Block II-Unit 2. Diagnostic Methodology: Salient Features
Objectives: After going through this unit you should be able to:
appreciate the need for diagnostic methodology
understand the concept of open systems model
understand the framework to diagnose organizations
Structure
2.1 Introduction
2.2 Diagnosing the system, subunits and processes
2.3 The need for diagnostic methodology
2.4 The open systems model
2.5 Case Analysis
2.6 Summary
2.7 Self assessment / test questions
2.8 Suggested readings
2.1 Introduction
Diagnosing the system is at the heart of an action program. It is based on valid information about the current problems and opportunities. Diagnostic activities are designed to provide an accurate account of things as they really all. An understanding of these activities, as discussed in this unit is needed for two reasons. The first reason is to know the state of things as they are i.e. ‘what is’. The second purpose is to assess the effects or consequences of actions as and when they are initiated after the diagnosis.
Diagnosis is crucial for OD and change effort. It, therefore, requires methodology. Both, the client and the practitioner, have to be very careful regarding ‘what to look at’ and ‘how it is to be done’. It is therefore critical how one would proceed to diagnose the total organization and its subsystems. A critical and well laid out methodology helps the practitioners to start the diagnostic process in the right earnest.
2.2 Diagnosing the system, subunits and processes
Bringing improvement in an organization requires the examination of the present state of things. This kind of analysis focuses on two aspect. First is the diagnosis of subsystems, which taken together make up the entire organization. These subsystems are in the form of departments, functional areas, hierarchies, or teams. The second area for attention is the processes being carried out in the organization. Some of these processes are decision-making process, communication patterns, goal setting process, interpersonal relationship & roles, planning process, and management of conflict.
Therefore, the subsystems and the process becomes the focus of diagnostic activities. Each of the major aspect of the organization provides sufficient relevant information if probed carefully. The OD practitioner may be interested in all these target groups or some of them, as and when the need arises. For example, the initial diagnosis starts with the total organization and than moves on to different departments.
We consider that the information desired at organizational level is as follows:
What are the existing norms of the organization?
What is the prevailing organization culture?
What is the organization’s climate; Open vs. close, authoritarian vs. democratic?
Are organization goals and strategies understood and accepted by members?
What is organization’s performance?
What are the attitudes and feelings toward such things as compensation, supervision, top management etc.?
By carefully examining the organization or its subunits the necessary data is generated. In the approach we focus on the primary target groups to carry out the diagnosis of the organization.
An alternative way to diagnosis is to emphasise the organization’s principal process rather than its primary target groups. Each process provides sufficient information regarding the problem. Organization processes are the ‘what’ and how’ of the organization. That is what is going on? And how is it being achieved? Organization processes reflect organization in its dynamic and complex reality. We consider that the information desired at one of the processes, namely, managing interface relations is as follows:
What is the nature of relations between two groups?
Are goals and responsibilities clear?
What major problems does the group face?
Where does conflict exist?
What are the system norms for dealing with conflict?
What structural conditions promote/ inhibit effective interface management?
Likewise other process such as goal setting, decision-making, communication etc. also provide relevant information which throws light on the functioning of the organisation.
In practice the OD consultant works on both the areas that is target groups and processes.
2.3 The Need for Diagnostic Methodology
To diagnose an organization, organization members and OD practitioner need to have an idea about what information to collect and analyze. Choices about what to look for depend on how they perceive the organization. They look for the information in a systematic manner using the methodology, which is based on conceptual framework. Conceptual framework that people use to understand organizations are referred to as ‘diagnostic models’. The diagnostic methodology is based on the diagnostic models. They describe the relationship between different features of the organization, its context, and effectiveness.
This section presents a general framework for diagnosing organization rather than attempting to cover the diversity of OD diagnostic models. The framework draws upon the systems perspective. The methodology provides a useful starting point for diagnosing organization or departments.
2.4 The Open Systems Model
The open system model is a general system model for diagnosing organizations. The model represents an open system view of organizations that may be applied to diagnosis at three levels of analysis: the total organization, the work group, and the individual job or position.
Systems theory is a set of concepts and relationship describing the properties and behaviors of thing called ‘System’ – organizations, groups and people. Systems are viewed as unitary whole composed of parts or subsystem and serve to integrate the parts into a functioning unit.
Systems can vary in how open they are to their outside environment. ‘Open system’ exchange information and resources with their environment freely. They cannot completely control their own behavior and are influenced by external forces. For example many environmental conditions such as the availability of raw materials, customer demands, government regulation, new technology etc. affect the organizations. Systems are composed of inputs, transformations, and outputs; have boundaries and a feedback mechanism. Open systems display hierarchical order. Each higher level of system is composed of lower-level systems.
Diagnosing organization Systems
Organizations can be diagnosed at three levels, namely, organization level, group level, and individual level. Diagnosis can occur at all three levels, or it may be limited to problems occurring at a particular level. The key to effective diagnosis is to know what to look for at each level. It is also necessary to know how the levels affect each other. A particular relationship exists between two levels. For example, if you are diagnosing a work group, it is necessary to know what characteristics of group are important for its effectiveness and how the larger organization affects the group.
Figure 1 presents a model for diagnosing different organizational systems. It includes dimensions needed to understand organizational systems at three levels: organizational, group, and individual job. For each level, it shows:
(1) the inputs that the system has to work with,
(2) the key design components of the transformation subsystem, and
(3) The system’s outputs
Input’s transformation subsystem and output are interdependent system. Outputs would be effective when the design components fit and mutually supports the inputs. In figure 1 the fit is shown by double headed arrow; connecting inputs to design components and the mutual support is shown by linkages among the design components. Figure 1 shows how each organization level affects the lower levels. The external environment is an input to organization design; organization design is an input to group design, which serves as an input to individual design.
Organization Level Diagnosis
The diagnosis done at the organizational level is the systems perspective. The key areas to be diagnosed at this level are discussed below:
Inputs
To under stand the functioning of the organization we must look at inputs and design components and must examine the fit between the two. Strategy and external environment are the inputs which affect the organization design.
Figure 1 --Model for Diagnosing Organizations
Organizational Level
Design Components
Technology
Structure Culture Measurement
Systems
Human Resource Systems
Outputs
Inputs
Strategy
Environment
Organization Effectiveness
Design Components Group Level
Inputs
Organization Design
Task Structure
Performance Culture Measurement
Norms Systems
Interpersonal Relations
Group Effectiveness
Design Components Individual Level
Inputs
Organization Design
Group Design
Personal Characteristics
Technology
Structure Culture Measurement
Systems
Human Resource Systems
Individual Effectiveness
Source: T.G. Cumings and C.G. Worley, “ Organizational Development and Change”, 5th ed., St. Paul:West 1993.
Strategy is formulated to gain and sustain the competitive advantage in the large environment. Strategic choice often takes place along three dimensions. The products or services to be offered, the markets to be served, and values to guide the organization. External environment includes elements and forces that can affect the attainment of strategic objectives. The environment moves along a static-dynamic continuum and provides context within which organizations operate. Static environment is predictable while dynamic environment changes rapidly and is unpredictable. Organizations must be more responsive when operating in the dynamic environment.
Design components
Organizations have five major design components (1) technology (2) Structure (3) Measurement Systems (4) Human Resource System and (5) Culture
How organization convert raw material into product does depend on its technology. It is the core of the organizational design and includes production methods, work flow and equipment. Two dimensions of technological core influence other design component; technical interdependence and technical uncertainty.
Technical interdependence involves ways in which the different parts of a technological system arc related. High interdependence requires considerable coordination among task. For example, to bring out a new product the project development team must work together. Technical uncertainty refers to the amount of information processing and decision making required during task performance. Generally, when tasks require high amounts of information processing and decision making, they are difficult to plan and routinize. The development of new software requires high level of coordination among the team members.
Structure includes the ways an organization divides labor or differentiates its parts-horizontally into departments and groups and vertically into managerial hierarchies. Horizontally, organizations may be divided by function, by product or service, or by some combination of both. Vertically, organizations may be tall and include many managerial levels or they may be relatively flat. Structure is also concerned with integration-joining and coordinating departments for overall task achievement. It involves specifying rules, procedures, goals, and plans for directing organizational behaviors. Measurement systems are methods of gathering, assessing, and disseminating information on the activities of groups and individuals in organizations. Such data tell how well the organization is performing and are used to detect and control deviations from goals. For example, management control systems help to ensure that each department's activities are in line with overall company objectives.
Human Resource Systems include mechanisms for selecting, training, and developing employees. These influence the mix of skills and personalities of organization members. Human resource systems also include the rewards used by organizations to encourage people to join and remain with the organization and to work toward specific objectives. Reward systems may be tied to performance measurement systems so that rewards are allocated on the basis of prespecified results.
Culture is concerned with the basic assumptions, values, and norms shared by organizational members. These cultural elements are generally taken for granted and serve to guide members' perceptions, thoughts, and actions. For example McDonald's culture emphasizes "efficiency," "speed," and "consistency." It orients employees to company goals and suggests the kinds of behaviors necessary for success.
Fits
The diagnostic model in Figure 1 shows that the design components must have a fit with the input components if organization outputs (market share or net profits, for example) are to be effective. The following fits must take place between the inputs and design dimensions:
When strategic choice results in an environment that is highly dynamic (changing and uncertain), organization design should be organic. This means an adaptable set of technologies, structures, measurement systems, human resource systems, and culture. These components should support flexible and innovative organizational behaviors.
2. When strategy results in a static environment, organization design should be more mechanistic. The design components should be formalized and should support standardized organizational behaviors.
Group Level Diagnosis
After the organization level, the next level of diagnosis is the group. Many large organizations have groups or departments that are themselves huge. Diagnosis of large groups can follow the dimensions and relational fits applicable to organization-level diagnosis.
Often small departments and groups behave differently than large organizations. Therefore, there is a need for separate diagnostic models to reflect these differences. In this section, we discuss the approach of diagnosing small work groups. Such groups generally consist of a relatively small number of people working face-to-face on a shared task. They can be relatively permanent and perform an ongoing task, or they can be temporary and exist only to perform a certain task or to make a specific decision. Figure 1 shows the inputs, design components, outputs, and relational fits for group-level diagnosis.
Inputs
Organization design is the major input to group design. It consists of the design components of the larger organization within which the group works. These include technology, structure, measurement system, human resource systems, and culture. The environment of work groups is affected by organizational design. It determines the technological characteristics of the group's task and influences the group behaviors. As discussed earlier, organization design can vary along an organic/ mechanistic dimension. Organic designs support flexible and innovative behaviors; mechanistic designs are highly formalized and promote standardized behaviors.
Design Components
Figure 1 shows that groups have four major components: (1) task structure, (2) composition, (3) performance norms, and (4) interpersonal relations.
Task structure is concerned with how the group's task is designed. Task structures can vary along two key dimensional -coordination of members' efforts and regulation of their task behaviors. The coordination dimension involves the degree to which group tasks are structured to promote effective interaction among group members. Coordination is important in groups performing interdependent tasks, such as project teams and problem solving groups. It is relatively unimportant in groups composed of members performing independent tasks, such as salespersons.
The regulation dimension involves the degree to which members can control their own task behaviors and be relatively free from external controls. Self-regulation generally occurs when members can decide on such issues as work schedule, work methods, production goals, and membership.
Composition concerns the membership of groups. Members can differ on a number of dimensions which are relevant to group behavior. Demographic variables, such as age, education, experience, and skills and abilities, can affect how people behave and relate to each other in groups. Demographics can determine whether the group is composed of people having task-relevant skills and knowledge, including interpersonal skills. People's internal needs can also influence group behaviors. Individual differences in social needs can determine whether group membership is likely to be satisfying or stressful. Performance norms are member beliefs about how the group should perform its task and include acceptable levels of performance. Norms serve as guides to group behaviors. Once members agree on performance norms they routinely perform tasks according to those norms. For example, members of problem-solving groups often decide early in the life of the group that decisions will be made through consensus. Consensus then becomes a routine part of group task behavior.
Interpersonal relations are the underlying basis of group life. How members relate to each other is important in work groups because the quality of relationships can affect task performance. In some groups, for example, interpersonal competition and conflict among members lead to no support and help for each other. Therefore, efforts are required to help work groups develop healthy interpersonal relations.
Fits
The diagnostic model shows that group design components must fit inputs if groups are to be effective in terms of such things as high quality decisions, teamwork, and cohesiveness. The following fits must take place between the inputs and design dimensions:
Group design should match with the larger organization design. Organic organizations should have work groups that are organic and promote flexible and innovative behaviors. Mechanistic organizations should promote groups that are highly formalized and support standardized behaviors. When group designs are not compatible with organization designs, groups often conflict with the organization. They may develop norms that are against organizational effectiveness leading to counterproductive behaviors.
When the technology component of organization design results in interdependent tasks, group task structure, composition, performance norms, and interpersonal relations should promote coordination among members. When technology permits independent tasks, the design components should promote individual task performance.
When technology is relatively uncertain and requires high amounts of information processing and decision making, group task structure, composition, performance norms, and interpersonal relations should promote self-regulation. Members should have the necessary freedom, information, and skills to assign members to tasks, to decide on production methods, and to set performance goals. When technology is relatively certain, group designs should promote standardization of behavior, and supervisors, schedules, and plans should externally control groups.
Individual-Level Diagnosis
The lowest level of organizational diagnosis is the individual job or position. This section discusses the inputs, design components, and relational fits for diagnosing jobs. Figure 1 shows inputs, job characteristics, and output.
Inputs
Three major inputs affect job design: (1) organization design, (2) group design,
and (3) the personal characteristics of jobholders.
Organizational design is concerned with the larger organization within which the individual job is the smallest unit. Larger organization environment has direct impact on the individual job. For example, company training and development policy can orient employees to particular job behaviors.
Group design concerns the larger group or department containing the individual job. Group task structure, composition, performance norms, and interpersonal relations serve as inputs to job design. They typically have a more immediate impact on jobs than the larger, organization-design components. For example, group composition can influence the kinds of people that are available to fill jobs. Group performance norms can affect the kinds of job performance that are considered acceptable. Interpersonal relations can affect how powerfully the group influences job behaviors.
Personal characteristics of individuals occupying jobs include their age, education, experience, and skills and abilities. All these can affect job performance as well as how people react to job designs. Individual needs and expectations can also affect employee job responses. For example, individual differences in growth need can determine how much people are motivated.
Design Components
Figure 1 shows that individual jobs have five key dimensions: (1) skill variety, (2) task identity, (3) task significance, (4) autonomy, and (5) feedback about results.
Skill variety identifies the degree to which a job requires a range of activities and abilities to perform the work. For example, assembly-line jobs generally require limited skill variety while managerial jobs require different skills in performing work.
Task identity measures the degree to which a job requires the completion of a relatively whole, identifiable piece of work. For example, project manager is able to see a job through from beginning to end. Contrary to this, assembly-line jobs involve only a limited work and score low on task identity, therefore, assembly line workers are unable to identify with the complete job.
Task significance identifies the degree to which a job has a significant impact 'on other people's lives.
Autonomy indicates the degree to which a job provides freedom in scheduling the work and determining work methods. Assembly-line jobs generally have little autonomy.
Feedback about results involves the degree to which a job provides employees with direct and clear information about the effectiveness of task performance
The five job dimensions can be combined into an overall measure of job enrichment. Enriched jobs have high levels of skill variety, task identity, task significance, autonomy, and feedback about results. They provide opportunities for self-direction, learning, and personal accomplishment at work. Many people find enriched jobs internally motivating and satisfying.
Fits
The diagnostic model suggests that job design must fit job inputs to produce effective job outputs, such as high quality and quantity of individual performance, low absenteeism, and high job satisfaction. The following fits must take place between job inputs and job design:
Job design should be congruent with the larger organization and group designs. Organic organizations and groups, where members are self-regulating, have a better fit with enriched jobs. These larger organizations and groups promote autonomy, flexibility, and innovation at the individual job level. Conversely, mechanistic organizations and groups relying on external controls are congruent with job designs scoring low on the five key dimensions. As suggested earlier, congruence across different levels of organizational design promotes integration of the organization, group, and job levels. Whenever the levels do not fit each other, conflict is likely to emerge.
Job design should fit the personal characteristics of the job holders. Individuals are then expected to perform effectively and derive satisfaction from work. Generally, enriched jobs match well with people who have strong growth needs. These people derive satisfaction and achievement from performing jobs involving skill variety, autonomy, and feedback about results. Enriched jobs also fit people having moderate to high levels of task-relevant skills, abilities, and knowledge. Enriched jobs generally require complex information processing and decision making; people must have specialized skills and abilities to perform effectively. Jobs scoring low on the five job dimensions generally fit people with elementary skills and abilities and with low growth needs. Simpler, more routine jobs require limited skills and experience; they fit better with people who place a low value on opportunities for self-direction and learning.
Block II-Unit 2. Diagnostic Methodology: Salient Features
Objectives: After going through this unit you should be able to:
appreciate the need for diagnostic methodology
understand the concept of open systems model
understand the framework to diagnose organizations
Structure
2.1 Introduction
2.2 Diagnosing the system, subunits and processes
2.3 The need for diagnostic methodology
2.4 The open systems model
2.5 Case Analysis
2.6 Summary
2.7 Self assessment / test questions
2.8 Suggested readings
2.1 Introduction
Diagnosing the system is at the heart of an action program. It is based on valid information about the current problems and opportunities. Diagnostic activities are designed to provide an accurate account of things as they really all. An understanding of these activities, as discussed in this unit is needed for two reasons. The first reason is to know the state of things as they are i.e. ‘what is’. The second purpose is to assess the effects or consequences of actions as and when they are initiated after the diagnosis.
Diagnosis is crucial for OD and change effort. It, therefore, requires methodology. Both, the client and the practitioner, have to be very careful regarding ‘what to look at’ and ‘how it is to be done’. It is therefore critical how one would proceed to diagnose the total organization and its subsystems. A critical and well laid out methodology helps the practitioners to start the diagnostic process in the right earnest.
2.2 Diagnosing the system, subunits and processes
Bringing improvement in an organization requires the examination of the present state of things. This kind of analysis focuses on two aspect. First is the diagnosis of subsystems, which taken together make up the entire organization. These subsystems are in the form of departments, functional areas, hierarchies, or teams. The second area for attention is the processes being carried out in the organization. Some of these processes are decision-making process, communication patterns, goal setting process, interpersonal relationship & roles, planning process, and management of conflict.
Therefore, the subsystems and the process becomes the focus of diagnostic activities. Each of the major aspect of the organization provides sufficient relevant information if probed carefully. The OD practitioner may be interested in all these target groups or some of them, as and when the need arises. For example, the initial diagnosis starts with the total organization and than moves on to different departments.
We consider that the information desired at organizational level is as follows:
What are the existing norms of the organization?
What is the prevailing organization culture?
What is the organization’s climate; Open vs. close, authoritarian vs. democratic?
Are organization goals and strategies understood and accepted by members?
What is organization’s performance?
What are the attitudes and feelings toward such things as compensation, supervision, top management etc.?
By carefully examining the organization or its subunits the necessary data is generated. In the approach we focus on the primary target groups to carry out the diagnosis of the organization.
An alternative way to diagnosis is to emphasise the organization’s principal process rather than its primary target groups. Each process provides sufficient information regarding the problem. Organization processes are the ‘what’ and how’ of the organization. That is what is going on? And how is it being achieved? Organization processes reflect organization in its dynamic and complex reality. We consider that the information desired at one of the processes, namely, managing interface relations is as follows:
What is the nature of relations between two groups?
Are goals and responsibilities clear?
What major problems does the group face?
Where does conflict exist?
What are the system norms for dealing with conflict?
What structural conditions promote/ inhibit effective interface management?
Likewise other process such as goal setting, decision-making, communication etc. also provide relevant information which throws light on the functioning of the organisation.
In practice the OD consultant works on both the areas that is target groups and processes.
2.3 The Need for Diagnostic Methodology
To diagnose an organization, organization members and OD practitioner need to have an idea about what information to collect and analyze. Choices about what to look for depend on how they perceive the organization. They look for the information in a systematic manner using the methodology, which is based on conceptual framework. Conceptual framework that people use to understand organizations are referred to as ‘diagnostic models’. The diagnostic methodology is based on the diagnostic models. They describe the relationship between different features of the organization, its context, and effectiveness.
This section presents a general framework for diagnosing organization rather than attempting to cover the diversity of OD diagnostic models. The framework draws upon the systems perspective. The methodology provides a useful starting point for diagnosing organization or departments.
2.4 The Open Systems Model
The open system model is a general system model for diagnosing organizations. The model represents an open system view of organizations that may be applied to diagnosis at three levels of analysis: the total organization, the work group, and the individual job or position.
Systems theory is a set of concepts and relationship describing the properties and behaviors of thing called ‘System’ – organizations, groups and people. Systems are viewed as unitary whole composed of parts or subsystem and serve to integrate the parts into a functioning unit.
Systems can vary in how open they are to their outside environment. ‘Open system’ exchange information and resources with their environment freely. They cannot completely control their own behavior and are influenced by external forces. For example many environmental conditions such as the availability of raw materials, customer demands, government regulation, new technology etc. affect the organizations. Systems are composed of inputs, transformations, and outputs; have boundaries and a feedback mechanism. Open systems display hierarchical order. Each higher level of system is composed of lower-level systems.
Diagnosing organization Systems
Organizations can be diagnosed at three levels, namely, organization level, group level, and individual level. Diagnosis can occur at all three levels, or it may be limited to problems occurring at a particular level. The key to effective diagnosis is to know what to look for at each level. It is also necessary to know how the levels affect each other. A particular relationship exists between two levels. For example, if you are diagnosing a work group, it is necessary to know what characteristics of group are important for its effectiveness and how the larger organization affects the group.
Figure 1 presents a model for diagnosing different organizational systems. It includes dimensions needed to understand organizational systems at three levels: organizational, group, and individual job. For each level, it shows:
(4) the inputs that the system has to work with,
(5) the key design components of the transformation subsystem, and
(6) The system’s outputs
Input’s transformation subsystem and output are interdependent system. Outputs would be effective when the design components fit and mutually supports the inputs. In figure 1 the fit is shown by double headed arrow; connecting inputs to design components and the mutual support is shown by linkages among the design components. Figure 1 shows how each organization level affects the lower levels. The external environment is an input to organization design; organization design is an input to group design, which serves as an input to individual design.
Organization Level Diagnosis
The diagnosis done at the organizational level is the systems perspective. The key areas to be diagnosed at this level are discussed below:
Inputs
To under stand the functioning of the organization we must look at inputs and design components and must examine the fit between the two. Strategy and external environment are the inputs which affect the organization design.
Figure 1 --Model for Diagnosing Organizations
Organizational Level
Design Components
Technology
Structure Culture Measurement
Systems
Human Resource Systems
Outputs
Inputs
Strategy
Environment
Organization Effectiveness
Design Components Group Level
Inputs
Organization Design
Task Structure
Performance Culture Measurement
Norms Systems
Interpersonal Relations
Group Effectiveness
Design Components Individual Level
Inputs
Organization Design
Group Design
Personal Characteristics
Technology
Structure Culture Measurement
Systems
Human Resource Systems
Individual Effectiveness
Source: T.G. Cumings and C.G. Worley, “ Organizational Development and Change”, 5th ed., St. Paul:West 1993.
Strategy is formulated to gain and sustain the competitive advantage in the large environment. Strategic choice often takes place along three dimensions. The products or services to be offered, the markets to be served, and values to guide the organization. External environment includes elements and forces that can affect the attainment of strategic objectives. The environment moves along a static-dynamic continuum and provides context within which organizations operate. Static environment is predictable while dynamic environment changes rapidly and is unpredictable. Organizations must be more responsive when operating in the dynamic environment.
Design components
Organizations have five major design components (1) technology (2) Structure (3) Measurement Systems (4) Human Resource System and (5) Culture
How organization convert raw material into product does depend on its technology. It is the core of the organizational design and includes production methods, work flow and equipment. Two dimensions of technological core influence other design component; technical interdependence and technical uncertainty.
Technical interdependence involves ways in which the different parts of a technological system arc related. High interdependence requires considerable coordination among task. For example, to bring out a new product the project development team must work together. Technical uncertainty refers to the amount of information processing and decision making required during task performance. Generally, when tasks require high amounts of information processing and decision making, they are difficult to plan and routinize. The development of new software requires high level of coordination among the team members.
Structure includes the ways an organization divides labor or differentiates its parts-horizontally into departments and groups and vertically into managerial hierarchies. Horizontally, organizations may be divided by function, by product or service, or by some combination of both. Vertically, organizations may be tall and include many managerial levels or they may be relatively flat. Structure is also concerned with integration-joining and coordinating departments for overall task achievement. It involves specifying rules, procedures, goals, and plans for directing organizational behaviors. Measurement systems are methods of gathering, assessing, and disseminating information on the activities of groups and individuals in organizations. Such data tell how well the organization is performing and are used to detect and control deviations from goals. For example, management control systems help to ensure that each department's activities are in line with overall company objectives.
Human Resource Systems include mechanisms for selecting, training, and developing employees. These influence the mix of skills and personalities of organization members. Human resource systems also include the rewards used by organizations to encourage people to join and remain with the organization and to work toward specific objectives. Reward systems may be tied to performance measurement systems so that rewards are allocated on the basis of prespecified results.
Culture is concerned with the basic assumptions, values, and norms shared by organizational members. These cultural elements are generally taken for granted and serve to guide members' perceptions, thoughts, and actions. For example McDonald's culture emphasizes "efficiency," "speed," and "consistency." It orients employees to company goals and suggests the kinds of behaviors necessary for success.
Fits
The diagnostic model in Figure 1 shows that the design components must have a fit with the input components if organization outputs (market share or net profits, for example) are to be effective. The following fits must take place between the inputs and design dimensions:
When strategic choice results in an environment that is highly dynamic (changing and uncertain), organization design should be organic. This means an adaptable set of technologies, structures, measurement systems, human resource systems, and culture. These components should support flexible and innovative organizational behaviors.
2. When strategy results in a static environment, organization design should be more mechanistic. The design components should be formalized and should support standardized organizational behaviors.
Group Level Diagnosis
After the organization level, the next level of diagnosis is the group. Many large organizations have groups or departments that are themselves huge. Diagnosis of large groups can follow the dimensions and relational fits applicable to organization-level diagnosis.
Often small departments and groups behave differently than large organizations. Therefore, there is a need for separate diagnostic models to reflect these differences. In this section, we discuss the approach of diagnosing small work groups. Such groups generally consist of a relatively small number of people working face-to-face on a shared task. They can be relatively permanent and perform an ongoing task, or they can be temporary and exist only to perform a certain task or to make a specific decision. Figure 1 shows the inputs, design components, outputs, and relational fits for group-level diagnosis.
Inputs
Organization design is the major input to group design. It consists of the design components of the larger organization within which the group works. These include technology, structure, measurement system, human resource systems, and culture. The environment of work groups is affected by organizational design. It determines the technological characteristics of the group's task and influences the group behaviors. As discussed earlier, organization design can vary along an organic/ mechanistic dimension. Organic designs support flexible and innovative behaviors; mechanistic designs are highly formalized and promote standardized behaviors.
Design Components
Figure 1 shows that groups have four major components: (1) task structure, (2) composition, (3) performance norms, and (4) interpersonal relations.
Task structure is concerned with how the group's task is designed. Task structures can vary along two key dimensional -coordination of members' efforts and regulation of their task behaviors. The coordination dimension involves the degree to which group tasks are structured to promote effective interaction among group members. Coordination is important in groups performing interdependent tasks, such as project teams and problem solving groups. It is relatively unimportant in groups composed of members performing independent tasks, such as salespersons.
The regulation dimension involves the degree to which members can control their own task behaviors and be relatively free from external controls. Self-regulation generally occurs when members can decide on such issues as work schedule, work methods, production goals, and membership.
Composition concerns the membership of groups. Members can differ on a number of dimensions which are relevant to group behavior. Demographic variables, such as age, education, experience, and skills and abilities, can affect how people behave and relate to each other in groups. Demographics can determine whether the group is composed of people having task-relevant skills and knowledge, including interpersonal skills. People's internal needs can also influence group behaviors. Individual differences in social needs can determine whether group membership is likely to be satisfying or stressful. Performance norms are member beliefs about how the group should perform its task and include acceptable levels of performance. Norms serve as guides to group behaviors. Once members agree on performance norms they routinely perform tasks according to those norms. For example, members of problem-solving groups often decide early in the life of the group that decisions will be made through consensus. Consensus then becomes a routine part of group task behavior.
Interpersonal relations are the underlying basis of group life. How members relate to each other is important in work groups because the quality of relationships can affect task performance. In some groups, for example, interpersonal competition and conflict among members lead to no support and help for each other. Therefore, efforts are required to help work groups develop healthy interpersonal relations.
Fits
The diagnostic model shows that group design components must fit inputs if groups are to be effective in terms of such things as high quality decisions, teamwork, and cohesiveness. The following fits must take place between the inputs and design dimensions:
Group design should match with the larger organization design. Organic organizations should have work groups that are organic and promote flexible and innovative behaviors. Mechanistic organizations should promote groups that are highly formalized and support standardized behaviors. When group designs are not compatible with organization designs, groups often conflict with the organization. They may develop norms that are against organizational effectiveness leading to counterproductive behaviors.
When the technology component of organization design results in interdependent tasks, group task structure, composition, performance norms, and interpersonal relations should promote coordination among members. When technology permits independent tasks, the design components should promote individual task performance.
When technology is relatively uncertain and requires high amounts of information processing and decision making, group task structure, composition, performance norms, and interpersonal relations should promote self-regulation. Members should have the necessary freedom, information, and skills to assign members to tasks, to decide on production methods, and to set performance goals. When technology is relatively certain, group designs should promote standardization of behavior, and supervisors, schedules, and plans should externally control groups.
Individual-Level Diagnosis
The lowest level of organizational diagnosis is the individual job or position. This section discusses the inputs, design components, and relational fits for diagnosing jobs. Figure 1 shows inputs, job characteristics, and output.
Inputs
Three major inputs affect job design: (1) organization design, (2) group design,
and (3) the personal characteristics of jobholders.
Organizational design is concerned with the larger organization within which the individual job is the smallest unit. Larger organization environment has direct impact on the individual job. For example, company training and development policy can orient employees to particular job behaviors.
Group design concerns the larger group or department containing the individual job. Group task structure, composition, performance norms, and interpersonal relations serve as inputs to job design. They typically have a more immediate impact on jobs than the larger, organization-design components. For example, group composition can influence the kinds of people that are available to fill jobs. Group performance norms can affect the kinds of job performance that are considered acceptable. Interpersonal relations can affect how powerfully the group influences job behaviors.
Personal characteristics of individuals occupying jobs include their age, education, experience, and skills and abilities. All these can affect job performance as well as how people react to job designs. Individual needs and expectations can also affect employee job responses. For example, individual differences in growth need can determine how much people are motivated.
Design Components
Figure 1 shows that individual jobs have five key dimensions: (1) skill variety, (2) task identity, (3) task significance, (4) autonomy, and (5) feedback about results.
Skill variety identifies the degree to which a job requires a range of activities and abilities to perform the work. For example, assembly-line jobs generally require limited skill variety while managerial jobs require different skills in performing work.
Task identity measures the degree to which a job requires the completion of a relatively whole, identifiable piece of work. For example, project manager is able to see a job through from beginning to end. Contrary to this, assembly-line jobs involve only a limited work and score low on task identity, therefore, assembly line workers are unable to identify with the complete job.
Task significance identifies the degree to which a job has a significant impact 'on other people's lives.
Autonomy indicates the degree to which a job provides freedom in scheduling the work and determining work methods. Assembly-line jobs generally have little autonomy.
Feedback about results involves the degree to which a job provides employees with direct and clear information about the effectiveness of task performance
The five job dimensions can be combined into an overall measure of job enrichment. Enriched jobs have high levels of skill variety, task identity, task significance, autonomy, and feedback about results. They provide opportunities for self-direction, learning, and personal accomplishment at work. Many people find enriched jobs internally motivating and satisfying.
Fits
The diagnostic model suggests that job design must fit job inputs to produce effective job outputs, such as high quality and quantity of individual performance, low absenteeism, and high job satisfaction. The following fits must take place between job inputs and job design:
Job design should be congruent with the larger organization and group designs. Organic organizations and groups, where members are self-regulating, have a better fit with enriched jobs. These larger organizations and groups promote autonomy, flexibility, and innovation at the individual job level. Conversely, mechanistic organizations and groups relying on external controls are congruent with job designs scoring low on the five key dimensions. As suggested earlier, congruence across different levels of organizational design promotes integration of the organization, group, and job levels. Whenever the levels do not fit each other, conflict is likely to emerge.
Job design should fit the personal characteristics of the job holders. Individuals are then expected to perform effectively and derive satisfaction from work. Generally, enriched jobs match well with people who have strong growth needs. These people derive satisfaction and achievement from performing jobs involving skill variety, autonomy, and feedback about results. Enriched jobs also fit people having moderate to high levels of task-relevant skills, abilities, and knowledge. Enriched jobs generally require complex information processing and decision making; people must have specialized skills and abilities to perform effectively. Jobs scoring low on the five job dimensions generally fit people with elementary skills and abilities and with low growth needs. Simpler, more routine jobs require limited skills and experience; they fit better with people who place a low value on opportunities for self-direction and learning.
Monday, March 31, 2008
Saturday, February 2, 2008
Jet Airways, India- Good example of effective strategy and performing culture
Jet has emerged the company having high level of OCTAPACE and a performing culture.
Purpose and Strategic Intent
Dominating the Indian skies and becoming largest private airlines has not satiated the demand for growth of Jet. The chairman of Jet has proclaimed that, ‘I want Jet to be among the top five airlines in the world in reputation and quality of service’. To achieve this lofty goal, the chairman was preparing the company for its ambitious rise. The aim was to take the airline public and going global. It has entered the Indian Capital market; generating a fair amount of investor’s interest. Domestically, the strategy is to consolidate strength in Indian skies (after some days of this interview, Jet started M&A trend in the Indian aviation sector by acquiring Sahara, its closest rival in the private sector and a company under present research study. This high-profile takeover, the deal was subject to regulatory approval, was a part of the expansion strategy used to consolidate its position).
Jet plans the objective of most preferred domestic airlines through high quality of service, and reliable, comfortable, and efficient operations. Jet’s objective is to ensure consistent profitability, achieving healthy, long-term results for investors, and providing its employees with an environment for excellence and growth. The company well managed in the interests of the shareholders
Jet’s total quality management emphasis on technology and on time performance is one of the key factors of its success. Its vision is to become ‘An Airline of Excellence’. Jet has also earned the ISO 9001 certification for its in-flight services. The top management believes that service quality excellence should be a philosophy of everyone in the company. This philosophy is reinforced by a comprehensive review of its internal business processes. The purpose of the review was to align the technology and people with customer driven and service quality strategy. Service quality strategy extends through many areas in the artefacts and physical environment of the company offices and airline. At Jet, process of strategic development enables senior leaders to make specific decisions to achieve business excellence and service quality.
Jet is a process-focused organization with many standard procedures. Top management emphasises that processes must be thoroughly planned so that they can help employees to meet standards, create a market, and thereby provide excellent service quality. Each functional area is responsible for managing and improving business processes. Every manager is empowered to identify improvement opportunities, form teams to refine approaches, resolve issues, and improve processes.
Jet carried out macro-environment analysis to understand the current state and expected future state. Jet is a process-focused company with standard procedures. Processes are meticulously planned to help employees meet standards and thereby ensure service quality.
The service quality department of Jet figures out concern areas before they turn into real problems. Processes are monitored regularly using gap analysis model. ServeQual model is adopted to keep watch on the processes
Market and Customer Orientation
Jet has created its brand image by focusing on on-time flights and having the youngest aircraft fleet in the world. The average age of the fleet is 5.1 years.
The customer driven strategy requires intense focus on customers and their satisfaction. Jet is offering service-monitoring questionnaires (SMQ) in the flights. Passengers are asked to rate the services on issues ranging from ticketing, accessibility at the airport to the cabin crew behaviour, food and overall flying experience. Continuous improvements are being made to the in-flight menu. It has received top rank on quality of meals served.
Jet presents a quality look in the décor of its counters, cabin interior of its aircraft, the uniform and so on. It has appointed a floorwalker, designated queue manager to keep a look at how customers are served at the airport. The company relies on data management and analysis system for its customer relationship management strategy.
Jet is providing world-class frequent flyers benefits to customers through alliances with British Airways, KLM Royal Dutch Airlines, Northwest Airlines, Gulf Air, Qantas, Thai Airways, and Austrian Airways.
Jet has received World Travel Market Global award for world’s premier global travel event in London. It got H & FS Domestic Airlines of the year award four times. Citibank Diners Club has chosen Jet as India’s best domestic airlines for its excellence in service. It also received Air Transport World award 2001 for market development.
Top Management Commitment and Leadership
The senior managers exhibit a strong excellence driven leadership. They have a passion for excellence largely because of the performance expectations. Leadership understands that intellectual and organizational capabilities have to be developed continuously; otherwise, they would not be able to meet the challenges.
To help employees understand what is expected in terms of serving customers the company is focused on training and development. HRD symposiums are organized to enable employees to conduct in depth analysis through discussion and networking. A specially designed training scheme called Training and Development Qualification Programme (TDQP) is operational. A high-tech training centre with facilities like learning centre, computer centre, and hostel with facilities of conferences and lectures is used to impart training. The aim is to build Jet into a learning organization, where employees expand their capacity to create results, and where new patterns of thinking are nurtured. Employees have passed through the Quality Improvement Team (QIT) training programme.
Jet involves employees in setting annual goals and objectives, linked to departmental objectives. Management by objective (MBO) is a part of 360-degree performance management process. Employees after setting objectives develop action plans and measure their performance.
Business Process Alignment
For aligning the business processes, functional areas, customers, and employees, Jet uses Information Technology as an effective tool. The company has invested substantially in latest technologies to face competition and to improve speed and efficiency of operations. Computerizing of catering operations serves an example. This indicates that Jet leverages technology to add-value for the customers. Menu planning service, one aspect of catering is enhanced with the aid of software. Up-to-date information on passenger volume is made available with the help of CUISINE (Catering Update Information System Introducing Necessary Effectiveness).
The Internal Customer Feedback (ICF) system is an integrated online database, compiling and tracking feedback from employees.
Communication Process
Up gradation of service quality requires that a quality conscious attitude and culture is developed. Company policy is to rely on effective internal communication. Jet communicates its mission, vision, and aspirations through Code of Business Conduct. It covers a wide range of business practices and procedures. It serves as a guide to decision making. Leadership vision is translated into shared values through internal communication process. Top managers’ speeches at service excellence conventions serve the purpose. In house newsletter, reports on the progress of service initiatives, and achievements of employees are effective vehicles for communication to motivate employees and to ensure that the company’s aspiration are well understood by everyone.
Jet has emerged the company having high level of OCTAPACE and a performing culture.
Purpose and Strategic Intent
Dominating the Indian skies and becoming largest private airlines has not satiated the demand for growth of Jet. The chairman of Jet has proclaimed that, ‘I want Jet to be among the top five airlines in the world in reputation and quality of service’. To achieve this lofty goal, the chairman was preparing the company for its ambitious rise. The aim was to take the airline public and going global. It has entered the Indian Capital market; generating a fair amount of investor’s interest. Domestically, the strategy is to consolidate strength in Indian skies (after some days of this interview, Jet started M&A trend in the Indian aviation sector by acquiring Sahara, its closest rival in the private sector and a company under present research study. This high-profile takeover, the deal was subject to regulatory approval, was a part of the expansion strategy used to consolidate its position).
Jet plans the objective of most preferred domestic airlines through high quality of service, and reliable, comfortable, and efficient operations. Jet’s objective is to ensure consistent profitability, achieving healthy, long-term results for investors, and providing its employees with an environment for excellence and growth. The company well managed in the interests of the shareholders
Jet’s total quality management emphasis on technology and on time performance is one of the key factors of its success. Its vision is to become ‘An Airline of Excellence’. Jet has also earned the ISO 9001 certification for its in-flight services. The top management believes that service quality excellence should be a philosophy of everyone in the company. This philosophy is reinforced by a comprehensive review of its internal business processes. The purpose of the review was to align the technology and people with customer driven and service quality strategy. Service quality strategy extends through many areas in the artefacts and physical environment of the company offices and airline. At Jet, process of strategic development enables senior leaders to make specific decisions to achieve business excellence and service quality.
Jet is a process-focused organization with many standard procedures. Top management emphasises that processes must be thoroughly planned so that they can help employees to meet standards, create a market, and thereby provide excellent service quality. Each functional area is responsible for managing and improving business processes. Every manager is empowered to identify improvement opportunities, form teams to refine approaches, resolve issues, and improve processes.
Jet carried out macro-environment analysis to understand the current state and expected future state. Jet is a process-focused company with standard procedures. Processes are meticulously planned to help employees meet standards and thereby ensure service quality.
The service quality department of Jet figures out concern areas before they turn into real problems. Processes are monitored regularly using gap analysis model. ServeQual model is adopted to keep watch on the processes
Market and Customer Orientation
Jet has created its brand image by focusing on on-time flights and having the youngest aircraft fleet in the world. The average age of the fleet is 5.1 years.
The customer driven strategy requires intense focus on customers and their satisfaction. Jet is offering service-monitoring questionnaires (SMQ) in the flights. Passengers are asked to rate the services on issues ranging from ticketing, accessibility at the airport to the cabin crew behaviour, food and overall flying experience. Continuous improvements are being made to the in-flight menu. It has received top rank on quality of meals served.
Jet presents a quality look in the décor of its counters, cabin interior of its aircraft, the uniform and so on. It has appointed a floorwalker, designated queue manager to keep a look at how customers are served at the airport. The company relies on data management and analysis system for its customer relationship management strategy.
Jet is providing world-class frequent flyers benefits to customers through alliances with British Airways, KLM Royal Dutch Airlines, Northwest Airlines, Gulf Air, Qantas, Thai Airways, and Austrian Airways.
Jet has received World Travel Market Global award for world’s premier global travel event in London. It got H & FS Domestic Airlines of the year award four times. Citibank Diners Club has chosen Jet as India’s best domestic airlines for its excellence in service. It also received Air Transport World award 2001 for market development.
Top Management Commitment and Leadership
The senior managers exhibit a strong excellence driven leadership. They have a passion for excellence largely because of the performance expectations. Leadership understands that intellectual and organizational capabilities have to be developed continuously; otherwise, they would not be able to meet the challenges.
To help employees understand what is expected in terms of serving customers the company is focused on training and development. HRD symposiums are organized to enable employees to conduct in depth analysis through discussion and networking. A specially designed training scheme called Training and Development Qualification Programme (TDQP) is operational. A high-tech training centre with facilities like learning centre, computer centre, and hostel with facilities of conferences and lectures is used to impart training. The aim is to build Jet into a learning organization, where employees expand their capacity to create results, and where new patterns of thinking are nurtured. Employees have passed through the Quality Improvement Team (QIT) training programme.
Jet involves employees in setting annual goals and objectives, linked to departmental objectives. Management by objective (MBO) is a part of 360-degree performance management process. Employees after setting objectives develop action plans and measure their performance.
Business Process Alignment
For aligning the business processes, functional areas, customers, and employees, Jet uses Information Technology as an effective tool. The company has invested substantially in latest technologies to face competition and to improve speed and efficiency of operations. Computerizing of catering operations serves an example. This indicates that Jet leverages technology to add-value for the customers. Menu planning service, one aspect of catering is enhanced with the aid of software. Up-to-date information on passenger volume is made available with the help of CUISINE (Catering Update Information System Introducing Necessary Effectiveness).
The Internal Customer Feedback (ICF) system is an integrated online database, compiling and tracking feedback from employees.
Communication Process
Up gradation of service quality requires that a quality conscious attitude and culture is developed. Company policy is to rely on effective internal communication. Jet communicates its mission, vision, and aspirations through Code of Business Conduct. It covers a wide range of business practices and procedures. It serves as a guide to decision making. Leadership vision is translated into shared values through internal communication process. Top managers’ speeches at service excellence conventions serve the purpose. In house newsletter, reports on the progress of service initiatives, and achievements of employees are effective vehicles for communication to motivate employees and to ensure that the company’s aspiration are well understood by everyone.
Threat of Entry
Five forces that shape Industry Competition Continued
Threat of entry.
New entrants to an industry bring new capacity and a desire to gain market share that puts pressure on prices, costs, and the rate of investment necessary to compete. Particularly when new entrants are diversifying from other markets, they can leverage existing capabilities and cash flows to shake up competition, as Pepsi did when it entered the bottled water industry, Microsoft did when it began to offer internet browsers, and Apple did when it entered the music distribution business.
The threat of entry, therefore, puts a cap on the profit potential of an industry. When the threat is high, incumbents must hold down their prices or boost investment to deter new competitors. In specialty coffee retailing, for example, relatively low entry barriers mean that Starbucks must invest aggressively in modernizing stores and menus.
The threat of entry in an industry depends on the height of entry barriers that are present and on the reaction entrants can expect from incumbents. If entry barriers are low and newcomers expect little retaliation from the entrenched competitors, the threat of entry is high and industry profitability is moderated. It is the threat of entry, not whether entry actually occurs, that holds down profitability.
Barriers to entry.
Entry barriers are advantages that incumbents have relative to new entrants. There are seven major sources:
1. Supply-side economies of scale. These economies arise when firms that produce at larger volumes enjoy lower costs per unit because they can spread fixed costs over more units, employ more efficient technology, or command better terms from suppliers. Supply-side scale economies deter entry by forcing the aspiring entrant either to come into the industry on a large scale, which requires dislodging entrenched competitors, or to accept a cost disadvantage.
Scale economies can be found in virtually every activity in the value chain; which ones are most important varies by industry.1 In microprocessors, incumbents such as Intel are protected by scale economies in research, chip fabrication, and consumer marketing. For lawn care companies like Scotts Miracle-Gro, the most important scale economies are found in the supply chain and media advertising. In small-package delivery, economies of scale arise in national logistical systems and information technology.
2. Demand-side benefits of scale. These benefits, also known as network effects, arise in industries where a buyer’s willingness to pay for a company’s product increases with the number of other buyers who also patronize the company. Buyers may trust larger companies more for a crucial product: Recall the old adage that no one ever got fired for buying from IBM (when it was the dominant computer maker). Buyers may also value being in a “network” with a larger number of fellow customers. For instance, online auction participants are attracted to eBay because it offers the most potential trading partners. Demand-side benefits of scale discourage entry by limiting the willingness of customers to buy from a newcomer and by reducing the price the newcomer can command until it builds up a large base of customers.
3. Customer switching costs. Switching costs are fixed costs that buyers face when they change suppliers. Such costs may arise because a buyer who switches vendors must, for example, alter product specifications, retrain employees to use a new product, or modify processes or information systems. The larger the switching costs, the harder it will be for an entrant to gain customers. Enterprise resource planning (ERP) software is an example of a product with very high switching costs. Once a company has installed SAP’s ERP system, for example, the costs of moving to a new vendor are astronomical because of embedded data, the fact that internal processes have been adapted to SAP, major retraining needs, and the mission-critical nature of the applications.
4. Capital requirements. The need to invest large financial resources in order to compete can deter new entrants. Capital may be necessary not only for fixed facilities but also to extend customer credit, build inventories, and fund start-up losses. The barrier is particularly great if the capital is required for unrecoverable and therefore harder-to-finance expenditures, such as up-front advertising or research and development. While major corporations have the financial resources to invade almost any industry, the huge capital requirements in certain fields limit the pool of likely entrants. Conversely, in such fields as tax preparation services or short-haul trucking, capital requirements are minimal and potential entrants plentiful.
It is important not to overstate the degree to which capital requirements alone deter entry. If industry returns are attractive and are expected to remain so, and if capital markets are efficient, investors will provide entrants with the funds they need. For aspiring air carriers, for instance, financing is available to purchase expensive aircraft because of their high resale value, one reason why there have been numerous new airlines in almost every region.
5. Incumbency advantages independent of size. No matter what their size, incumbents may have cost or quality advantages not available to potential rivals. These advantages can stem from such sources as proprietary technology, preferential access to the best raw material sources, preemption of the most favorable geographic locations, established brand identities, or cumulative experience that has allowed incumbents to learn how to produce more efficiently. Entrants try to bypass such advantages. Upstart discounters such as Target and Wal-Mart, for example, have located stores in freestanding sites rather than regional shopping centers where established department stores were well entrenched.
6. Unequal access to distribution channels. The new entrant must, of course, secure distribution of its product or service. A new food item, for example, must displace others from the supermarket shelf via price breaks, promotions, intense selling efforts, or some other means. The more limited the wholesale or retail channels are and the more that existing competitors have tied them up, the tougher entry into an industry will be. Sometimes access to distribution is so high a barrier that new entrants must bypass distribution channels altogether or create their own. Thus, upstart low-cost airlines have avoided distribution through travel agents (who tend to favor established higher-fare carriers) and have encouraged passengers to book their own flights on the internet.
7. Restrictive government policy. Government policy can hinder or aid new entry directly, as well as amplify (or nullify) the other entry barriers. Government directly limits or even forecloses entry into industries through, for instance, licensing requirements and restrictions on foreign investment. Regulated industries like liquor retailing, taxi services, and airlines are visible examples. Government policy can heighten other entry barriers through such means as expansive patenting rules that protect proprietary technology from imitation or environmental or safety regulations that raise scale economies facing newcomers. Of course, government policies may also make entry easier—directly through subsidies, for instance, or indirectly by funding basic research and making it available to all firms, new and old, reducing scale economies.
Entry barriers should be assessed relative to the capabilities of potential entrants, which may be start-ups, foreign firms, or companies in related industries. And, as some of our examples illustrate, the strategist must be mindful of the creative ways newcomers might find to circumvent apparent barriers.
Expected retaliation.
How potential entrants believe incumbents may react will also influence their decision to enter or stay out of an industry. If reaction is vigorous and protracted enough, the profit potential of participating in the industry can fall below the cost of capital. Incumbents often use public statements and responses to one entrant to send a message to other prospective entrants about their commitment to defending market share.
Newcomers are likely to fear expected retaliation if:
Incumbents have previously responded vigorously to new entrants.
• Incumbents possess substantial resources to fight back, including excess cash and unused borrowing power, available productive capacity, or clout with distribution channels and customers.
• Incumbents seem likely to cut prices because they are committed to retaining market share at all costs or because the industry has high fixed costs, which create a strong motivation to drop prices to fill excess capacity.
• Industry growth is slow so newcomers can gain volume only by taking it from incumbents.
An analysis of barriers to entry and expected retaliation is obviously crucial for any company contemplating entry into a new industry. The challenge is to find ways to surmount the entry barriers without nullifying, through heavy investment, the profitability of participating in the industry.
Threat of entry.
New entrants to an industry bring new capacity and a desire to gain market share that puts pressure on prices, costs, and the rate of investment necessary to compete. Particularly when new entrants are diversifying from other markets, they can leverage existing capabilities and cash flows to shake up competition, as Pepsi did when it entered the bottled water industry, Microsoft did when it began to offer internet browsers, and Apple did when it entered the music distribution business.
The threat of entry, therefore, puts a cap on the profit potential of an industry. When the threat is high, incumbents must hold down their prices or boost investment to deter new competitors. In specialty coffee retailing, for example, relatively low entry barriers mean that Starbucks must invest aggressively in modernizing stores and menus.
The threat of entry in an industry depends on the height of entry barriers that are present and on the reaction entrants can expect from incumbents. If entry barriers are low and newcomers expect little retaliation from the entrenched competitors, the threat of entry is high and industry profitability is moderated. It is the threat of entry, not whether entry actually occurs, that holds down profitability.
Barriers to entry.
Entry barriers are advantages that incumbents have relative to new entrants. There are seven major sources:
1. Supply-side economies of scale. These economies arise when firms that produce at larger volumes enjoy lower costs per unit because they can spread fixed costs over more units, employ more efficient technology, or command better terms from suppliers. Supply-side scale economies deter entry by forcing the aspiring entrant either to come into the industry on a large scale, which requires dislodging entrenched competitors, or to accept a cost disadvantage.
Scale economies can be found in virtually every activity in the value chain; which ones are most important varies by industry.1 In microprocessors, incumbents such as Intel are protected by scale economies in research, chip fabrication, and consumer marketing. For lawn care companies like Scotts Miracle-Gro, the most important scale economies are found in the supply chain and media advertising. In small-package delivery, economies of scale arise in national logistical systems and information technology.
2. Demand-side benefits of scale. These benefits, also known as network effects, arise in industries where a buyer’s willingness to pay for a company’s product increases with the number of other buyers who also patronize the company. Buyers may trust larger companies more for a crucial product: Recall the old adage that no one ever got fired for buying from IBM (when it was the dominant computer maker). Buyers may also value being in a “network” with a larger number of fellow customers. For instance, online auction participants are attracted to eBay because it offers the most potential trading partners. Demand-side benefits of scale discourage entry by limiting the willingness of customers to buy from a newcomer and by reducing the price the newcomer can command until it builds up a large base of customers.
3. Customer switching costs. Switching costs are fixed costs that buyers face when they change suppliers. Such costs may arise because a buyer who switches vendors must, for example, alter product specifications, retrain employees to use a new product, or modify processes or information systems. The larger the switching costs, the harder it will be for an entrant to gain customers. Enterprise resource planning (ERP) software is an example of a product with very high switching costs. Once a company has installed SAP’s ERP system, for example, the costs of moving to a new vendor are astronomical because of embedded data, the fact that internal processes have been adapted to SAP, major retraining needs, and the mission-critical nature of the applications.
4. Capital requirements. The need to invest large financial resources in order to compete can deter new entrants. Capital may be necessary not only for fixed facilities but also to extend customer credit, build inventories, and fund start-up losses. The barrier is particularly great if the capital is required for unrecoverable and therefore harder-to-finance expenditures, such as up-front advertising or research and development. While major corporations have the financial resources to invade almost any industry, the huge capital requirements in certain fields limit the pool of likely entrants. Conversely, in such fields as tax preparation services or short-haul trucking, capital requirements are minimal and potential entrants plentiful.
It is important not to overstate the degree to which capital requirements alone deter entry. If industry returns are attractive and are expected to remain so, and if capital markets are efficient, investors will provide entrants with the funds they need. For aspiring air carriers, for instance, financing is available to purchase expensive aircraft because of their high resale value, one reason why there have been numerous new airlines in almost every region.
5. Incumbency advantages independent of size. No matter what their size, incumbents may have cost or quality advantages not available to potential rivals. These advantages can stem from such sources as proprietary technology, preferential access to the best raw material sources, preemption of the most favorable geographic locations, established brand identities, or cumulative experience that has allowed incumbents to learn how to produce more efficiently. Entrants try to bypass such advantages. Upstart discounters such as Target and Wal-Mart, for example, have located stores in freestanding sites rather than regional shopping centers where established department stores were well entrenched.
6. Unequal access to distribution channels. The new entrant must, of course, secure distribution of its product or service. A new food item, for example, must displace others from the supermarket shelf via price breaks, promotions, intense selling efforts, or some other means. The more limited the wholesale or retail channels are and the more that existing competitors have tied them up, the tougher entry into an industry will be. Sometimes access to distribution is so high a barrier that new entrants must bypass distribution channels altogether or create their own. Thus, upstart low-cost airlines have avoided distribution through travel agents (who tend to favor established higher-fare carriers) and have encouraged passengers to book their own flights on the internet.
7. Restrictive government policy. Government policy can hinder or aid new entry directly, as well as amplify (or nullify) the other entry barriers. Government directly limits or even forecloses entry into industries through, for instance, licensing requirements and restrictions on foreign investment. Regulated industries like liquor retailing, taxi services, and airlines are visible examples. Government policy can heighten other entry barriers through such means as expansive patenting rules that protect proprietary technology from imitation or environmental or safety regulations that raise scale economies facing newcomers. Of course, government policies may also make entry easier—directly through subsidies, for instance, or indirectly by funding basic research and making it available to all firms, new and old, reducing scale economies.
Entry barriers should be assessed relative to the capabilities of potential entrants, which may be start-ups, foreign firms, or companies in related industries. And, as some of our examples illustrate, the strategist must be mindful of the creative ways newcomers might find to circumvent apparent barriers.
Expected retaliation.
How potential entrants believe incumbents may react will also influence their decision to enter or stay out of an industry. If reaction is vigorous and protracted enough, the profit potential of participating in the industry can fall below the cost of capital. Incumbents often use public statements and responses to one entrant to send a message to other prospective entrants about their commitment to defending market share.
Newcomers are likely to fear expected retaliation if:
Incumbents have previously responded vigorously to new entrants.
• Incumbents possess substantial resources to fight back, including excess cash and unused borrowing power, available productive capacity, or clout with distribution channels and customers.
• Incumbents seem likely to cut prices because they are committed to retaining market share at all costs or because the industry has high fixed costs, which create a strong motivation to drop prices to fill excess capacity.
• Industry growth is slow so newcomers can gain volume only by taking it from incumbents.
An analysis of barriers to entry and expected retaliation is obviously crucial for any company contemplating entry into a new industry. The challenge is to find ways to surmount the entry barriers without nullifying, through heavy investment, the profitability of participating in the industry.
Thursday, January 24, 2008
In 1979, Harvard Business Review published “How Competitive Forces Shape Strategy” by a young economist and associate professor, Michael E. Porter. It was his first HBR article, and it started a revolution in the strategy field. In subsequent decades, Porter has brought his signature economic rigor to the study of competitive strategy for corporations, regions, nations, and, more recently, health care and philanthropy. “Porter’s five forces” have shaped a generation of academic research and business practice. With prodding and assistance from Harvard Business School Professor Jan Rivkin and longtime colleague Joan Magretta, Porter here reaffirms, updates, and extends the classic work. He also addresses common misunderstandings, provides practical guidance for users of the framework, and offers a deeper view of its implications for strategy today.
In essence, the job of the strategist is to understand and cope with competition. Often, however, managers define competition too narrowly, as if it occurred only among today’s direct competitors. Yet competiti on for profits goes beyond established industry rivals to include four other competitive forces as well: customers, suppliers, potential entrants, and substitute products. The extended rivalry that results from all five forces defines an industry’s structure and shapes the nature of competitive interaction within an industry.
As different from one another as industries might appear on the surface, the underlying drivers of profitability are the same. The global auto industry, for instance, appears to have nothing in common with the worldwide market for art masterpieces or the heavily regulated health-care delivery industry in Europe. But to understand industry competition and profitability in each of those three cases, one must analyze the industry’s underlying structure in terms of the five forces.
In essence, the job of the strategist is to understand and cope with competition. Often, however, managers define competition too narrowly, as if it occurred only among today’s direct competitors. Yet competiti on for profits goes beyond established industry rivals to include four other competitive forces as well: customers, suppliers, potential entrants, and substitute products. The extended rivalry that results from all five forces defines an industry’s structure and shapes the nature of competitive interaction within an industry.
As different from one another as industries might appear on the surface, the underlying drivers of profitability are the same. The global auto industry, for instance, appears to have nothing in common with the worldwide market for art masterpieces or the heavily regulated health-care delivery industry in Europe. But to understand industry competition and profitability in each of those three cases, one must analyze the industry’s underlying structure in terms of the five forces.
Some forces are intense, as they are in such industries as airlines, textiles, and hotels, almost no company earns attractive returns on investment. If the forces are benign, as they are in industries such as software, soft drinks, and toiletries, many companies are profitable. Industry structure drives competition and profitability, not whether an industry produces a product or service, is emerging or mature, high tech or low tech, regulated or unregulated. While a myriad of factors can affect industry profitability in the short run—including the weather and the business cycle—industry structure, manifested in the competitive forces, sets industry profitability in the medium and long run. (See the exhibit “Differences in Industry Profitability.”)
Differences in Industry Profitability
Understanding the competitive forces, and their underlying causes, reveals the roots of an industry’s current profitability while providing a framework for anticipating and influencing competition (and profitability) over time. A healthy industry structure should be as much a competitive concern to strategists as their company’s own position. Understanding industry structure is also essential to effective strategic positioning. As we will see, defending against the competitive forces and shaping them in a company’s favor are crucial to strategy.
Forces That Shape Competition
The configuration of the five forces differs by industry. In the market for commercial aircraft, fierce rivalry between dominant producers Airbus and Boeing and the bargaining power of the airlines that place huge orders for aircraft are strong, while the threat of entry, the threat of substitutes, and the power of suppliers are more benign. In the movie theater industry, the proliferation of substitute forms of entertainment and the power of the movie producers and distributors who supply movies, the critical input, are important.
The strongest competitive force or forces determine the profitability of an industry and become the most important to strategy formulation. The most salient force, however, is not always obvious.
For example, even though rivalry is often fierce in commodity industries, it may not be the factor limiting profitability. Low returns in the photographic film industry, for instance, are the result of a superior substitute product—as Kodak and Fuji, the world’s leading producers of photographic film, learned with the advent of digital photography. In such a situation, coping with the substitute product becomes the number one strategic priority.
Industry structure grows out of a set of economic and technical characteristics that determine the strength of each competitive force. We will examine these drivers in the pages that follow, taking the perspective of an incumbent, or a company already present in the industry. The analysis can be readily extended to understand the challenges facing a potential entrant.In 1979, Harvard Business Review published “How Competitive Forces Shape Strategy” by a young economist and associate professor, Michael E. Porter. It was his first HBR article, and it started a revolution in the strategy field. In subsequent decades, Porter has brought his signature economic rigor to the study of competitive strategy for corporations, regions, nations, and, more recently, health care and philanthropy. “Porter’s five forces” have shaped a generation of academic research and business practice. With prodding and assistance from Harvard Business School Professor Jan Rivkin and longtime colleague Joan Magretta, Porter here reaffirms, updates, and extends the classic work. He also addresses common misunderstandings, provides practical guidance for users of the framework, and offers a deeper view of its implications for strategy today.
In essence, the job of the strategist is to understand and cope with competition. Often, however, managers define competition too narrowly, as if it occurred only among today’s direct competitors. Yet competition for profits goes beyond established industry rivals to include four other competitive forces as well: customers, suppliers, potential entrants, and substitute products. The extended rivalry that results from all five forces defines an industry’s structure and shapes the nature of competitive interaction within an industry.
As different from one another as industries might appear on the surface, the underlying drivers of profitability are the same. The global auto industry, for instance, appears to have nothing in common with the worldwide market for art masterpieces or the heavily regulated health-care delivery industry in Europe. But to understand industry competition and profitability in each of those three cases, one must analyze the industry’s underlying structure in terms of the five forces. (See the exhibit “The Five Forces That Shape Industry Competition.”)
If the forces are intense, as they are in such industries as airlines, textiles, and hotels, almost no company earns attractive returns on investment. If the forces are benign, as they are in industries such as software, soft drinks, and toiletries, many companies are profitable. Industry structure drives competition and profitability, not whether an industry produces a product or service, is emerging or mature, high tech or low tech, regulated or unregulated. While a myriad of factors can affect industry profitability in the short run—including the weather and the business cycle—industry structure, manifested in the competitive forces, sets industry profitability in the medium and long run. (See the exhibit “Differences in Industry Profitability.”)
Differences in Industry Profitability
Understanding the competitive forces, and their underlying causes, reveals the roots of an industry’s current profitability while providing a framework for anticipating and influencing competition (and profitability) over time. A healthy industry structure should be as much a competitive concern to strategists as their company’s own position. Understanding industry structure is also essential to effective strategic positioning. As we will see, defending against the competitive forces and shaping them in a company’s favor are crucial to strategy.
Forces That Shape Competition
The configuration of the five forces differs by industry. In the market for commercial aircraft, fierce rivalry between dominant producers Airbus and Boeing and the bargaining power of the airlines that place huge orders for aircraft are strong, while the threat of entry, the threat of substitutes, and the power of suppliers are more benign. In the movie theater industry, the proliferation of substitute forms of entertainment and the power of the movie producers and distributors who supply movies, the critical input, are important.
The strongest competitive force or forces determine the profitability of an industry and become the most important to strategy formulation. The most salient force, however, is not always obvious.
For example, even though rivalry is often fierce in commodity industries, it may not be the factor limiting profitability. Low returns in the photographic film industry, for instance, are the result of a superior substitute product—as Kodak and Fuji, the world’s leading producers of photographic film, learned with the advent of digital photography. In such a situation, coping with the substitute product becomes the number one strategic priority.
Industry structure grows out of a set of economic and technical characteristics that determine the strength of each competitive force. We will examine these drivers in the pages that follow, taking the perspective of an incumbent, or a company already present in the industry. The analysis can be readily extended to understand the challenges facing a potential entrant.In 1979, Harvard Business Review published “How Competitive Forces Shape Strategy” by a young economist and associate professor, Michael E. Porter. It was his first HBR article, and it started a revolution in the strategy field. In subsequent decades, Porter has brought his signature economic rigor to the study of competitive strategy for corporations, regions, nations, and, more recently, health care and philanthropy. “Porter’s five forces” have shaped a generation of academic research and business practice. With prodding and assistance from Harvard Business School Professor Jan Rivkin and longtime colleague Joan Magretta, Porter here reaffirms, updates, and extends the classic work. He also addresses common misunderstandings, provides practical guidance for users of the framework, and offers a deeper view of its implications for strategy today.
In essence, the job of the strategist is to understand and cope with competition. Often, however, managers define competition too narrowly, as if it occurred only among today’s direct competitors. Yet competition for profits goes beyond established industry rivals to include four other competitive forces as well: customers, suppliers, potential entrants, and substitute products. The extended rivalry that results from all five forces defines an industry’s structure and shapes the nature of competitive interaction within an industry.
As different from one another as industries might appear on the surface, the underlying drivers of profitability are the same. The global auto industry, for instance, appears to have nothing in common with the worldwide market for art masterpieces or the heavily regulated health-care delivery industry in Europe. But to understand industry competition and profitability in each of those three cases, one must analyze the industry’s underlying structure in terms of the five forces. (See the exhibit “The Five Forces That Shape Industry Competition.”)
If the forces are intense, as they are in such industries as airlines, textiles, and hotels, almost no company earns attractive returns on investment. If the forces are benign, as they are in industries such as software, soft drinks, and toiletries, many companies are profitable. Industry structure drives competition and profitability, not whether an industry produces a product or service, is emerging or mature, high tech or low tech, regulated or unregulated. While a myriad of factors can affect industry profitability in the short run—including the weather and the business cycle—industry structure, manifested in the competitive forces, sets industry profitability in the medium and long run. (See the exhibit “Differences in Industry Profitability.”)
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