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1 Overview: leading issues in business organization

1 Overview: leading issues in business organization

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the rules and processes it uses;

● the role of managerial authority and the level at which it operates.

A change in business strategy may change these goals. This suggests that some

business strategies may necessitate changes to the organisational arrangements noted

above. We shall discuss factors such as:

● organisational restructuring, delayering and empowerment;

● outsourcing of business operations to outside firms;

● formation of closer relations with suppliers based on trust rather than adversarial


● business process re-engineering (BPR);

● network (or virtual) organisations.

Also, rapid change brings into question whether any given structure can meet the

strategic needs of the business. This will lead us to look at more modern theories of

organisational dynamics.

2. Organisations are social arrangements. This means that they involve people. This brings

to mind issues concerned with motivation, political behaviour and the problems of

changing people’s attitudes and behaviour. To this we can add that people are occasionally fallible and suffer from bounded rationality.

3. Organisations have controls. These are the management processes which ensure that

things go right. However, if the goals change and the organisation’s structure changes,

then so must the controls. Strategic initiatives will influence all of these.

4. Organisations are also complex adaptive systems. They will not react to the same

stimuli in the same way each time. They have ability to learn, or adapt to their



Implications for the chartered management


One of the main functions of the chartered management accountant is to provide control

in the organisation through techniques such as budgetary control, investment appraisal,

performance evaluation and internal audit. Strategic initiatives will influence all of the


(a) The responsibility centres used to ascribe costs and revenues for the purposes of

budgeting and reporting will change.

(b) Many of the processes will change. As one example, the flexible organisation will rely

far less on waiting for decisions to be taken at the corporate centre and instead require

them to be taken lower down.

(c) Strategic management will shift from the corporate centre to business units and

work teams. This will change the recipients of management information and also its


(d) In organisations where flexible teamwork is introduced the management accountant

will also be required to be a part of a team.

(e) Effective control may necessitate control over external suppliers and also over

providers of outsourced services.

(f ) Elements of the finance function itself may be outsourced.




Organisational Theory

Background knowledge

It is important at this stage that you are aware of the existing theories concerning organisational structure. A more comprehensive coverage can be found in the recommended

texts for the earlier papers in your studies in this pillar. You should be able to distinguish

between, and understand the benefits and drawbacks of:

simple organisation,

functional organisation,

multi-divisional structure,

holding company structure,

matrix organisation structures.

You should also take the time to revise the classical model of organisations as described

by Fayol, Weber and Taylor in earlier papers.

The influence of the classical model is evident in much of conventional management

accounting systems:

(a) Concepts used in budgetary control such as standard times, outputs and costs

imply that output and methods do not significantly change through time (and

have their origins in the terminology and work study methods of Taylor’s ‘scientific


(b) Responsibility centres are clear examples of the principle of segregating tasks and specialising roles which, it is inferred, do not overlap or change through time.

(c) The system assumes that senior managers must control the organisation by setting targets in a top–down fashion and then scrutinising performance by comparing it with


(d) Emphasis on maximising the efficiency of fixed assets such as machinery by use of

profitability-based measures, with profit expressed as a return on fixed capital investment (e.g. ROI).

(e) The emphasis on financial performance places the short-run interests of shareholders

as the primary goal of the business.

(f ) The system serves to constrain the decision latitude of management within close


(g) There is little or no environmental information.

The adequacy of the classical view of organisations was called into question by the contingency approaches to organisations and you should revise the contingency theory of

organisations from earlier in the pillar as well.


The challenge for chartered management accountants of the twenty-first century will be

to facilitate innovation and organisational flexibility by moving beyond the rigid numerical

and financial control systems developed in the early twentieth century. However, they

must also ensure that management still exert adequate control over the organisation to

ensure that corporate objectives are reached. This will be a recurring theme in the

remainder of this text.





You will remember that Lynch (1997) explains that contingency theory implies that

organisational structure will vary according to nine variables:




extent of centralisation/decentralisation of power;

overall work to be undertaken;

technical content of the work;

degree of task diversity;





Contemporary approaches to organization

Need for alternatives to the classical model

A central theme in this text has been the suggestion that the business environment has

become increasingly uncertain due to the combined pressures of increased complexity and

increased dynamism. Some of the effects of this have been:

(a) The breakdown in long-term planning, corporate-led approaches to strategy

formulation in favour of business strategy formulation based on the identification of

core competences.

(b) The increased power of stakeholder groups inside and outside the organisation which

has diluted the power of managers to take decisions with the interests of only shareholders in mind.

(c) The much greater need for innovation in product and service design.

(d) The need for more management information on both product and customer profitability to take strategic choices.

(e) The greater emphasis on external information.

(f ) The greater need for organisational flexibility.

Increasingly these forces cannot be managed within the classical model of the organisation. The emergence of new organisational forms has implications for the roles and procedures of management accounting because, as has been shown, it too is rooted in classical

organisation theory.


Kanter: innovation, empowerment and change

Kanter (1984) conducted a survey of over 115 change situations in corporations in the

United States and noted two styles of thinking:

1. Integrative thinking. This embraces change and sees problems as wholes by eliminating conflict between divisions to ensure that multiple perspectives will be taken into

account. Innovation flourishes in such organisations.

2. Segmentalism. These organisations are concerned with compartmentalising problems

and hiving them off for specialists to deal with. They minimise communication and rely

heavily on R&D to solve problems. They find it hard to innovate and see change as a

threat to the compartments and segments within the firm.


She sees this based on ‘participating teams’ and suggests five elements that executive

management should encourage:

1. A culture of pride: Highlight achievements and spread innovations from one division to


2. Enlargement of access to power tools for innovative problem-solving: Such as by allowing

teams access to research funds and time to develop ideas.

3. Improvement of lateral communication: Bring departments together and encourage crossfunctional teams.

4. Reduction of unnecessary layers of hierarchy: ‘Push decisional authority downward’ and

share information and intelligence about internal and external affairs.

5. Increased, and earlier, information about company plans: Give people at a lower level a

chance to influence change through problem-solving groups.

Several of the themes started by Kanter have been very influential, notably empowerment, delayering and teamworking. Her criticisms of segmentation are also similar to the

comments of the resource-based strategists we studied in P5 Integrated Management.

Kanter also offers ten principles to stifle innovation:

1. Regard any new idea from below with suspicion.

2. Insist that people who need your approval first go through several other levels of


3. Get departments/individuals to challenge each others proposals.

4. Express criticism freely, without praise, instil job insecurity.

5. Treat identification of problems as a sign of failure.

6. Control everything carefully and frequently.

7. Make decisions in secret and spring them on people.

8. Do not hand out information to managers freely.

9. Get your lower managers to implement your threatening decisions.

10. Above all, never forget that you, the higher ups, already know everything important

about the business.

And we shall revisit this in Chapter 9 when we look more closely at strategic change.


Hope and Hope: competition in the third wave

Hope and Hope (1997) build on the forecast of the influential work of Toffler (1980)

that the major dynamic affecting world economies in the coming years is a third wave of

technological change, the ‘information wave’. This will have an effect on society which is

every bit as fundamental as the two earlier waves, the ‘agricultural wave’ which swept away

mediaeval society and the ‘industrial wave’ which created cities and a capitalism based on

ownership of physical productive assets.

The third wave will create an ‘information society’. This has several implications:

(a) An increase in the importance of the service sector as the source of new jobs and


(b) Changed forms of trading relationships as information systems enable firms to replace

direct ownership and management of productive assets with network arrangements

with suppliers and customers.


Organisations that are change-orientated will have a large number of integrative mechanisms encouraging

fluidity of boundaries, the free flow of ideas, and the empowerment of people to act on new information

(p. 32).





(c) Increase in the importance of the global market for products as tastes become interchangeable and unified around a common global technology (as an example: think of

the cultural impact of the PC and the common roles, activities and terminology it has

brought about).

(d) Increased importance of ‘knowledge workers’ who can offer their services globally

using digital communications technology.

(e) Increased importance of organisational knowledge as the crucial strategic resource.

Hope and Hope outline ten key management issues for the third wave, shown in

Table 7.1.

You should recognise issue 5 from our earlier discussion of customer profitability. The

rest will be addressed in the remainder of this text.


Impact of chaos and complexity

Stacey (1996) casts doubt on the ability of any organisational structure, traditional or

‘third wave’ to cope with the complexities and uncertainties of the modern commercial


Stacey draws on the insights of chaos theory, an approach to natural sciences popularised

by Gleick (1988). According to chaos theory much of the science since Newton is a little bit wrong and therefore a little bit misleading because it assumes a predictability in the

systems of the natural world which does not exist. Yet despite its potential for destructive

chaos, the natural world somehow adopts sustainable patterns of activity through time.

Stacey sees clear parallels between this situation of ‘order amongst chaos’ and the problems

facing the strategic management of businesses when the quasi-mechanistic organisational

system breaks down under the impact of greater environmental complexity.

Stacey’s ideas are thought-provoking and it is worth looking at them more closely. Let us

start with chaos theory.

Anyone who has lain awake listening to a dripping tap will testify that the drips do not

occur as a pattern of evenly spaced drops; rather they hear a pattern of steady drips interspersed with random pauses and sudden rushes. Similar patterns have been illustrated with

other deterministic systems such as waterwheels, pendulums, oscillators and population

ecology. The conclusion reached was that no system ever adopts an exact equilibrium pattern of behaviour and this, together with the fact that it never repeats itself exactly, makes

it impossible to predict how it will behave in the future.

The most famous casualty of this realisation was long-range weather forecasting. All

weather forecasts are a little bit wrong, as we all know, and this is rightly put down to

the complexity of the variables affecting weather and we soon learn to revise our plans as

the day unfolds. However, long-range forecasts were hopelessly wrong because the effect

of minute changes in the system (the example usually cited is of a butterfly beating its

wings or a leaf falling on one side of the world contributing to a hurricane some time later

on the other side) made them predict the opposite sort of weather to that which actually


Chaos theory terms this bounded instability far from equilibrium. This is visualised in

Figure 7.1.

This points to a kind of order emerging from chaos. Despite the doubts that chaos

theory casts on the possibility of stable equilibrium, this is not the same thing as saying

that there are no patterns in the behaviour of systems. Put simply, just because we cannot


Hope and Hope’s key management issues for the ‘information wave’

1. Strategy – pursue renewal not retrenchment

Cease to focus on downsizing

Learn to think ‘outside the box’ and be innovative

Trust and empower management teams to think and act strategically

Develop core competences and avoid rigidities

Create alliances and economic webs with suppliers and customers to lever economic value

2. Customer value – match competences to customers

Value propositions are of three sorts:

● Product leadership (technical content and speed to market)

● Operational excellence (low-cost, high-quality, service)

● Customer intimacy (customisation, relationships)

Select, pursue and retain customers that can match the value proposition put forward by the firm

3. Knowledge management – leverage knowledge for competitive advantage

Three sources of knowledge assets:

● Human capital and competences of staff

● Internally stored data and information system capability

● Market and externally related such as customer loyalty, brands and network relationships

Management must retain and leverage this knowledge to gain competitive advantage

4. Business organisation – organise around networks and processes

Move from hierarchies to networks and emphasise processes and teams

Recognise the organisation as a social structure (i.e. not as a machine) and keep people informed and


5. Market focus – find and keep strategic, profitable and loyal customers

Cease to pursue volumes to increase profits

Identify the worthwhile and profitable customers

Firm’s capital is relationship with the customer

6. Management accounting – manage the business, not the numbers

Know how to analyse product, customer and service profitability

Use accounting to help improve processes

Move to more relevant accounting systems

7. Measurement and control – strike a new balance between control and empowerment

Avoid the tendency for budgets to constrain innovation and flexibility

Strike a new balance between control and empowerment

Implement a new strategic measurement system

8. Shareholder value – measure intellectual assets

Equity prices depend on future returns

These returns depend on human and not physical assets now

Develop measures of human capital for appraisal and reporting

9. Productivity – encourage and reward value-creating work

Move beyond seeing productivity as return to fixed capital assets

Create right culture, recruit right staff, provide information, empower and allow them to share in the


10. Transformation – adopt the third-wave model

Recognise the failings of the second-wave model:

● emphasis on productivity of physical capital

● seeing staff as costs to be minimised

● rigid command and control styles of management

● profit through cost-cutting and volume increases

Manage change to third-wave model

Query the value of ‘second-wave’ management education


Table 7.1





Stable equilibrium

Bounded instability

Explosive instability

System entirely deterministic

and maintains a constant

pattern of activity, or returns

to it once disturbance ceases,


• pendulum

• solar clock

• clock

System never attains an

equilibrium or repetitive

pattern. However, its observed

behaviour remains within

certain boundaries and

exhibits identifiable patterns,


• seasons of the year

• population ecology

• economic trade cycles

• human physiology

System has no stability and is

constantly changing such that

it may not resemble a

continuous system or entity,


• warfare

• forest fire

• terminal illness

Figure 7.1

Three types of instability

forecast tomorrow’s weather does not mean to say that we cannot recognise that there are

seasons in the year. This is because there are regularities in systems even though there may

not be repeated equilibrium patterns.

So what has all this to do with Management Accounting – Business Strategy?

Example of chaos

A month after the destruction of the World Trade Center in New York by terrorists aboard hijacked airliners on

11 September 2001, the financial controller of a leading aerospace supplier spoke to the author about the pressure he was under to revise budgets downward. He explained that he needed to factor-in the following:

reduced wear and tear on planes due to cuts in international schedules;

the possibility that several clients would go broke as a result of falling volumes and increased security;

the potential that the situation might worsen with further attacks, military resolution by the United States and

international boycott of the United States if response was too strong.

As the conversation progressed it was clear that he, like the rest of the world, had no idea what the next

12 months would bring, although he was keen to make parallels with the situation when conflict followed the

invasion of Kuwait by Iraq in 1990. In other words his budget would be a complete fiction but would reassure

investors and enable the management to make staffing and production decisions. His firm, along with the rest of

the world, had moved from a feeling of bounded instability to one of explosive instability. However, he and his

colleagues still sought to impose control systems based on stable equilibrium.

Various techniques of management accountancy and of business strategy seem rooted in

the ‘stable equilibrium’ model of understanding organisations and their environments, that

is in the science of the seventeenth century. The conclusion we are being invited to draw

is that this is a little bit wrong and that any management techniques based on this understanding will be a little bit misleading.

Worse, if the complexity of the organisation and its environment increases, this understanding and these systems will become deeply wrong and misleading.

Crichton (1991) provides a best-selling fictional account of the breakdown of an organisational system from the impact of unanticipated complexity in Jurassic Park, a theme continued

in his subsequent book Swarm. Closer to our daily work are the following symptoms:

(a) Escalation, or breakdown, of rules and procedures in the organisation as staff continually take more and more short-cuts to carry out their work.

(b) Increasing costs of management control such as improved management information systems, additional performance measurement systems, extra supervisory staff, introduction




(f )

Under the conventional model these are examples of dysfunction and are seen as things

to be tightened up. From the chaos theory perspective they are the inevitable outcome

from an over-engineered organisation facing the challenges posed by the breakdown of its

own systems and increased complexity.

Stacey sets out to describe a process by which organisations can develop the qualities

of bounded instability observed in other chaotic systems and hence remain viable during

periods of extreme complexity.


Stacey’s concept of ‘Extraordinary Management’

Stacey builds on the insights of chaos theory by making a distinction between two forms

of management:

1. Ordinary Management. This form of management has the following features:

(a) A legitimate organisational system consisting of hierarchy, bureaucracy and officially

approved ideology.

(b) An emphasis on team-building, consensus and conformity among managers.

(c) Progressive, incremental change using a rational approach to strategy.

(d) Control is predominantly ‘negative feedback control’, that is it consists merely in

stamping out any deviations from the standard patterns of behaviour and from the

targets of the plan that the firm is following.

He argues that this approach requires high degrees of certainty in the business environment and close agreement among managers.

2. Extraordinary Management:

(a) A spontaneous system of self-organisation through a ‘shadow system’ of political

networks and contacts within the organisation, often operating against the official

bureaucracy and involving bargaining and personal power.

(b) A process of organisational learning from which innovative and creative new directions emerge.

(c) Builds on the ‘tacit knowledge’ (i.e. unconscious or unexpressed knowledge) of the

group members which manifests itself as awareness skill or know-how in particular

situations rather than being communicated in instructions or plans.

(d) Flourishes when the organisation is near the edge of disintegration and deeply-held

beliefs are being questioned.

(e) Features irrational decision processes which relies on gaining the commitment of

the team rather than demonstrating attainment of particular organisational goals.



of performance appraisal systems and performance-related pay schemes and greater

attention to human resource management.

Perpetual restructuring and organisational change in a vain search for a model that


Abandonment of strategic plans, programmes, annual budgets or departmental

budgets due to ‘unforeseen contingencies’.

Increasing resort to ad hoc organisational solutions to problems such as special project

teams, trouble shooters, ‘skunk works’ and off-budget spending.

Increased use of outside expertise and resources to make up for perceived deficiencies

inside the organisation, for example outsourcing projects, buying-in new ideas, using

of consultants.





Both forms of management will need to exist together. However, although operational

matters and staff will be controlled within the ‘Ordinary Management’ system, Stacey

suggests that strategic management and organisational development will often take place

within the shadow system of ‘Extraordinary Management’. Moreover the latter is the essential

‘self-organisation’ which will allow the firm to remain within a state of ‘Bounded Instability’

rather than degenerating into ‘Exploding Instability’ or becoming out of step with its

environment by attempting to adhere to the unattainable state of ‘Stable Equilibrium’.

Stacey suggests that deliberate attempts to install a ‘Shadow System’ through increasing

organisational flexibility (e.g. Kanter’s notions of empowerment and removal of bureaucracy) runs two dangers:

1. It will undermine the hierarchy and therefore the short-term control of the organisation.

2. It removes the tension between the manager’s wish for flexibility and the control

structures of the organisation that often gives the impetus to the Shadow System and

encourages creativity.

Instead Stacey suggests seven intervention steps to favour the development of creative

networks in the organisation:

1. Develop new perspectives on control. The established hierarchy of managerial control will

form the cornerstones of the informal organisation too because they hold the essential

resources. Top management must learn to rely on the power of this hierarchy and its

ability to network, rather than strategic planning or formal project teams, to control

the creative process.

2. Design the use of power. Power should not be centralised, otherwise it tends to create a

control culture that inhibits creativity and learning. Neither should it be evenly spread

about because it encourages anarchy and little organised learning. Power should be

spread about unequally and be able to shift to where it is needed (e.g. by assigning

budgets to managers rather than departments), to encourage networks to be built up to

attract resources.

3. Establish self-organising groups. This can be encouraged by regular ‘issue meetings’,

provided that the meetings are not seen as an excuse for not taking the initiative and

instigating contact outside the meetings. Stacey suggests they work better if they:

● have freedom to operate;

● discover their own challenges, goals and objectives;

● have a membership drawn from a number of different functions, business units and

hierarchical levels.

4. Develop multiple cultures. These will encourage creativity by ensuring multiple perspectives. They can be developed by discouraging standardised training programmes,

broader recruitment, use of outsiders and in the construction of the project teams.

5. Present challenges and take risks. Senior executives should challenge lower managers but

also allow themselves to be challenged. A good forum for this is ‘breakout weekends’.

6. Improve group learning skills. Senior management must overcome corporate role-playing

and other blocks to innovation and group learning. This again is best accomplished by

example and by regular group meetings.

7. Create resource slack. Senior management must ensure that there are sufficient resources

to allow innovation. These include budget, space and also management time. Stacey

is critical of the delayering exercises that strip away middle management staff to the

extent that those which remain are overloaded and have no time or energy for innovation. This runs counter to any idea of ‘lowest cost producer’ in the industry.



Future developments in management practice

In a CIMA-sponsored research project, Ezzamel et al. (1995) present a useful summary

of the likely changes to the management of organisations which they term New Wave

Management (Table 7.2).

Table 7.2

New Wave Management

The past relied upon

Rules, regulation and supervision, for example, a span

of control

Hierarchical control and a clear chain of command

Discipline imposed by management

A mechanistic and directive approach to


Single-function specialists and individualism or


Job descriptions with defined tasks and responsibilities


Future emphasis will be to

Flexibly appreciate contingency and ambiguity

Effectively develop human resources

Facilitate employee self-discipline

Problem-solving through participation

Create multi-functional teams through mutual


Continuously review a fluid series of renegotiated


Summary and comment

The authors cited above all seem to be pointing to the need for a change to the methods of

managing organisations. Common themes are:






need for greater use of teams within the organisation;

empowerment and delegation of responsibility to lower level managers and teams;

creation of new ‘network’ relations with suppliers, customers and other firms;

increased importance of the knowledge worker;

need for new systems of management information and control to back up the changes.

These themes are very common in management literature from the 1990s and will form

the focus of our remaining discussion.

However, it is important not to focus on the emerging industries and ignore the need to

control the established ‘second-wave’ sector. The emphasis of these writers is upon encouraging innovation and flexibility at the strategic level. The operational level of the business

will still need to be controlled. As the contingency approach suggests, management needs

to adopt the most appropriate structure and processes for the business they are running and

the functions and decisions they seek to control.

This leads to the following observations:

(a) Not all firms need the innovation and flexibility implied by ‘new wave’ management

writers. For example, it is hard to see it applying to mature industries like quarrying

and brick manufacture in the same way as it applies to banks and retailers.


In emphasising the need for organisational learning, Stacey is emphasising the work of

Senge (1990) on the need for organisational learning. Other authors (Kelly, 1994) have

said that organisations, and even the economy, are best described by a biological metaphor

than a mechanical one implying that the strict hierarchical structures that we are used to

are wrong.





(b) Not all divisions of the business need the same control features. Innovation may be

something that takes place at the level of middle management. Perhaps at the factory

or operational level it is possible to retain command and control styles.

(c) Key stakeholders such as staff and shareholders may retain a suspicion about these new

management philosophies. Moving too fast may leave them behind and jeopardise the

short-run survival of the firm.

(d) Little practical progress has been made in these directions. The research by Ezzamel

et al. (1995) concluded that most changes were driven by a short-run pressure for better financial results and theories of empowerment were often a smokescreen for large

redundancy programmes with ‘the command and control style organisation [seeming]

to live on beneath the surface of the new wave management methods’.



The network organisation

An overview of network organisations

Externally, network organisations are organisations that rely on relationships with other

organisations in order to carry out their work. You will have studied network organisations

earlier in the pillar.

At this stage you should revisit you work on the topic from that study material

and read again the discussion on generic value chains for network organisations

in Chapter 3. Since this form of organisation is becoming increasingly common it is

likely to be examined at this level as well.

It is of particular importance that you be aware of the issues posed by network organisations:

1. How do firms decide which activities and assets to ‘buy-in’ and which to own and

operate directly?

2. Why have network organisations become so important in recent years?

3. How can management develop systems to control operations in a network organisation?



Business process re-engineering

Origins of the concept

CIMA defines business process re-engineering (BPR) as:

‘The selection of areas of business activity in which repeatable and repeated sets

of activities are undertaken, and the development of improved understanding

of how they operate and of the scope for radical redesign with a view to creating and

delivering better customer value.’

CIMA: Management Accounting: Official Terminology, 2005, p. 46.

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