variety, task identity, task significance, autonomy, and feedback are core components of effective job design.
• If effectively designed, a job should induce the psychological states of meaningfulness, responsibility, and ownership of the results.
• Managers can also leverage intrinsic and extrinsic rewards, job rotation, job enrichment and job enlargement to better motivate employee’s via job design.

Key Term

Autonomy

The ability to determine and enact one’s own objectives and processes in the workplace.

Job Design

Job design is an important prerequisite to effective workplace motivation, as designing a job effectively can empower positive behaviors and create a strong infrastructure for employee success. Job design is specifying the contents, responsibilities, objectives, and relationships required to satisfy the expectations of the role. Understanding how to effectively design a job is a key managerial skill, with various models and theories to assist in pursuing this tactfully.

Job Characteristic Theory

Proposed by Hackman & Oldman in 1976, this theory underlines five critical characteristics job design should keep in mind, which satisfy three critical psychological states of the employee filling the role. The objective of this model is to generate intrinsic motivation, satisfaction, and performance while minimizing turnover.

Core Job Dimensions

1. Skill variety — Doing the same thing day in and day out gets tedious. The natural solution is designing jobs with enough variety to stimulate ongoing interest, growth, and satisfaction.
2. Task identity — Being part of a team is motivating, but so too is having ownership of a facet of the process. Having a clear understanding of what one is responsible for, and some degree of control over said task, is motivating.
3. Task significance — Being relevant to organizational success provides key motivation to completing the tasks at hand. Knowing one’s importance tends to lead to satisfaction.
4. Autonomy — No one likes being micro-managed, and having some freedom to be the expert is critical to job satisfaction. Generally speaking, we hire individuals for their specialized knowledge. Giving specialists autonomy to make the right decisions is a win win.
5. Feedback — Finally, everyone needs objective feedback as to how they are doing and how they can do better. Providing well-constructed feedback with tangible outcomes is a key component of job design.

Psychological States

1. Experienced Meaningfulness – Through accomplishing the first three dimensions above, employees feel what they do is meaningful. This is a positive psychological state.
2. Experienced Responsibility – Dimension four brings about a sense of accountability, which is motivating.
3. Knowledge of Results – Dimension five provides a sense of progress, growth, and personal assessment. Understanding one’s accomplishments is a healthy state of mind for motivation and satisfaction.

Job Design Techniques

As a motivational force in the organization, managers must consider how they can design jobs tactfully to create empowered, motivated, and satisfied employees. Here are a few established methods to accomplish this objective:

• Job Rotation – As noted in the above model, it’s not particularly motivating to do the exact same thing every day. As a result, rotating jobs and expanding the skill sets of employees accomplishes two objectives: increased employee satisfaction will and broader employee skill sets.
• Job Enlargement (horizontal) – Zooming out a little, and granting employees the autonomy to assess the quality of their work, improve efficiency of their processes, and address mistakes often empowers satisfaction in the workplace.
• Intrinsic and Extrinsic Rewards – Having autonomy is motivating, but particularly motivating when rewards are granted on the performance level. Consider a salesman. Receiving a commission on every sale motivates both performance and job satisfaction.
• Job Enrichment (vertical) – As a manager, it is your responsibility to dedicate some (if not all) of your managerial planning to experienced employees as they grow into their roles. By giving over control of the employee’s work task planning to the employees themselves, they feel a strong sense of progress in their career and ownership of their outcomes.

11.4.3: Flextime

Learning Objective

Evaluate flextime as an alternative work schedule

Key Points

• Even with flextime, employees are usually expected to work during a core period of time during the working day depending on the needs of the business (from 11 a.m. to 3 p.m. for example).
• Some companies have a flexplace policy which allows employees to decide where they do their work.
• Flextime benefits for employees include: a better work-life balance, less commute, less fatigue, more days off, and lower sickness.
• Flextime benefits for the company include: better motivated workers; more efficient and effective operation; less fatigued workers, so less errors; people work overtime hours without receiving overtime rates; fewer facilities required; and lower sickness.

Key Terms

work-life balance

The relative importance of work and personal life to a particular individual.

telecommuting

Telecommuting or telework are terms often used interchangeably to refer to a work arrangement in which employees enjoy flexibility in work location and hours. A person who telecommutes is known as a “telecommuter” and a person who teleworks is known as a “teleworker. ” Telecommute generally refers to the elimination of the daily commute to a central place of work. Many telecommuters work from home, while others, occasionally also referred to as “nomad workers” or “web commuters” utilize mobile telecommunications technology to work from coffee shops or other locations.

flexitime

An arrangement that allows employees to set their own working hours within agreed limits; normally must include certain periods (core time) when they must be at work.

Example

• Flextime works well for parents when both parents work. A working mother might choose to work from Monday to Friday from 7 a.m. to 3 p.m. so that she can be home when the children return from school (or pick them up). Her husband may go to work later, to see the children off to school, and thus stay at work later.

Flextime

Flexitime is a variable work schedule, in contrast to traditional work arrangements requiring employees to work a standard 9 a.m. to 5 p.m. day. Its invention is usually credited to William Henning. Under flextime, there is typically a core period (of approximately 50% of total working time / working day) of the day, when employees are expected to be at work (for example, between 11 a.m. and 3 p.m.). The rest of the working day is “flexitime”, in which employees can choose when they work, subject to achieving total daily, weekly, or monthly hours in the region of what the employer expects, and subject to the necessary work being done .

Telecommuting

This man is telecommuting from a restaurant. As a result of improvement in technology and Internet connectivity, one can telecommute from almost anywhere now.

A flextime policy allows staff to determine when they will work, while a flexplace policy allows staff to determine where they will work. Its practical realization can mainly be attributed to the entrepreneur Wilhelm Haller who founded Hengstler Gleitzeit, and later “Interflex Datensysteme GmbH” in Southern Germany, where today a number of companies offer Flexitime (Gleitzeit) solutions which have grown out of his initiative.

Advantages of Flextime

The advantages of flexitime for the individual include: better work-life balance, less commute, less fatigue, more days off, and lower sickness. The benefits for the company include: better motivated workers; more efficient and effective operation; less fatigued workers, so less errors; people work overtime hours without receiving overtime rates; fewer facilities required; and lower sickness.

For employers, flexitime can aid the recruitment and retention of staff. It has been a particularly popular option in 2009 for employers trying to reduce staff costs without having to make redundancies during the recession. It can also help provide staff cover outside normal working hours and reduce the need for overtime. Flexitime can also improve the provision of equal opportunities to staff unable to work standard hours. Flexitime can give employees greater freedom to organize their working lives to suit personal needs. In addition, travelling can be cheaper and easier if it is out of peak time.

A recent review by the Cochrane Collaboration has found that flexible working arrangements, such as flextime and telecommuting can have positive effects on health, but the effects are primarily seen when employees have some control over their new schedules. Additionally, individuals who telecommute to work most of the work week are more satisfied with their jobs than are traditional employees who commute into a physical office location.

11.4.4: Cross-Training and Job Sharing

Learning Objective

Explain cross-training and job training

Key Points

• Cross training involves workers being trained in tangent job functions to increase oversight in ways that are impossible through management interactions with workers alone; it also empowers them to be more effective.
• Job sharing is an employment arrangement where typically two people are retained on a part time or reduced time basis to perform a job normally fulfilled by one person working full time.
• There are challenges associated with making job sharing work, but studies show that net productivity increases when two people share the same 40-hour job.

Key Terms

Cross-training

Cross-training in business operations involves training employees to engage in quality control measures. Employees are trained in tangent job functions to increase oversight in ways that are impossible through management interactions with workers alone.

job sharing

Job sharing is an employment arrangement where typically two people are retained on a part-time or reduced-time basis to perform a job normally fulfilled by one person working full-time.

featherbedding

The employment of more workers than is necessary because of union rules, especially upon the introduction of new technology

job specification

the criteria required to be filled by an employee

Example

• Mary and Susan job share. Mary works on Monday and Tuesday, and Susan occupies the same position on Thursday and Friday. Mary and Susan both work on Wednesday. This is when they update each other on the current status of the projects on which they collaborate.

Cross-Training and Job Sharing

What is Cross-training?

Cross-training in business operations involves training employees to engage in quality control measures. Employees are trained in tangent job functions to increase oversight in ways that are impossible through management interactions with workers alone .

Workers working together on an assembly line

Workers on an assembly line, who normally do a single task, benefit from cross-training to develop their skills and be able to work on a variety of areas.

Advantages

The advantages of cross-training employees include the following:

• Helps customers and clients by empowering employees to answer questions about the entire organization
• Illuminates inefficient methods, outdated techniques, and bureaucratic drift, which allows staff to re-evaluate the work methods
• Raises awareness of how other departments operate
• Enhances routine scheduling and enables staff to move around the tasks of the operation
• Better coverage, increased flexibility, and the ability to cope with unexpected absences, emergencies, and illnesses
• Increases the employability of staff who have the opportunity to train in areas outside of their original responsibilities

There are other, more general advantages as well:

• Increased flexibility and versatility
• Appreciated intellectual capital
• Improved individual efficiency
• Increased standardization of jobs
• Heightened morale

Job Sharing

Job sharing is an employment arrangement where typically two people are retained on a part time or reduced time basis to perform a job normally fulfilled by one person working full time. Compensation is apportioned between the workers, thus leading to a net reduction in per employee income. Job sharing should not be confused with the more pejorative term featherbedding, which describes the deliberate retention of excess workers on a payroll. For employees seeking more free time, job sharing may be a way to take back more control of their personal lives. Employees who job share frequently attribute their decision to quality of life issues. Studies have shown that net productivity increases when two people share the same 40-hour job.

However, there is an inherent challenge in making job sharing work for the rest of the company’s stakeholders. The hand-off or handover communication between those sharing the job is essential, and co workers must adapt to working with each other. For example, one person is responsible for a task on Monday, but another performs it on Tuesday.

11.4.5: Working from Home

Learning Objective

Evaluate the advantages and disadvantages to telecommuting

Key Points

• The terms “telecommuting” and “telework” are both used to describe a work arrangement in which employees have the flexibility to choose their work location and hours.
• Communities, employers, employees, and the environment receive benefits from telecommuting.
• The disadvantages of telecommuting include a possible negative impact on career advancement and workplace communication issues.
• Entrepreneurs can choose to run a business from home for a variety of reasons, such as lower business expenses, personal health limitations, and a more flexible schedule due to the lack of a commute.
• Work-at-home parents may have decided to start a home-based business due ot the incompatibility of a 9-5 work day with school hours or sick days.

Key Terms

virtual office

A virtual office is a combination of off-site live communication and address services that allow users to reduce traditional office costs while maintaining business professionalism. Frequently the term is confused with “office business centers” or “executive suites” which demand a conventional lease whereas a true virtual office does not require that expense.

telecommute

To work from home, sometimes for part of a working day or week, using a computer connected to one’s employer’s network or via the Internet.

Example

• Examples of large companies which began as a home-based business include Apple Computer, Hewlett-Packard, and Amazon.com.

Advantages of Telecommuting

Telecommuting refers to a work arrangement in which employees enjoy flexibility in work location and hours. With modern telecommunication technology, no longer is it necessary for employees to undergo a daily commute to a central place of work. Many telecommuters work from home, while others, who are occasionally referred to as “nomad workers” or “web commuters”, work from coffee shops or other locations.

To be successful, telecommuting should incorporate training and development that includes evaluation, simulation programs, team meetings, written materials, and forums. Information sharing should be considered synchronous in a virtual office and building processes to handle conflicts should be developed. Operational and administrative support should be redesigned to support the virtual office environment. Facilities need to be coordinated properly in order to support the virtual office and technical support should be coordinated properly.

Telecommuting offers benefits to communities, employers, and employees. For communities, telecommuting can offer fuller employment by increasing the employability of circumstantially marginalized groups, such as work at home parents and caregivers, the disabled, retirees, and people living in remote areas. Furthermore, working from home reduces traffic congestion and traffic accidents, relieves the strain on transportation infrastructures, reduces greenhouse gases, saves fuel, and reduces energy use.

For companies, telecommuting and work-from-home arrangements may:

• Expand the talent pool
• Reduce the spread of illness
• Reduce costs
• Increase productivity
• Reduce their carbon footprint and energy usage
• Reduce turnover and absenteeism
• Improve employee morale
• Offer a continuity of operations strategy
• And improve their ability to handle business across multiple timezones

For individuals, telecommuting improves work-life balance. Working from home can free up the equivalent of 15 to 25 workdays a year from time that would have otherwise been spent commuting, and save between $4,000 and $21,000 per year in travel and work-related costs.

Environmental Benefits and Government Regulation

Telecommuting gained more ground in the United States in 1996 after the Clean Air Act amendments were adopted. The act required companies with over 100 employees to encourage car pools, public transportation, shortened workweeks, and telecommuting. In 2004, an appropriations bill was enacted by Congress to encourage telecommuting for certain Federal agencies. The bill threatened to withhold money from agencies that failed to provide telecommuting options to all eligible employees. The energy-saving potential of telecommuting from gas savings alone would total more than twice what the U.S. currently produces from all renewable energy sources combined.

Employee Motivation and Satisfaction

Work-from-home flexibility is a desirable asset for employees. A meta-analysis of 46 studies on telecommuting by Ravi Gajendran and David A. Harrison found that telecommuting has largely positive benefits for employees and employers, mainly relating to job satisfaction, autonomy, stress, manager-rated job performance, and work-family conflict. The meta-analysis found generally no detrimental effects on the quality of workplace relationships and career outcomes. Only high-intensity telecommuting (where employees work from home for more than 2.5 days a week) was found to harm employee relationships with coworkers, but this was found to be offset by beneficial effects on work-family conflict.

Potential Drawbacks and Concerns

Telecommuting has come to be viewed by some as more a complement rather than a substitute for work in the workplace. Barriers to continued growth of telecommuting include distrust from employers and personal disconnectedness for employees. Traditional line managers are accustomed to managing by observation and not necessarily by results. This causes a serious obstacle in organizations attempting to adopt telecommuting. The main concern about telecommuting is the fear of loss of control. While 75% of managers say they trust their employees, a third say they’d like to be able to see them, just to be sure.

Managers may view the teleworker as experiencing a drop in productivity during the first few months. This drop occurs as the employee, his peers, and the manager adjust to the new work regimen. The drop could also be accountable to an inadequate office setup. Managers should be patient and give the teleworker time to adapt. Eventually, productivity of the teleworker should climb, as over two-thirds of employers report increased productivity among telecommuters.

From an employee perspective, some believe that telecommuting can negatively affect one’s career. A recent survey of 1,300 executives from 71 countries indicated a belief that people who work from home are less likely to get promoted. The reasoning is that companies rarely promote people into leadership roles who haven’t been consistently seen and measured.

Home-Based Business

Another category of people who work from home are those who have a home-based business. Entrepreneurs choose to run businesses from home for a variety of reasons, including lower business expenses, personal health limitations, and a more flexible schedule due to the lack of a commute. This flexibility can give an entrepreneur more options when planning tasks, especially parenting duties.

11.4.6: Employee Responsibility

Learning Objective

Realize the intrinsic motivational value of collaborating with employees to set objectives and delegate responsibility

Key Points

• Accountability and responsibility in the workplace are positively correlated with higher levels of employee motivation.
• Maslow’s Hierarchy of Needs supports this premise, identifying the intrinsic value of self-fulfillment and self-esteem derived from autonomy and responsibility.
• Edwin Locke’s goal theory identifies value in shared goal-setting, and suggests increased responsibility and employee involvement results in higher levels of motivation.
• When deriving shared goals, it is critical to recognize why a given task is relevant to the big picture, how it can be accomplished, and what the objectives themselves will be.

Key Term

accountability

Responsible or answerable for; ownership of the consequences.

Employee motivation is a complex concept, and what is effective for one employee may or may not be effective for another. However, it has been observed that many employees respond positively to increases in responsibility and accountability from a motivational perspective. Employee participation, intrinsic rewards, Locke’s goal theory, and Maslow’s Hierarchy of Needs are all useful perspectives in understanding why employee responsibility correlates positively with motivation.

Why Responsibility Motivates

As the concept of responsibility and its application to motivation is qualitative, it is useful to explore a variety of motivational theories relevant to the impact of responsibility.

Employee Participation

Employees recognize that responsibility and accountability are displays of trust, and an increase in employee participation in strategic decision-making and tactical thinking builds confidence and enables buy-in when decisions are made. Various studies of employee participation in process improvement discussions demonstrate that when employees are consulted and involved in making important operational decisions, they feel shared responsibility for the outcomes of those decisions. This shared responsibility drives positive performance, as they are now accountable not only for the execution but for the concept itself. 

Maslow’s Hierarchy of Needs

A commonly cited example of motivational theory, Maslow’s Hierarchy of Needs essentially stipulates that fulfilling lower levels needs (such as food, hygiene, shelter, safety, etc.) is generally accomplished through salary and benefits. However, these hygiene factors don’t result in higher level motivation and higher level thinking. Social affiliation, belonging, a sense of self-respect, a feeling that what one does is meaningful, accountability, and finally self-actualization are identified as the more powerful and higher level motivators. From this perspective, empowering employee responsibility fulfills critical needs in terms of self-esteem (the fourth level of the hierarchy) and, to some degree, self actualization (the fifth level).

Maslow’s Hierarchy Of Needs

Maslow’s Hierarchy of Needs underlines the importance of upper level motivators and the fulfillment of intrinsic needs as employees develop into roles of responsibility.

Maslow’s Hierarchy of Needs underlines the importance of upper level motivators and the fulfillment of intrinsic needs as employees develop into roles of responsibility.

Locke’s Goal Theory

Edwin A. Locke put forward the relatively simple concept that setting specific goals at the appropriate difficultly level will empower higher degrees of performance. What’s interesting here is that when employees themselves are involved in the goal-setting process, when they feel responsibility for the objectives they themselves helped to determine, the level of motivation is higher. This implies that shared responsibility in goal-setting has a positive impact on overall motivation.

How to Delegate Responsibility

With this motivational theory in mind, it is a relatively safe assumption that many employees will be more motivated when given responsibility of their tasks. Managers must understand how much responsibility can be delegated to a given employee, and how that responsibility should be handed over. Making an employee accountable for a task or tactic they don’t agree with, for example, could have disastrous results (as the intrinsic motivators may not be present). Managers must know how to hand off responsibility responsibly.

• What are the objectives?  When providing an employee with responsibility over a project, task, or process, managers and/or leaders should clearly underline what the objectives are and how success will be determined. The employee must know not only what it is they will be working on, but what the expectations and end goals of that task will be. This should be an open discussion, where agreement and alignment is created before moving forward.
• How will the objectives be accomplished? Following this, the employee must be given a say in how this process will be approached. Employees are functional experts in the fields they are hired for, and thus will almost always have strong opinions on best practices and overall process. Managers should actively listen to how the employee suggests pursuing a given task, and provide suggestions and feedback to ensure the employee is moving in the right direction relative to the long term strategy of the organization. Agreement on “the how” is important before moving forward.
• Why this is relevant? Finally, being accountable for a process requires time and energy. Understanding why the task is critical for organizational success is critical for employee empowerment and motivation. 

Once all of these concepts are agreed upon, the employee is ready to take on the responsibility for the task at hand. This managerial strategy empowers employees to grow and take responsibility for their actions, ultimately developing more leaders at the organization.

11.4.7: Employee Ownership

Learning Objective

Understand the ways to enable employee ownership

Key Points

• Organizations have a variety of methods, from cooperative structures to stock options, to empower employee motivation by providing employees with ownership of the organization or its processes.
• Ownership motivates both intrinsically and extrinsically. Intrinsically, ownership creates a sense of shared vision and accountability. Extrinsically, ownership provides employees with a share of the profits.
• Stock options, coops, franchises, and commission are common examples of compensation and/or structural strategies that enable employees to have some ownership of the company.
• Vroom’s expectancy theory and social cognitive theory both support the concept of employee ownership as a potential source of motivation.

Key Terms

autonomy

The ability to function independently; the freedom to make independent decisions.

Commission

A percentage fee for the salesman on the sale of a product or service.

Why Ownership Motivates

Various business models and compensation models cater to the concept that employee ownership is a highly valuable approach to generate employee motivation. Through providing employees a stake in the company, be it through shares of stock, variable income models, or through partnerships or coops, each employee will have a direct stake in the financial and operational success of the organization.

As an extrinsic motivator, the simple capital returns of ownership will play a role in empowering employee commitment. As a direct recipient of some share of the profit, the employee will recognize a direct correlation between their efforts and their returns. From an intrinsic point of view, employees who feel a sense of ownership of the organization will similarly feel the accountability, pride, and fulfillment that comes from growing that business into a successful venture. Considering the strong sense of intrinsic and extrinsic incentives attainable through employee ownership, it functions as an excellent motivator.

How to Empower Ownership

As mentioned above, there are a number of models and reward mechanisms that can create a sense of ownership. Some of the more common methods include:

• Commission – Consider a car salesman. The employee contract stipulates that any sale of a vehicle will result in a total bonus of 20% of the overall profit on that vehicle or 2% of the sales price (whichever is higher). This salesman now has a direct stake in the organization’s revenues, and is motivated to contribute to the bottom line due to an extrinsic reward (the commission).
• Coop – A more extreme example would be a coop. Coops function off of the basic principles of shared ownership, which makes them an ideal example for this discussion. In a coop, every employee has an equal stake in the company, assuming both equal risk and equal reward. In a way, every single individual within the coop is an owner of the organization itself, and intrinsically and extrinsically motivated to optimize performance and achieve the best results.
• Franchise – Another interesting form of ownership is a franchise. Franchising is essentially the process of a parent organization selling the rights to a given brand and product line to an external owner (usually in another region or country). The frachisee will have complete ownership of their own branch of the organization, and thus will have a strong incentive to succeed.
• Stock Options – Perhaps the simplest and most common example of shared ownership would be stock options. Many publicly traded organizations offer stock options to some or all of their employees. All this means is that some employees get a small percentage of financial ownership of the company (usually quite small). When the company performs well, it is likely that the stock price will increase and the shares each employee holds will appreciate in value. This can be seen a motivator.

Theoretical Support

Vroom’s Expectancy Theory

One useful motivational model from psychology is Vroom’s expectancy theory. Under this perspective, motivation is derived through the pursuit of expected and desired outcomes. At its simplest, this theory assumes that there is a certain amount of effort an employee will exert. This expression of effort will anticipate a certain degree of performance. That degree of performance will result in a desired outcome. The value of that desired outcome for the employee must be relevant. Combining all of this, employees exert energy to perform under the assumption that they will achievement objectives which result in a desirable outcome.

Social Cognitive Theory

Bandura’s social cognitive theory functions on the premise of self-efficacy. This simply means that there is a strong correlation between an employee’s feeling of autonomy and capacity to achieve results, and their overall level of motivation and performance. Employees who feel both capable of a task, and who have ownership of the outcomes of that task (i.e. rewards, be they intrinsic or extrinsic), will be more likely to perform well.

10.4: Controlling the Supply Chain

10.4.1: Purchasing

Learning Objective

Explain the purchasing process

Key Points

• Purchasing directors and procurement directors guide and define the organization’s acquisition procedures and standards.
• Most organizations use a three-way check as the foundation of their purchasing programs. This involves three departments in the organization completing separate parts of the acquisition process.
• The purchasing process usually starts with a demand for a physical part (inventory) or a service. A requisition detailing the requirements is generated (and in some cases provides a requirements speciation) and passed to the procurement department.
• Purchase orders can be of various types: standard, one-time buy, planned (agreement with a specific item at an approximate date), and blanket (an agreement with non-specific date, quantity, and amount).
• Purchase orders are normally accompanied by terms and conditions, which form the contractual agreement of the transaction.

Key Term

Purchasing

Purchasing refers to a business or organization attempting to acquiring goods or services to accomplish the goals of its enterprise.

Example

• Successful supply chain management requires a shift from the management of individual functions to the integration of activities, such as purchasing, into key supply chain processes. For example, a purchasing department will place orders as requirements become known.

Purchasing is the formal process of buying goods and services. Purchasing managers/directors, and procurement managers/directors, guide the organization’s acquisition procedures and standards. The purchasing process can vary from one organization to another but usually involves certain key elements.

Most organizations use a three-way check as the foundation of their purchasing programs. This involves three departments in the organization, each of which completes a different part of the acquisition process. The three departments do not report to the same senior manager, which prevents unethical practices and lends credibility to the process. These departments may be designated as any of the following: purchasing, receiving, accounts payable or engineering, purchasing and accounts payable, or plant management. Combinations vary significantly, but a purchasing department and accounts payable are usually two of the three departments involved.

The purchasing process typically starts with a demand or specific requirements for a physical part (inventory) or a service. A requisition detailing the requirements is generated (and in some cases provides a requirements speciation) and passed to the procurement department. A Request for Proposal (RFP) or Request for Quotation (RFQ) is then produced. Suppliers respond to the RFQ with quotes, and a review is undertaken in order to determine the best offer (a judgment based on price, availability, and quality) and issue the purchase order.

Purchase orders (POs) can be of various types:

• Standard: a one time buy
• Planned: an agreement on a specific item at an approximate date
• Blanket: an agreement on specific terms and conditions (date and quantity and amount are not specified)

POs are normally accompanied by terms and conditions, which represent the contractual agreement of the transaction. The supplier delivers the product and/or service and the customer records the delivery (in some cases, the delivery is accompanied by a goods inspection process). The supplier then issues an invoice that is cross-checked with the purchase order and the record of the product and/or service received. Finally, payment is made.

Successful supply chain management requires an effective shift from the management of individual functions to the integration of activities, such as purchasing, into key supply chain processes. For instance, a purchasing department will place orders as requirements become known.

Acquisition Process

Model of the acquisition process for major systems in industry and defense: The process is defined by a series of phases, during which technology is defined and matured into viable concepts, which are subsequently developed and prepared for production.

10.4.2: Inventory Management

Learning Objective

Recognize the applications and benefits of inventory management

Key Points

• Inventory refers to a list compiled for some formal purpose, such as the details of an estate or the contents of a rented house.
• Inventory management is required at different locations within a facility or within many locations of a supply network in order to plan for the production and stock of materials.
• Inventory management addresses issues including: replenishment lead time; carrying costs of inventory; asset management; inventory forecasting; inventory valuation; inventory visibility; and future inventory price forecasting.
• Supply chain activities can be grouped into strategic, tactical, and operational categories.
• Supply chain activities can be grouped into strategic, tactical, and operational levels.

Key Terms

tactical planning

an organization’s process of determining how to optimize current resources and operations

supply chain

A supply chain is a system of organizations, people, technology, activities, information and resources involved in moving a product or service from supplier to customer.

In the United Kingdom, inventory typically refers to a list compiled for some formal purpose, such as one that itemizes an estate going to probate or the contents of a furnished house to be rented. In the U.S. and Canada, inventory has become the equivalent of the British term stock; that is, it refers to material that is available from and stocked by a business. In the context of accounting, inventory or stock is considered an asset.

Inventory Management

Inventory management tracks the shape and percentage of stocked goods. At different locations within a facility, or within many locations of a supply network, inventory management must precede the regular and planned course of production and stocking of materials .

Inventory Management

Inventory management is primarily concerned with specifying the shape and percentage of stocked goods.

Inventory management addresses a number of concerns, including: replenishment lead time; carrying costs of inventory; asset management; inventory forecasting; inventory valuation; inventory visibility; future inventory price forecasting; physical inventory; available physical space for inventory; quality management; replenishment; returns and defective goods; and demand forecasting. By effectively managing these issues, a business can achieve optimal inventory levels. However, the management process is on-going as a business and its needs shift and respond to the wider environment.

Inventory management often involves a retailer seeking to acquire and maintain a proper merchandise assortment while ordering, shipping, handling, and related costs are kept in check. It requires systems and processes that identify inventory requirements, set targets, provide replenishment techniques, report actual and projected inventory status, and handle all functions related to the tracking and management of material. These include the monitoring of material moved into and out of stockroom locations, as well as the reconciling of inventory balances. Processes may also include ABC analysis, lot tracking, and cycle counting support.

Management of inventories, aimed primarily at determining and controlling stock levels within the physical distribution system, serves to balance the need for product availability against the need for minimizing stock holding and handling costs. Reasons for keeping an inventory include:

• Time: The time lag in the supply chain from supplier to user requires the availability of a certain amount of inventory for use during this lead time. In practice, inventory is maintained for consumption during variations in lead time, and lead time itself can be addressed by ordering a specified number of days in advance.
• Uncertainty: Inventories are maintained as buffers to meet uncertainties in demand, supply, and movement of goods.
• Economies of scale: To deliver one unit of product at a time, and in response to the specific need and location of a given user, would be costly and logistically difficult. In contrast, bulk buying, movement, and storage translate into economies of scale and inventory.

Inventory and the Supply Chain

Supply chain activities can be grouped into strategic, tactical, and operational levels. Inventory considerations present at each level include:

Strategic: Network optimization, including the number, location, and size of warehousing, distribution centers, and facilities.

Tactical: Inventory decisions, including quantity, location, and quality of inventory.

Operational: Sourcing planning, including current inventory and forecast demand, done in collaboration with all suppliers; inbound operations, including transportation from suppliers and receiving inventory; outbound operations, including all fulfillment activities, warehousing, and transportation to customers; management of non-moving, short-dated inventory and avoidance of short-dated products.

10.4.3: Scheduling

Learning Objective

Explain the benefits of using modern scheduling tools

Key Points

• Production scheduling aims to maximize the efficiency of operations and reduce costs.
• Benefits of production scheduling include process change-over reduction; inventory reduction; leveling; reduced scheduling effort; increased production efficiency; labor load leveling; accurate delivery date quotes; and real time information.
• Minute-by-minute production scheduling for each manufacturing facility in the supply chain occurs at the operational level of supply chain activities.
• Benefits of production scheduling include process change-over reduction, inventory reduction, leveling, reduced scheduling effort, increased production efficiency, labor load leveling, accurate delivery date quotes and real time information.
• Production scheduling for each manufacturing facility in the supply chain (minute by minute) takes place at the operational level of supply chain activities.

Key Terms

Backward scheduling

Backward scheduling is planning the tasks from the due date or required-by date to determine the start date and/or any changes in capacity required.

Forward scheduling

Forward scheduling is planning the tasks from the date resources become available to determine the shipping date or the due date.

maturity date

the time of the final payment of a loan or other financial instrument, at which point the principal (and all remaining interest) is due to be paid

Example

• In order to reduce costs, an airline may want to minimize the number of airport gates required for its aircraft. Scheduling software allows planners to determine how this might be done, enabling them to analyze time tables, aircraft usage, or the flow of passengers.

Scheduling is an important tool in the manufacturing and engineering industries, where it can significantly impact the productivity of a particular process. In manufacturing, the purpose of scheduling is to minimize production time and cost by telling a production facility when to make a product and with which staff and equipment.

Production scheduling aims to maximize the efficiency of an operation and reduce its costs . Modern scheduling tools greatly outperform older, manual scheduling methods. Today’s tools provide the production scheduler with powerful graphical interfaces, which can be used to visually optimize real time work loads in various stages of production. Further, pattern recognition software reveals scheduling opportunities that might not be apparent without this view into the data.

Scheduling Visualization

This Gantt chart aids in scheduling by visualizing and relating phases of production.

For example, in order to reduce costs, an airline may want to minimize the number of airport gates required for its aircraft. Scheduling software allows planners to see how this might be done, enabling them to analyze time tables, aircraft usage, or the flow of passengers.

Companies use backward and forward scheduling to allocate plant and machinery resources, determine human resources and production processes, and purchase materials. Forward scheduling involves planning tasks from the date that resources become available in order to determine the shipping date or the due date. Backward scheduling involves planning tasks from the due date or required-by date in order to determine the start date and/or necessary changes in capacity.

Production scheduling has a number of benefits:

• Process change-over reduction
• Inventory reduction and leveling
• Reduced scheduling effort
• Increased production efficiency
• Labor load leveling
• Accurate delivery date quotes
• Real time information

Finally, minute-by-minute production scheduling occurs for each manufacturing facility in the supply chain at the operational level of supply chain activities.

10.4.4: Routing

Learning Objective

Explain the process of routing

Key Points

• Routing is performed for many kinds of networks, including the telephone network (circuit switching), electronic data networks (such as the Internet), and transportation networks.
• A transport network, (or transportation network in American English), is typically a network of roads, streets, pipes, aqueducts, power lines, or nearly any structure which permits either vehicular movement or flow of some commodity.
• Transport engineers use mathematical graph theory to analyze a transport network to determine the flow of vehicles (or people) through it.
• At the tactical level of supply chain activities, the transportation strategy of goods must be considered. This includes frequency, routes, and contracting.

Key Terms

transport network

A transport network, or transportation network in American English, is typically a network of roads, streets, pipes, aqueducts, power lines, or nearly any structure which permits either vehicular movement or flow of somecommodity.

routing

a method of finding paths from origins to destinations in a network such as the Internet, along which information can be passed

Routing is the process of selecting paths in a network along which to send network traffic. Routing is performed for many kinds of networks, including the telephone network (circuit switching), electronic data networks (such as the internet), and transportation networks. This chapter focuses on the role of routing in transportation networks.

Transport Networks

A transport network, (or transportation network in American English), is typically a network of roads, streets, pipes, aqueducts, power lines, or nearly any structure which permits either vehicular movement or flow of some commodity. Transport engineers use mathematical graph theory to analyze a transport network to determine the flow of vehicles (or people) through it. A transport network may combine different modes of transport.

Tactical Level

At the tactical level of supply chain activities, the transportation strategy of goods must be considered. This includes frequency, routes, and contracting of goods. A goal of a company when transporting goods is to ensure efficiency. Wear and tear of vehicles and the cost of gas can make some routes more expensive than others. In order to reduce costs, companies often look for ways to streamline routes and supply chain activities. GPS, or global positioning system, is a technological advancement that has helped companies determine which routes are the most expensive to maintain. These routes can be analyzed to determine if they can be eliminated, divided, and/or merged with other routes, or if finding a new route can help make the route more efficient. Sometimes transport is subcontracted to specialists or logistics partners.

Anycast Routing

A visual display of Anycast routing.

10.4.5: Outsourcing

Learning Objective

Analyze the effects of outsourcing on the supply chain

Key Points

• The specialization model creates manufacturing and distribution networks composed of multiple, individual supply chains specific to products, suppliers, and customers who work together to design, manufacture, distribute, market, sell, and service a product.
• Outsourcing involves not only the procurement of materials and components, but also the outsourcing of services that traditionally have been provided in-house.
• Managing and controlling a network of partners and suppliers requires a blend of both central and local involvement.
• Managing and controlling a network of partners and suppliers requires a blend of both central and local involvement. Hence, strategic decisions need to be taken centrally, with the monitoring and control of supplier performance and day-to-day liaison with logistics partners being best managed at a local level.

Key Term

supply chain

A supply chain is a system of organizations, people, technology, activities, information and resources involved in moving a product or service from supplier to customer.

Example

• In the early 21st century, businesses increasingly outsourced to suppliers outside their own country, sometimes referred to as offshoring or offshore outsourcing.

Outsourcing is the process of contracting an existing business process which an organization previously performed internally to an independent organization, where the process is purchased as a service.

Outsourcing

Outsourcing is the process of contracting an existing business process which an organization previously performed internally to an independent organization, where the process is purchased as a service.

The Rise of Outsourcing

In the 1990s, industries began to focus on “core competencies,” and adopted a specialization model. Companies abandoned vertical integration, sold off non-core operations, and outsourced those functions to other companies. This changed management requirements by extending the supply chain well beyond company walls and distributing management across specialized supply chain partnerships.

This transition also re-focused the fundamental perspectives of each respective organization. OEMs became brand owners that needed deep visibility into their supply base. They had to control the entire supply chain from above instead of from within. Contract manufacturers had to manage bills of material with different part numbering schemes from multiple OEMs and support customer requests for work -in-process visibility and vendor-managed inventory (VMI).

Outsourcing and the Supply Chain

The specialization model creates manufacturing and distribution networks composed of multiple, individual supply chains specific to products, suppliers, and customers who work together to design, manufacture, distribute, market, sell, and service a product. The set of partners may change according to a given market, region, or channel, resulting in a proliferation of trading partner environments, each with its own unique characteristics and demands.

Outsourcing involves not only the procurement of materials and components, but also the outsourcing of services that traditionally have been provided in-house. The logic of this trend is that the company will increasingly focus on those activities in the value chain where it has a distinctive advantage, and outsource everything else. This movement has been particularly evident in logistics, where the provision of transport, warehousing, and inventory control is increasingly subcontracted to specialists or logistics partners. Also, managing and controlling this network of partners and suppliers requires a blend of both central and local involvement. Hence, strategic decisions need to be taken centrally, with the monitoring and control of supplier performance and day-to-day liaison with logistics partners being best managed at a local level.

10.4.6: Logistics

Learning Objective

Differentiate between supply chain and logistics

Key Points

• Logistics involves the integration of information, transportation, inventory, warehousing, material handling, and packaging, and often security. Today, the complexity of production logistics can be modeled, analyzed, visualized, and optimized by plant simulation software but is constantly changing.
• Logistics applies to activities within one company involving distribution of the product, whereas the term “supply chain” also encompasses manufacturing and procurement and, therefore, has a much broader focus.
• Logistics as a business concept evolved in the 1950s due to the increasing complexity of supplying businesses with materials and shipping out products in an increasingly globalized supply chain, leading to a call for experts called “supply chain logisticians”.
• In business, logistics may have either internal focus (inbound logistics) or external focus (outbound logistics), covering the flow and storage of materials from point of origin to point of consumption (see supply chain management).
• There are two fundamentally different forms of logistics. One optimizes a steady flow of material through a network of transport links and storage nodes, and the other coordinates a sequence of resources to carry out some project.
• There are two fundamentally different forms of logistics: one optimizes a steady flow of material through a network of transport links and storage nodes; the other coordinates a sequence of resources to carry out some project.

Key Terms

inventory

The stock of an item on hand at a particular location or business.

supply chain

A system of organizations, people, technology, activities, information. and resources involved in moving a product or service from supplier to customer.

logistics

The process of planning, implementing, and controlling the efficient, effective flow and storage of goods, services, and related information from their point of origin to point of consumption for the purpose of satisfying customer requirements.

Logistics

The term Logistics Management or Supply Chain Management is the part of Supply Chain Management that plans, implements, and controls the efficient, effective, forward, and reverse flow and storage of goods, services, and related information between the point of origin and the point of consumption in order to meet customer’s requirements.

Distribution chain

Example of how companies may be supplied by the same distributor.

Logistics involves the integration of information, transportation, inventory, warehousing, material handling, and packaging, and often security. Today, the complexity of production logistics can be modeled, analyzed, visualized, and optimized by plant simulation software but is constantly changing. This can involve anything from consumer goods, such as food to IT materials, and aerospace and defense equipment.

There is often confusion over the terms “supply chain” and “logistics. ” It is now generally accepted that the logistics applies to activities within one company/organization involving distribution of product, whereas supply chain also encompasses manufacturing and procurement and, therefore, has a much broader focus as it involves multiple enterprises, including suppliers, manufacturers, and retailers, working together to meet a customer’s need for a product or service.

The Evolution of Logistics

Logistics as a business concept evolved in the 1950s due to the increasing complexity of supplying businesses with materials and shipping out products in an increasingly globalized supply chain, leading to a call for experts or supply chain logisticians. Business logistics can be defined as “having the right item in the right quantity at the right time at the right place for the right price in the right condition to the right customer,” and is the science of process and incorporates all industry sectors. The goal of logistics work is to manage the fruition of project life cycles, supply chains, and resultant efficiencies.

Starting in the 1990s, several companies chose to outsource the logistics aspect of supply chain management by partnering with a 3PL, third-party logistics provider. Companies also outsource production to contract manufacturers. Technology companies have risen to meet the demand to help manage these complex systems.

Logistic Focus

In business, logistics may have either an internal focus (inbound logistics) or external focus (outbound logistics).

Inbound logistics is one of the primary processes of logistics, concentrating on purchasing and arranging the inbound movement of materials, parts, and/or finished inventory from suppliers to manufacturing or assembly plants, warehouses, or retail stores.

Outbound logistics is the process related to the storage and movement of the final product and the related information flows from the end of the production line to the end user.

10.4.7: Quality Control

Learning Objective

Discuss the role of quality control in business

Key Points

• The purpose of quality control is to make sure that certain processes perform to a company’s set standards.
• Quality control in relation to customers involves the continuous act of making sure products, designed and manufactured, are produced to meet and exceed customer needs.
• Quality should be measured differently for products and services and judged by their own set of dimensions.
• Controls include product inspection, where every product is visually examined, often with a stereo microscope to perceive fine detail before the product is sold into the external market.
• Responsibility for overall quality lies with top management. Top management must establish strategies, institute programs for quality, and motivate managers and workers.

Key Terms

quality control

A control, such as inspection or testing, introduced into an industrial or business process to ensure quality.

organizational culture

Organizational culture is the collective behavior of humans who are part of an organization and the meanings that the people attach to their actions.

total quality management

A strategic approach to management aimed at embedding awareness of quality in all organizational processes.

Example

• Controls include product inspection, where every product is examined visually. Inspectors will be provided with lists and descriptions of unacceptable product defects such as cracks or surface blemishes.

Quality can be thought of as the degree to which performance of a product or service meets or exceeds expectations. Quality control is a process that evaluates output against a standard and takes corrective action when output doesn’t meet these predetermined standards. Therefore, quality control in relation to customers would be the continuous act of making sure products, designed and manufactured, are produced to meet and exceed the needs of customers. For contract work, particularly work awarded by government agencies, quality control issues are among the top reasons for not renewing a contract .

quality control

The purpose of quality control is to make sure that certain processes are performing up to a company’s set standards.

This approach places an emphasis on three aspects:

• Elements such as controls, job management, defined and well-managed processes, performance and integrity criteria, and identification of records
• Competence, such as knowledge, skills, experience, and qualifications
• Soft elements, such as personnel integrity, confidence, organizational culture, motivation, team spirit, and quality relationships

Controls include product inspection, where every product is examined visually, often using a stereo microscope for fine detail before the product is sold on the external market. Inspectors will be provided with lists and descriptions of unacceptable product defects such as cracks or surface blemishes.

An emphasis on quality control heightened during World War II. At that time quality control evolved to quality assurance and is now better known as a Strategic Approach, a tool for improving not only products but also processes and services. Quality should be measured differently for products and services, and judged by their own set of dimensions. Responsibility for overall quality lies with top management. Top management must establish strategies, institute programs for quality, and motivate managers and workers. Most of the time, managers aim to improve or maintain the quality of an organization as a whole; this is referred to as Total Quality Management (TQM). TQM involves a continual effort for quality improvement by everyone in an organization. The entire supply chain must be involved for an organization to meet and exceed goals of quality control.

10.4.8: Investment in Operations

Learning Objective

Examine the effect of technological advances on supply chain optimization

Key Points

• Supply chain optimization applies processes and tools that ensure the optimal operation of a manufacturing and distribution supply chain.
• Supply chain managers try to maximize the profitable operation of their manufacturing and distribution supply chain.
• Supply chain optimization may include refinements at various stages of the product lifecycle, and new, ongoing, and obsolete items are optimized in different ways.
• Optimization solutions are typically part of, or linked to, the company’s replenishment systems distribution requirements planning, so that orders can be automatically generated to maintain the model stock profile. The algorithms used are similar to those used in making financial investment decisions; the analogy is quite precise, as inventory can be considered to be an investment in prospective return on sales.
• Supply chain optimization may include refinements at various stages of the product lifecycle, so that new, ongoing and obsolete items are optimized in different ways: and adaptations for different classes of products, for example seasonal merchandise.

Key Term

supply chains

A supply chain is a system of organizations, people, technology, activities, information and resources involved in moving a product or service from supplier to customer.

Example

• Because the movement of product (called the stock transfer) needs to be in economic shipping units (i.e., complete unit loads or full truckloads), a series of decisions must be made. Many existing distribution planning systems round quantities up to the nearest full shipping unit. The creation of truckloads, for example, as economic shipping units requires optimization systems that ensure that axle constraints and space constraints are met, and that loading can be achieved in a damage-free way. These goals are generally achieved by adding time-phased requirements until loads meet a specified minimum weight or cube.

Supply chains have become faster, cheaper, and more reliable through investment in information technology, cost-analysis, and process-analysis.

Supply chain optimization applies processes and tools that ensure optimal operation of a manufacturing and distribution supply chain. These include the optimal placement of inventory within the supply chain and the minimizing of operating costs associated with manufacturing, transportation, and distribution. Optimization may also incorporate computer-based mathematical modelling techniques .

Supply Chain

Supply chain optimization applies processes and tools that ensure the optimal operation of a manufacturing and distribution supply chain.

Ongoing investment in a company’s operations is necessary in order for supply chain optimization to be achieved. Supply chain managers may employ optimization such as maximizing gross margin return on inventory invested (GMROII); balancing the cost of inventory at all points in the supply chain with availability to the customer; minimizing total operating expenses (e.g., transportation, inventory, and manufacturing); and maximizing gross profit of products distributed through the supply chain.

Supply chain optimization addresses the general supply chain problem of delivering products to customers at low cost and high profit. This involves balancing the costs of inventory, transportation, distribution, and manufacturing, and supply chain optimization has applications in all industries that manufacture and/or distribute goods (retail, industrial, and/or consumer packaged goods [CPG]).

The classic supply chain approach has been to forecast future inventory demand using statistical trending and “best fit” techniques, which are based on historic demand and predicted future events. The advantage of this approach is that it can be applied to data aggregated at a fairly high level (e.g., category of merchandise; weekly, by customer category), thus requiring modest database sizes and small amounts of manipulation. Unpredictability in demand is subsequently managed by setting safety stock levels; for example, a distributor might hold two weeks of supply for a steadily in-demand article but twice that supply for an article whose demand is more erratic.

Using this forecast demand, a supply chain manufacturing and distribution plan is created to manufacture and distribute products to meet the demand at low cost and/or high profit. This plan typically addresses several questions:

• How much of each product should be manufactured each day?
• How much of each product should be made at each manufacturing plant?
• Which manufacturing plants should re-stock which warehouses with which products?
• What transportation modes should be used for warehouse replenishment and customer deliveries?

The technical ability to record and quickly manipulate large databases has allowed for the emergence of a new breed of supply chain optimization solutions, which are capable of forecasting at a granular level (for example, per article per customer per day). Some vendors are applying “best fit” models to this data, to which safety stock rules are applied, while other vendors have started to apply stochastic techniques to the optimization problem.

Supply chain optimization may include additional refinements at various stages of the product lifecycle, and new, ongoing, and obsolete items are optimized in different ways. Finally, while most software vendors are offering supply chain optimization as a packaged solution and integrated in ERP software, some vendors are running the software on behalf of clients as application service providers.

10.5: Planning for Operations

10.5.1: New Product Development

Organizations put a lot of time and money into new products and thus deploy various methods in an attempt to mitigate the risks.

Learning Objective

Distinguish between minimum viable product, continuous deployment, split testing, vanity metrics, laboratory tests, expert evaluations and customer evaluations

Key Points

• Organizations use formal systems to evaluate new products.
• Product testing and sales forecasts are used to help diminish the risk of introducing a new product.
• It’s possible to eliminate some of the risks associated with introducing a new product by launching the smallest amount of the product possible to test demand.
• Several methods can be used to evaluate new products before they are launched.

Key Terms

product differentiation

perceived differences between the product of one firm and that of its rivals so that some customers value it more

product

Any tangible or intangible good or service that is a result of a process and that is intended for delivery to a customer or end user.

minimum viable product

The minimum viable product is a product stripped down to it’s most basic, necessary features in order to get that product into the consumer’s hands in the quickest, most affordable way.

product placement

a form of advertising where a brand, good, or service is placed in the media, for money

Example

• The birth of Zappos provides an example of how an organization can release the smallest amount of the product possible to collect the maximum amount of validated learning about customers with the least amount of effort (a minimum valuable product). Zappos founder Nick Swinmurn wanted to test the hypothesis that customers were ready and willing to buy shoes online. Instead of building a website and a large database of footwear, Swinmurn approached local shoe stores, took pictures of their inventory, posted the pictures online, bought the shoes from the stores at full price, and sold them directly to customers if they purchased the shoe through his website. Swinmurn deduced that customer demand was present, and Zappos would eventually grow into a billion dollar business based on the model of selling shoes online.

Introduction

Organizations invest a lot of money to create new products that perform effectively. Nonetheless, firms often struggle to convince people to incorporate these new products into their routines (Arts 2008). For example, it took 18 years for microwave ovens to gain acceptance in Greece (Tellis, Stremersch, and Yin 2003). The ultimate success of new products depends on consumers accepting them (Arts 2008). .

New product

Organizations invest a lot of money to create new products that perform effectively.

Product Evaluation

The term “product” refers to both goods and services. A product is anything that can be offered to a market to satisfy a want or need. When an organization adds a new product, there is both potential benefit and risk. As a result, organizations implement formal systems for evaluating new products. In particular, there is a concerted effort to forecast projected sales and thus reduce some of the financial risk.

While evaluating new products, there is also the possibility of generating innovative ideas that can later go through the testing process. Idea generation is an essential part of marketing strategy and is critical to the success of a company. When such product ideas move further along, a key step is to create a prototype or working version of the new offering. Again, market testing is crucial at every stage in the development process.

Minimum Viable Product

A minimum viable product (MVP) is the “version of a new product which allows a team to collect the maximum amount of validated learning about customers with the least effort. ” The goal of an MVP is to test fundamental business hypotheses (or leap-of-faith assumptions) and to help entrepreneurs begin the learning process as quickly as possible.

For example, Ries notes that Zappos founder Nick Swinmurn wanted to test the hypothesis that customers were ready and willing to buy shoes online. Instead of building a website and a large database of footwear, Swinmurn approached local shoe stores, took pictures of their inventory, posted the pictures online, bought the shoes from the stores at full price, and sold them directly to customers if they purchased the shoe through his website. Swinmurn deduced that customer demand was present, and Zappos would eventually grow into a billion-dollar business based on the model of selling shoes online.

Continuous Deployment

Continuous deployment is a process “whereby all code that is written for an application is immediately deployed into production,” resulting in a reduction of cycle times. Ries states that some of the companies he’s worked with deploy new code into production as often as 50 times a day. The phrase was coined by Timothy Fitz, one of Ries’s colleagues and an early engineer at IMVU.

Split Testing

A split test or A/B test is an experiment in which “different versions of a product are offered to customers at the same time. ” The goal of a split test is to observe changes in behavior between the two groups and to measure the impact of each version on an actionable metric. A/B testing can also be performed in serial fashion where a group of users one week may see one version of the product while the next week users see another.

Vanity Metrics

Vanity metrics are measurements which give “the rosiest picture possible” but do not accurately reflect the key drivers of a business. This is in contrast to actionable metrics, the measurement of which can lead to a business decision and subsequent action.

Laboratory Tests

Laboratory tests provide information regarding the performance of new products in extreme settings. For example, a new copy machine can be tested at various work loads, like numbers of copies and speed per minute to test the relationship between workload and paper jam.

Expert Evaluations

Expert evaluators can be used at all phases of the new product development process. For instance, experts can be used to estimate whether or not a new product idea will be accepted in the marketplace before a prototype even exists.

Customer Evaluations

In later stages of development, customers can be recruited to evaluate prototypes. There is an attempt to test new products under conditions that are relatively close to actual use.

10.5.2: Designing the Operation

Designing effective operations is critical, and can have both short-term and long-term impacts on an organization’s longevity.

Learning Objective

Explain the importance of operations management on the success of a business

Key Points

• Operations management is a strategic function within an organization.
• Operations decisions include elements needed to produce goods and services, and make them available to customers.
• Operations management touches upon multiple areas of a business, from engineering and research & development, to human resources and accounting.

Key Terms

operation

The method or practice by which actions are done.

Operations management

An area of management concerned with overseeing, designing, controlling the process of production, and redesigning business operations in the production of goods and/or services.

Designing the Operation

Operations management is a strategic function in organizations that adds value to customers and allows businesses to successfully produce goods and deliver services. Operational decisions determine how well these goods and services meet the needs of the organization’s target market, and consequently, whether the organization will be able to survive over the long-term .

Smooth Landing

Operations management plays a key role in the success in airline companies.

If the organization has made mostly good operational decisions in designing and executing its transformation system to meet the needs of customers, its prospects for long-term survival are greatly enhanced.

Operations management and planning are common in industries such as the airlines, manufacturing companies, service provider organizations, the military, and government. Some examples of management and planning include:

• Scheduling airlines, including both planes and crew
• Deciding the appropriate place to site new facilities such as a warehouse, factory, or fire station
• Managing the flow of water from reservoirs; identifying possible future development paths for parts of the telecommunications industry
• Establishing the information needs and appropriate systems to supply them within the health service
• Identifying and understanding the strategies adopted by companies for their information systems

Operational Decisions

As mentioned, operations decisions have both long-term and short-term impacts on the organization’s ability to produce goods and services, and can provide added value to customers and employees. Operations management touches upon multiple areas of a business, from engineering and research & development, to human resources and accounting. Likewise, the decisions management makes when parceling technological, monetary, and people resources across the organization typically falls under the following areas:

• Inventory decisions
• Capacity decisions
• Quality decisions
• Scheduling decisions
• Process decisions
• Technology decisions
• Location decisions

Most often when a company sets operational goals and objectives, they are considered relatively short term.

10.5.3: Capacity Planning

Capacity planning revolves around answering the question “How much? ” in both long-term and short-term situations.

Learning Objective

Compare and contrast long-term and short-term capacity decisions

Key Points

• Capacity planning takes place on a daily basis in some industries.
• Organizations must closely examine the services and the cost of services offered to their customers when making capacity decisions.
• In a grocery store or supermarket, managers must ensure that sufficient cash registers and employees are on-hand to meet check-out demand and provide good customer service.

Key Term

capacity

The maximum that can be produced on a machine or in a facility or group.

Introduction

When making capacity decisions, managers must answer the simple question, “How much?” Determining the organization’s capacity to produce goods and services involves both long-term and short-term decisions. Long-term capacity decisions involve facilities and major equipment investments .

capacity

The question managers must answer for capacity decisions is simply “How much?”

Long-term decisions

In 2007, Airbus introduced its Super Jumbo Jet that carries up to 850 passengers and costs USD 3 billion. The Super Jumbo Jet provides huge amounts of passenger carrying capacity, but before an airline purchases this jet, it needs to decide if it has enough passengers to generate the revenue to pay for the plane and earn profits for the airline. Buying a large single airplane like the Super Jumbo Jet may not be the right capacity decision for an airline that serves numerous medium-sized cities. On the other hand, an airline that serves passengers traveling between large cities like New York City, USA, and Shanghai, China might find the Super Jumbo Jet to be a perfect choice for meeting consumer demand.

Short-term decisions

Capacity decisions are also required in short-term situations. In a grocery store, the number of customers that need to pay for their groceries at any one point during the day will vary significantly. To provide good customer service, managers must make sure that sufficient cash registers and employees are on-hand to meet check-out demand at any given time.

Similarly, hotels must make sure that they have enough employees to register arriving guests, clean hotel rooms, and provide food and beverages to customers. These decisions must be made carefully to avoid excessive labor costs that result from having an excess of employees available for the number of customers being served.

10.5.4: Facilities Layout

Facility layout decisions are based on criteria aimed at creating an effective and efficient workflow and high standard production.

Learning Objective

Outline the key considerations in facility design

Key Points

• There are three types of workflow layouts that managers can choose from.
• Office and factory facilities are approached differently.
• A facility manager’s industry can also influence the facilities layout design.

Key Term

facilities layout

Facility layout is simply the way a facility is arranged in order to maximize processes that are not only efficient but effective towards the overall organizational goal.

Examples

• A paper mill is a good example of a repetitive process. The manufacturing requirements are well-understood, capital investment in automation is high, and production volume is extremely high to keep unit production costs as low as possible.
• Health care clinics provide a good example of an intermittent process. X-ray equipment and technicians are organized into an “X-ray Department”. Other departments are created for pediatrics, lab, gynecology, pharmacy, physical therapy, and many more. Patients are routed only to the departments that are needed for their particular treatment requirements.

Introduction

Facilities is defined as the workspace and equipment needed to carry out the operations of the organization. This includes offices, factories, computers, and trucks.

The location, design, and layout of an organizations’ facilities are central to maximising the efficiency of the overall operations system.

In this unit, we’re going to focus on facility design and layout.

Facilities Design and Layout

After choosing the facility’s location, the next stage in operations planning is to design the best physical layout for the facility. The avaliable space needs to be assessed with workstations, equipment, storage, and other amenities need to be arranged. The aim is to allow for the most efficient workflow without disruption. A workplace that has carefully arranged its layout will allow for a more effictive and efficient workflow and produce its good or services to a high standard.

There are three types of workflow layouts that managers can choose from:

• Process layout: arranged in departments (e.g., hospitals).
• Product layout: production line (e.g., a car assembly plant).
• Fixed-position layout: building a large item (e.g., jumbo jet).

Facility Layout Considerations

Facility managers should consider several factors when designing the layout of a facility to achieve maximum effectiveness.

• Does the design and layout allow for growth or change? Is there a chance that your company will experience significant growth? Could some other change come about that could influence the layout of your facility? In business, anything is possible. Make sure that same is true of your facilities layout. While making changes is a costly and undertaking them shouldn’t be taken lightly, your layout should be flexible enough to allow a redesign if the situation calls for it.
• Is the process flow smooth? If you are running a factory, for example, the flow should be such that the raw materials enter at one end and the finished product exits at the other. The flow doesn’t have to form a straight line, but there should be no backtracking. Backtracking creates confusion. Employees get confused (“Has that been done yet? “), parts get lost, and coordination is very difficult. You need to have a smooth process to be efficient.
• Are materials being handled efficiently? Here simplicity is best.
• Does the facility layout aid the business in meeting its production needs? Is there enough space and is it used efficiently? Have you allowed enough space for shipping and receiving? Can different areas of the business communicate effectively? Does the layout lend itself to promotional activities? (e.g., showing the facilites to potential customers)
• Does the layout contribute to employee satisfaction and moral? Numerous studies have linked employee moral to productivity. So managers should take this point into consideration when designing the layout of their facilities. How can this be done? Paint the walls light colors, allow for windows and space, include a cafeteria and a gym. Some of the options may cost lots of money, but if it increases productivity in the long run, it is probably worth making the investment.

Are the Facilities for an Office or a Factory?

Office Space

An office will have different layout requirements than a factory.

Office and factory facilities are approached differently.

Factories move materials from point A to point B to produce a final products. The process uses equipment and utilities. Minimizing transportation costs may be one of the criteria of planning the layout of a factory. Another important consideration for factories in the necessity for maintenance of machinery. As such, careful consideration of enabling access to technicians is critical to ensuring minimal workflow disruptions in a scenario of updating, repairing or replacing machinery.

Offices, on the other hand, produces information. The form may be physical, electronic, or oral, but the the final result is still information. Office facility layout is harder to quantify than factory facilities layout, but the goal should be to minimize communication costs and maximize productivity.

Your industry can also influence the facilities layout design. The facility layout for service industries will differ from that of retailers and manufacturers. It all depends on organization’s needs.

10.5.5: Location Choice and Site Planning

An organization’s location choice impacts its efficiency and effectiveness, so it is important for it to properly weigh the various factors.

Learning Objective

Outline the key considerations for deciding the location of facilities

Key Points

• There are many factors that can determine where an organization will locate its facilities. For any given situation, some factors become more important than others in how facility location affects an organization’s efficiency and effectiveness.
• The factors determining where a company chooses to locate its facilites include supply, customer, community, and labor considerations.
• An essential part of choosing a location is doing proper research to verity that the location matches an organization’s strategic requirements.

Key Term

facility

The physical means or contrivances to make something (especially a service) possible; the required equipment, infrastructure, location etc.

Example

• The following shows the importance of researching a location choice to make sure it is in line with strategic requirements. In the 1990s, MCI, a major US telecommunications company, decided to relocate its engineering services division from MCI’s headquarters in Washington DC to Colorado Springs, Colorado to reduce labor and facility costs. The decision was largely unsuccessful due to the high costs of employee relocation and the fact that much of the ethnically diverse engineering workforce did not want to live in Colorado Springs. Unlike Washington DC, Colorado Springs did not have cultural diversity to match with its diverse and highly educated workforce, it lacked employment options for spouses, and the work ethic was more relaxed due to the beautiful natural setting that provided unlimited options for outdoor recreation. In short, if MCI had put more effort into researching how well the Colorado Springs location matched its strategic requirements, it probably could have saved itself millions of dollars and a great deal of internal disruption to the organization.

Introduction

There are many factors that can determine where an organization will locate its facilities. For any given situation, some factors become more important than others in how facility location affects an organization’s efficiency and effectiveness.

Key Factors

• Proximity to sources of supply: Firms that process bulk raw materials usually locate close to the source of supply to reduce transportation costs. Paper mills locate close to forests, canneries are built close to farming areas, and fish processing plants are located close to the harbors where the fishing vessels dock.
• Proximity to customers: There are several reasons why an organization would locate close to end customers. Service firms need to be close to customers to be convenient, as is the case for grocery stores, gas stations, fast food restaurants, and hospitals. Transportation costs can also require proximity to customers, as in the case of concrete manufacturing. Perishable products often require that they be produced close to the final market, as is the case for bakeries and fresh flowers.
• Community factors: Communities may offer a number of incentives to entice companies, including waiving or reducing taxes, and providing access roads, water and sewer connections, and utilities. Community attitudes can also play a role in an organization’s location decision. Some communities may actively discourage companies that might bring more pollution, noise, and traffic to the area. Some communities may not want a prison to be located in their community. Other communities may welcome such firms because of the jobs, tax revenues, and economic diversity they promise.
• Labor factors: Research shows that the majority of location decisions are largely based on labor factors, since labor is a critical variable for many firms. Labor factors include the prevailing wage rate in a community for similar jobs, the supply of qualified workers, and the average education level of the local population (percentage of high school graduates, etc.). Other labor factors can include the degree of union organizing and the general work ethic of a community, as well as other measures of absenteeism, and worker longevity in a job can play a strong role when a firm makes a location decision.
• Other factors: Many other factors can play a role in the location decision, including quality of life (crime rates, good schools, climate, and recreation options), access to major transportation arteries, construction costs, proximity of the competition, and opportunities for future expansion.

As mentioned earlier, the importance of any location factor can vary greatly, depending on the circumstances of the decision.

Colorado river

Colorado is beautiful, but it might not be the best location for all organizations.

In the 1990s, MCI, a major US telecommunications company, decided to relocate its engineering services division from MCI’s headquarters in Washington DC to Colorado Springs, Colorado to reduce labor and facility costs. The decision was largely unsuccessful due to the high costs of employee relocation and the fact that much of the ethnically diverse engineering workforce did not want to live in Colorado Springs.

Unlike Washington DC, Colorado Springs did not have cultural diversity to match with its diverse and highly educated workforce, it lacked employment options for spouses, and the work ethic was more relaxed due to the beautiful natural setting that provided unlimited options for outdoor recreation.

In short, if MCI had put more effort into researching how well the Colorado Springs location matched its strategic requirements, it probably could have saved itself millions of dollars and a great deal of internal disruption to the organization.

10.5.6: Sustainability Initiatives

Sustainability initiatives consider every dimension of how a business operates in the social, cultural, and economic environment.

Learning Objective

Explain the principles of corporate sustainability

Key Points

• Transparency deals with the idea that having an engaging and open environment within the company, as well as the community, will improve performance and increase profits.
• Employee development involves the idea that people are the most important renewable resource and, therefore, are the strongest asset to any organization.
• Resource efficiency refers to that fact that companies must adapt to a rapidly changing environment by being prepared to change and implement new creative ideas related to sustainability.
• Essential principles of a sustainability initiative include triple top-line value production, nature-based knowledge and technology, products of service and products of consumption, renewable energy, local economies, and continuous improvement.

Key Terms

sustainability

The capacity to support, maintain, or endure.

stewardship

The act of caring for or improving with time.

geothermal

Pertaining to heat energy extracted from reservoirs in the earth’s interior.

Example

• The following shows the importance of researching a location choice to make sure it is in line with strategic requirements. In the 1990s, MCI, a major US telecommunications company, decided to relocate its engineering services division from MCI’s headquarters in Washington DC to Colorado Springs, Colorado to reduce labor and facility costs. The decision was largely unsuccessful due to the high costs of employee relocation and the fact that much of the ethnically diverse engineering workforce did not want to live in Colorado Springs. Unlike Washington DC, Colorado Springs did not have cultural diversity to match with its diverse and highly educated workforce, it lacked employment options for spouses, and the work ethic was more relaxed due to the beautiful natural setting that provided unlimited options for outdoor recreation. In short, if MCI had put more effort into researching how well the Colorado Springs location matched its strategic requirements, it probably could have saved itself millions of dollars and a great deal of internal disruption to the organization.

Sustainability, in a general sense, is the capacity to support, maintain, or endure. Since the 1980s, human sustainability has been related to the integration of environmental, economic, and social dimensions towards global stewardship and responsible management of resources .

Sustainability

Sustainability is related to the integration of environmental, economic, and social dimensions towards global stewardship and responsible management of resources.

Corporate sustainability is a business approach that creates long-term consumer and employee value by not only creating a “green” strategy aimed towards the natural environment, but taking into consideration every dimension of how a business operates in the social, cultural, and economic environment. It also involves formulating strategies to build a company that fosters longevity through transparency and proper employee development. Three key principles that should form the foundation of a corporate sustainability initiative are: transparency, employee development, and resource efficiency.

Transparency deals with the idea that having an engaging and open environment within the company, as well as the community, will improve performance and increase profits. An open culture promotes employee involvement in regards to the innovation and creative processes. Reaching out to the community creates a much bigger team and provides evaluation from all angles. Companies are looking inward and realizing changes must be made to fulfill environment needs such as energy efficiency, limiting product waste and toxicity, and designing innovative products.

Employee development involves the idea that people are the most important renewable resource and, therefore, are the strongest asset to any organization. A strong development program could be the underlying factor for a company’s success or failure. Employees are the concrete foundation for the company and must be thoroughly analyzed and evaluated to tap into their true motivations and desires. For a company that wants to reach its greatest potential, employees must work towards improvement rather than perfection. Programs should be implemented that reward star performers, foster the creative learning process, and provide comprehensive training and evaluating.

Resource efficiency refers to that fact that companies must adapt to a rapidly changing environment by being prepared to change and implement new creative ideas related to sustainability. Companies should not throw away old products and materials, but rather be prepared with upgraded technology that can transform the product. New solutions that improve recycling and waste redirecting can ultimately reduce costs and increase profits. For example, Wal-Mart Stores Inc. has redirected more than 64% of the waste generated by stores and Sam’s Club facilities. In 2009 alone, they recycled more than 1.3 million pounds of aluminum, 120 million pounds of plastics, 11.6 million pounds of mixed paper, and 4.6 billion pounds of cardboard. On an annual basis, they expect to save around $20 million and prevent 38 million pounds of waste being sent to landfills.

Essential Principles of a Sustainability Initiative

1. Triple top-line value production: This establishes three simultaneous requirements of sustainable business activities: 1) financial benefits for the company, 2) natural world betterment, and 3) social advantages for employees and members of the local community—with each of these three components recognized as equal in status.
2. Nature-based knowledge and technology: This biomimicry-based principal involves the conscious emulation of natural-world genius in terms of growing our food, harnessing our energy, construction, conducting business, healing ourselves, processing information, and designing our communities.
3. Products of service and products of consumption: Products of service are durable goods routinely leased by the customer that are made of technical materials and are returned to the manufacturer and re-processed into a new generation of products when they are worn out. Products of consumption are shorter lived items made only of biodegradable materials. This principal requires that we manufacture only these two types of products and necessitates the gradual but continual reductions of products of service and their replacement with products of consumption as technological advancements allow.
4. Solar, wind, geothermal, and ocean energy: This principal advocates employing only sustainable energy technology—solar, wind, ocean, and geothermal—that can meet our energy needs indefinitely without negative effects for life on Earth.
5. Local-based organizations and economies: This principle calls for durable, beautiful, and healthy communities with locally-owned and operated businesses and locally-managed non-profit organizations, along with regional corporations and shareholders working together in a dense web of partnerships and collaborations.
6. Continuous improvement process: This principle suggests that operational processes inside successful organizations include provisions for constant advancements and upgrade as the company does its business.

9.4: Factors to Consider in Organizational Design

9.4.1: Considering the Environment

Learning Objective

Identify the inherent complexities in the external environment that influence the design of an organization’s structure

Key Points

• Organizational design is dictated by a variety of factors, including the size of the company, the diversity of the organization’s operations, and the environment in which it operates.
• According to several theories, considerations of the external environment are a key aspect of organizational design. These considerations include how organizations cope with conditions of uncertainty, procure external resources, and compete with other organizations.
• A company in a highly uncertain environment must prioritize adaptability over a more rigid and functional strategy. In contrast, a company in a mature market with limited variability and uncertainty should pursue more structure.
• A company with a low-cost strategy relative to its competition may benefit from a more simplistic and fixed structural approach to operations, while a company pursuing differentiation must prioritize flexibility and a more diversified structure.

Key Terms

differentiation

A strategy focused on creating a unique product for a particular population.

strategy

A plan of action intended to accomplish a specific goal.

Overview

Organizational design is dictated by a variety of factors, including the size of the company, the diversity of the organization’s operations, and the environment in which it operates. Considerations of the external environment are a key aspect of organizational design. The environment in which an organization operates can be defined from a number of different angles, each of which generates different structural and design strategies to remain competitive.

Complexity

Complexity theory postulates that organizations must adapt to uncertainty in their environments. The complexity theory treats organizations and firms as collections of strategies and structures that interact to achieve the highest efficiency within a given environment. Therefore, companies in a highly uncertain environment must prioritize adaptability over a more rigid and functional strategy. Alternatively, a fixed and specific approach to organizational design will capture more value in a mature market, where variability and uncertainty are limited.

Resource Dependence

Another perspective on organizational design is resource dependence theory—the study of how external resources affect the behavior of the organization. Procuring external resources is important in both the strategic and tactical management of any company. Resource-dependence theory explores the implications regarding the optimal divisional structure of organizations, recruitment of board members and employees, production strategies, contract structure, external organizational links, and many other aspects of organizational strategy.

Competition

Another environmental factor that shapes organization design is competition. Higher levels of competition require different organizational structures to offset competitors’ advantages while emphasizing the company’s own strengths. A company that demonstrates strength in differentiation relative to the competition benefits from implementing a divisional or matrix strategy, which in turn allows the company to manage a wide variety of demographic-specific products or services. Alternatively, a company that demonstrates a low-cost strength (producing products cheaper than the competition) benefits from employing a structural or bureaucratic strategy to streamline operations.

Identifying External Factors

In considering organizational design relative to the environment, managers may find it helpful to employ two specific frameworks to identify external factors and internal strengths and weaknesses:

• SWOT analysis: In this particular model, a company’s strengths and weaknesses are assessed in the context of the opportunities and threats in the business environment. A SWOT analysis enables a company to identify the ideal structure to maximize its internal strengths while capturing external opportunities and avoiding threats.
• Porter’s five-forces analysis: This analysis identifies factors of the industry’s competitive environment that may substantially influence a company’s strategic design. The five forces include power of buyers, power of suppliers, rivalry (competition), substitutes, and barriers to entry (how difficult it is for new firms to enter the industry). Understanding these varying forces gives the company an idea of how adaptable or fixed the organizational structure should be to capture value.

Porter’s five-forces model

Porter’s five-forces analysis identifies five environmental factors that can influence a company’s strategic design: power of buyers, power of suppliers, competition, substitutes, and barriers to entry.

Smaller, more agile companies tend to thrive better in uncertain or constantly changing markets, while larger, more structured companies function best in consistent, predictable environments. Understanding these tools and frameworks alongside the varying external forces that act upon a business will allow companies to make strategic organizational decisions that optimize their competitive strength.

9.4.2: Considering Company Size

Learning Objective

Explain how the size of a company helps determine the organizational structure that optimizes operational efficiency and managerial capacity

Key Points

• Company size plays a substantial role in determining the ideal structure of the company: the larger the company, the greater need for increased complexity and divisions to achieve synergy.
• Companies may adopt any of six organizational structures based on company size and diversity in scope of operations: pre-bureaucratic, bureaucratic, post-bureaucratic, functional, divisional, and matrix.
• Smaller companies function best with pre-bureaucratic or post-bureaucratic structures. Pre-bureaucratic structures are inherently adaptable and flexible and therefore particularly effective for small companies aspiring to expand.
• Larger companies usually achieve higher efficiency through functional, bureaucratic, divisional, and matrix structures (depending on the scale, scope, and complexity of operations).
• Understanding the varying pros and cons of each structure will help companies to plan their organization design and structure in a way that optimizes resources and allows for growth.

Key Terms

economies of scope

Strategies of incorporating a wider variety of products or services to capture value through the ways in which they interact or overlap.

Homogeneous

Having a uniform makeup; having the same composition throughout.

economies of scale

Processes in which an increase in quantity will result in a decrease in average cost of production (per unit).

Company Size and Organizational Structure

Organizational design can be defined narrowly as the strategic process of shaping the organization’s structure and roles to create or optimize competitive capabilities in a given market. This definition underscores why it is important for companies to identify the factors of the organization that determine its ideal structure—most specifically the size, scope, and operational initiatives of the company.

Company size plays a particularly important role in determining an organization’s ideal structure: the larger the company, the greater the need for increased complexity and divisions to achieve synergy. The organizational structure should be designed in ways that specifically optimize the effort and input compared to output. Larger companies with a wider range of operational initiatives require careful structural considerations to achieve this optimization.

Types of Organizational Structure

Companies may adopt one of six organizational structures based upon company size and diversity of scope of operations.

Pre-bureaucratic

Ideal for smaller companies, the pre-bureaucratic structure deliberately lacks standardized tasks and strategic division of responsibility. Instead, this is an agile framework aimed at leveraging employees in any and all roles to optimize competitiveness.

Bureaucratic

A bureaucratic framework functions well in large corporations with relatively complex operational initiatives. This structure is rigid and mechanical, with strict subordination to ensure consistency across varying business units.

Post-bureaucratic

This structure is a combination of bureaucratic and pre-bureaucratic, where individual contribution and control are coupled with authority and structure. In this structure, consensus is the driving force behind decision making and authority. Post-bureaucratic structure is better suited to smaller or medium-sized organizations (such as nonprofits or community organizations) where the importance of the decisions made outweighs the importance of efficiency.

Functional

A functional structure focuses on developing highly efficient and specific divisions which perform specialized tasks. This structure works well for large organizations pursuing economies of scale, usually through production of a large quantity of homogeneous goods at the lowest possible cost and highest possible speed. The downside of this structure is that each division is generally autonomous, with limited communication across business functions.

Divisional

A divisional structure is also a framework best leveraged by larger companies; instead of economies of scale, however, they are in pursuit of economies of scope. Economies of scope simply means a high variance in product or service. As a result, different divisions will handle different products or geographic locations/markets. For example, Disney may have a division for TV shows, a division for movies, a division for theme parks, and a division for merchandise.

Matrix

A matrix structure is used by the largest companies with the highest level of complexity. This structure combines functional and divisional concepts to create a product-specific and division-specific organization. In the Disney example, the theme park division would also contain a functional structure within it (i.e., theme park accounting, theme park sales, theme park customer service, etc.).

Strategic Organizational Design

Structure becomes more difficult to change as companies evolve; for this reason, understanding which specific structure will function best within a given company environment is an important early step for the management team. Smaller companies function best as pre-bureaucratic or post-bureaucratic; the inherent adaptability and flexibility of the pre-bureaucratic structure is particularly effective for small companies aspiring to expand. Larger companies, on the other hand, achieve higher efficiency through functional, bureaucratic, divisional, and matrix structures (depending on the scale, scope, and complexity of operations).

McDonald’s fast-food restaurants departmentalize varying elements of their operation to optimize efficiency. This structure is divisional, meaning each specific company operation is segmented (for example, operations, finance/accounting, marketing, etc.).

9.4.3: Considering Technology

Learning Objective

Recognize the intrinsic structural value of the ever-evolving technological environment

Key Points

• Organizations use technological tools to enhance productivity and to initiate new and more efficient structural designs for the organization. These uses of technology become potential sources of economic value and competitive advantage.
• An example of an organizational structure emerging from newer technological trends is what some have called the “virtual organization,” which connects a network of organizations via the internet.
• A network structure is another kind of organizational structure that is heavily reliant upon technology for communication.
• More traditional organizational structures also benefit greatly from the advance of technology. Managers can communicate and delegate much more effectively through using technologies such as email, calendars, online presentations, and other virtual tools.

Key Terms

supply chain

A system of organizations, people, technology, activities, information, and resources involved in moving a product or service from the supplier to the customer.

network

Any interconnected group or system.

Organizational design can be defined narrowly as the strategic process of shaping an organization’s structure and roles to create or optimize capabilities for competition in a given market.

Technology is an important factor to consider in organizational design. Modern organizations can be treated as complex and adaptive systems that include a mix of human and technological interactions. Organizations can utilize technological tools to enhance productivity and to initiate new and more efficient structural designs for the organization, thereby adding potential sources of economic value and competitive advantage.

Technology

Technology has opened doors to incorporating new and advanced forms of organizational design. This is most notably seen through rapid global communications and the ability to constantly and economically be in contact.

Technological Organizational Structures

An example of an organizational structure that has emerged from newer technological trends is what some have called the “virtual organization,” which connects a network of organizations via the internet. Over the internet, an organization with a small core can still operate globally as a market leader in its niche. This can dramatically reduce costs and overhead, remove the necessity for an expensive office building, and enable small, dynamic teams to travel and conduct work wherever they are needed.

A similar organizational design that is heavily reliant upon technological capabilities is the network structure. While the network structure existed prior to recent technologies (i.e., affordable communications via internet, cell phones, etc.), the existence of complex telecommunications networks and logistics technologies has greatly increased the viability of this structure.

Technology and Traditional Structures

Technology can also affect other longstanding elements of an organization. For example, information systems allow managers to take a much more analytic view of their businesses than before the advent of such systems. Managers can communicate and delegate much more effectively through using technologies such as email, calendars, online presentations, and other virtual tools.

Technology has also impacted supply chain management—the management of a network of interconnected businesses involved in the provision of product and service packages required by the end customers in a supply chain. Supply chain management now has the capacity to track, forecast, predict, and refine the outbound logistics, contributing to a wide variety of logistical advantages (such as minimizing costs from warehousing, fuel, negative environmental impacts, or packaging).

Technology simplifies the process of managing reports, collecting communications, and keeping in touch, enabling management in more formal structures to take on more workers. Increases in technology have essentially allowed organizations to scale up their companies through more effective and efficient teams.

9.4.4: Considering the Organizational Life Cycle

Learning Objective

Describe the way in which life cycles influence an organization’s overall design and structure

Key Points

• From an organizational perspective, the “life cycle” can refer to various factors such as the age of the organization, the maturation of a particular product or process, or the maturation of the broader industry.
• In organizational ecology, the idea of age dependence is used to examine how an organization’s risk of mortality relates to its age. Richard L. Daft outlines different patterns of age dependence in his four stages model.
• The idea of the Enterprise Life Cycle in enterprise architecture argues for a life cycle concept as an overarching design strategy—a dynamic, iterative process of changing the enterprise over time by incorporating, maintaining, and disposing of new and existing elements of the enterprise.
• Companies must understand clearly where they are in their life cycle and what influence this will have on their optimal organizational structure.

Key Terms

life cycle

The useful life of a product or system; the developmental history of an individual, group or entity.

assessment

An appraisal or evaluation.

strategy

A plan of action intended to accomplish a specific goal.

Organization design can be defined narrowly as the strategic process of shaping organizational structure and roles to create or optimize capabilities for competition in a given market. The life cycle of an organization, industry, and/or product can be an important factor in organization design.

The life cycle of a business

Organizations must always be striving to sustain their position in a given competitive environment. This often requires structural evolution and rapid iterations in the feedback loop of disruption, growth, refinement, and renewal.

Overview of the Life Cycle

From an organizational perspective, “life cycle” can refer to various factors such as the age of the organization itself, the maturation of a particular product or process, or the maturation of the broader industry. In organizational ecology, the idea of age dependence is used to examine how an organization’s risk of mortality relates to the age of that organization. Generally speaking, organizations go through the following stages:

1. Birth
2. Growth
3. Maturity
4. Decline
5. Death

The Enterprise Life Cycle

The Enterprise Life Cycle is a model that underlines the way in which organizations remain relevant. The Enterprise Life Cycle is the dynamic, iterative process of changing an enterprise over time by incorporating new business processes, technologies, and capabilities, as well as maintaining, using, and disposing of existing elements of the enterprise.

Richard L. Daft’s Four Stages

Richard L. Daft theorized four stages of the organizational life cycle, each with critical transitions:

1. Entrepreneurial stage → Crisis: Need for leadership
2. Collectivity stage → Crisis: Need for delegation
3. Formalization stage → Crisis: Too much red tape
4. Elaboration stage → Crisis: Need for revitalization

Structural Implications of the Life Cycle

The life cycle of an organization is important to consider when making decisions about the organization’s structure and design. Richard L. Daft’s model underlines critical problems within each stage of an organization’s life cycle that can often be solved through intelligent structural design.

Daft first notes that the entrepreneurial (or startup) stage of an organization requires leadership. In this situation, decision-making must be enabled and bureaucracy should be minimized. This lends itself well to pre-bureaucratic stuctures in which everyone involved is empowered to take the reins and employ their creativity and innovation.

In the collectivity stage, momentum has been created and expansion is required. This is where functional or divisional strategies may begin to emerge, enabling managers to build teams and delegate tasks.

Companies continue to expand in the formalization stage, requiring increased bureaucracy and more levels of authority to approve a given decision. In this stage they grow large enough to accommodate functional, divisional, or even matrix structures in order to produce at scale. Organizations in this stage must be careful not to fall too strongly into rigid structures that inhibit or disrupt efficiency, communication, or decision-making.

The Enterprise Life Cycle comes strongly into play in the elaboration stage. During this stage the organization must retain its relevance in the industry through reinforcing competitive advantages and/or creating new products to fill changing consumer needs. This requires a great deal of organized creativity and exploration of new markets, which may justify team or divisional structures within the broader organizational structure. Such structures allow small teams to experiment and react quickly as they try new entrepreneurial strategies while the larger organization maintains operative efficiency in established markets.

9.5: Trends in Organization

9.5.1: Flattening Hierarchies

Flattening hierarchies can benefit smaller organizations by increasing employee empowerment, participation, and efficiency.

Learning Objective

Define a flattened hierarchy, specifically in which situations where the utilization of this model is appropriate and beneficial for an organization

Key Points

• A hierarchy can link entities either directly or indirectly; it can also link entities either vertically or horizontally. The only direct links in a hierarchy are to a person’s immediate superior or subordinates.
• The flat organization model essentially “flattens” the hierarchy and promotes employee involvement through a decentralized decision-making process.
• According to the logic behind this model, well-trained workers will be more productive when they are directly involved in the decision-making process rather than closely supervised by many layers of management.
• Flat organizations are most relevant in specific scenarios—most notably small organizations that are dependent upon creativity, freedom of action, and high-powered employees.

Key Term

hierarchy

An arrangement of items in which each item is represented as being above, below, or at the same level as other items.

Links within Hierarchies

Hierarchies can be linked in several different ways. A hierarchy can link entities either directly or indirectly; it can also link entities either vertically or horizontally. The only direct links in a hierarchy are to a person’s immediate superior or subordinates. Parts of the hierarchy that are not linked vertically to one another can be horizontally linked through a path by traveling up the hierarchy; this path eventually reaches a common direct or indirect superior and then travels down the hierarchy again. An example of this would be two colleagues who each report to a common superior but have the same relative amount of authority in the organization.

Flat Hierarchies

Flat (or horizontal) organizational structures have few or no levels of intervening management between staff and managers. This “flattened” hierarchy promotes employee involvement through a decentralized decision-making process. The idea is that well-trained workers will be more productive when they are directly involved in the decision-making process rather than closely supervised by many layers of management.

Flat organization chart

This diagram illustrates the structure of a flat organization: there is no low- or mid-level management—just one manager and the rest of the staff.

Advantages of Flattened Hierarchies

Flat structures empower each individual within the company to be involved in decision-making processes. This allows for a great deal of creative discussion and operational diversity and tends to create great variance in new ideas. By elevating the level of responsibility of baseline employees and eliminating layers of middle management, comments and feedback can quickly reach all personnel involved in decisions. Response to customer feedback can be carried out more rapidly.

This type of structure generally works best in smaller organizations or individual units within larger organizations. Start-up companies, “mom and pop shops,” and other small independent businesses are the most common examples of a flat structure.

Disadvantages of Flattened Hierarchies

Flat organizations are difficult to maintain as companies grow larger and more complex. When organizations reach a critical size, they can retain a streamlined structure; however, they cannot keep a completely flat manager-to-staff hierarchy without impacting productivity. Certain financial responsibilities may also require a traditional hierarchical structure. While the flat structure can foster employee empowerment, involvement, and creativity, it can also create inefficiency in decision-making processes. Some theorize that flat organizations become more traditionally hierarchical when they gear themselves more toward productivity.

Because the interaction between workers is more frequent, this organizational structure generally depends on a more personal relationship between workers and managers. As a result, the structure can be more time-consuming to build than a traditional hierarchical model.

9.5.2: Decentralizing Responsibility

In decentralized structures, responsibility for decision making is broadly dispersed down to the lower levels of an organization.

Learning Objective

Compare and contrast centralization and decentralization of responsibility within the organizational hierarchy

Key Points

• Decentralization is the process of dispersing decision making authority among the people, citizens, employees, or other elements of an organization or sector.
• A decentralized organization shows fewer tiers in the organizational structure, a wider span of control, and a bottom-to-top flow of ideas and decision making.
• The bottom-to-top flow of information allows lower-level employees to better inform the officials of the organization during any decision making processes.
• When companies decentralize authority, however, there can be confusion as to how final decisions are made.

Key Terms

governance

Accountability for consistent and cohesive policies, processes, and decision rights.

authority

The power to enforce rules or give orders.

mechanistic organization

A bureaucratic structure.

Decentralization is the process of dispersing decision making authority among the people, citizens, employees, or other elements of an organization or sector. In decentralized structures, responsibility for decision making and accountability are broadly dispersed down to the lower levels of an organization. This dispersion can be intentional or unintentional. A decentralized organization tends to show fewer tiers in its organizational structure (less hierarchy), a wider span of control, and a bottom-to-top or horizontal flow of decision making and ideas.

Decentralization

The management structure in a decentralized organization changes from a top-down approach to more of a peer-to-peer approach.

Contrasting Centralized and Decentralized Structures

In a centralized organization, decisions are made by top executives on the basis of current policies. These decisions or policies are then enforced through several tiers of hierarchy within the organization, gradually broadening the span of control until they reach the bottom tier.

In a decentralized organization, the top executives delegate much of their decision making authority to lower tiers of the organizational structure. This type of structure tends to be seen in organizations that run on less rigid policies and wider spans of control among each officer of the organization. The wider spans of control also reduce the number of tiers within the organization, giving its structure a flat appearance .

Decentralized organizational chart

This image illustrates a decentralized (often referred to as a “flat”) organizational chart. Note that there are not multiple layers of management; there is one manager and then the rest of the staff. This means that each staff-person necessarily has more responsibility and therefore more autonomy.

Advantages of Decentralization

One advantage of this structure—if the correct controls are in place—is the bottom-up flow of information. This flow allows lower-level employees to better inform the officials of the organization during any decision making processes. For example, if an experienced technician at the lowest tier of an organization knows how to increase the efficiency of the production, the bottom-to-top flow of information can allow this knowledge to pass up to the executive officers.

Disadvantages of Decentralization

On the other side of the argument, when companies decentralize authority there can be confusion as to how final decisions are made. It can be difficult to empower multiple people without certain decisions negatively interacting with other decisions. Decentralized organizations must be mindful of the possibility of running in too many different directions at once. Because of this, decentralization is most effective in organizations that have transparent strategies, a strong mission, and a clear vision.

9.5.3: Increasing Empowerment

Modern organizations are more aware of the value of empowered employees and actively strive to structurally increase empowerment.

Learning Objective

Discuss the advantages of empowerment in an organization, and how organizational structure can improve upon the promotion of empowered employees

Key Points

• Empowerment is a process that enables individuals and groups to fully access their personal and collective power, authority, and influence, and to employ this power when engaging with other people, other institutions, or society.
• Leaders within an organization can play a strong role in encouraging employees to put empowerment into practice.
• To enable empowerment, managers can share information, provide employees with autonomy, and migrate to self-managed teams when possible.
• Though the idea of empowerment can produce successful results, it is important to understand the risks. More decision-makers means more discussion about how a process should be accomplished and more moving parts within the organization, increasing complexity.

Key Term

empowerment

The accessing and employing of political, social, or economic power by an individual or group.

Defining Empowerment

Empowerment is a process that enables individuals and groups to fully access personal and collective power and employ this power when engaging with other people, other institutions, or society. Empowerment does not give people power; rather, it helps to release and express the power that people already have.

Empowerment encourages people to gain the skills and knowledge that allows them to overcome obstacles in life and work. This will ultimately enable personal development and a deeper sense of professional fulfillment. Empowering people in organizations can encourage more confident, capable, and motivated employees. Organizations are increasingly aware that empowerment often leads to better performance and higher operational efficiency, and there is a general trend toward structuring organizations for empowerment.

Empowerment within the Organization

Empowering employees in the workplace means providing them with opportunities to make their own decisions related to their tasks. This can be a powerful and positive aspect within an organization that promotes shared power and enables checks and balances in decision-making processes.

Empowerment in organizations includes:

• Making decisions about personal and collective circumstances;
• Accessing information and resources for decision-making;
• Considering a range of options from which to choose (and understanding the options rather than just deciding yes or no);
• Exercising assertiveness in collective decision-making;
• Employing positive thoughts toward the ability to make change;
• Learning and accessing skills for improving personal and collective circumstances; and
• Informing others’ perceptions though exchange, education, and engagement.

Though the idea of empowerment can produce very successful results, there are certain risks are involved. When turning responsibility over to others, it is important to keep in mind that diversifying power creates more voices and therefore potentially more conflict and discussion. All of these elements can slow down the decision-making process. As organizations move toward higher levels of empowerment, protocols should be put in place to mitigate failure and improve decision-making efficiency across the board.

Decentralization

One key technique of empowering employees and providing autonomy is decentralizing the organizational structure. Notice how the diagram of the centralized organization looks like one large asterisk with many spokes, whereas the diagram of the decentralized organization looks like many small interconnected asterisks.

Increasing Empowerment

Leaders within an organization can encourage employees to put empowerment into practice in several ways. If leaders want to tap into the possibilities of an empowerment-based company, they need to have confidence in employees. Employees should also be given opportunities to make their own decisions and succeed. For an empowerment-based organization, rules and policies that interfere with self-management should be made more lenient. Leaders should also set goals that can inspire people.

The following are three key concepts that leaders can use to empower employees throughout an organization:

• Share information with everyone. By sharing information with everyone, leaders gain a clear picture of the company and its current situation. Allowing all employees to view company information helps to build trust between employers and employees. This also provides decision-makers with important perspectives to assess prior to deciding.
• Create autonomy through boundaries. By opening communication through information sharing, space can be created for feedback and dialogue about what holds people back from being empowered. It is critical that leaders minimize micro-management so that employees, who are specialists at the function they are assigned, can set the tone for how a particular task is accomplished.
• Replace the old hierarchy with self-managed teams. By replacing the old hierarchy with self-managed teams, more responsibility is placed upon unique and self-managed teams; this can lead to better communication, diversity of strategies, and higher performance.

The success of the modern organization relies heavily on understanding the complexity of a diverse global market. Leveraging employee knowledge and enabling autonomy is increasingly important in capturing value and attaining competitive advantages in this complex business environment.

9.5.4: Increasing Adaptation

In order to succeed, modern organizations must constantly adapt to evolving technologies and expanding global markets.

Learning Objective

Identify the importance and inherent value of increasing adaptation within company structures and performance

Key Points

• Technological advances, global market expansions, and the potential for constant (sometimes disruptive) innovation all point to the need for organizations to be adaptive.
• Blockbuster and Netflix provide a classic example: in this case, Blockbuster was simply too slow to adapt to the demand for live-streaming videos.
• If an organization takes on the identity of a growing, adapting, and learning organization, these qualities become part of the fabric of how it operates.
• Implementing an adaptable strategy may have effects that ripple across an organization. Minimizing disruption can reduce costs and save time.
• Resistance to change is considered a major obstacle to creating effective adaptability in an organization. Integrating changes step by step while utilizing focus groups and training sessions can improve the efficacy of adaptation.

Key Term

adaptation

Adjustment to extant conditions; modification of a thing or its parts in a way that makes it more fit for existence under the conditions of its current environment.

The Importance of Adaptation

Organizational adaption is becoming increasingly relevant to both strategy and structure as the business environment changes more quickly each year. Technological innovations, global market expansions, and the potential for constant (sometimes disruptive) innovation all point to the need for organizations to be adaptive.

There are a number of examples in which some organizations have adapted to new technologies or global competition, while others have failed to adapt and subsequently gone under. Blockbuster and Netflix provide a classic example: in this case, Blockbuster was simply too slow to adapt to the demand for live-streaming videos. Netflix, on the other hand, embraced this technological evolution and pioneered a user-friendly interface, gaining the company enormous value.

Increasing Adaptation

Strategic management largely pertains to adapting an organization to its business environment. The greatest agent for organizational change is the socialization aspect of culture, which can be empowered structurally. If an organization takes on the identity of a growing, adapting, and learning organization, these qualities become part of the fabric of how it operates. Knowing how and being able to increase this adaptability is important to organizational success.

Implementing a strategy of adaptation may have effects that ripple across an organization. Increasing an organization’s ability to adapt to change and minimize disruption can reduce costs and save time. One approach for increasing adaptation is to appoint an individual to champion the changes, address and eventually enlist opponents, and proactively identify and mitigate problems.

Challenges in Adaptation

Resistance to change is considered a major obstacle to creating effective adaptability in an organization. Organizational change can lead to loss of stability and—if this instability becomes great enough—loss of organizational effectiveness.

Organizational loss of effectiveness (LOE)

Organizational change can cause a loss of stability and results in the development of a predictable and measurable set of symptoms within an organization. When a significant number of these symptoms are present simultaneously, an organizational loss of effectiveness (LOE) will occur (Grady, 2005).

The following are methods that can be employed to help an organization and its staff to cope with change:

• Form focus groups. Staff from different departments can be selected to form focus groups, where quality data can be collected. In focus group discussions, staff should be given the chance to freely express their opinions and share their experiences.
• Provide training. Providing training courses to staff on new processes or structures can help to increase staff competence and reduce their resistance to change.
• Implement changes step by step. This involves first implementing the system in small groups—such as several departments or sections—and then widening the scope of implementation. This step-by-step approach can help by exposing problems raised simultaneously across the small groups and providing management with sufficient time to solve these problems before implementing the system across the organization.

9.5.5: Moving to Flexible Work Schedules

Employers can offer flexible working arrangements in the form of flextime and telecommuting work.

Learning Objective

Identify critical factors of success in creating a “telework” organization

Key Points

• Companies have begun to recognize how important a healthy work-life balance is to the productivity and creativity of their employees. Integrating new technologies for flexible schedules is a great opportunity to capture this value.
• Flextime and telecommuting (telework) are popular strategies that enable employees to set their own schedules and work from wherever is most convenient for them.
• In addition to supporting the required incremental technologies, a well-functioning telework organization needs a management system that is at least as effective as that of a traditional organization.
• Management teams face additional issues such as how to supervise employees who are often out of the office, how to monitor staff productivity with less personal interaction, how to build a strong virtual team, and how to maintain relationships between remote employees.

Key Term

telecommute

To work from home, sometimes for part of a working day or week, using a computer connected to the employer’s network or via the internet.

Companies have begun to recognize how important a healthy work-life balance is to the productivity and creativity of their employees. Research by Kenexa Research Institute in 2007 showed that employees who were more favorable toward their organization’s efforts to support work-life balance also indicated a lower intent to leave the organization, greater pride in their organization, a willingness to recommend the organization as a place to work, and higher overall job satisfaction.

Employers can offer a range of different programs and initiatives that support such a work-life balance. Flexible working arrangements such as flextime and telecommuting work are becoming increasingly popular. More proactive employers can also provide compulsory leave, implement strict maximum hours, or foster an environment that encourages employees not to continue working after hours.

Telecommuting

Telecommuting (or telework) is a work arrangement in which employees do not commute to a central place of work. A person who telecommutes is known as a “telecommuter,” “teleworker,” or “home-sourced employee.” Many telecommuters work from home while others—sometimes called “nomad workers”—use mobile telecommunications technology to work from coffee shops or other locations. This allows employees the flexibility of adapting their work schedule to their living situation.

This arrangement is also quite popular in circumstances of sick leave, pregnancy, parenting, and other important life events. In the past these events could have resulted in temporary loss of employment. Being able to work from anywhere with an internet connection is a modern luxury that adaptable companies should be well aware of.

Home office

This small office is designed for telecommuting.

Flextime

Flextime (also called flexitime or flexi-time) is a variable work schedule, unlike traditional work arrangements in which employees work a standard 9 a.m. to 5 p.m. shift. In this arrangement, there is typically a core period of approximately 50% of the total working day when employees are expected to be at work (for example, between 11 a.m. and 3 p.m.). The rest of the working day is “flextime” in which employees can choose when they work. Employees are still required to complete the necessary work and achieve total daily, weekly, or monthly hours in the region of what the employer expects.

A flextime policy allows staff to determine when they will work, and a flexplace policy allows staff to determine where they will work. These strategies allow employees to adapt their work hours based on public transport schedules, child-care responsibilities, rush-hour traffic, and other elements.

Establishing a Telework Organization

In addition to supporting the required incremental technologies, a well-functioning telework organization needs a management system that is at least as effective as that of a traditional organization. Management teams face additional issues such as how to supervise employees who are often out of the office, how to monitor staff productivity with less personal interaction, how to build a strong virtual team, and how to maintain relationships between remote employees.

Some suggested best practices for maintaining a successful telework organization include:

• Develop a daily schedule. Setting a standardized daily schedule can help remote teleworkers feel as though they are really at work. It can also make it easier for supervisors to monitor staff activities and can lead to increased productivity.
• Establish milestone dates. Milestone dates help keep projects on track and make it easier to spot problems while there is still time to effectively deal with them.
• Encourage social networking. Employee surveys show that being able to keep in touch and communicate with colleagues despite physical distance can boost employee satisfaction and encourage top talent to stick around.
• Address problems right away. Respond to problems immediately even if they are reported by email or text message. This will prevent teleworkers from feeling isolated.
• Design key performance indicators (KPIs) for remote workers. These KPIs can also be used to measure the effectiveness of in-office staff and maintain an equivalence among the distinct employee categories.
• Start workdays by holding a five-minute team video-conference. This helps supervisors to maintain a regular check-in routine; it also enables employees to catch up on team work progress and feel connected to the whole organization.
• Manage by observation. A successful telework or telecommuting program requires a management style that is results-oriented (as opposed to task-oriented). This is referred to as management by objectives as opposed to management by observation.

9.5.6: Increasing Coordination

Increasing coordination helps organizations to maintain efficient operations through communication and control.

Learning Objective

Identify the way in which effective coordination across an organization can be increased through effective structure and good management

Key Points

• Coordination is a managerial function in which different activities of the business are properly adjusted and interlinked.
• The management team must pay special attention to issues related to coordination and governance and be able to improve upon coordination through effective management.
• Managers should strengthen communication across all facets of the organization to increase the level of integration between each moving part.
• If there is a lack of coordination, there is a risk that responsibility will become dispersed and tasks will be left unclaimed. Organizing accountability for every task helps to ensure that efforts are tangibly coordinated.

Key Terms

division

A section of a large company.

margin

A permissible difference; allowing some freedom to move within limits.

centralization

The act or process of combining or reducing several parts into a whole.

Defining Coordination

Coordination is the act of organizing and enabling different people to work together to achieve an organization’s goals. It is a managerial function in which different activities of the business are properly adjusted and interlinked.

Employees within the functional divisions of an organization tend to perform a specialized set of tasks, such as engineering. This leads to operational efficiency within that group. However, it can also lead to a lack of communication between various functional groups within an organization, rendering the organization slow and inflexible .

Organizational structure

This is an example of an organizational structure. At a high level are multiple functional groups, or “modules”—technical, marketing, and intellectual property. The linked working groups (e.g., data coding workgroup, security workgroup, and audio and video compression workgroup) within the technical functional group likely have coordinated functions.

Increasing Coordination

Coordination is simply the managerial ability to maintain operations and ensure they are properly integrated with one another; therefore, increasing coordination is closely related to improving managerial skills. The management team must pay special attention to issues related to coordination and governance and be able to improve upon coordination through effective management.

Increasing coordination internally can be accomplished by keeping all moving parts of the organization on the same page. There are a number of ways to improve upon the coordination of different departments, work groups, teams, or functional specialists. These include creating a well-communicated and accurate mission statement; clearly defining strategic objectives; monitoring and evaluating each functional group; providing company-wide updates and communications from each department; and, wherever possible, promoting cross-departmental meetings and projects. While this list is long and complex, the underlying concept is relatively simple: managers should strengthen communication across all facets of the organization to increase the level of integration between each moving part.

Structural Implications

In practice, coordination involves a delicate balance between centralization and decentralization. However, maintaining coordination does not necessarily imply that decision-making processes are centralized or that actions are carried out without the support of employees. Put simply, it is important to ensure that there is a person or team in place that takes responsibility for general tasks.

If there is a lack of coordination, there is a risk that responsibility will become dispersed and tasks will be left unclaimed. Organizing accountability for every task helps to ensure that efforts are tangibly coordinated and provides structure to operational expectations. Structure is a central determinant of effective coordination across an organization as it enables communications, underlines responsibilities, and provides concrete authority in decision-making.

8.4: Decision Making

8.4.1: Observation: Framing the Problem

Learning Objective

Apply the framing problem to decision making

Key Points

• People do not look at an event and then “apply” a frame to it; people constantly project into the world around them the interpretive frames that allow them to make sense of it.
• The basis of framing is the selective influence of information on a person’s decision- making process based on internal heuristics.
• Framing can affect the outcome (i.e., the choices one makes) of choice problems, to the extent that several of the classic axioms of rational choice do not hold. This led to the development of the prospect theory as an alternative to rational choice theory.
• Depending on how the information is presented, framing can lead to entirely rational individuals making completely different decisions based on the way information is presented. Numerous experiments have shown this to be the case.
• Generally, people prefer absolute certainty in situations where information is positively framed, while they prefer risk-seeking behavior when decisions are framed in negative terms.

Key Terms

Rational choice theory

Rational choice theory, also known as choice theory or rational action theory, is a framework for understanding and often formally modelling social and economic behavior. Rationality, interpreted as “wanting more rather than less of a good,” is widely used as an assumption of the behavior of individuals in microeconomic models and analysis and appears in almost all economics textbook treatments of human decision making.

schema

An outline or image universally applicable to a general conception, under which it is likely to be presented to the mind.

heuristics

A mental shortcut that may not always yield desired results.

Example

• Tversky and Kahneman’s (1981) Asian disease experiment demonstrated the problem with framing. Two groups of subjects were given a fictional scenario with the same information, presented in different ways. An unusual disease from Asia was going to hit the United States and kill 600 people. Group A were given two alternatives: either save 200 people for certain; or save 600 with a 1/3 probably, with a 2/3 chance that all will die. Group B was given the following choices: 400 die for certain; or nobody dies with a 1/3 probability, and a 2/3 chance and all die. Group A overwhelmingly selected the first option, while Group B chose the latter option in their case. This experiment demonstrated the huge effect that framing can have on otherwise rational decision making.

A frame in social theory consists of a schema of interpretation that individuals rely on to understand and respond to events. In other words, people build a series of mental filters through biological and cultural influences and use those filters to understand the world. Their choices are influenced by their frames.

Explanation

When one seeks to explain an event, the understanding often depends on the individual’s frame. If a friend rapidly closes and opens an eye, we will respond very differently depending on whether we attribute this to a purely “physical” frame (s/he blinked) or to a social frame (s/he winked).

Though the former might result from a speck of dust (resulting in an involuntary and not particularly meaningful reaction), the latter would imply a voluntary and meaningful action (e.g., to convey humor to an accomplice).

People do not look at an event and then “apply” a frame to it; people constantly project into the world around them the interpretive frames that allow them to make sense of it. People only shift frames when incongruity calls for a frame shift. In other words, people only become aware of the frames that they already use when something forces them to replace one frame with another.

Framing is so effective because it is a heuristic, or a mental shortcut that may not always yield desired results and is seen as a “rule of thumb.” According to Susan T. Fiske and Shelley E. Taylor, human beings are by nature “cognitive misers,” meaning they prefer to do as little thinking as possible. Frames provide people a quick and easy way to process information. Hence, people will use the previously mentioned mental filters (a series of which is called a “schema”) to make sense of incoming messages. This gives the sender and framer of the information enormous power to use these schemas to influence how the receivers will interpret the message.

The Brain’s Heuristics for Emotions

Emotions appear to aid the decision-making process.

The Framing of Problems

Amos Tversky and Daniel Kahneman have shown that framing can affect the outcome (i.e., the choices one makes) of choice problems, to the extent that several of the classic axioms of rational choice do not hold. This led to the development of the prospect theory as an alternative to rational choice theory.

The context or framing of problems adopted by decision makers results in part from extrinsic manipulation of the decision options offered, as well as from forces intrinsic to decision makers (e.g., their norms, habits, and unique temperament).

Experimental Demonstration

Tversky and Kahneman (1981) demonstrated systematic reversals of preference when the same problem is presented in different ways, for example, in the Asian disease problem. Participants were asked to “imagine that the U.S. is preparing for the outbreak of an unusual Asian disease, which is expected to kill 600 people. Two alternative programs to combat the disease have been proposed. Assume the exact scientific estimate of the consequences of the programs are as follows. “

The first group of participants was presented with a choice between programs: In a group of 600 people, Program A: “200 people will be saved;” Program B: “there is a one-thirds probability that 600 people will be saved, and a two-thirds probability that no people will be saved. ” Of participants, 72% preferred program A (the remainder, 28%, opted for program B).

The second group of participants was presented with the choice between the following: In a group of 600 people, Program C: “400 people will die” Program D: “there is a one-third probability that nobody will die, and a two-thirds probability that 600 people will die”

In this decision frame, 78% preferred program D, with the remaining 22% opting for program C.

Programs A and C are identical, as are programs B and D. The change in the decision frame between the two groups of participants produced a preference reversal: When the programs were presented in terms of lives saved, the participants preferred the secure program, A (= C). When the programs were presented in terms of expected deaths, participants chose the gamble D (= B).

Absolute and Relative Influences

Framing effects arise because one can frequently frame a decision using multiple scenarios, wherein one may express benefits either as a relative risk reduction (RRR), or as absolute risk reduction (ARR). Extrinsic control over the cognitive distinctions (between risk tolerance and reward anticipation), adopted by decision makers, can occur through altering the presentation of relative risks and absolute benefits.

People generally prefer the absolute certainty inherent in a positive framing-effect, which offers an assurance of gains. When decision options appear framed as a likely gain, risk-averse choices predominate.

A shift toward risk-seeking behavior occurs when a decision maker frames decisions in negative terms or adopts a negative framing effect.

8.4.2: Developing Alternate Plans of Action

Learning Objective

Explain the benefits of decision planning

Key Points

• After defining a problem, decision makers must take steps to identify alternative actions to respond to it.
• Developing alternatives requires decision makers to gather data, interpret that data, and brainstorm to come up with multiple solutions that can be compared and ranked.
• Creative thinking, and thinking out of the box, are key to coming up with a full range of alternatives.

Key Term

brainstorming

A method of problem solving in which members of a group contribute ideas spontaneously.

Example

• If a company has an opportunity to enter a new geographical market, managers must choose the best way to do so. Should they enter in a licensing agreement? Or make a franchise agreement with a local franchisee? Or enter the market directly by acquiring existing operations within that target market? Managers must collect data on the market, analyze this data, and consider the advantages and disadvantages of each possible alternative.

Decision Planning

Making a decision without planning is fairly common, but does not often end well. Planning allows for decisions to be made comfortably and in a smart way. Planning also makes decision making much simpler . Any decision will get four benefits out of planning:

Flowchart Diagram

Simplistic decision diagram of when to create Wikipedia articles

1. Planning establishes independent goals. It is a conscious and directed series of choices.
2. Planning provides a standard of measurement. It is a measurement of whether you are going toward or further away from your goal.
3. Planning converts values to action. You think twice about the plan and decide what will help advance your plan best.
4. Planning allows for limited resources to be committed in an orderly way. Always govern the use of what is limited to you (e.g., money, time, and so on).

Developing Alternatives

The need to make a decision arises because there are many available alternatives. Hence, the next step after defining the main problem would be to identify the alternatives available for that particular situation.

Gathering data helps decision makers have actual evidence that will aid them in coming up with a solution. Brainstorming helps them develop alternatives. Coming up with more than one solution enables decision makers to see which one can actually work.

While brainstorming, individuals do not have to restrict themselves to thinking about the very obvious options. Instead, they can use their creative skills and come up with alternatives that may look a little irrelevant. This is important because sometimes solutions can come from these out-of-the-box ideas.

8.4.3: Analyzing the Options

Learning Objective

Analyze the misleading effects of evaluating alternatives

Key Points

• The normative approach to analyzing decision-making assumes rational decision-makers with well-defined preferences. On the other hand, the descriptive approach is based on empirical observations and experiments. Finally, the prescriptive enterprise develops methods to improve decision making.
• Whichever approach is taken, there is always the problem that misleading effects can lead to a bad decision. These effects can take the form of heuristics, which help in some situations and not in others.
• Decision making often includes the need to assign a reason to justify the decision.
• – Subjective models – people create misleading and incorrect decision making models
• – Focusing illusion – people neglect important outcomes because they are focused on other, more obvious aspects
• – Selective search for evidence – focusing on facts that support certain conclusions
• – Premature termination of search for evidence
• – Selective perception – screening out of information not thought to be important
• – Wishful thinking – our desire to see things in a positive light may distort our perception
• – Recency – placing more emphasis on more recent events
• Repetition bias – believing that which we hear most often
• – Group think – pressure to conform to the opinions of a group
• – Source credibility bias
• – Anchoring – accepting initial information as factual and basing subsequent opinions around that
• – Over confidence
• – Recallability trap – a distorted ability to recall life events objectively
• – Outguessing randomness trap – imagination of patterns where none exist

Key Term

Prescriptive

Prescriptive analytics automatically synthesizes big data, mathematical sciences, business rules, and machine learning to make predictions and then suggest decision options to take advantage of the predictions.

Example

• Evaluating alternatives is an important and difficult step of the decision-making process, and involves discerning the advantages and disadvantages of each option, and ultimately ranking them.

Evaluating the alternatives can be said to be one of the most important stages of the decision-making process . This is the stage where you have to analyze each alternative that you have come up with. You have to find out the advantages and disadvantages of each option. This can be done with the research you have done on that particular alternative. At this stage, you can also filter out the options that you think are impossible or do not serve your purpose. Rating each option with a numerical digit would also help in the filtration process.

Money and Decision Making

Relation between (monetary) gains and losses and their subjective value.

Misleading Effects

But even respecting the considerations above, there still might be problems in making the “right” decision because of different misleading effects, which mainly arise because of the constraints of inductive reasoning. This generally means that our model of a situation or problem might not be ideal to solve it in an optimal way. Biases can creep into our decision-making processes. Many different people have made a decision about the same question (e.g., “Should I have a doctor look at this troubling breast cancer symptom I’ve discovered? ” “Why did I ignore the evidence that the project was going over budget? “) and then craft potential cognitive interventions aimed at improving decision-making outcomes.

At every step of decision making, misperceptions based on incorrect input, biases, lack of information, and other traps can corrupt the choices we make. We are particularly vulnerable to traps involving uncertainty because most of us are not good at judging chances. Complex and important decisions are the most prone to distortion because they tend to have many assumptions and estimates, as well as influence by misaligned parties.

Research has shown that over time we develop unconscious routines to cope with the inherent intricacy in most decision making. These thinking patterns, known as heuristics, can help us in many situations. We are nimble at judging distance, time, weight, and volume. For example, in judging distance our minds rely on a heuristic that associate clearness with closeness. The better the visibility of an object, the closer it must be.

But some heuristics can muddle our thinking with biases and irrational preferences. The danger with these traps is that they are invisible to most of us.

Justification in Decision Making

Decision making often includes the need to assign a reason to justify the decision. This factor is illustrated by an experiment by A. Tversky and E. Shafir in 1992. For this experiment, a very attractive vacation package was offered to a group of students who had just passed an exam. It was also offered to another group of students who had just failed the exam and had the chance to rewrite it over their vacation. All students had the option to buy the ticket straight away, to stay at home, or to pay and keep the option open until they would get their results. Even though the actual exam result did not influence the decision, it was required in order to provide a rationale.

8.4.4: Putting the Plan to Work

Learning Objective

Outline the key steps in the decision making process

Key Points

• Implementation is a difficult and important step, as decisions made need to be carried out.
• It is important that all the people involved in implementation know about the implications.
• The decisive actions are taken, and additional actions are taken to prevent any adverse consequences from becoming problems and starting both systems (problem analysis and decision making) all over again.

Key Terms

planning

The act of formulating a course of action, or of drawing up plans.

contingency planning

the process of forming an alternative set of actions in case the original set of intended actions fails

Decision Making

Steps in the decision making process include:

• Objectives must first be established.
• Objectives must be classified and placed in order of importance.
• Alternative actions must be developed.
• The alternatives must be evaluated against all the objectives.
• The alternative that is able to achieve all the objectives is the tentative decision.
• The tentative decision is evaluated for more possible consequences.

The decisive actions are taken, and additional actions are taken to prevent any adverse consequences from becoming problems and starting both systems (problem analysis and decision making) all over again . There are steps that are generally followed that result in a decision model that can be used to determine an optimal production plan. In a situation featuring conflict, role-playing is helpful for predicting decisions to be made by the parties involved.

SYSTEM

The SYSTEM pyramid explains the key leadership attributes for strategic thinking.

Decision Planning

Making a decision without planning is fairly common, but does not often end well. Planning allows for decisions to be made comfortably and in an intelligent way. Planning also simplifies the decision-making process. Any decision will get four benefits out of planning:

1. Planning establishes independent goals. It is a conscious and directed series of choices.
2. Planning provides a standard of measurement. It is a measurement of whether you are going toward or further away from your goal.
3. Planning converts values to action. You think twice about the plan and decide what will help advance your plan best.
4. Planning allows for limited resources to be committed in an orderly way. Always govern the use of what is limited to you (e.g., money, time, and so on).

8.4.5: Closing the Feedback Loop

Learning Objective

Explain the role of the feedback loop in decision making and the different types of feedback associated with it

Key Points

• It is important to note that information by itself is not feedback unless it is translated into action.
• Feedback is also a synonym for feedback signals, feedback mechanisms, and feedback loops.
• The making and implementation of a decision is not the end of the decision-making process. Regular monitoring, and measuring the results of implementation against expected standards from an early stage will help close the feedback loop by altering decisions, if necessary.

Key Terms

Feedback mechanism

the action or means used to subsequently modify the gap in a feedback loop

Feedback loop

Feedback is a process in which information about the past or the present influences the same phenomenon in the present or future. As part of a chain of cause-and-effect that forms a circuit or loop, the event is said to “feed back” into itself. The feedback loop is the complete causal path that leads from the initial detection of the gap to the subsequent modification of the gap.

Feedback signal

the measurement of the actual level of the parameter of interest in a feedback loop

Example

• Suppose a company decides to produce 200 widgets a day based on the expected demand. Once this plan is put into action, the company undertakes regular monitoring and discovers that only 150 widgets are being sold. The company can then alter their production process to ensure that they are not overproducing. If done early, this feedback loop ensures that a correct decision is ultimately made.

Feedback is a process in which information about the past or the present influences the same phenomenon in the present or future. As part of a chain of cause-and-effect that forms a circuit or loop, the event is said to “feed back” into itself.

Ramaprasad (1983) defines feedback generally as “information about the gap between the actual level and the reference level of a system parameter which is used to alter the gap in some way,” emphasising that the information by itself is not feedback unless translated into action. “…’feedback’ exists between two parts when each affects the other…”

Feedback is also a synonym for:

• Feedback signal: The measurement of the actual level of the parameter of interest.
• Feedback mechanism: The action or means used to subsequently modify the gap.
• Feedback loop: The complete causal path that leads from the initial detection of the gap to the subsequent modification of the gap.

The Feedback Loop in Decision Making

Just making a decision, and implementing it is not the end of the decision-making process. It is crucial to monitor your decision regularly once it is implemented. At this stage, you have to keep a close eye on the progress made by implementing the solution. You may need to measure the results of implementation against your expected standards. Monitoring of solutions early on will help you close the feedback loop by altering your decisions, if you notice a deviation of results from your expectations.

In the end, you will be able to see what you did right and wrong when coming up and putting the decision to use and you may choose to revisit the past decision or take a different tact when faced with similar problems in the future.

8.5: Characteristics of Good Managers

8.5.1: Leadership

Leadership is organizing a group of people to achieve a common goal.

Learning Objective

Differentiate between a leader and a manager

Key Points

• While people can manage many things, including their time, money, fuel consumption, and people, one can only lead people.
• Even though leadership is a subset of management, the term “leader” seems to have a halo attached to it, while the term “manager” comes with a bit of a stigma.
• The search for the qualities that make a good leader has been going on for centuries and continues today.

Key Terms

manage

To handle or control a situation or job.

lead

To provide direction and influence.

Management and Leadership

In today’s business world, there seems to be a halo affixed to the term “leader,” while the label of “manager” has a more negative connotation. “Leader” brings to mind heroic figures rallying people together to give their all for a cause, while “manager” brings to mind less-charismatic individuals trying to make people into more efficient cogs in the corporate machine.

When one considers this definition of management, it becomes apparent that leadership is actually a sub-category of management. Management (from Old French ménagement, “the art of conducting, directing,” from Latin “manu agere” or “to lead by the hand”) characterizes the process of leading and directing all or part of an organization, often a business, through the deployment and manipulation of resources (human, financial, material, intellectual, or intangible).

People can manage their time, their budget, their fuel, and yes, their people, but one can only lead people (or to be more inclusive, one can only lead intelligent living things, since shepherds and dog trainers may object to a homo sapiens-centric definition).

Perhaps the perception of a cog-manipulating manager is rooted in this difference between animate and inanimate objects. When people feel used, manipulated, or led against their will by a person in authority, they feel as if they are being treated like inanimate objects. They say the person in authority is a “lousy manager. ” But when the person in authority increases their autonomy, makes them feel at liberty to accept or reject his or her vision, and fills them with a real personal desire to bring this vision to life, they say he/she is a great leader.

Great leaders are often described as having charisma. Charisma is defined as a compelling attractiveness or charm that can inspire devotion in others. Also, many great leaders have referent power, which is the ability to inspire their followers with a high level of identification with, admiration of, or respect for the powerholder/ leader.

Leadership in a Team Setting

When applying these concepts for “manager” and “leader” in a team setting, one finds interesting results. If there is a team leader that is perceived to be unconcerned with the team members’ needs or has a personal agenda more important than the team’s goals, then the leader is perceived to be more of a “manager” and becomes estranged from the team members. Conversely, the team leaders who are admired and followed loyally are those who show concern for the team members as individuals with real needs, and who put “the cause” of the team above their own persona agenda.

Realistically, most organizations do need leaders who sometimes look at their teams with cold, analytical eyes, evaluating inefficiencies and making unpopular choices. But it would be a mistake to think that one has to be an “estranged, unliked manager” in order to execute these responsibilities. If a team leader’s tasks, such as efficiency analysis, were done hand-in-hand with sincerely seeking to know team members’ individual needs, then the team leader would be perceived to have a genuine desire to make the team more successful. Additionally, ineffective leaders may hide an unwillingness to make tough decisions by faking the “touchy-feely” attitudes associated with great leaders with high emotional-intelligence.

Leadership Research

Leadership is “organizing a group of people to achieve a common goal”. The leader may or may not have any formal authority. Scholars of leadership have produced theories involving traits, situational interaction, function, behavior, power, vision and values, charisma, and intelligence, among others.

US Army leadership

Commander of the International Security Assistance Force Gen. David H. Petraeus (center), U.S. Army, talks with U.S. soldiers of the 2nd Battalion, 327th Infantry Regiment, 1st Brigade Combat Team, 101st Airborne Division at Combat Outpost Monti in eastern Afghanistan on Aug. 5, 2010.

New methods and measurements were developed after these influential reviews that would ultimately re-establish the trait theory as a viable approach to the study of leadership. For example, improvements in researchers’ use of the round robin research design methodology allowed researchers to see that individuals can and do emerge as leaders across a variety of situations and tasks.

Additionally, during the 1980s, statistical advances allowed researchers to conduct meta-analyses, in which they could quantitatively analyze and summarize the findings from a wide array of studies. This advent allowed trait theorists to create a comprehensive picture of previous leadership research rather than rely on the qualitative reviews of the past. Equipped with new methods, leadership researchers revealed that individuals can and do emerge as leaders across a variety of situations and tasks. They found significant relationships between leadership and individual traits such as the following:

• Intelligence
• Adjustment
• Extraversion
• Conscientiousness
• Openness to experience
• General self-efficacy

While the trait theory of leadership has certainly regained popularity, its re-emergence has not been accompanied by a corresponding increase in sophisticated conceptual frameworks.

8.5.2: Styles of Leadership

A leadership style is the manner and approach of providing direction, implementing plans, and motivating people.

Learning Objective

Recognize the differences between different leadership styles and attitudes

Key Points

• Leadership styles can be categorized as being authoritarian, democratic, laissez-faire, transactional, or narcissistic.
• Authoritarian leaders keep strict control over their subordinates and keep a distinct professional relationship with their followers.
• Leaders who embrace a democratic style of leadership guide and control and make key decisions when necessary, but otherwise share decision making with their followers, promote the interests of the group, and practice social equality.
• Laissez-faire leadership is a “hands off” approach.
• Narcissistic leadership is a common form of leadership and can be either healthy or destructive.
• Transactional leaders motivate their subordinates by using rewards and punishments.

Key Term

narcissistic

Obsessed with one’s own self-image and ego.

Example

• Examples of authoritarian communicative behavior include a police officer directing traffic, a teacher ordering a student to do his or her assignment, and a supervisor instructing a subordinate to clean a work station. All of these positions require a distinct set of characteristics that give the leader the position to get things in order or get a point across.

A leadership style is the manner and approach of providing direction, implementing plans, and motivating people. There are many different leadership styles that can be exhibited by leaders in politics, business, or other fields .

Leadership

A leadership style is the manner and approach of providing direction, implementing plans, and motivating people.

Authoritarian

An authoritarian or autocratic leader keeps strict, close control over followers by closely regulating the policies and procedures given to followers. To maintain emphasis on the distinction between authoritarian leaders and their followers, these types of leaders make sure to only create a distinct professional relationship. They believe direct supervision to be key in maintaining a successful environment and followership. Due to fear of followers being unproductive, authoritarian leaders keep close supervision and feel this is necessary in order for anything to be done.

Democratic

The democratic leadership style consists of the leader sharing the decision-making abilities with group members by promoting the interests of the group members and by practicing social equality. This style of leadership encompasses discussion, debate and sharing of ideas, and encouragement of people to feel good about their involvement. The boundaries of democratic participation tend to be circumscribed by the organization or group needs and the instrumental value of people’s attributes (skills, attitudes, etc.). The democratic style encompasses the notion that everyone, by virtue of their human status, should play a part in the group’s decisions. However, the democratic style of leadership still requires guidance and control by a specific leader. The democratic style demands the leader make decisions on who should be called upon within the group and who is given the right to participate in, make, and vote on decisions.

Laissez-Faire

The laissez-faire leadership style was first described by Lewin, Lippitt, and White in 1938, along with the autocratic leadership and the democratic leadership styles. The laissez-faire style is sometimes described as a “hands off” leadership style because the leader delegates the tasks to the followers while providing little or no direction. If the leader withdraws too much, it can sometimes result in a lack of productivity, cohesiveness, and satisfaction. Lassiez-faire leaders allow followers to have complete freedom to make decisions concerning the completion of their work. It allows followers a high degree of autonomy and self-rule, while at the same time offering guidance and support when requested. The lassiez-faire leader using guided freedom provides the followers with all materials necessary to accomplish their goals, but does not directly participate in decision making unless the followers requests the leader’s assistance. This is an effective style to use when:

• The followers are highly skilled, experienced, and educated;
• The followers have pride in their work and the drive to do it successfully on their own;
• Outside experts, such as staff specialists or consultants, are being used; and
• Followers are trustworthy and experienced.

This style should not be used when:

• Followers feel insecure at the unavailability of a leader.
• The leader cannot or will not provide regular feedback to their followers.

Transactional

The transactional style of leadership was first described by Max Weber in 1947, and then later described by Bernard Bass in 1981. Mainly used by management, transactional leaders focus their leadership on motivating followers through a system of rewards and punishments. There are two factors which form the basis for this system: contingent reward and management by exception. Contingent reward provides rewards (materialistic or psychological) for effort and recognizes good performance. Management by exception allows the leader to maintain the status quo; the leader intervenes when subordinates do not meet acceptable performance levels and initiates corrective action to improve performance.

Narcissistic

Narcissistic leadership is a common form of leadership. The narcissism may be healthy or destructive, although there is a continuum between the two. To critics, narcissistic leadership (especially destructive) is driven by unyielding arrogance, self-absorption, and a personal egotistic need for power and admiration. A study published in the journal, Personality and Social PsychologyBulletin, suggests that when a group is without a leader, a narcissist often takes charge; researchers found that people who score high in narcissism tend to take control of leaderless groups. Freud considered “the narcissistic type… especially suited to act as a support for others, to take on the role of leaders and to… impress others as being ‘personalities’. “

8.5.3: Technical Skills

Technical skills involve the process or technique knowledge, as well as proficiency, that may be needed in order to be a successful manager.

Learning Objective

Identify the managerial need for technical skills

Key Points

• The three managerial skills Robert Katz identified as being necessary to be a successful manager are technical, human, and conceptual.
• Technical skills are easier to learn than human and conceptual skills.
• Technical skills become less important at the top management levels of large firms as chief executives can use the technical abilities of their employees. However, high-level managers may still need these skills in smaller firms.

Key Terms

conceptual

Of, or relating to concepts or mental conception; existing in the imagination.

technical skill

the learned capacity or ability to carry out pre-determined results through tools, machines, techniques, crafts, systems, and methods of organization

conceptual skill

the ability to formulate ideas

Example

• Examples of technical skills include project management skills for engineers building bridges, aircraft, and ships.

To perform management functions and assume multiple roles, managers must be skilled. Robert Katz identified three managerial skills essential to successful management: technical, human, and conceptual. Technical skill involves process or technique knowledge and proficiency. Managers use the processes, techniques, and tools of a specific area. These are the specific skills and knowledge related to the individual’s profession or specialization. Examples include project management skills for engineers building bridges, aircraft, and ships. Technical skills include the ability to properly operate a computer, efficiently use the various software programs that are required in a particular environment, and the utilization of other electronic devices that pertain to the job function. These skills are especially important for lower level managers, as they are often responsible for training their subordinates.

Training surgical technical skills with simulation at Valdecilla

Technical skills are especially important for lower level managers, as they are often responsible for training their subordinates.

Katz pointed out that training programs tend to focus on skills in this area. These skills are easier to learn than those in the other two groups. Managers use the processes, techniques, and tools of a specific area. A manager’s level in the organization determines the relative importance of possessing technical skills. For instance, supervisors need technical skills to manage their area of specialty. As the pace of change accelerates and diverse technologies converge, new global industries are being created (e.g., telecommunications). Technological change alters the fundamental structure of firms and calls for new organizational leadership approaches and management skills.

At the top management level, conceptual and design abilities and human skills are especially valuable, but there is relatively little need for technical abilities. The assumption, especially in large companies, is that chief executives can utilize the technical abilities of their subordinates. In smaller firms, however, technical experience may still be quite important.  

8.5.4: Conceptual Thought

Conceptual thought involves seeing the important elements in any situation and, according to Robert Katz, is the key management skills.

Learning Objective

Explain the managerial need for conceptual skills

Key Points

• People who are able to see the key elements in any situation can see the enterprise as a whole, see the relationship between the various parts, understand their dependence on each other, and recognize that changes in one part will influence the others.
• Conceptual skills are likened to a “helicopter mind,” meaning that one is able to rise above a problem and see it in context.
• These skills are not critical for lower-level mangers, gain importance for middle-management and are essential for the success of higher-level managers.

Key Terms

design

To plan and carry out (a picture, work of art, construction etc. ).

conceptual

Of, or relating to concepts or mental conception; existing in the imagination.

Example

• Using their conceptual skills, manager are able to study a situation and figure out how to break it down into manageable pieces. When a project just begins, for example, it is easy to become overwhelmed by the work and decisions associated with getting it done. A manager using their conceptual skills will be able to resist getting tangled in the tasks and information associated with the project and instead tackle it in a clear and organized manner.

A scheme of management skills was suggested by Robert L. Katz (1986) in the Harvard Business Review. Katz, who was interested in the selection and training of managers, suggested that effective administration rested on three groups of basic skills, each of which could be developed. Katz saw conceptual skills as being the ability to see the significant elements in any situation.

Conceptual skills of a manager

Conceptual skills are probably some of the most important management skills.

Conceptual skills are probably some of the most important management skills. There are some very basic principles behind conceptual skills. The inputs by people who are hired especially for their exceptional conceptual skills often influence the decision-making process in an organization, be it about a simple thing like a change in the employees dress code, to something as big as a revamped advertising campaign for a product.

Seeing the elements involves being able to:

• See the enterprise as a whole
• See the relationships between the various parts
• Understand their dependence on one another
• Recognize that changes in one part affect all the others

This ability also extends to recognizing the relationship of the individual organizations to the political, social, and economic forces of the nation as a whole. This has since been called the “helicopter mind,” that is, being able to rise above a problem and see it in context. These conceptual skills are likely to be demonstrated by a manager or executive higher in the organization. Indeed, at these higher levels of management, organizations require these skills.

Conceptual skills are not critical for lower-level supervisors but gain in importance at the middle-management level. At the top management level, conceptual and design abilities are especially valuable

8.5.5: Analytical Mindset

Deriving, interpreting, and communicating patterns within data allows managers to make informed strategic and tactical decisions.

Learning Objective

Understand the value of analytical thinking as it pertains to management, and recall the various perspectives of analysis

Key Points

• A strong sense of analytical understanding is a highly useful skill set in both business and science.
• Pursuing objective information to drive data-driven decisions requires a highly developed analytical skill set, and is a critical component of managerial decision-making.
• Analytics can be used to assess and visualize decisions, describe the implications of historical data, predict and model future expectations, and optimize internal processes.
• In the age of big data, the importance of analytics has never been higher. The ability to navigate and derive value from big data is critical to successful organizational management.

Key Terms

cherry-picking

To pick only a part of the whole truth, often in order to support an opinion or personal agenda. In analysis, it is seeing what one wants to see in the data (as opposed to what’s there).

analytics

The derivation, interpretation, and expression of patterns within data sets.

Defining Analytics

The derivation, interpretation, and expression of patterns within data sets is referred to as analytics. This broad definition can fit numerous contexts, and is highly relevant in virtually every modern field of business and science. There are many instances in a business environment where analytical thinking skills are applied to produce meaningful observations. In fields from marketing to operations to finance to strategic decision-making, managers must both understand and employ analytical skills to succeed in the modern business environment. 

Analyzing the Operational Environment

This image shows how information from the operational environment translates into meaningful data, information and ultimately intelligence for decision-making.

This image is an excellent illustration of how information from the operational environment translates into meaningful data, information and ultimately intelligence for decision-making.

How to be Analytical

Strong analytical skills are as much a developed competency as they are a perspective. Pursuing objective, fact-based decision-making and data-driven conclusions requires a commitment to an analytical mentality. Pushing gut feelings and intuition into the background in favor of framing issues through analysis is a constant struggle in nearly every organization. It is a critical role of management to ask the right questions and align employee behavior with analytical thinking.

Depending on the particular role, industry, organization and objectives, a manager may use one or more of the following analytical models to frame tactical and strategic questions:

• Decision analytics – Using data-driven models and visualizing outcomes of specific organizational behaviors can enable managers to visualize the various outcomes of different strategic approaches.
• Descriptive analytics – Collecting historical data from reporting, scorecards, clustering and various other sources of information, managers can underline trends and identify opportunities and/or risks.
• Predictive analytics – Leveraging statistical models and machine learning, managers can predict future outcomes with varying degrees of statistical confidence.
• Prescriptive analytics – Using optimization and simulation, managers can produce recommended decisions through analytical modeling.

Domains of Analytics

• Behavioral analytics
• Cohort Analysis
• Contextual data modeling
• Enterprise Optimization
• Financial services analytics
• Marketing analytics
• Pricing analytics
• Retail sales analytics
• Risk & Credit analytics
• Supply Chain analytics
• Talent analytics
• Transportation analytics
• Customer Analytics

More Important Now Than Ever

In the current technological environment of big data, analytics has never been more relevant and central to the organization. With endless data available, it is easier than ever to derive advantage or make substantial mistakes in digesting this data. Indeed, utilizing analytics incorrectly can be just as disastrous as not using it at all! In a world with this much data, maintaining objectivity and refraining from cherry-picking to prove one’s opinion is a very important skill.

Managers must be owners not only of the decisions they make, but the validity of the process in which they make them. Analytics is the core skill set required for success in this domain, arguably the most important facet of management.

8.5.6: Sensitivity to Human Relations

Good managers have an innate sensitivity to the needs of the people they manage, and a highly developed emotional intelligence.

Learning Objective

Integrate emotional intelligence and human resource needs into the broader field of management

Key Points

• Management is primarily the task of aligning internal resources to create efficient production processes. These resources are often human resources with complex emotional needs.
• Strong managers have an innate sensitivity to human resource needs, which is enabled by a high level of emotional intelligence (EQ).
• EQ can be defined in a variety of ways. Central to EQ is communication, courtesy, interpersonal skills, positive attitude, and a strong sense of teamwork.
• To create a comfortable working environment for employees, managers should focus on motivating, setting goals, delegating and communicating effectively.

Key Term

Interpersonal skills

The competencies related to human interaction, such as social skills, communication, and emotional intelligence.

Management is a functional discipline that requires a wide variety of skill sets, including organizational skills, technical skills, and people skills (or ‘soft skills’). Effective management is often centered around people skills, as the resource being managed is primary the effort of human resources.

As a result, managers who are sensitive to human resources are much more likely to be successful in a leadership role. 

Soft Skills and Emotional Intelligence

The skills required to lead from a human sensitivity perspective are often referred to as soft skills or EQ (emotional intelligence). According to a research done at Eastern Kentucky University, soft skills can be summarized as the following ten attributes:

1. Communication – Speaking, writing, presenting, and listening
2. Courtesy – Showing appropriate respect and pleasantries when dealing with others
3. Flexibility – Both adaptable and teachable, good managers can fill the unique needs of each employee they manage through changing their own habits
4. Integrity – Understanding the ethical implications of decisions is integral to success
5. Interpersonal skills – This is an extensive list of characteristics involving social ability, friendliness, sense of humor, patience, etc.
6. Positive attitude – A confident and upbeat personality tends to trickle down through work groups
7. Professionalism – Reliability and professionalism go hand and hand, and showing a strong sense of professionalism can emotionally reassure employees
8. Responsibility – A willingess to take credit for the team’s mistakes and a willingness to give the team credit for their successes is a key component of responsible management
9. Teamwork – Mangers must be collaborators, capable of filling the many roles required in a team
10. Work ethic – Finally, management is hard work, and strong work ethic sets a good example.

As you can see here, the vast majority of these skills involve integrating with human resources. High performing managers are sensitive to the needs, emotions, perspectives ,and well-being of the individuals they are managing.

How to Manage Sensitively

With the above core skills in mind, managers with a strong sense of human resource sensitivity focus on managing people via the following four phases:

1. Motivating – Understand what your employees are good at, and what they enjoy. Let them know they are appreciated for their skills and attitude and ensure they have everything they need to succeed in their role.
2. Setting Goals – Create agreement among the team regarding direction, and identify practical objectives that won’t overburden or intimidate team members. Offer feedback, and receive feedback in turn. Ensure that feedback maintains a positive note.
3. Delegating – Managers must take on the functional role of delegation. This simply means dividing tasks among the work group, and letting each individual know what is expected of them and how they will contribute. Give employees credit for their successes, and as a manager it is on you to take responsibility for any failures.
4. Focus on Communication – Communicating well and avoiding misunderstandings will save time and stress. Make sure tasks are clear and feedback channels are open. Listen carefully and clarify what you’re hearing. Take an active interest in your employees.

Through focusing on these core human relations activities while managing, employees are likely to have the clarity, confidence, and commitment required to succeed in the workplace. 

The Three Levels of Leadership

Much of a leader’s responsibilities lie in managing and motivating externally. This is to say that leaders are not only defined by their internal competencies, but more importantly by their ability to translate these competencies externally.

Much of a leaders responsibilities lie in managing and motivating externally. This is to say that leaders are not only defined by their internal competencies, but more importantly by their ability to translate these competencies externally.

7.4: Starting a Small Business

7.4.1: The Business Plan

Learning Objective

Name the components that make up a business plan

Key Points

• The key elements of a business plan include a comprehensive set of relevant information—from market analysis to company financials.
• If the company is seeking funding the business plan gives potential investors an understanding of your proposed business and the money required.
• The business plan is a critical vehicle for communicating both internally and externally how a company intends to conduct business.
• A business plan establishes goals and objections that allow the leadership to assess how well a company is doing based on its established goals and objections.

Key Terms

business plan

a summary of how a venture owner, manager, or entrepreneur intends to organize an entrepreneurial endeavor and implement activities necessary and sufficient for the venture to succeed

Executive Summary

The executive summary is a snapshot of your business plan as a whole and touches on your company profile and goals.

Financial Projections

The financials provide information on the proposed spending and revenues of the company, typically for the first 3 to 5 years of operation. Again ,if funding is required this section details the expected cash flows and other critical financial projections to allow potential investors to understand the risks and returns they can expect

market analysis

Provides the specific industry, market, and competitive analysis information needed to understand where and how the company is positioned in the overall market.

Example

• Elements of a Business Plan: Cover sheet, Executive summary (statement of the business purpose), Table of contents, Body of the document, Business Description of business, Marketing Competition, Operating procedures, Personnel Business insurance, Financial data, Loan applications, Capital equipment and supply list, Balance sheet Break-even analysis, Profit and loss statements, Three-year summary, Detail by month — first year, Detail by quarters — second and third year, Assumptions upon which projections were based, Pro-forma cash flow, Supporting documents, Tax returns of principals (partners in the business) for last three years, Personal financial statements (all banks have these forms), Copy of franchise contract and all supporting documents provided by the franchisor (for franchise businesses), Copy of proposed lease or purchase agreement for building space, Copy of licenses and other legal documents, Copy of resumes of all principals, Copies of letters of intent from suppliers, etc.

A business plan is a formal statement of a set of business goals, the reasons they are believed attainable, and the plan for reaching those goals. It may also contain background information about the organization or team attempting to reach those goals. Business plans may also target changes in perception and branding by the customer, client, taxpayer, or larger community.

Essential Elements of a Business Plan

The key elements of a business plan include a comprehensive presentation of relevant information, from market analysis to company financials. If the company is seeking funding, the business plan gives potential investors an understanding of your proposed business and the money required. The following categories are important inclusions in any business plan:

• Business Plan Executive Summary: The executive summary is a snapshot of your business plan as a whole and touches on your company profile and goals. This section offers tips on what to include and how to keep it brief and succinct.
• Market Analysis: Provides the specific industry, market, and competitive analysis information needed to understand where and how the company is positioned in the overall market.
• Company Description: Company description answers certain questions. What do you do? What differentiates your business from current providers? Which markets do you serve?
• Marketing & Sales Management: The marketing and sales section explains how the company plans to market your business and what is your sales strategy. It outlines in the broadest sense how your firm will communicate with potential customers and suppliers.
• Service or Product Line: Service and product lines details exactly what your firms sells and how does it deliver value to your customers. Information about the firm’s R&D activities and the product lifecycle should be included in this section.
• Funding Request: If you are seeking funding for your business, find out what information you need to include in your plan to ensure success.
• Financial Projections: The financials provide information on the proposed spending and revenues of the company, typically for the first 3 to 5 years of operation. Again ,if funding is required this section details the expected cash flows and other critical financial projections to allow potential investors to understand the risks and returns they can expect.
• Appendix: An appendix is optional, but a useful place to include resumes of the leadership team, permits, leases, and and any other pertinent information that is material to the operations of the company.

Business Plan

Preparing A Business Plan

7.4.2: Types of Ownership

Learning Objective

Discuss the different types of ownership available to small business owners

Key Points

• A small business is a business that is privately owned and operated, with a small number of employees and a relatively low volume of sales.
• Market factors and other key criteria, such as tax implications, should be considered with regard to the legal structure of a company.
• Each of the types of ownership comes with its own inherent advantages and disadvantages and as a result its own risks and potential rewards.

Key Terms

limited liability

A situation in which the liability of the owners of a business is limited to the full, paid-up value of the share capital. In the United States and some other countries, a limited company is known as either a corporation or a limited liability company (LLC).

partnership

A partnership is a form of business in which two or more people operate for the common goal of making profit. Each partner has total and unlimited personal liability of the debts incurred by the partnership.

Sole Proprietorship

A business owned by one person. The owner of the business has total and unlimited personal liability of the debts incurred by the business.

Example

• A smaller business is more flexible. Larger businesses or those with wider ownership or more formal structures, will usually tend to be organized as partnerships or (more commonly) corporations. Generally speaking, shareholders in a corporation, limited partners in a limited partnership, and members in a limited liability company are shielded from personal liability for the debts and obligations of the entity, which is legally treated as a separate “person. ” This means that if the business does not succeed, the owner’s own possessions are strongly protected under the law unless there is misconduct. Partnerships cannot be taken public.

Types of Ownership

A small business is a business that is privately owned and operated, with a small number of employees and relatively low volume of sales. Small businesses are normally privately-owned corporations, cooperatives, partnerships, or sole proprietorships.

Private Limited Company (Ltd)

A small to medium-sized business that is often run by the family or the small group who owns it. The owners and managers are only liable for the business up to the amount they have invested in the company, and are not liable for the debts incurred by the company unless they have signed a personal guarantee.

Public Limited Company

A business with limited liability, and a wide variety of shareholders. The owners and managers are only liable for the business up to the amount they have invested in the company, and are not liable for the debts incurred by the company (unless they have signed a personal guarantee, which usually is not the case for a large corporation).

Unlimited Liability

A situation in which owners of a business are liable for all the debts that the business may incur.

Limited Liability

A situation in which the liability of the owners of a business is limited to the full, paid-up value of the share capital. In the United States and some other countries, a limited company is known as either a corporation or a limited liability company (LLC) .

Limited Liability Company (LLC)

A situation in which the liability of the owners of a business is limited to the full, paid-up value of the share capital. In the United States and some other countries, a limited company is known as either a corporation or a limited liability company.

Sole Proprietorship

A business owned by one person. The owner may operate on his own or may employ others. The owner of the business has total and unlimited personal liability of the debts incurred by the business.

Partnership

A partnership is a form of business in which two or more people operate for the common goal of making profit. Each partner has total and unlimited personal liability of the debts incurred by the partnership.

Cooperative Business

Cooperative businesses are often referred to as a co-ops. The cooperative business structure is for-profit, with limited liability, but with members of the co-op sharing decision-making authority. Co-ops normally fall into three types: (1) Consumer co-ops, (2) producer co-ops (common in agriculture) and (3) worker-owned companies. Co-ops are fundamental to the ideology of economic democracy.

7.4.3: Financing Company Operations

Learning Objective

List the different financing options for small businesses

Key Points

• Financing the operation of a company can come from within the firm itself or by using external resources.
• How a company is financed has implications for how profits and potential liabilities are distributed.
• The participation of external sources of funding may bring other benefits outside rather than just the funds themselves.

Key Term

Bootstrapping

Financial bootstrapping is a term used to cover different methods when someone wants to avoid using the financial resources of external investors. The use of private credit card debt is the most known form of bootstrapping, but a wide variety of methods are available for entrepreneurs. While bootstrapping involves a risk for the founders, the absence of any other stakeholder gives the founders more freedom to develop the company.

Examples

• Examples of bootstrapping include: Owner financing, sweat equity, minimization of the accounts receivable, joint utilization, delaying payment, minimizing inventory, subsidy finance, and personal debt.
• Many successful companies including Dell Computers and Facebook were founded using financial bootstrapping.

A company can be self-financed or financed through the solicitation and participation of outside investors .

NGO Financing

A non-governmental organization (NGO) is a legally constituted organization created by natural or egal persons that operates independently from any form of government.

Self Funding

Financial bootstrapping is a term used to cover different methods for avoiding the use of financial resources that come from external investors. The use of private credit card debt is the most known form of bootstrapping, but a wide variety of methods are available for entrepreneurs. While bootstrapping involves a risk for the founders, the absence of any other stakeholder gives the founders more freedom to develop the company.

There are different types of bootstrapping:

• Owner financing
• Sweat equity
• Minimization of the accounts receivable
• Joint utilization
• Delaying payment
• Minimizing inventory
• Subsidy finance
• Personal Debt

External Financing

Many businesses need more capital than can be provided by the owners themselves. In this case, a range of options are available including:

• Angel investors
• Venture capital investors
• Crowd funding
• Hedge Funds
• Alternative asset management

Some of these sources provide not only funds, but also financial oversight, accountability for carrying out tasks and meeting milestones, and in some cases, business contacts and experience. In many cases, these services are in return for an equity stake.

In short, financing the operations of a company can come from within the firm itself or by using external resources. How a company is financed has implications for how profits and potential liabilities are distributed

Many successful companies, including Dell Computers and Facebook, were founded using financial bootstrapping.

The participation of external sources of funding may bring other benefits outside of the funds themselves.

7.4.4: The Small Business Administration

Key Points

• The U.S. government actively supports the creation of new business and the expansion of existing companies through the SBA.
• The SBA promotes commerce in the U.S. in a number of ways, from simple advice and information to actual funding.
• Many of the new jobs in the U.S. economy are created by small businesses.

Key Terms

organigraph

Organigraphs expose critical associations and competitive opportunities as opposed to viewing all parties, departments, and business units as separate entities. They also reveal relationships between departments, products, supply chains, and more within an organization that might not otherwise be apparent.

organization chart

A graphic display of reporting relationships in an organization, sometimes displaying position titles and position holders.

The Small Business Administration

The Small Business Administration (SBA) is a United States government agency that provides support to entrepreneurs and small businesses. The mission of the Small Business Administration is “to maintain and strengthen the nation’s economy by enabling the establishment and viability of small businesses and by assisting in the economic recovery of communities after disasters. ” The agency’s activities are summarized as the 3 Cs of capital, contracts, and counseling. Many of the new jobs in the U.S. economy are created by small businesses

The Small Business Administration

Seal of the U.S. Small Business Administration

SBA loans are made through banks, credit unions, and other lenders who partner with the SBA. The SBA provides a government-backed guarantee on part of the loan. Under the Recovery Act and the Small Business Jobs Act, SBA loans were enhanced to provide up to a 90 percent guarantee in order to strengthen access to capital for small businesses after credit froze in 2008. The agency had record lending volumes in late 2010.

The SBA helps lead the federal government’s efforts to deliver 23% of prime federal contracts to small businesses. Small business contracting programs include efforts to ensure that certain federal contracts reach woman-owned and disabled veteran-owned small businesses.

SBA has at least one office in each U.S. state. In addition, the agency provides grants to support counseling partners, including approximately 900 Small Business Development Centers (often located at colleges and universities); 110 Women’s Business Centers; and SCORE, a volunteer mentor corps of retired and experienced business leaders with approximately 350 chapters. These counseling services provide services to over one million entrepreneurs and small business owners annually.

6.4: Special Forms of Ownership

6.4.1: S-Corporations (S-Corps)

Learning Objective

Describe the characteristics of an S corporation

Key Points

• In terms of federal income taxation, S corporations resemble partnerships in that income, deductions, and tax credits flow through annually to shareholders, regardless of whether distributions are made.
• Payments are distributed to S shareholders tax-free to the extent that the distributed earnings were not previously taxed.
• Unlike a C corporation, an S corporation is not eligible for a dividends received deduction, nor is it subject to the ten percent of taxable income limitation applicable to charitable contribution deductions.

Key Terms

S corporation

a legal designation of companies that elect to pass income, losses, deductions, and credit through to their shareholders for federal tax purposes

shareholder

One who owns shares of stock.

C Corporations

any corporation that, under United States federal income tax law, is taxed separately from its owners

dividends

Dividends are payments made by a corporation to its shareholder members. It is the portion of corporate profits paid out to stockholders.

Examples

• Example (from Wikipedia)
• Widgets Inc, an S-Corp, makes $10,000,000 in net income (before payroll) in 2006 and is owned 51% by Bob and 49% by John. Keeping it simple, Bob and John both draw salaries of $94,200 (which is the Social Security Wage Base for 2006, after which no further Social Security tax is owed).
• Employee salaries are subject to FICA tax (Social Security & Medicare tax) –currently 13.3 percent–(4.2% Social Security paid by the employee; 6.2% Social Security paid by the employer; 1.45% employee medicare and 1.45% employer medicare). The distribution of the additional profits from the S corporation will be done without any further FICA tax liability.
• If for some reason, Bob (as the majority owner) was to decide not to distribute the money, both Bob and John would still owe taxes on their pro-rata allocation of business income, even though neither received any cash distribution. To avoid this “phantom income” scenario, S corporations commonly use shareholder agreements that stipulate at least enough distribution must be made for shareholders to pay the taxes on their distributive shares.
• Quarterly estimated taxes must be paid by the individual to avoid tax penalties, even if this income is “phantom income”.

S corporations elect to pass corporate income, losses, deductions, and credit through to their shareholders for federal tax purposes. S status combines the legal environment of C corporations with partnership-like federal income taxation.

Like a C corporation, an S corporation is generally subject to the laws of the state in which it is organized. However, in the manner of a partnership, an S corporation’s income, deductions, and tax credits flow through annually to shareholders, regardless of whether distributions are made. Thus, income is taxed at the shareholder level and not at the corporate level, and payments are distributed to S shareholders tax-free to the extent that the distributed earnings were not previously taxed.

Certain corporate penalty taxes (e.g., accumulated earnings tax, personal holding company tax) and the alternative minimum tax do not apply to an S corporation. Unlike a C corporation, an S corporation is not eligible for a dividends received deduction, nor is it subject to the ten percent of taxable income limitation applicable to charitable contribution deductions.

In order to be eligible for S corporation status, a corporation must meet certain requirements:

• Be an eligible entity (a domestic corporation, or a limited liability company which has elected to be taxed as a corporation)
• Have only one class of stock
• Have no more than 100 shareholders
• Spouses are automatically treated as a single shareholder. Families, defined as individuals descended from a common ancestor, plus spouses and former spouses of either the common ancestor or anyone lineally descended from that person, are considered a single shareholder as long as any family member elects such treatment.
• Shareholders must be U.S. citizens or residents and natural persons, so corporate shareholders and partnerships are generally excluded. However, certain trusts, estates, and tax-exempt corporations, notably 501(c)(3) corporations, are permitted to be shareholders.
• Profits and losses must be allocated to shareholders proportionately to each one’s interest in the business.

Pieter Brueghel the Younger, Paying the Tax (The Tax Collector)

S corporations are not burdened with double taxation.

6.4.2: Limited Liability Companies (LLCs)

Learning Objective

Discuss the advantages and disadvantages of limited liability companies

Key Points

• The primary characteristic an LLC shares with a corporation is limited liability, and the primary characteristic it shares with a partnership is the availability of pass-through income taxation (i.e. no double taxation).
• An LLC is often more flexible than a corporation, and it is well-suited for companies with a single owner.
• There are a number of advantages and disadvantages associated with LLCs, and many of the specific advantages and disadvantages relate to certain states and districts.

Key Term

double taxation

Double taxation is the levying of tax by two or more jurisdictions on the same declared income (in the case of income taxes), asset (in the case of capital taxes), or financial transaction (in the case of sales taxes). This double liability is often mitigated by tax treaties between countries.

Example

• If you decide to set up an LLC, your liability depends on the amount you have invested. For example, you invest $100,000 into your business but it goes through tough times after a year and you decide to close. Before you close the business you may have to pay your creditors. But they can only make claims up to $100,000 (your original investment). If this amount does not satisfy the creditors, they cannot take away your personal property to settle the debt. This could happen if your liabilities were unlimited. Alternately, if you make profits after some time, they have the provision of not being taxed twice. For tax purposes, an LLC can be registered as a partnership or sole proprietorship (and a corporation even though it is not a corporation for other purposes). If you register your LLC as a sole proprietorship or a partnership, you will not have to pay federal taxes on your income.

Limited Liability Companies (LLCs)

A limited liability company (LLC) is a hybrid business entity that has characteristics of both a corporation and a partnership (or sole proprietorship depending on how many owners). An LLC, although a business entity, is a type of unincorporated association and is not a corporation (calling it a limited liability corporation is incorrect). The primary characteristic an LLC shares with a corporation is limited liability, and the primary characteristic it shares with a partnership is the availability of pass-through income taxation (i.e. no double taxation). It is often more flexible than a corporation, and it is well-suited for companies with a single owner.

Membership interests in LLCs and partnership interests are also afforded a significant level of protection through the charging order mechanism. The charging order limits the creditor of a debtor-partner or a debtor-member to the debtor’s share of distributions, without conferring any voting or management rights on the creditor. Limited liability company members may, in certain circumstances, also incur a personal liability in cases where distributions to members render the LLC insolvent.

Advantages

Some advantages of LLCs include the following:

• choice of tax regime: an LLC can choose to be taxed as a sole proprietor, partnership, S or C corporation;
• much less administrative paperwork and record keeping than a corporation;
• pass-through taxation (i.e., no double taxation), unless the LLC elects to be taxed as a C corporation;
• less risk to be stolen by fire-sale acquisitions (more protection against hungry investors).

Disadvantages

Some disadvantages of LLCs are listed below.

State laws regarding stock corporations are very well developed and provide for a variety of governance and protective provisions for the corporation and its shareholders. However, most states do not dictate detailed governance and protective provisions for the members of a limited liability company. Thus, in the absence of such statutory provisions, the members of an LLC must establish governance and protective provisions pursuant to an operating agreement or similar governing document.

It may be more difficult to raise financial capital for an LLC as investors may be more comfortable investing funds in the better-understood corporate form with a view toward an eventual IPO.

Many jurisdictions levy a franchise tax or capital values tax on LLCs. In essence, this franchise or business privilege tax is the fee the LLC pays the state for the benefit of limited liability. The amount of the franchise tax can be based on the following:

• revenue,
• profits,
• number of owners,
• amount of capital employed in the state.

There can also be some combination of the above factors, or simply a flat fee.

YouTube Headquarters

A famous company that started out as an LLC is YouTube.

6.4.3: Publicly Held Corporations

Learning Objective

Distinguish between a state-owned enterprise, government-linked company, and quasi-governmental organization

Key Points

• There are many possible levels of government involvement in publicly-owned companies. Governments can fully or partially own a company as well as own regular stock.
• While they may also have public policy objectives, publicly-owned companies are differentiated from other forms of government agencies or state entities established to pursue purely non-financial objectives.
• Government-linked companies and quasi-governmental organizations also provide ways for government to be involved in corporations, either through a holding company or through government funding.

Key Terms

quasi-governmental organization

A corporation, business or agency that is regarded by national laws and regulations as being under the guidance of the government, but also separate from the government.

state-owned enterprise

A legal entity created by a government to undertake commercial activities on behalf of an owner government.

government-linked company

A private or public corporate entity in which an existing government owns a stake through a holding company.

Example

• Amtrack is an example of a publicly owned corporation that was started in 1971 to provide inter-city rail transport in the US. It is partially owned by the government because all its preferred stock is under government ownership while its common stock is held by the public. Its board of directors is appointed by the government.

There is no standard definition of a publicly-owned corporation or state-owned enterprise (SOE), although the two terms can be used interchangeably. Their defining characteristics are their distinct legal form, and their operation in commercial affairs. While they may also have public policy objectives, SOEs are different from other government entities established to pursue purely non-financial objectives.

State-owned enterprises can be fully or partially owned by the government. However, the line beyond which a corporation must be considered “state-owned” is unclear, as governments can also own regular stock and have no special influence over business. For example, in 2007 the Chinese Investment Corporation agreed to acquire a 10% interest in the global investment bank Morgan Stanley, but it is unlikely that this would qualify the latter as a government-owned corporation. SOEs are often the result of corporatization, a process in which government agencies are re-organized as semi-autonomous corporate entities.

The term government-linked company (GLC) is sometimes used to refer to private or public corporate entities in which an existing government owns a stake through a holding company. There are multiple ways of defining GLCs, depending on the proportion of the corporate entity a government owns. One rationale for calling a company a GLC is whether or not a government owns an effective controlling interest (>50%); another possible definition defines as a GLC any corporate entity that has a government as a shareholder.

Fannie Mae Headquarters

Fannie Mae was created by the US government to expand the secondary mortgage market.

A quasi-governmental organization is a corporation, business or agency that is regarded by national laws and regulations as being under the guidance of the government, but also separate from the government. While they may receive some revenue from charging customers for services, these organizations are often at least partially funded by the government. Sometimes they are even propped up with cash infusions in times of crisis to help offset situations that would bankrupt a normal privately owned business.

A notable example of an SOE is the Saudi national oil company, Saudi Aramco, which the Saudi government bought in 1988. The Saudi government also owns and operates Saudi Arabian Airlines, as well as many other companies.

6.4.4: Nonprofit Organizations (NPOs)

Learning Objective

Describe the types of nonprofit organizations, as well as their legal aspects and organizational goals

Key Points

• While not-for-profit organizations are permitted to generate surplus revenues, they must be retained by the organization for its self-preservation, expansion, or for other plans.
• The two major types of nonprofit organizations are membership and board-only. A membership organization elects the board, has regular meetings, and the power to amend the bylaws. A board-only organization typically has a self-selected board.
• Some NPOs may also be a charity or service organization; they may be organized as a not-for-profit corporation or as a trust, a cooperative, or they exist informally.

Key Terms

nonprofit corporation

a company that uses surplus revenues to achieve its goals rather than distributing them as profit or dividends

revenues

In business, revenue or turnover is income that a company receives from its normal business activities, usually from the sale of goods and services to customers.

Examples

• Feed The Children is an international, nonprofit relief organization with headquarters in Oklahoma City, Oklahoma. They deliver food, medicine, clothing and other necessities to individuals, children, and families who lack these essentials due to famine, war, poverty, or natural disasters (official web site description). In FY 2011, Feed The Children distributed more than 104 million pounds of food and other essentials to children and their families in all 50 states and internationally (official web site).
• It gets its revenues from pledges of cash and gifts-in kind from corporate and individual donors, according to its annual report in 2011. Its web site lists 5 members in its board of directors to direct its activities. Its surplus revenue is used to help needy children, as mentioned in the above paragraph.

Nonprofit Organizations

A nonprofit organization (NPO) is an organization that uses surplus revenues to achieve its goals rather than to distribute them as profit or dividends. While not-for-profit organizations are permitted to generate surplus revenues, they must be retained by the organization for its self-preservation, expansion, or for other plans. NPOs have controlling members or boards. Many have paid staff, including management, while others employ unpaid volunteers and even executives who work with or without compensation (occasionally nominal). Where there is a token fee, in general, it is used to meet legal requirements for establishing a contract between the executive and the organization. The extent to which an NPO can generate surplus revenues may be constrained, or use of surplus revenues may be restricted.

The two major types of nonprofit organizations are membership and board-only. A membership organization elects the board and has regular meetings and power to amend the bylaws. A board-only organization typically has a self-selected board, and a membership whose powers are limited to those delegated to it by the board. A board-only organization’s bylaws may even state that the organization does not have any membership, although the organization’s literature may refer to its donors as members; examples of such organizations are Fairvote and the National Organization for the Reform of Marijuana Laws.

Nature and Goals

Some NPOs may also be a charity or service organization; they may be organized as a not-for-profit corporation or as a trust, a cooperative, or they exist informally. A very similar type of organization termed a supporting organization operates like a foundation, but they are more complicated to administer, hold a more favorable tax status, and are restricted in the public charities they support.

Legal Aspects

NPOs have a wide diversity of structures and purposes. For legal classification, there are some elements of importance:

• Economic activity,
• Supervision and management provisions,
• Representation,
• Accountability and auditing provisions,
• Provisions for the amendment of the statutes or articles of incorporation,
• Provisions for the dissolution of the entity,
• Tax status of corporate and private donors,
• Tax status of the foundation.

Some of the above must be, in most jurisdictions, expressed in the charter of establishment. Others may be provided by the supervising authority at each particular jurisdiction.

While affiliations will not affect a legal status, they may be taken into consideration by legal proceedings as an indication of purpose.

Most countries have laws which regulate the establishment and management of NPOs and require compliance with corporate governance regimes. Most larger organizations are required to publish their financial reports detailing their income and expenditure publicly. In many aspects, they are similar to corporate business entities though there are often significant differences. Both not-for-profit and for-profit corporate entities must have board members, steering committee members, or trustees who owe the organization a fiduciary duty of loyalty and trust. A notable exception to this involves churches, which are often not required to disclose finances to anyone, including church members.

American Cancer Society Offices in Washington D.C.

The American Cancer Society (ACS) is a nationwide voluntary health organization dedicated to eliminating cancer.

6.5: Franchising

6.5.1: Types of Franchises

There are three major types of franchises – business format, product, and manufacturing – and each operates in a different way.

Learning Objective

List the different types of franchises

Key Points

• A business format franchise is a franchising arrangement where the franchisor provides the franchisee with an established business, including name and trademark, for the franchisee to run independently.
• A product franchise is a franchising agreement where manufacturers allow retailers to distribute products and use names and trademarks.
• A manufacturing franchise is a franchising agreement where the franchisor allows a manufacturer to produce and sell products using its name and trademark.

Key Term

franchise

The authorization granted by a company to sell or distribute its goods or services in a certain area.

Example

• Generally, The Coca Cola Company only produces syrup concentrate. This is then sold to bottlers around the world, who finish the product by adding water and distributing it to retail stores, restaurants, and food service distributors.

Types of Franchises

While there are many ways to differentiate between different types of franchises (size, geographic location, etc), we will be looking at how different franchisors allow franchisees to use their name. On this basis, there are three different types of franchise:

• Business format franchises
• Product franchises
• Manufacturing franchises

Business Format Franchises

In business format franchises (which are the most common type), a company expands by supplying independent business owners with an established business, including its name and trademark. The franchiser company generally assists the independent owners considerably in launching and running their businesses. In return, the business owners pay fees and royalties. In most cases, the franchisee also buys supplies from the franchiser. Fast food restaurants are good examples of this type of franchise. Prominent examples include McDonalds , Burger King, and Pizza Hut.

McDonalds

McDonalds is perhaps the most famous franchise in the world.

Product Franchises

With product franchises, manufactures control how retail stores distribute their products. Through this kind of agreement, manufacturers allow retailers to distribute their products and to use their names and trademarks. To obtain these rights, store owners must pay fees or buy a minimum amount of products. Tire stores, for example, operate under this kind of franchise agreement.

Manufacturing Franchises

Through manufacturing franchises, a franchiser grants a manufacturer the right to produce and sell goods using its name and trademark. This type of franchise is common among food and beverage companies. For example, soft drink bottlers often obtain franchise rights from soft drink companies to produce, bottle, and distribute soft drinks. The major soft drink companies also sell the supplies to the regional manufacturing franchises. In the case of Coca Cola, for example, Coca Cola sells the syrup concentrate to a bottling company, who mixes these ingredients with water and bottles the product, and sells it on.

6.5.2: Advantages of Franchises

A franchise agreement can have many benefits for both the franchisor and the franchisee.

Learning Objective

Discuss the advantages of participating in a franchise

Key Points

• Benefits to the franchisor include regular royalty payments, expansion with reduced financial risk, and a greater geographical presence.
• Franchisee benefits include lower risk, lower startup costs, existing brand recognition, and parent company marketing support.
• Potential franchisees can select a franchise based on their location, interests, resources, and needs, which means that entering into a franchising arrangement can be a flexible process.
• – Royalty payments
• Franchisee benefits include:
• – Higher chance of success due to tried and tested business model
• – Franchisor support, training and expertise
• – Brand recognition and national marketing

Key Terms

franchisor

a company or person that authorizes another to sell or distribute its goods or services in a certain area

royalty

Regular payment made from the franchisee to the franchisor for the right to be a franchisee.

Example

• In the United States, the McDonalds Corporation owns only approximately 15% of McDonalds restaurants nationwide. The rest are operated through franchise and joint venture agreements, with profits being made through franchise fees and marketing fees, and at times through rent, as often the franchisee does not own the location of the restaurant.

Benefits for the Franchisor

Franchisors benefit from franchise agreements because they allow companies to expand much more quickly than they could otherwise. A lack of funds and workers can cause a company to grow slowly. Through franchising, a company invests very little capital or labor because the franchisee supplies both. The parent company experiences rapid growth with little financial risk.

A company can also ensure it has competent and highly motivated owners and managers at each outlet through franchising. Since the owners are largely responsible for the success of their outlets, they will put in a strong and constant effort to make sure their businesses run smoothly and prosper. In addition, companies are able to provide franchising rights to only qualified people.

Other benefits include:

• Franchising allows a business to have an international presence.
• Franchisors can experience economies of scale.
• Franchisors can benefit from growth without worrying about running costs.
• Franchisors receive royalty payments that are set as a percentage of profits.

Benefits for the Franchisee

The franchisee also has numerous advantages that come from entering a franchising agreement, including:

– There is a low risk due to the tried and tested formula. Buying a franchise business provides a higher chance for success. They get the benefit of owning a proven business formula that has been tested and shown to work well in other locations. In addition, they receive the support from the main company toward establishing the business, and the training to operate it successfully.

– There are lower start-up costs since the business idea was already developed.

– They are buying a name and brand that is recognized by the public. So they have a big advantage over starting a business from scratch, as they already have an established customer base.

– A franchise gives more security from the beginning. New independent businesses are known to have as high as a 90% failure rate, often causing the business owner heavy losses and at times bankruptcy.

– When you start a business from scratch, you spend huge amounts of time trying to operate the business without being successful because you may not have the necessary skills for that particular area. When you purchase a franchise, all the necessary groundwork has been done already. In addition, the franchisee gets training and head office support from the franchisor; this may be essential if the franchisee is new to running a business and has no experience or business knowledge.

– The franchisee gets the support of national marketing which a small business would not normally be able to afford. In some cases of larger brands, they may have customers waiting for their doors to open (for example in a new McDonalds).

– Since all the product selection and the marketing have been already developed, you simply have to take care of the daily operations of the business. Your goal will be to grow from an established foundation and expand from there.

– The new franchise owner gains many benefits from the association with the main franchise company. The franchisor offers a great deal of business experience that would take years for the average business person to acquire .

Pizza Hut Franchise

Franchisees gain many benefits from being a franchisee rather than starting their own business from scratch.

– There are a lot of part-time franchising opportunities, which are perfect if someone has a small amount to invest and wants to support themselves and maintain their investment. They may be able to sell the franchise to someone else once they no longer wish to run it.

6.5.3: Disadvantages of Franchises

A franchise agreement can also have disadvantages for both the franchisor and the franchisee.

Learning Objective

Discuss the disadvantages of participating in a franchise

Key Points

• Disadvantages to franchisors include a lack of control over franchisees, reputational risks, and slow growth through franchising compared to mergers and acquisitions.
• Disadvantages to franchisees include high costs and royalty payments, strict product rules, and other start up challenges.
• Entering into an agreement with an interested franchisor is important. Uninterested franchisors will not provide adequate support, and are only interested in collecting fees and payments from franchisees.
• Franchisee disadvantages may include:
• – High entry costs, which include fees and start-up capital, and ongoing royalty fees
• – Lack of support from uninterested franchisors
• – Lack of flexibility in how to trade, as well as where to locate

Key Term

uninterested franchisors

Franchisors that have little interest in the actual success of the franchise, and more interest in collecting fees from franchisees.

Example

• In the early 2000’s, the popularity of Krispy Kreme donuts increased rapidly, leading to a huge increase in the number of franchises. However, poor policies on the part of the main company led to struggling franchisees: huge growth led to market saturation and a weakening of the brand as franchisees were found everywhere from malls to gas stations (whereas the original appeal was as a delicacy); Krispy Kreme forced franchisees to buy equipment at very high mark-ups, weakening the franchisee profits. Thus, the company’s focus was on profits through fees and sales to franchisees rather than royalty payments.

Disadvantages to the Franchisor:

Of course, no business arrangement is without potential risks and disadvantages. While there are many advantages for the franchisor in entering a franchising agreement, some of the potential risks are:

– Difficult to control activities of franchisees: In any franchise agreement (particularly when there is geographical separation between the franchisor and the franchisee), it can be difficult to control the activities of the franchisee and ensure that their activities are up to standard.

– Huge risk in reputation by allowing other businesses to use their names: if a franchisee does not live up to the quality standards of the franchisor (cleanliness, customer service, pricing, quality of product, etc.), this can have a negative reputational effect not just on the franchisee, but on the broader reputation of the franchisor as well. Thus, there is a risk in allowing others not directly connected to the business to use the business name and trademark.

– Not as quick a method of growth as mergers or acquisitions: M&A allows companies to expand very rapidly, whereas entering into franchising agreements means that the franchisor enters agreements with numerous individuals over time, and has to wait for them to start up and begin operations (instead of taking over existing operations). This method of expansion can be slow.

Disadvantages to the Franchisee

– High entry and ongoing cost: It can be more expensive to start a franchise than an independent business. You can open your own burger bar for the fraction of the cost of buying the rights to a McDonald’s franchise. Thus, franchising is often an option open only to already wealthy businessmen.

– Franchisees have to pay a significant percentage of their revenues to the franchisor: On top of the upfront money needed to start a franchise, the franchisee must pay fees and royalties to the franchisor. The franchise fee may range anywhere from $5,000 to over $1 million and hence can be a major expenditure for the franchisee. Royalties are paid periodically during the life of the franchise agreement. They are either a percentage of an outlet’s gross income—usually under 10 percent of an outlet’s gross income—or a fixed fee.

– Other franchise costs: In addition to royalties and payments, the franchisee may be required to buy certain items from the franchisor like computer systems and software.

– Uninterested franchisors: Some franchisors may have little interest in their franchisee’s success and may be more interested in just collecting the fees associated with the franchise. Thus, support and marketing may not be adequately provided.

– Strict product rules: Franchisees experience less flexibility to use their own initiative due to restraints from the franchisor. Franchisees can only sell the products of the franchise, and they may be tied into a national brand with a strict set of instructions about how they should trade.

– Start up challenges: The franchisee may have to find or build the right location, hire and train staff and install equipment. This may be difficult for someone with limited business skills just starting out.

Closed shop

Franchisees face risks and disadvantages that may jeopardize their ability to stay open.

Franchise costs vary to some extent because of costs associated with different kinds of businesses and with different locations. For example, a person who wishes to open a franchised employment service operation, such as Talent Force, based in Atlanta, Georgia, can get away with as little as a $7,500 fee, plus one year’s starting capital investment of $50,000 to $110,000. On the other hand, start-up costs for a company like J.O.B.S., based in Clearwater, Florida, can be as little as $45,000, including a $30,000 franchise fee.

6.5.4: Working from Home or Online

Home franchise operations have made franchising more accessible and affordable than ever, but still require knowledge and expertise.

Learning Objective

Assess the factors driving the increase of home-based franchises

Key Points

• Home based franchising allows those who do not have the resources to become traditional franchisees to get involved, due to the fact that there is no need to invest in a dedicated business space (lower cost), as well as increased flexibility.
• This reduced cost is an advantage to both the franchisor and the franchisee.
• There are still risks involved with home based franchising: franchisees must choose opportunities that they are suited for, based on their skills and expertise, as well as based on the local market.

Key Term

home based franchise

Home based franchises are ways of affiliating with organizations and working from home, often involving less investment than traditional franchises, sometimes even needing little more than a computer with an Internet connection.

Example

• According to Entrepreneur Magazine (entrepreneur.com), the #1 home based franchise of 2012 was Servpro, an insurance/disaster restoration and cleaning service. Start-up costs for new franchisees are in the range of $130,000 – $180,000. However, #2 on the list is Stratus Building Solutions, a cleaning company, with start-up costs of just $3,000 – $58,000. Thus, even among home based franchises, start up costs can vary greatly.

One important factor leading to the record number of franchises in recent years is the proliferation of home based franchise opportunities. This has made franchising accessible to a wider group of people. Previously, franchising a business meant that a franchisee would need to come up with a huge cash investment. This was mainly to cover the franchise payment and to establish a real store or business office, as directed by the business agreement. In some cases, this franchise fee is actually dwarfed in size by the cost of the volume needed for the business area.

Because of enormous charges in traditional franchise companies, very few people meet the expense needed to become franchise owners. With home based opportunities, you clear away the need to invest in a real business space by using your present home as a base of operations instead. With a computer and an Internet connection, people are often ready to begin.

Working From Home

Often, your office could be your own home, and your laptop your main asset.

Despite the advantages introduced by home based operation opportunities, a new business owner should not take the responsibilities and decisions lightly. You might have almost all the elements of operating and marketing your franchise–however that does not mean that you can just going to sit back and let the system do all of the work for you. Franchising a successful home business does not necessarily promise that you will always be profitable. In fact, even experienced businesspeople can fail with a successful franchise when they do not choose the right home based opportunity.

In considering franchises, you should see if you are well-suited to particular franchise options by determining your areas of expertise. Decide if your skill set is going to be an asset to the business. Thorough and honest assessment should guide which opportunities you consider, and you should explore your weaknesses as well. If you feel there are certain aspects of the franchise which may be hindrances to your success, then skip those, even if the opportunity is otherwise tempting. For example, if you have been an avid angler all your life, you should consider home based fishing franchise prospects. This can include things like selling fishing gear and other fishing related items on the internet or offering your services as a local fishing tour guide. But if you hate the idea of fishing, that one will probably not be right for you.

6.5.5: Technology in Franchises

Advances in technology benefits franchisors, franchisees, and the end customers.

Learning Objective

Give examples of how franchises are using technology to improve business performance

Key Points

• New technologies, such as greater connectivity, mobile apps, and cloud technology, means that franchisors can spend less time on training and support and focus on value-creating initiatives.
• New technologies, such as the Pulsar Call Management Software adopted by Pop-A-Lock, allow franchisees to better serve customers and meet their needs.
• Being ahead of the technological curve also allows franchisees to outdo their competitors in their local market. Support from the franchisor in this respect means the franchisee does not have to adopt and learn how to use new technologies by themselves.

Key Term

cloud

Regarded as an amorphous omnipresent space for processing and storage on the Internet; the focus of cloud computing.

Example

• Pop-A-Lock’s adoption of T.I.M.E.S allowed users to submit data for consideration immediately, cutting down processing time and ensuring an up to date collection of data at all times. This helped franchisees compete more effectively against rivals.

Dave Materson, Chief Technology Officer of a franchise company in West Palm Beach, Florida believes that new technology benefits those who train franchisees, the franchisees themselves, as well as their customers. Here’s what he has to say about technology and franchises:

“Put our franchisees in the mix and tech “ease of use” shines through in a pronounced way. Our people are subjected to so many pulls at their time, the new technology available can really make a difference. Being able to price and schedule your work from any location is a dream come true. Could this be any easier than with a tablet computer? No way! Storing files in the cloud for accessibility anywhere on any device is wonderful. Posting to social media in real time with pictures, links and information solidifies the belief that each franchisee should “be the expert” in their local market. And we at the Corporate Office are delighted for two reasons. We don’t have to train people on how to use the tools; technology has given us a big lead-in for this task. Most importantly, we DO get to teach how use of the tools is beneficial to their business. We distribute information as to what our collective group finds successful. We focus more on the business of business instead of the buttons and gadgets that for years were the root of so much frustration for new franchisees. “

Franchisees are using technology in various ways. Here are just a few.

Saladworks

In the first quarter of 2010, Saladworks released three new technological advances for the franchise and its customers.

• MySaladworks 2.0 – upgraded company intranet
• FreshCart – new online ordering system
• iPhone App – mobile ordering app available for the iPhone, iPod Touch, and iPad.

Pop-a-Lock

In 2005 Pop-A-Lock adopted the use of the Pulsar Call Management Software platform to assist in performing its dispatch functions. Pulsar is utilized to receive initial information from customers concerning their issues, regulates pricing of service based on standard pricing practices and local franchisee SOP and perform back office functions for payroll and billing.

Pop-A-Lock utilizes T-Mobile as a corporate sustaining partner to provide phone, Blackberry and Internet services in many franchise markets. The franchise does use other phone providers based on specific coverage needs and the desires of the local franchisee.

The T.I.M.E.S (Technical Information Management and Exchange System) was adopted for Pop-A-Lock in 2007 from many other Locksmith companies in order to provide a computer based reference system for Locksmith information including Key Generation procedures, Installation Instructions and other technical information. The TIMES program utilizes an interactive system which allows users to submit data for consideration immediately in order to maintain the most current collection of data possible.

Question from Top New Franchises: What role does technology play in your organization?

Answer from Robyn Elman: A big one! To compete in any business, being technologically savvy has its advantages. From mobile email and texting, to social media, to using the right software & phone systems. By staying on top of all the latest technology, we have not only been able to make the lives of our clients easier (making them even more satisfied with our company and services,) but have been able to out-compete other companies in the industry who aren’t as familiar or comfortable with the newest trends. If any franchisee is lacking in skills in any of these areas, we provide additional (free) training until they are comfortable and excited about what new technology has to offer them.

Technology in franchises

The use of new technologies, such as social media, apps, and smartphone connectivity, can help franchisees and franchisors to get the most out of their business.

6.5.6: Trends in Franchises: Growth

Franchising grew greatly in 2001 to 2005, before stagnating and following the growth trend of the rest of the economy in the years that followed.

Learning Objective

Identify the latest market trends happening in the franchising sector

Key Points

• The franchising sector outgrew most other sections of the US economy between 2001 to 2005, growing 41% compared to other businesses’ growth of 26% over that period.
• Following 2005, growth stagnated. Although the International Franchise Association (IFA) predicts a revival in 2012, recent history shows that these predictions are questionable.
• Franchisers must not repeat the mistakes of the past, when franchise growth was driven by an excess of debt accumulation. It may be necessary to be more selective about choosing potential franchisees.
• Ultimately, an honest appraisal of the state of the franchising industry and the “good ‘ole days” is required.

Key Term

franchise

The authorization granted by a company to sell or distribute its goods or services in a certain area.

Trends in Franchising

From 2001 to 2005, the franchising sector grew at a faster pace than many other sectors of the U.S. economy . Direct economic output expanded by over 41% from $625 billion to $881 billion, while economic output of other businesses grew by 26%, from $16 trillion to $20.1 trillion. Employment generated by franchised businesses grew by 12.6%, from 9.79 million to 11 million, compared to 3.5% for all businesses, from 132 million to 136.7 million. Payroll generated by franchised businesses grew 21.6% compared to 15.4% for all businesses.

McDonald’s Franchise

Franchising is the practice of using another firm’s successful business model.

The International Franchise Association reported that 2012 would be the year that franchising rebounds. In its Franchise Business Economic Outlook for 2012, the IFA stated, “after three years of restrained growth, due to the recession and its lingering effects, franchise businesses show signs of recovery in the year ahead. ” The IFA went on to state that “franchise business growth has been restrained over the past three years due to underlying factors, such as the weak rebound in consumer spending, that have been a drag on the economy as a whole. In addition, tighter credit standards have limited the formation of new franchise small businesses and the expansion of existing businesses. “

Every six months the IFA puts out a statement about how the tight lending standards are retarding the growth of franchising. While that is undoubtedly true, it would be helpful to learn exactly what the IFA deems as the optimal level of liquidity in the system. If the IFA is silently longing for the loose credit standards that reigned supreme in the middle of the last decade then that perhaps is the wrong path down which to proceed. If it is not, then it is incumbent upon the leadership to set forth with more particularity the goals because liquidity in the system is inextricably linked to the franchise growth projections. And if that is the case, then the growth rate that was experienced in the years leading up to the Great Recession cannot be the benchmark for growth in the next decade.

The economic outlook published for 2012 projects an increase of 1.9% in franchise establishments. But as stated above, the one constant with the economic outlooks produced by the IFA over the last four years is that each year the reports change many of the figures stated in the report of the previous year. The reports do have a convenient escape mechanism in that all of the reports state that the numbers are “estimates. ” In other words, neither the IFA nor the high powered accounting and consulting firms commissioned to compile the reports know conclusively how many franchise establishments exist today. If you read the reports carefully you will see that the PWC reports state that 2007 was the first time that there was enough data to even put forth a sound estimate. So while 1.9% may well be the appropriate and realistic growth rate for 2012, given the track record of the reports put forth by the IFA, franchisers must be more than a little skeptical about the numbers that they provide.

6.5.7: Trends in Franchises: International Adoptions

Franchises can be a powerful strategic tool in expanding globally, which has resulted in various trends in international adoption

Learning Objective

Recognize the value in international franchising, and why there are increasing trends in global adoptions

Key Points

• Expanding a business to a new country or locale is complex culturally, linguistically, and legally.
• Franchising offers strategic solutions to these challenges by providing ownership to local business owners who are in touch with the cultural climate.
• International franchising has various pros and cons for the franchisee, the franchiser, and the local governments. The advantages for all parties has created a positive trend in international franchising.
• As companies expand globally using this strategy, the local understanding has evolved product and service offerings to better meet the needs of the local consumers.
• These trends of international adoption are best seen at business like McDonald’s, KFC, and 7-Eleven, where menus and product offerings can vary greatly from region to region.

Key Terms

BRIC

An acronym for Brazil, Russia, India, and China, which have some of the fastest growing economies in the world.

franchisee

The individual who is granted a franchise and opens the new branch of a company in a local area.

franchiser

The parent company that provides the brand assets to the franchisee.

International expansion is complex for both legal and cultural reasons, and franchising is a uniquely strong solution for both. The concept of franchising enables organizations to expand their business through empowering locals in a given area to open a business location representing the parent company’s brand, operational strategy, and products. 

The Pros and Cons

When considering the current trends in franchising from an international perspective, it’s important to understand why organizations do this, why individuals are interested in opening a franchise, and why governments are open to allowing this approach. Let’s take a quick look at the benefits of global franchising, and where the potential pitfalls are:

Pros

• For the franchiser (i.e. the parent company), franchising allows rapid expansion with less risk and required capital (as some of this risk is assumed by franchisee, along with funding).
• For the franchiser, success is closely tied to understanding the culture and language of a given area. A franchising model can provide both.
• For the local government, jobs are created and ownership remains local.
• For the franchisee, they are given an opportunity to own a business with an incredible pool of resources, knowledge, and support.
• For the franchisee, much of the initial business plan, sourcing, quality control, marketing, and other core functions are already prepared, tried, and tested. 

Cons

• The franchiser is outsourcing some amount of control and returns on investment to the franchisee.
• The franchisee, as a result, is incurring a substantial cost. As of 2010, opening a McDonald’s franchise could cost anywhere from around $1 million to around $2 million (USD).
• For local governments, there are a great deal of legislative and contractual considerations when allowing franchising into the economy. Ensuring each party acts legally and ethically requires resources.

While these lists could both be expanded a great deal, this should provide some context for the why behind the high volume of global franchising.

Trends in International Adoptions

The number of global franchises has seen a great deal of expansion in recent years, particularly with emerging economies (such as the BRIC grouping) seeing substantial growth and increased purchasing power. Considering the cultural advantages discussed earlier, franchising has also seen some unique trends in adopting cultural perspectives and adapting product offerings.

A nice example of adopting cultural tastes can be see in the fast food industry. McDonald’s, KFC, and a variety of other small food chains have distinctly different menu items depending on where in the world you are when you visit one of these chains. Convenience stores that franchise, such as 7-Eleven, operate quite similarly. Understanding local demand and local availability of certain products changes what the consumer in those areas are offered. These cultural adaptations allow globally expanded companies to compete effectively throughout the world.

KFC World Operations

As of 2014, KFC carried out operations in all of the countries highlighted in green. Localizing, adapting to culture, and expanding their scope to this level of global operating is evidence of just how advantageous franchising can be as an expansionary tool.

The map is overwhelmingly green with the exception of large areas of Africa and the Middle East.

6.5.8: Franchise Agreements

A Franchise Agreement is a legal, binding contract between a franchisor and franchisee, enforced in the United States at the State level.

Learning Objective

List the items included in a franchise agreement

Key Points

• The Franchise Agreement can vary in content depending on the franchise system, as well as the state in which the franchisor, franchisee and arbitrator are based.
• The typical franchise agreement contains a number of documents including the UFOC or the FDD. It also defines the parties involved, the franchise system, trademarks, license in formation, length of agreement, and other key information pertaining to the franchise.
• The UFOC or FDD is a legal document which is presented to prospective buyers of franchises in the pre-sale disclosure process in the United States.

Key Terms

franchise rule

defines the acts/practices that are considered unfair or deceptive in the US franchise industry. It is published by the FTC.

Franchise Disclosure Document

a legal document which is presented to prospective buyers of franchises in the pre-sale disclosure process in the United States.

A Franchise Agreement is a legal, binding contract between a franchisor and franchisee, enforced in the United States at the State level.

Prior to a franchisee signing a contract, the US Federal Trade Commission regulates information disclosures under the authority of The Franchise Rule .The Franchise Rule requires that a franchisee be supplied a Uniform Franchise Offering Circular (UFOC ) or Franchise Disclosure Document (FDD ) prior to signing a franchise agreement, a minimum of ten days before signing a franchise agreement.

Once the Federal ten-day waiting period has passed, the Franchise Agreement becomes a State level jurisdiction document. Each state has unique laws regarding franchise agreements.

The content of a franchise agreement can vary depending on the franchise system, the state jurisdiction of the franchisor, franchisee, and arbitrator.

A typical franchise agreement contains :

Legal documents

Franchising agreements contain many legal documents that must be understood and filled out.

• Uniform Franchise Offering Circular (UFOC) or FDD Franchise Disclosure Document (FDD)
• Disclosures required by state laws
• Parties defined in the agreement
• Recitals, such as Ownership of System, and Objectives of Parties
• Definitions, such as: Agreement, Territory Area, Area Licensee, Authorized deductions, Gross Receipts, License Network, The System Manual, Trademarks, Start Date, Trade name, Termination, Transfer of license.
• Licensed Rights, such as: Territory, Rights Reserved, Term and Renewal, Minimum Performance Standard
• Franchisors Services, such as: Administration, Collections and Billing, Consultation, Marketing, Manual, Training
• Franchisee Payments, such as: Initial License Fee, Training Fees, Marketing Fund, Royalties, Renewal fee, and Transfer fee
• Franchisee Obligations, such as: Use of Trademarks, Financial Information, Insurance, Financial and Legal responsibility
• Relationship of Parties, such as: Confidentiality, Indemnification, Non-Compete
• Transfer of License, such as: Consent of franchisor, Termination of license, Termination by licensee, Termination by licensee
• Other provisions
• Governing law
• Amendments
• Waivers
• Arbitration
• Severability

6.6: Cooperatives and Joint Ventures

6.6.1: Cooperatives

Cooperatives are independent and democratic organizations in which each member has equal control.

Learning Objective

Consider the potential advantages and disadvantages of a cooperative as an organizational model

Key Points

• A cooperative (coop) is defined as an independent democratic organization, owned and operated equally by all members, with objectives to fill economic, social and/or cultural needs.
• The upsides of a cooperative mostly revolve around equality in ownership and management, along with a strong relationship with relevant communities.
• When outlining a coop business plan, it is useful to take into account Rochdale’s 7 Principles, which provide some context for what is expected of a coop.
• Coops are a great option depending on the objectives of the organization, as they diversify risk while providing positive contributions to the community.

Key Terms

Autonomy

Freedom to act and function independently.

hierarchy

A body of authority defined by fixed ranks and positions.

Cooperatives (often referred to as coops) are loosely defined as an independent group of individuals voluntarily collaborating in pursuit of social, cultural and/or economic objectives. A cooperative is owned and operated by all members equally, and control is created democratically (everyone has a voice in organizational decisions). While it is a business model, it can be applied to a wide variety of other circumstances such as consumer cooperatives, housing cooperatives, credit unions, worker cooperatives, and various non-profit formats.

Why Choose A Coop?

At the core of a coop is the concept of equality. There is no real room for hierarchy in a coop, nor is it built to differentiate between different levels of ownership, contribution, or partnership. Coops are intrinsically democratic, and rely heavily on the assumption that everyone involved has equal stake. This balanced organizational model (flat organizations) can come with both challenges and advantages.

For example, cooperatives are quite resistant to external factors. 80% of coops survive their first five years (compared to 41% of businesses with other ownership types). Another benefit is that cooperatives are often invested in solving social issues and providing value in their communities. Coops can be highly ethical and unifying forces in industries and communities, and demonstrate a commitment to valuing everybody involved.

How To Build A Coop

While there are many perspectives on what makes a coop, the seven Rochdale Principles are a useful starting point when it comes to setting the ideological boundaries of your coop:

1. Voluntary and open membership
2. Democratic member control
3. Economic participation by members
4. Autonomy and independence
5. Education, training, and information
6. Cooperation among cooperatives
7. Concern for community

From a legal standpoint, coops are quite simple. It is registered under the stipulation that all members are equal democratic contributors, and that joining it is open and non-discriminatory as long as the approved requirements for participation are met. No individual owner can derive profit exceeding the fixed interest, nor gain greater control over the operations of the cooperative. 

Conclusion

Coops are a good option depending on what it is an organization is trying to accomplish. Considering the specificity of this model in terms of structure and decision-making, owners must be comfortable being merely one member among many and being generally oriented towards beneficial objectives for the community.

6.6.2: Joint Ventures

A joint venture is when two or more parties are both invested in an original concept/project in terms of money, time, and effort.

Learning Objective

Explain how a joint venture is formed, how it functions and why it eventually dissolved

Key Points

• Joint ventures are temporary partnerships that can have small or ongoing projects.
• A joint venture can ensure the success of smaller projects since the cost of starting new projects is generally high. A joint venture allows both parties to share the burden of the project, as well as the resulting profits.
• Many countries limit foreign ownership of assets and legally force foreign companies into a joint venture with a local partner in order to do business there.

Key Terms

emerging countries

Countries such as the BRIC nations (Brazil, Russia,India, China) have achieved advanced economic development and, thus, are seen as emerging countries in the global marketplace.

joint venture

A cooperative partnership between two individuals or businesses in which profits and risks are shared.

Examples

• Sony Mobile Communications was founded in 2001 as a joint venture between Sony and the telecommunications company Ericsson. Sony acquired Ericsson’s share in the venture in 2012.
• MillerCoors is a joint venture between SABMiller and Molson Coors Brewing Company. The joint venture has the responsibility of selling brands such as Miller Lite, Miller High Life, Coors, Coors Light, etc.

A joint venture (JV) is a business agreement in which parties agree to develop, for a finite time, a new entity and new assets by contributing equity. They exercise control over the enterprise and consequently share revenues, expenses, and assets. With individuals, when two or more persons come together to form a temporary partnership for the purpose of carrying out a particular project, such partnership can also be called a joint venture where the parties are “co-venturers. “

Joint Venture Basics and Benefits

A joint venture takes place when two parties come together to take on one project. In a joint venture, both parties are equally invested in the project in terms of money, time, and effort to build on the original concept. While joint ventures are generally small projects, major corporations also use this method in order to diversify. A joint venture can ensure the success of smaller projects for those that are just starting in the business world or for established corporations. Since the cost of starting new projects is generally high, a joint venture allows both parties to share the burden of the project, as well as the resulting profits.

The venture can be for one specific project only or for a continuing business relationship which is known as a “consortium JV. ” A consortium JV is formed where one party seeks technological expertise or technical service arrangements, franchise and brand use agreements, management contracts, or rental agreements, for one-time contracts. The JV is dissolved when that goal is reached.

By its formation the JV becomes a new entity with the following implications:

• It is officially separate from its founders, who might otherwise be giant corporations, even amongst the emerging countries
• The JV can contract in its own name, acquire rights (such as the right to buy new companies)
• It has a separate liability from that of its founders, except for invested capital
• It can sue (and be sued) in courts in defense or its pursuance of its objectives

Since money is involved in a joint venture, it is necessary to have a strategic plan in place. In short, both parties must be committed to focusing on the future of the partnership, rather than just the immediate returns. Ultimately, short-term and long-term successes are both important. In order to achieve this success, honesty, integrity, and communication within the joint venture are necessary.

Domestic and Foreign Firm JVs

A joint venture is sometimes a partnership between a domestic firm and a foreign firm. Both partners invest money and share ownership and control of partnership. Joint ventures require a greater commitment from firms than licensing or the various other exporting methods. They have more risk and less flexibility.

A domestic firm may wish to engage in a joint venture for a variety of reasons; for example, General Motors and Toyota have agreed to make a subcompact car to be sold through GM dealers using the idle GM plant in California. Toyota’s motivation was to avoid U.S. import quotas and taxes on cars without any U.S.-made parts.

Many countries limit foreign ownership of assets and legally force foreign companies into a joint venture with a local partner in order to do business there. Poland, for example, limits foreign ownership of farmland and will continue to do so for another decade under agreements with the EU.

Dissolution

The JV is not a permanent structure. It can be dissolved when:

• Aims of original venture are not met
• Either or both parties develop new goals
• Either or both parties no longer agree with joint venture aims
• Time agreed for the joint venture has expired
• Legal or financial issues
• Evolving market conditions mean that the joint venture is no longer appropriate or relevant
• One party acquires the other

Sony Ericsson

Sony (known for its electronics) and Ericsson (known in the B2B telecom industry) created a joint venture in order to expand the business in an industry that’s new to Sony users

6.6.3: Syndicates

A syndicate is a self-organizing group of individuals or entities formed to transact specific business or to promote a common interest.

Learning Objective

Apply the concept of syndicates to business

Key Points

• Syndicates are self-organizing groups of people or firms that form around a common interest.
• A joint venture (JV) is a business agreement in which parties agree to develop, over a specific period of time, a new entity and new assets by contributing equity.
• In the case of individuals, when two or more persons come together to form a temporary partnership for the purpose of carrying out a particular project, such a partnership can also be called a joint venture and the persons referred to as co-venturers.

Key Terms

franchise agreement

a legal, binding contract that authorizes a company to sell or distribute another’s goods and services in a certain area

franchise

The authorization granted by a company to sell or distribute its goods or services in a certain area.

Example

• In finance, a group of banks lending a large amount of money to one single borrower is called a bank syndicate or simply a syndicate.

A syndicate is a self-organizing group of individuals, companies, or entities formed to transact some specific business or to promote a common interest. It may also facilitate criminal activity and organized crime. The term is sometimes associated with anarchist theory, specifically anarcho-syndicalism, which represents an alternative to both the nation state and capitalist corporations. Syndicate comes from the French word syndicat, meaning trade union (syndic meaning administrator). The word can be further traced to the Latin syndicus and the Greek σ (syndikos), which refers to a caretaker of an issue and is comparable in meaning to ombudsman or representative .

Syndicate

A syndicate is a self-organizing group of individuals, companies or entities formed to transact some specific business or to promote a common interest.

In finance, a group of banks lending a (usually) large amount of money to a single borrower for a specific purpose is referred to as a bank syndicate, or often simply as a syndicate.

A joint venture (JV) is a business agreement in which parties agree to develop, over a specific period of time, a new entity and new assets by contributing equity. The parties exercise control over the enterprise and consequently share revenues, expenses and assets. Other types of companies include JV limited by guarantee, in which partners hold shares.

In the case of individuals, when two or more persons come together to form a temporary partnership for the purpose of carrying out a particular project, the partnership may be called a joint venture and the persons referred to as co-venturers.

The venture may concern one specific project, in which case the JV is referred to more correctly as a consortium; alternatively, it may represent an ongoing business relationship. The consortium JV (also known as a cooperative agreement) is formed when one party seeks technological expertise or technical service arrangements, franchise and brand use agreements, management contracts, or rental agreements for one-time contracts. The JV is dissolved when the goal is reached.

6.7: Corporate Growth

6.7.1: Organic Growth

Organic growth is the process of businesses expansion due to increasing the customer base, output per customer, and/or through new sales.

Learning Objective

Discuss how organic growth is achieved, and the advantages and limitations of organic growth

Key Points

• Organic growth may be negative.
• Actions that stimulate organic growth include: changing the price; advertising and promoting; producing improved or better products; selling in different locations; offering customers preferential credit payment terms; increasing capital expenditure; and improving training and development.
• Organic growth, as opposed to inorganic growth, allows companies to retain control and avoid potential culture clashes.

Key Terms

Organic growth

Organic growth is the process of businesses expansion due to increasing overall customer base, increased output per customer, or representative, new sales, or any combination of the above.

inorganic growth

Inorganic growth is the rate of growth of business, sales expansion, etc. by increasing output and business reach by acquiring new businesses by way of mergers, acquisitions, and take-overs.

Examples

• The introduction of the Kuerig coffee maker, which brewed a single cup of coffee at a time, led to tremendous organic growth by it’s creator, Green Mountain Coffee.
• The introduction of the Kuerig coffee maker, which brewed a single cup of coffee at a time, led to tremendous organic growth it’s creators, Green Mountain Coffee.

Introduction

Organic growth is the process of business expansion due to increasing overall customer base, increased output per customer or representative, new sales, or any combination of the above, as opposed to mergers and acquisitions, which are examples of inorganic growth. Typically, the organic growth rate also excludes the impact of foreign exchange, and it can be negative.

Growth including foreign exchange, but excluding divestitures and acquisitions, is often referred to as core growth.

Organic growth figures are adjusted for the effects of acquisitions and disposals of businesses. Organic growth does include growth over a period that results from investment in business the company owned at the beginning of the period. What it excludes is the boost to growth from acquisitions, and the decline from sales and closures of whole businesses.

When a company does not disclose organic growth numbers, it is usually possible to estimate them by estimating the numbers for acquisitions made in the period being looked at and in the previous year. It is useful to break down organic sales growth into that coming from market growth and that coming from gains in market share: This makes it easier to see how sustainable growth is.

Creating Organic Growth

Kuerig

The introduction of the Kuerig coffee maker, which brewed a single cup of coffee at a time, led to tremendous organic growth for it’s creator, Green Mountain Coffee.

A company can take various actions to create organic growth including:

• Changing the price–more customers tend to buy cheaper products.
• Advertising and promoting–people are more likely to buy a product if informed, reminded, or persuaded about benefits of product.
• Producing improved or better products–market research, innovation, new product design (more appealing).
• Selling in different locations (placement)–more locations increases potential for more customers and more sales.
• Offering customers preferential credit payment terms–the ability of customers to “buy now and pay later. “
• Increasing capital expenditure (investment)–new locations, introduction of new production processes/technologies to improve productive efficiency (investment appraisal required).
• Improving training and development is important especially for sales staff with knowledge (increase customer loyalty and high sales).

Implementing these measures may seem like an easy thing to do. However, there are a large number of companies that used to experience high internal growth that have become examples of low-growth companies. One of the reasons for this result could be the acceptance of a company’s fate as it matures. Instead of implementing these steps to generate internal growth, companies simply accept their “fate” and look for growth opportunities outside of the the company (inorganic growth). In doing so, they could be making a big mistake.

Advantages of Organic Growth

Organic growth gives corporations:

• Better control and coordination: Firms maintain control whereas external methods lead to loss of control and ownership.
• Relatively inexpensive: The source comes from retained profits, less risk as the amount of capital involved is relatively lower than external.
• The ability to maintains corporate culture: No problems related to culture clash that might arise in acquisition environments.

Limitations of Organic Growth

In spite of the advantages of organic growth, when compared to external growth, there are still some limitations associated with relying on this type of growth. They include:

• Diseconomies of scale: Hierarchical structures may increase communication problems, and there may be slow decision making.
• Overtrading: If a business grows beyond its means (took too many orders, unable to control costs/manage human resources).
• Need to restructure: When a firm grows, there is a need to restructure (requires times, effort, money), communications will need to be handled with more care, and there is a need for training/retraining/updating the set of skills for staff.
• Dilution of control and ownership: If a company grows from partnership to public limited company, the original owners may need to share decision making with new owners (shareholders), and there may be prolonged decision-making and conflict of interest between shareholders.
• Specialist managers will need to be hired as the workforce expands.
• Delegation of decision-making powers to managers (reducing control of original owners) will take place.

6.7.2: Mergers and Acquisitions (M&As)

M&A refers to the aspect of corporate strategy, corporate finance, and management dealing with the buying and selling of companies.

Learning Objective

Explain the characteristics of mergers and acquisitions

Key Points

• The terms “merger and acquisition” mean slightly different things. When one company takes over another and clearly establishes itself as the new owner, the purchase is called an “acquisition”.
• A merger happens when two firms agree to go forward as a single new company rather than remain separately owned and operated.
• Mergers are generally differentiated from acquisitions partly by the way in which they are financed and partly by the relative size of the companies. Various methods of financing an M&A deal exist: cash, stock, financing options.

Key Terms

acquisition

An acquisition is the purchase of one business or company by another company or other business entity.

merger

A merger happens when two firms agree to go forward as a single new company rather than remain separately owned and operated.

Example

• Exxon and Mobil officially signed an agreement and plan of merger on December 1,1998. Mobil became a wholly owned subsidiary of Exxon. The combined company changed its name to Exxon Mobil Corporation

Mergers and Acquisitions (M&A) refers to the aspect of corporate strategy, corporate finance, and management dealing with the buying and selling of different companies and similar entities that can help an enterprise grow rapidly. M&As are a form of inorganic growth.

Mergers and Acquisitions (M&A

Mergers and Acquisitions (M&A) refers to the aspect of corporate strategy, corporate finance, and management dealing with the buying and selling of different companies and similar entities that can help an enterprise grow rapidly.

Mergers and Acquisitions have, at times, failed to add as much value as initially imagined by the parties involved. Acquiring a company involves integrating two businesses, which can take time and slow both companies down. When considering a M&A it’s helpful to consider the “Better-Off Test” which goes something like this: Do the business units create and capture more value if they are related than they could as separate, single-business entities without formal ties?

Factors that matter include lower costs–shared activities, shared resources, economies of scale or scope-, and increased willingness to pay.

The Better Off Test in the context of horizontal scope: Can a firm achieve lower average costs or higher average prices by including multiple business units in same firm?

Economies of scope (aka, synergies) make product diversification efficient if they are based on a similar common use. For example, as the number of products promoted is increased, more people can be reached for dollar spent.

Diversify if (cost of having units A & B in same firm) < (cost of unit A in firm A) + (cost of unit B in firm B) – Boost in Willingness To Pay (aka, cross-selling) – Diversify if (WTP of activities A & B if done in same firm) > (WTP of activity A in firm A) + (WTP activity B in firm B)

6.7.3: M&A Trends

Modern trends in M&A largely revolve around the acquisition of up-and-coming firms to enable technological advantage and global competencies for larger firms.

Learning Objective

Observe the current trends in strategic alliance, primarily those revolving around technology acquisition

Key Points

• Currently, higher technologies and pharmaceuticals are huge influential arenas for modern strategic alliances, most notably acquisition by large organizations.
• Mergers and acquisitions became prominent in the late 19th century, and have evolved significantly in scale and focus until the modern day.
• Companies such as Apple, Google, Facebook, IBM, and Microsoft are critical focal points for understanding modern acquisitions, as they have acquired hundreds of organizations for hundreds of billions of dollars.
• Modern mergers and acquisitions are valuable in providing key competitive advantages in upcoming technological arenas as well as accessing global markets.

Key Terms

Mergers

In this context, merging two separate firms into one collaborative organization.

acquisition

One firm purchasing another organization.

Mergers and Acquisitions

Mergers and acquisitions (M&A) are a significant aspect of modern strategy, particularly in the technology and pharmaceutical arenas. The reasoning behind M&A’s can vary, ranging from deriving competitive advantages to economies of scale, economies of scope, international expansion, vertical integration, access to unique assets, and perhaps most common today for the acquisition of valuable intellectual property (IP). 

Past and Present M&A’s

To understand modern trends in M&A’s, it’s useful to understand the trajectory of this particular strategic alliance approach. Over time, acquisitions have moved through a number of ‘waves’ from a strategy point of view, most recently in order to pursue globalization.

Merger Waves

This is a list of M&A reasoning over time, starting with the horizontal mergers in the late 19th century and moving into the globalization movements in the 21st century.

This is a list of M&A reasoning over time, starting with the horizontal mergers in the late 19th century and moving into the globalization movements in the 21st century.

Modern Trends in M&A’s

Today, the list of recent acquisitions is expanding rapidly. Companies such as Google, Apple, Amazon, Microsoft, and IBM are acquiring new technology companies and platforms rapidly and competitively. The mergers and acquisitions by these five companies alone represents the acquisition of hundreds of business and hundreds of billions of dollars. These moves are an absolutely critical source of competitive advantage from technological, economic, and expansionary perspectives. 

Recent High Impact Acquisitions

Let’s look at a few of the largest, most recent acquisitions from some of these influential companies to appreciate the scope and frequency of modern acquisition strategies. 

• Facebook – Facebook acquired WhatsApp in 2014 for $19 billion, propelling Facebook further into the domain of mobile messaging. Shortly after they acquired Oculur VR, a virtual reality technology company. They also acquired Surreal Vision and Pebbles in 2015, both computer vision and augmented reality companies. 
• Microsoft – Since 1987, Wikipedia lists a total of 197 acquisitions for Microsoft. One particularly notable recent acquisition for Microsoft was that of Nokia for a total of $7.2 billion in 2013. Mojang, a video game developer best known for Minecraft, was acquired by Microsoft in 2014 for a total of $2.5 billion. Other notable acquisitions include forays into education software, music discovery, video streaming, big data analytics, data protection, and mobile communications.
• IBM – IBM is an enormous organization with acquisitions ranging from software storage and management, streaming video, cyber security, salesforce systems, mobile APIs, healthcare, cloud security and capabilities, behavioral marketing, cognitive computing, and an incredibly wide range of other technical abilities.
• Apple – Apple recently spent $200 million to acquire Turi, a machine learning company. They also demonstrate interest in facial recognition with Emotient, augmented reality with Metaio, music analytics with Semetric, education software with LearnSprout, personal health info collection with Gliimpse, and a variety of other industries and segments.

The race for new technological advantages through acquisition is dynamic, and the definition of the modern trend in strategic alliances is definitely along the lines of technological acquisition.

5.4: Effective Rhetoric and Presentation

5.4.1: Telling a Story

Learning Objective

Learn the art of storytelling and recognize it’s applicability to various facets of the business world

Key Points

• It may come as a surprise, but many leaders in business argue that storytelling is one of the most powerful tools in the 21st century business environment.
• Leaders and entrepreneurs are tasked with creating organizational buy in, procuring funding and aligning resources on a single, centralized vision. This is not possible without a strong sense of story.
• Technology and social networks have turned marketing into the art of storytelling, in which engaging and building a community relies heavily on spinning intriguing tales.
• The art of storytelling requires engaging the audience, setting a scene, building tension, staying organized and focused, and ending with a powerful and meaningful conclusion.

Why Storytelling Matters More Than You Think

Leaders

Storytelling is an incredibly powerful skill set, both in regards to effective rhetoric and presentation and leadership. The ability to craft ideas such as strategy, tactics, consumer needs, core competencies, and other concepts into a speech, presentation, or group discussion can create a strong sense of vision, purpose, and unity. It is argued by some leaders in managerial thought that the ability to tell a story is the most important skill a leader can have in the 21st century.

Community Management

Aside from the leaderships and presentation frame, telling a story is the core skill set that enables a powerful presence on social media and other digital distributions of the company culture, brand, and value proposition. Storytelling is a way to relate to prospective users and build a powerful community, which is an invaluable asset in the success of any and all business ventures. 

Entrepreneurs

It is also worth noting that start-up ventures require a strong sense of story. When pursuing investment, the entrepreneur must take the concept they are selling and spin it into a vision worthy of taking a risk on. Look no further than Kickstarter campaigns to see how critical it is to build a narrative, and find people who share your passion. This is the key source of enthusiasm and capital that enables start up companies to move forward.

Why Story-Telling?

Leaders are expected to have the strategic mind to set strategies, the technical skills to take action and the vision necessary to tell a compelling story.

How To Tell A Story

Depending on the situation, there may be a wide variety of relevant approaches. Delivering a specialized presentation on how to integrate a software solution will undoubtedly require a different tactic than building a twitter community for a new soda brand. That being said, there are a few aspects to any good story that can help us effectively tell a tale:

• Engage the audience – To pull them into your story, you must involve them. Ask a challenging question, or raise a trending topic. Find something in their world, and use that as your starting point. Relevance is key.
• Set the scene – All stories need context, and context will act as a key counterpoint to what unfolds. Pull them into the world the story takes place in and you’ll have their full attention.
• It’s all about tension – Conflict, debate, struggle, emotions, find what it is about the story that creates a sense of tension and provide emphasis. This feeling of conflict has been central to storytelling for all of human history!
• Stay focused on the goal – Stories are anecdotes to communicate concepts. Stay focused on what it is within the story that is important, and relevant to the discussion you are trying to have. Keep the story grounded through the occasional reminder of what it is you’re really trying to say.
• Stay logical – Stories are like puzzles, the pieces need to fit. Keep things organized and maintain a sense of structure. Losing the thread will result in a story evaporating before your eyes.
• End with a punch – The conclusion is your chance to make a point with emphasis (!). Make sure the flow of your story results in a powerful and punchy conclusion that truly speaks to the audience.

5.4.2: The Beginning

Learning Objective

Discuss the best practices for opening a speech using quotes, statistics, personal stories, humor, and overviews

Key Points

• It is important to remember to keep your introduction relatively short; wordy introductions can lose your audience before you actually get to the speech itself. It is also important to remember that whatever opening line you choose, you must connect it to the content of your speech.
• Beginning with a quote, statistic, personal story, or even opening with humor are all good options, but only if they are used correctly.
• If the presentation is more formal, you may just want to give an overview of the main topics you will cover in your speech. Using an overview as an opening would be a good choice if you are unsure how your audience will react to a joke or a startling statistic.