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“Students can’t afford to pay \$200 for a textbook. The old business model wasn’t adapting fast enough to the Internet, where so much information was available for free or low-cost,” says Jeff, referring to traditional publishers. “We knew there had to be a better way to publish high-quality material and eliminate price and access barriers.”
Since its beginning in 2007, more than thirty employees have joined this fast-growing start-up, located just north of New York City, in Irvington, New York. The company has become a recognized pioneer in transforming higher educational publishing and textbook affordability.
FWK is upending the \$8 billion college textbook industry with a new business model that focuses on affordability and personalization. Professors who assign FWK books are free to revise and edit the material to match their course and help improve student success. Students have a choice of affordable print and digital formats that they can access online or on a laptop, tablet, e-reader or smartphone for a fraction of the price that most traditional publishers charge.
Rather than hamper the company’s growth, the economic downturn has actually highlighted the value of its products and the viability of its business model. Despite the bad economy, FWK has been able to raise over \$30 million in venture capital. Clearly, they are doing something right.
The numbers tell the story. Since the launch of their first ten books in spring 2009 (there are more than one hundred fifteen books to date), faculty at more than two thousand institutions in forty-four countries have adopted FWK books. As a result, more than 600,000 students have benefited from affordable textbook choices that lower costs, increase access and personalize learning.
In 2010, 2011 and 2012, EContent magazine named FWK as one of the top one hundred companies that matter most in the digital content industry. FWK was also named 2010 Best Discount Textbook Provider by the Education Resources People’s Choice Awards.
What is particularly refreshing is Jeff’s philosophy about people and work. “Give talented people an opportunity to build something meaningful, the tools to do it, and the freedom to do one’s best.” He believes in flexibility with people and their jobs, and, to that end, employees have the option to work remotely. There is no question that FWK is an innovator in the educational publishing industry, but it also knows how to treat people well and provide a challenging environment that fosters personal growth.[1] [2] [3]
Principles of Management and Organization
Learning Objectives
1. Understand the functions of management.
2. Explain the three basic leadership styles.
3. Explain the three basic levels of management.
4. Understand the management skills that are important for a successful small business.
5. Understand the steps in ethical decision making.
All small businesses need to be concerned about management principles. Management decisions will impact the success of a business, the health of its work environment, its growth if growth is an objective, and customer value and satisfaction. Seat-of-the-pants management may work temporarily, but its folly will inevitably take a toll on a business. This section discusses management principles, levels, and skills—all areas that small business owners should understand so that they can make informed and effective choices for their businesses.
What Is Management?
There is no universally accepted definition for management. The definitions run the gamut from very simple to very complex. For our purposes, we define management as “the application of planning, organizing, staffing, directing, and controlling functions in the most efficient manner possible to accomplish meaningful organizational objectives.”[4] Put more simply, management is all about achieving organizational objectives through people and other resources.[5]
Management principles apply to all organizations—large or small, for-profit or not-for-profit. Even one-person small businesses need to be concerned about management principles because without a fundamental understanding of how businesses are managed, there can be no realistic expectation of success. Remember that the most common reason attributed to small business failure is failure on the part of management.
Management Functions
On any given day, small business owners and managers will engage in a mix of many different kinds of activities—for example, deal with crises as they arise, read, think, write, talk to people, arrange for things to be done, have meetings, send e-mails, conduct performance evaluations, and plan. Although the amount of time that is spent on each activity will vary, all the activities can be assigned to one or more of the five management functions: planning, organizing, staffing, directing, and controlling (Figure 13.1 “Management Functions”).
Planning
Planning “is the process of anticipating future events and conditions and determining courses of action for achieving organizational objectives.”[6] It is the one step in running a small business that is most commonly skipped, but it is the one thing that can keep a business on track and keep it there.[7] Planning helps a business realize its vision, get things done, show when things cannot get done and why they may not have been done right, avoid costly mistakes, and determine the resources that will be needed to get things done.
Organizing
Organizing consists of grouping people and assigning activities so that job tasks and the mission can be properly carried out.[10] Establishing a management hierarchy is the foundation for carrying out the organizing function.
Contrary to what some people may believe, the principle of organizing is not dead. Rather, it is clearly important “to both the organization and its workers because both the effectiveness of organizations and worker satisfaction require that there be clear and decisive direction from leadership; clarity of responsibilities, authorities, and accountabilities; authority that is commensurate with responsibility and accountability; unified command (each employee has one boss); a clear approval process; and, rules governing acceptable employee behavior.”[11] Except for a small business run solely by its owner, every small business needs a management hierarchy—no matter how small. Each person in the business should know who is responsible for what, have the authority to carry out his or her responsibilities, and not get conflicting instructions from different bosses. The absence of these things can have debilitating consequences for the employees in particular and the business in general.[12]
Video Link 13.1 Glassblowing Business Thrives
Lesson learned: Everyone should know his or her role in the business.
www.cnn.com/video/#/video/living/2010/10/15/mxp.sbs.glass.business.hln?iref=videosearch
Staffing
The staffing function involves selecting, placing, training, developing, compensating, and evaluating (the performance appraisal) employees.[13] Small businesses need to be staffed with competent people who can do the work that is necessary to make the business a success. It would also be extremely helpful if these people could be retained. Many of the issues associated with staffing in a small business are discussed in Section 13.4 “People”.
Directing
Directing is the managerial function that initiates action: issuing directives, assignments, and instructions; building an effective group of subordinates who are motivated to do what must be done; explaining procedures; issuing orders; and making sure that mistakes are corrected. Directing is part of the job for every small business owner or manager. Leading“is the process of influencing people to work toward a common goal [and] motivating is the process of providing reasons for people to work in the best interests of an organization.” [16]
Different situations call for different leadership styles. In a very influential research study, Kurt Lewin established three major leadership styles: autocratic, democratic, and laissez-faire.[17] Although good leaders will use all three styles depending on the situation, with one style normally dominant, bad leaders tend to stick with only one style.[18]
Autocratic leadership occurs when a leader makes decisions without involving others; the leader tells the employees what is to be done and how it should be accomplished. Lewin et al. found that this style creates the most discontent.[21] However, this style works when all the information needed for a decision is present, there is little time to make a decision, the decision would not change as a result of the participation of others, the employees are well motivated, and the motivation of the people who will carry out subsequent actions would not be affected by whether they are involved in the decision or not. This leadership style should not be used very often.
Democratic leadership involves other people in the decision making—for example, subordinates, peers, superiors, and other stakeholders—but the leader makes the final decision. Rather than being a sign of weakness, this participative form of leadership is a sign of strength because it demonstrates respect for the opinions of others. The extent of participation will vary depending on the leader’s strengths, preferences, beliefs, and the decision to be made, but it can be as extreme as fully delegating a decision to the team.[24] This leadership style works well when the leader has only part of the information and the employees have the other part. The participation is a win-win situation, where the benefits are mutual. Others usually appreciate this leadership style, but it can be problematic if there is a wide range of opinions and no clear path for making an equitable, final decision. In experiments that Lewin et al. conducted with others, the democratic leadership style was revealed as the most effective.[27]
Laissez-faire leadership (or delegative or free-reign leadership) minimizes the leader’s involvement in decision making. Employees are allowed to make decisions, but the leader still has responsibility for the decisions that are made. The leader’s role is that of a contact person who provides helpful guidance to accomplish objectives.[28] This style works best when employees are self-motivated and competent in making their own decisions, and there is no need for central coordination; it presumes full trust and confidence in the people below the leader in the hierarchy. However, this is not the style to use if the leader wants to blame others when things go wrong.[31] This style can be problematic because people may tend not to be coherent in their work and not inclined to put in the energy they did when having more visible and active leadership.
Good leadership is necessary for all small businesses. Employees need someone to look up to, inspire and motivate them to do their best, and perhaps emulate. In the final analysis, leadership is necessary for success. Without leadership, “the ship that is your small business will aimlessly circle and eventually run out of power or run aground.”[34]
Don’t Be This Kind of Leader or Manager
Here are some examples of common leadership styles that should be avoided.
• Post-hoc management. As judge and jury, management is always right and never to blame. This approach ensures security in the leader’s job. This style is very common in small companies where there are few formal systems and a general autocratic leadership style.[35]
• Micromanagement. Alive and well in businesses of all sizes, this style assumes that the subordinate is incapable of doing the job, so close instruction is provided, and everything is checked. Subordinates are often criticized and seldom praised; nothing is ever good enough. It is really the opposite of leadership.[36]
• Seagull management. This humorous term is used to describe a management style whereby a person flies in, poops on you, and then flies away.[37] When present, such people like to give criticism and direction in equal quantities—with no real understanding of what the job entails. Before anyone can object or ask what the manager really wants, he or she is off to an important meeting. Everyone is actively discouraged from saying anything, and eye contact is avoided.[38]
• Mushroom management. This manager plants you knee-deep (or worse) in the smelly stuff and keeps you in the dark.[39] Mushroom managers tend to be more concerned about their own careers and images. Anyone who is seen as a threat may be deliberately held back. These managers have their favorites on whom they lavish attention and give the best jobs. Everyone else is swept away and given the unpopular work. Oftentimes, mushroom managers are incompetent and do not know any better. We have all seen at least one manager of this type.
• Kipper management. This is the manager who is, like a fish, two-faced because employees can see only one face at a time. To senior managers, this person is typically a model employee who puts business first and himself last. To subordinates, however, the reverse is often the case. The subordinates will work hard to get things done in time, but they are blamed when things go wrong—even if it is not their fault. The kipper will be a friend when things need to get done and then stab the subordinates in the back when glory or reward is to be gained.[40] We have all seen this kind of manager, perhaps even worked for one.
Controlling
Controlling is about keeping an eye on things. It is “the process of evaluating and regulating ongoing activities to ensure that goals are achieved.”[41] Controlling provides feedback for future planning activities and aims to modify behavior and performance when deviations from plans are discovered.[42] There are four commonly identified steps in the controlling process (See Figure 13.2 “The Controlling Function”.) Setting performance standards is the first step. Standards let employees know what to expect in terms of time, quality, quantity, and so forth. The second step is measuring performance, where the actual performance or results are determined. Comparing performance is step three. This is when the actual performance is compared to the standard. The fourth and last step, taking corrective action, involves making whatever actions are necessary to get things back on track. The controlling functions should be circular in motion, so all the steps will be repeated periodically until the goal is achieved.
Levels of Management
As a small business grows, it should be concerned about the levels or the layers of management. Also referred to as the management hierarchy, (Figure 13.3 “The Management Hierarchy”) there are typically three levels of management: top or executive, middle, and first-line or supervisory. To meet a company’s goals, there should be coordination of all three levels.
Top management also referred to as the executive level, guides and controls the overall fortunes of a business.[45] This level includes such positions as the president or CEO, the chief financial officer, the chief marketing officer, and executive vice presidents. Top managers devote most of their time to developing the mission, long-range plans, and strategy of a business—thus setting its direction. They are often asked to represent the business in events at educational institutions, community activities, dealings with the government, and seminars and sometimes as a spokesperson for the business in advertisements. It has been estimated that top managers spend 55 percent of their time planning.[46]
Middle management is probably the largest group of managers. This level includes such positions as regional manager, plant manager, division head, branch manager, marketing manager, and project director. Middle managers, a conduit between top management and first-line management, focus on specific operations, products, or customer groups within a business. They have responsibility for developing detailed plans and procedures to implement a firm’s strategic plans.[47]
First-line or supervisory management is the group that works directly with the people who produce and sell the goods and/or the services of a business; they implement the plans of middle management.[48] They coordinate and supervise the activities of operating employees, spending most of their time working with and motivating their employees, answering questions, and solving day-to-day problems.[49] Examples of first-line positions include supervisor, section chief, office manager, foreman, and team leader.
In many small businesses, people often wear multiple hats. This happens with management as well. One person may wear hats at each management level, and this can be confusing for both the person wearing the different hats and other employees. It is common for the small business owner to do mostly first-level management work, with middle or top management performed only in response to a problem or a crisis, and top-level strategic work rarely performed.[52] This is not a good situation. If the small business is large enough to have three levels of management, it is important that there be clear distinctions among them—and among the people who are in those positions. The small business owner should be top management only. This will eliminate confusion about responsibility and accountability.
Management Skills
Management skill “is the ability to carry out the process of reaching organizational goals by working with and through people and other organizational resources.”[53] Possessing management skill is generally considered a requirement for success.[54] An effective manager is the manager who is able to master four basic types of skills: technical, conceptual, interpersonal, and decision making.
Technical skills “are the manager’s ability to understand and use the techniques, knowledge, and tools and equipment of a specific discipline or department.”[55] These skills are mostly related to working with processes or physical objects. Engineering, accounting, and computer programming are examples of technical skills.[56] Technical skills are particularly important for first-line managers and are much less important at the top management level. The need for technical skills by the small business owner will depend on the nature and the size of the business.
Conceptual skills “determine a manager’s ability to see the organization as a unified whole and to understand how each part of the overall organization interacts with other parts.”[57] These skills are of greatest importance to top management because it is this level that must develop long-range plans for the future direction of a business. Conceptual skills are not of much relevance to the first-line manager but are of great importance to the middle manager. All small business owners need such skills.
Interpersonal skills, “include the ability to communicate with, motivate, and lead employees to complete assigned activities,”[58] hopefully building cooperation within the manager’s team. Managers without these skills will have a tough time succeeding. Interpersonal skills are of greatest importance to middle managers and are somewhat less important for first-line managers. They are of least importance to top management, but they are still very important. They are critical for all small business owners.
The fourth basic management skill is decision making (Figure 13.4 “Management Decision Making”), the ability to identify a problem or an opportunity, creatively develop alternative solutions, select an alternative, delegate authority to implement a solution, and evaluate the solution.[59]
Figure 13.4 Management Decision Making
Making good decisions is never easy, but doing so is clearly related to small business success. “Decisions that are based on a foundation of knowledge and sound reasoning can lead the company into long-term prosperity; conversely, decisions that are made on the basis of flawed logic, emotionalism, or incomplete information can quickly put a small business out of commission.”[60]
A Framework for Ethical Decision Making
Small business decisions should be ethical decisions. Making ethical decisions requires that the decision maker(s) be sensitive to ethical issues. In addition, it is helpful to have a method for making ethical decisions that, when practiced regularly, becomes so familiar that it is automatic. The Markkula Center for Applied Ethics recommends the following framework for exploring ethical dilemmas and identifying ethical courses of action.[61] However, in many if not most instances, a small business owner or manager and an employee will usually know instinctively whether a particular decision is unethical.
Recognize an Ethical Issue
• Could this decision or situation be damaging to someone or some group? Does this decision involve a choice between a good and a bad alternative or perhaps between two “goods” or between two “bads”?
• Is this issue about more than what is legal or most efficient? If so, how?
Get the Facts
• What are the relevant facts of the case? What facts are not known? Can I learn more about the situation? Do I know enough to make a decision?
• What individuals and groups have an important stake in the outcome? Are some concerns more important? Why?
• What are the options for acting? Have all the relevant persons and groups been consulted? Have I identified creative options?
Evaluate Alternative Actions
• Which option will produce the most good and do the least harm?
• Which option best respects the rights of all who have a stake?
• Which option treats people equally or proportionately?
• Which option best serves the community as a whole, not just some members?
• Which option leads me to act as the sort of person I want to be?
Make a Decision and Test It
• Considering all these approaches, which option best addresses the situation?
• If I told someone I respect—or told a television audience—which option I have chosen, what would they say?
Act and Reflect on the Outcome
• How can my decision be implemented with the greatest care and attention to the concerns of all stakeholders?
• How did my decision turn out, and what have I learned from this specific situation?
Key Takeaways
• Management principles are important to all small businesses.
• Management decisions will impact the success of a business, the health of its work environment, its growth if growth is an objective, and customer value and satisfaction.
• Management is about achieving organizational objectives through people.
• The most common reason attributed to small business failure is failure on the part of management.
• On any given day, a typical small business owner or manager will be engaged in some mix of planning, organizing, staffing, directing, and controlling.
• Different situations call for different leadership styles. The three major styles are autocratic, democratic, and laissez-faire. Bad leaders typically stick with one style.
• The management hierarchy is typically composed of three levels: top or executive, middle, and first-line or supervisory. If a small business is large enough to have these three levels, it is important that there be a clear distinction between them.
• Management skills are required for success. Technical, conceptual, interpersonal, and decision-making skills will be of differing importance depending on the management level.
Exercises
1. Apply the four steps in the controlling function for Frank’s BarBeQue. Identify and discuss examples of performance standards that Frank might use. Indicate which standards should be numerically based. How could he measure performance? What corrective action should he take if performance does not meet the established performance standards?
Organizational Design
Learning Objectives
1. Understand why an organizational structure is necessary.
2. Understand organizational principles.
3. Explain the guidelines for organizing a small business.
4. Describe the different forms of organizational structure and how they apply to small businesses.
Organizing consists of grouping people and assigning activities so that job tasks and the mission of a business can be properly carried out. The result of the organizing process should be an overall structure that permits interactions among individuals and departments needed to achieve the goals and objectives of a business.[62] Although small business owners may believe that they do not need to adhere to the organizing principles of management, nothing could be farther from the truth.
Principles represent guidelines that managers can use in making decisions. They are not laws etched in stone. At times, principles can be used exactly as the way they are stated; at other times they should be modified or even completely ignored. Small business owners must learn through experience when and where to use [the] principles or to modify them [emphasis added]. Principles when used effectively and in the right context often bring organizational efficiencies and thus result in the growth of the business. Some organizing principles…would apply to small businesses as well as they would to large enterprises and would lead to similar benefits. [63]
There is no single best way to organize. Rather, the organization decision is based on a multitude of factors, including business size, market, product mix, competition, the number of employees, history, objectives and goals, and available financial resources.[64] Each small business must decide what organizational design best fits the business.
Fundamentals of Organization
Ivancevich and Duening maintain that there are several fundamental issues that managers need to consider when making any kind of organizational decision: clear objectives, coordination, formal and informal organization, the organization chart, formal authority, and centralization versus decentralization. Understanding these fundamentals can facilitate the creation of an organizational structure that is a good fit for a small business. [65]
Clear Objectives
Objectives “give meaning to the business—and to the work done by employees—by determining what it is attempting to accomplish.”[66] Objectives provide direction for organizing a firm, helping to identify the work that must be done to accomplish the objectives. This work, in turn, serves as the basis on which to make staffing decisions.
Coordination
The resources of a small business and its employees must be coordinated to minimize duplication and maximize effectiveness.[67] Coordination requires informal communication with and among employees every day. All businesses must continually coordinate the activities of others—an effort that should never be underestimated. Business leaders must make sure that employees have the answers to six fundamental questions:[68]
1. What is my job?
2. How am I doing?
3. Does anyone care?
4. How are we doing?
5. What are our vision, mission, and values?
6. How can I help?
Formal and Informal Organization
When a one-person small business adds employees, some kind of hierarchy will be needed to indicate who does what. This hierarchy often becomes the formal organization —that is, the details of the roles and responsibilities of all employees.[69] Formal organization tends to be static, but it does indicate who is in charge of what. This helps to prevent chaos. The formal organizational structure helps employees feel safe and secure because they know exactly what their chain of command is. The downside of a formal organizational structure is that it typically results in a slower decision-making process because of the numerous groups and people who have to be involved and consulted.[70]
The informal organization is almost never explicitly stated. It consists of all the connections and relationships that relate to how people throughout the organization actually network to get a job done. The informal organization fills the gaps that are created by the formal organization.[71] Although the informal organization is not written down anywhere, it has a tremendous impact on the success of a small business because it is “composed of natural leaders who get things done primarily through the power granted to them by their peers.”[72] Informal groups and the infamous grapevine are firmly embedded in the informal organization. The grapevine (or water cooler) “is the informal communications network within an organization,…completely separate from—and sometimes much faster than—the organization’s formal channels of communication.”[73] Small business owners must acknowledge the existence of the grapevine and figure out how to use it constructively.
Video Clip 13.1 Leading Outside the Lines
The formal and informal organizations need to work together to sustain peak performance over time.
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=144
Organization Chart
The organization chart is a visual representation of the formal organization of a business. The chart shows the structure of the organization and the relationships and relative ranks of its positions; it helps organize the workplace while outlining the direction of management control for subordinates.[74] Even the one-person small business can use some kind of organization chart to see what functions need to be performed; this will help ensure that everything that should be done is getting done.[75]Figure 13.5 “Organization Chart for a One-Person Small Business” illustrates a simple organization chart for a one-person retail business.[76]
Figure 13.5 Organization Chart for a One-Person Small Business
Organization charts offer the following benefits:
• Effectively communicate organizational, employee, and enterprise information
• Allow managers to make decisions about resources, provide a framework for managing change, and communicate operational information across the organization
• Are transparent and predictable about what should happen in a business
• Provide a quick snapshot about the formal hierarchy in a business
• Tell everyone in the organization who is in charge of what and who reports to whom
There are, of course, several limitations to organization charts:[79]
• They are static and inflexible, often being out of date as organizations change and go through growth phases.
• They do not aid in understanding what actually happens within the informal organization. The reality is that organizations are often quite chaotic.
• They cannot cope with changing boundaries of firms due to outsourcing, information technology, strategic alliances, and the network economy.
In its early stages, a small business may choose not to create a formal organization chart. However, organization must exist even without a chart so that the business can be successful. Most small businesses find organization charts to be useful because they help the owner or the manager track growth and change in the organizational structure.[80] The real challenge is to create an organizational chart that reflects the real world. Small businesses have a definite advantage here because their size allows for more flexibility and manageability.
Video Clip 13.2 Burn Your Org Chart
Not all organizational charts reflect the real world.
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=144
Formal authority is “the right to give orders and set policy.”[81] It is organized according to a hierarchy, typically expressed in the organization chart, where one manager may have authority over some employees while being subject to the formal authority of a superior at the same time. Formal authority also encompasses the allocation of an organization’s resources to achieve its objectives. The position on the organization chart will be indicative of the amount of authority and formal power held by a particular individual.
Two major types of authority that the small business owner should understand are line and staff. These authorities reflect the existing relationships between superiors and subordinates.[84]Line authority refers to having direct authority over lower positions in the hierarchy. “A manager with line authority is the unquestioned superior for all activities of his or her subordinates.”[85] The day-to-day tasks of those with line authority involve working directly toward accomplishing an organization’s mission, goals, and objectives.[86] Examples of positions with line authority are the president, the vice president of operations, and the marketing manager. In a small business, the owner or the top manager will have line authority over his or her subordinates. The extent of line authority beyond the owner or the top manager will depend on the size of the business and the organizational vision of the owner.
Staff authority is advisory only. There is no authority to take action (except when someone is a manager of a staff function, e.g., human resources), and there is no responsibility for revenue generation. Someone with staff authority assists those with line authority as well as others who have staff authority. Examples of staff authority are human resources, legal, and accounting, each of which is relevant to a small business. Staff personnel can be extremely helpful in improving the effectiveness of line personnel. Unfortunately, staff personnel are often the first to go when cutbacks occur. As a small business grows, a decision may be made to add staff personnel because the most significant factor in determining whether or not to add personnel is the size of a business. The larger the organization, the greater the need and the ability to hire staff personnel to provide specialized expertise.[87] Small businesses, however, may prefer to hire outside service providers for staff functions such as legal and accounting services because it would be difficult to keep such people busy full time. Remember, cash flow is king.
Centralization and Decentralization
Centralization and decentralization are about the amount of authority to delegate. Centralization means that little or no authority and job activities are delegated to subordinates. A relatively small number of line managers make the decisions and hold most of the authority and power. Decentralization is the opposite. Authority and job activities are delegated rather than being held by a small management group.
Depending on various factors, organizations move back and forth on the centralization-decentralization continuum. For example, managing a crisis requires more centralized decision making because decisions need to be made quickly.[90] A noncrisis or a normal work situation would favor decentralized decision making and encourages employee empowerment and delegated authority.[91] There are no universally accepted guidelines for determining whether a centralized or a decentralized approach should be used. It has been noted, however, that, “the best organizations are those that are able to shift flexibly from one level of centralization to another in response to changing external conditions.” [92] Given the flexibility and the responsiveness of small businesses that originate from their size, any movement that is needed along the centralization-decentralization continuum will be much easier and quicker.
Guidelines for Organizing
Several management principles can be used as guidelines when designing an organizational structure. Although there are many principles to consider, the focus here is on unity of command, division of work, span of control, and the scalar principle. These principles are applicable to small businesses although, as has been said earlier, they should not be seen as etched in stone. They can be modified or ignored altogether depending on the business, the situation at hand, and the experience of management.
Unity of Command
Unity of command means that no subordinate has more than one boss. Each person in a business should know who gives him or her the authority to make decisions and do the job. Having conflicting orders from multiple bosses will create confusion and frustration about which order to follow and result in contradictory instructions.[95] In addition, violating the unity of command will undermine authority, divide loyalty, and create a situation in which responsibilities can be evaded and work efforts will be duplicated and overlapping. Abiding by the unity of command will provide discipline, stability, and order, with a harmonious relationship—relatively speaking, of course—between superior and subordinate.[96] Unity of command makes the most sense for everyone, but it is violated on a regular basis.
Division of Labor
The division of labor is a basic principle of organizing that maintains that a job can be performed much more efficiently if the work is divided among individuals and groups so that attention and effort are focused on discrete portions of the task—that is, the jobholder is allowed to specialize. The result is a more efficient use of resources and greater productivity. As mentioned earlier, small businesses are commonly staffed with people who wear multiple hats, including the owner. However, the larger the business, the more desirable it will be to have people specialize to improve efficiency and productivity. To do otherwise will be to slow down processes and use more resources than should be necessary. This will have a negative impact on the bottom line.
Span of Control
Span of control (span of management) refers to the number of people or subordinates that a manager supervises. The span of control typically becomes smaller as a person moves up the management hierarchy. There is no magic number for every manager. Instead, the number will vary based on “The abilities of both the manager and the subordinates, the nature of the work being done, the location of the employees, and the need for planning and coordination.”[99] The growing trend is to use wider spans of control. Companies are flattening their structures by reducing their layers of management, particularly middle management. This process has increased the decision-making responsibilities that are given to employees. As a small business grows, there will likely be more management hierarchy unless the small business owner is committed to a flatter organization. Either approach will have implications for span of control.
Scalar Principle
The scalar principle maintains “that authority and responsibility should flow in a clear, unbroken line from the highest to the lowest manager.”[103] Abiding by this principle will result in more effective decision making and communication at various levels in the organization. Breaking the chain would result in confusion about relationships and employee frustration. Following this principle is particularly important to small businesses because the tendency may otherwise be to operate on a more informal basis because of the size of the business. This would be a mistake. Even a two-person business should pay attention to the scalar principle.
Types of Organization Structures
Knowledge about organization structures is important for a small business that is already up and running as well as a small business in its early stages. Organizations are changing every day, so small business owners should be flexible enough to change the structure over time as the situation demands, perhaps by using the contingency approach. “The contingency approach to the structure of current organizations suggests there is no ‘one best’ structure appropriate for every organization. Rather, this approach contends the ‘best’ structure for an organization fits its needs for the situation at the time.”[104] If a small business employs fewer than fifteen people, it may not be necessary to worry too much about its organizational structure. However, if the plans for the business include hiring more than fifteen people, having an organizational structure makes good sense because it will benefit a company’s owner, managers, employees, investors, and lenders.[105] There are many structure options. Functional, divisional, matrix, and network or virtual structures are discussed here.
Functional Structure
The functional structure is overwhelmingly the choice of business start-ups and is probably the most common structure used today. This structure organizes a business according to job or purpose in the organization and is most easily recognized by departments that focus on a single function or goal. (See Figure 13.6 “An Example of a Functional Structure” for an example of a functional structure.) A start-up business is not likely to have an organization that looks like this. There may be only one or two boxes on it, representing the founder and his or her partner (if applicable).[106] As a small business grows, the need for additional departments will grow as well.
Figure 13.6 An Example of a Functional Structure [107]
The functional structure gives employees and their respective departments clear objectives and purpose for their work. People in accounting can focus on improving their knowledge and skills to perform that work. This structure has also been shown to work well for businesses that operate in a relatively stable environment.
At the same time, the functional structure can create divisions between departments if conflict occurs,[110] and it can become an obstruction if the objectives and the environment of the business require coordination across departments.[111]
Divisional Structure
The divisional structure can be seen as a decentralized version of the functional structure. The functions still exist in the organization, but they are based on product, geographic area or territory, or customer. Each division will then have its own functional department(s).[112] (See Figure 13.7 “An Example of a Divisional Structure” for an example of a divisional structure.)
Figure 13.7 An Example of a Divisional Structure
The divisional structure can work well because it focuses on individual geographic regions, customers, or products. This focus will enable greater efficiencies of operation and the building of “A common culture and esprit de corps that contributes both to higher morale and a better knowledge of the division’s portfolio.” [113] There are, of course, disadvantages to this structure. Competing divisions may turn to office politics, rather than strategic thinking, to guide their decision making, and divisions may become so compartmentalized as to lead to product incompatibilities. [114]
As a small business starts to grow in the diversity of its products, in the geographic reach of its markets, or in its customer bases, there is an evolution away from the functional structure to the divisional structure. However, significant growth would be needed before the divisional structure should be put into place.
Matrix Structure
The matrix structure combines elements of the functional and the divisional structures, bringing together specialists from different areas of a business to work on different projects on a short-term basis. Each person on the project team reports to two bosses: a line manager and a project manager. (See Figure 13.8 “An Example of a Matrix Structure” for an example of a matrix structure.) The matrix structure, popular in high-technology, multinational, consulting, and aerospace firms and hospitals, offers several key advantages, including the following: flexibility in assigning specialists, flexibility in adapting quickly to rapid environmental changes, the ability to focus resources on major products and problems, and creating an environment where there is a higher level of motivation and satisfaction for employees. The disadvantages include the following: the violation of the “one boss” principle (unity of command) because of the dual lines of authority, responsibility, and accountability;[118] employee confusion and frustration from reporting to two bosses; power struggles between the first-line and the project managers; too much group decision making; too much time spent in meetings; personality clashes; and undefined personal role.s The disadvantages notwithstanding, many companies with multiple business units, operations in multiple countries, and distribution through multiple channels have discovered that the effective use of a matrix structure is their only choice.[121]
Figure 13.8 An Example of a Matrix Structure [122]
The matrix structure is for project-oriented businesses, such as aerospace, construction, or small manufacturers of the job-shop variety (producers of a wide diversity of products made in small batches).
Virtual Organization
The virtual organization (or network organization) is becoming an increasingly popular business structure as a means of addressing critical resource, personnel, and logistical issues. (See Figure 13.9 “An Example of a Virtual Organization” for an example of a virtual organization.) Administration is the primary function performed; other functions—such as marketing, engineering, production, and finance—are outsourced to other organizations or individuals. Individual professionals may or may not share office space, the organization is geographically distributed, the members of the organization communicate and coordinate their work through information technology, and there is a high degree of informal communication. The barriers of time and location are removed.
Figure 13.9 An Example of a Virtual Organization [126]
The positives associated with a virtual organization include reduced real-estate expenses, increased productivity, higher profits, improved customer service, access to global markets, environmental benefits (such as reduced gas mileage for employees, which contributes to reduced auto emissions), a wider pool of potential employees, and not needing to have all or some of the relevant employees in the same place at the same time for meetings or delivering services. The negatives include setup costs; some loss of cost efficiencies; cultural issues (particularly when working in the global arena); traditional managers not feeling secure when their employees are working remotely, particularly in a crisis; feelings of isolation because of the loss of the camaraderie of the traditional office environment; and a lack of trust.
The virtual organization can be quite attractive to small businesses and start-ups. By outsourcing much of the operations of a business, costs and capital requirements will be significantly reduced and flexibility enhanced. Given the lower capital requirements of a virtual business, some measures of profitability (e.g., return on investment [ROI] and return on assets [ROA]), would be significantly increased. This makes a business much more financially attractive to potential investors or banks, which might provide funding for future growth. ROI “is a performance measure used to evaluate the efficiency of an investment or to compare the efficiency of a number of investments.”[131]ROA is “an indicator of how profitable a company is relative to its assets…[giving] an idea as to how efficient management is at using its assets to generate earnings.”[132]
Creating an Effective Business Organization Structure
Thinking and rethinking the business organization structure is important for all businesses—large or small. Conditions, products, and markets change. It is important to be flexible in creating a business structure that will best allow a business to operate effectively and efficiently. Each of the following should be considered:
• Competitors. Make an educated guess of the structure of competitors. Try to find out what works for them. Look at their reporting line structures and their procurement, production, marketing, and management systems. Perhaps there are some good ideas to be had.
• Industry. Is there a standard in an industry? Perhaps an industry lends itself to flexible organization structures, or perhaps more hierarchical structures are the norm. For example, auto manufacturers are usually set up regionally.
• Compliance or legal requirements. If an industry is regulated, certain elements may be required in the business structure. Even if an industry is not regulated, there may be compliance issues associated with employing a certain number of employees.
• Investors and lending sources. Having a business organization structure will give potential investors and funding institutions a window into how the business organizes its operations. The structure also lets investors and lenders know what kind of talent is needed, how soon they will be needed, and how the business will find and attract them.[133]
Key Takeaways
• Organizations are changing every day, so small business owners should be flexible enough to change their structure over time as the situation demands.
• The functional structure is overwhelmingly the choice of business start-ups and is probably the most commonly used structure today.
• The functional structure organizes a business according to the job or the purpose in the organization and is most easily recognized by departments that focus on a single function or goal.
• The divisional structure is a decentralized version of the functional structure. The functions still exist, but they are based on product, geographic area or territory, or customer.
• As a small business starts to grow, there is an evolution away from the functional to the divisional structure. However, significant growth is required before the divisional structure is put into place.
• The matrix structure brings specialists from different areas of a business together to work on different projects for a short-term basis. This structure is for project-oriented businesses, such as aerospace, construction, or small manufacturers.
• In the virtual structure, administration is the primary function performed, with other functions—such as marketing, engineering, production, and finance—outsourced to other companies or individuals. This structure can be quite attractive to small businesses and start-ups.
• Creating an effective business organization structure should take the competition, the industry, compliance or legal requirements, investors, and lending sources into consideration.
Exercises
1. Select two small businesses that market two very different products, for example, a small manufacturer and a restaurant. Contact the manager of each business and conduct a fifteen-minute interview about the organizational structure that has been chosen. Ask each manager to describe the existing organizational structure (drawing an organization chart), explain why that structure was chosen, and reflect on the effectiveness and efficiency of the structure. Also ask each manager whether any thoughts have been given to changing the existing structure.
2. Frank Rainsford has been, in effect, the CEO of Frank’s All-American BarBeQue since its inception. His major role has been that of restaurant manager, receiving support from his assistant manager Ed Tobor for the last fourteen years. Frank has two children, a son and daughter, who both worked in the restaurant as teenagers. His daughter has worked periodically at the restaurant since she graduated from high school. Frank’s son, who recently lost his job, has returned to work for his father. The son produced several plans to expand the business, including the opening of a second restaurant and the extensive use of social media. After careful consideration, Frank has decided to open a second restaurant, but this has presented him with a major problem—how to assign responsibilities to personnel. His son wants to be designated the restaurant manager of the second restaurant and made the vice president of marketing. Ed Tobor also wants to be the manager of the new restaurant. His daughter has expressed an interest in being the manager of either restaurant. How should Frank resolve this problem?
Legal Forms of Organization for the Small Business
Learning Objectives
1. Understand the different legal forms that a small business can take.
2. Explain the factors that should be considered when choosing a legal form.
3. Understand the advantages and disadvantages of each legal form.
4. Explain why the limited liability company may be the best legal structure for many small businesses.
Every small business must select a legal form of ownership. The most common forms are sole proprietorship, partnership, and corporation. A limited liability company (LLC) is a relatively new business structure that is now allowed by all fifty states. Before a legal form is selected, however, several factors must be considered, not the least of which are legal and tax options.
Factors to Consider
The legal form of the business is one of the first decisions that a small business owner will have to make. Because this decision will have long-term implications, it is important to consult an attorney and an accountant to help make the right choice. The following are some factors the small business owner should consider before making the choice:[134][135]
• The owner’s vision. Where does the owner see the business in the future (size, nature, etc.)?
• The desired level of control. Does the owner want to own the business personally or share ownership with others? Does the owner want to share responsibility for operating the business with others?
• The level of structure. What is desired—a very structured organization or something more informal?
• The acceptable liability exposure. Is the owner willing to risk personal assets? Is the owner willing to accept liability for the actions of others?
• Tax implications. Does the owner want to pay business income taxes and then pay personal income taxes on the profits earned?
• Sharing profits. Does the owner want to share the profits with others or personally keep them?
• Financing needs. Can the owner provide all the financing needs or will outside investors be needed? If outside investors are needed, how easy will it be to get them?
• The need for cash. Does the owner want to be able to take cash out of the business?
The final selection of a legal form will require consideration of these factors and tradeoffs between the advantages and disadvantages of each form. No choice will be perfect. Even after a business structure is determined, the favorability of that choice over another will always be subject to changes in the laws.[136]
Sole Proprietorship
A sole proprietorship is a business that is owned and usually operated by one person. It is the oldest, simplest, and cheapest form of business ownership because there is no legal distinction made between the owner and the business (see Table 13.1 “Sole Proprietorships: A Summary of Characteristics”). Sole proprietorships are very popular, comprising 72 percent of all businesses and nearly \$1.3 trillion in total revenue.[137] Sole proprietorships are common in a variety of industries, but the typical sole proprietorship owns a small service or retail operation, such as a dry cleaner, accounting services, insurance services, a roadside produce stand, a bakery, a repair shop, a gift shop, painters, plumbers, electricians, and landscaping services.[138] Clearly, the sole proprietorship is the choice for most small businesses.
Table 13.1 Sole Proprietorships: A Summary of Characteristics [139][140][141][142]
Liability Taxes Advantages Disadvantages
Unlimited: owner is responsible for all the debts of the business. No special taxes; owner pays taxes on profits; not subject to corporate taxes
• Tax breaks
• Owner retains all profits
• Easy to start and dissolve
• Flexibility of being own boss
• No need to disclose business information
• Pride of ownership
• Owner absorbs all losses
• Unlimited liability
• Difficult to get financing
• Management deficiencies
• Lack of stability in case of injury, death, or illness
• Time demands
• Difficult to hire and keep highly motivated employees
Partnership
A partnership is two or more people voluntarily operating a business as co-owners for profit. Partnerships make up more than 8 percent of all businesses in the United States and more than 11 percent of the total revenue.[143] Like the sole proprietorship, the partnership does not distinguish between the business and its owners (see Table 13.2 “Partnerships: A Summary of Characteristics”). There should be a legal agreement that “sets forth how decisions will be made, profits will be shared, disputes will be resolved, how future partners will be admitted to the partnership, how partners can be bought out, and what steps will be taken to dissolve the partnership when needed.”[144]
There are two types of partnerships. In the general partnership, all the partners have unlimited liability, and each partner can enter into contracts on behalf of the other partners. A limited partnership has at least one general partner and one or more limited partners whose liability is limited to the cash or property invested in the partnership. Limited partnerships are usually found in professional firms, such as dentists, lawyers, and physicians, as well as in oil and gas, motion-picture, and real-estate companies. However, many medical and legal partnerships have switched to other forms to limit personal liability.
Before creating a partnership, the partners should get to know each other. According to Michael Lee Stallard, cofounder and president of E Pluribis Partners, a consulting firm in Greenwich, Connecticut, “The biggest mistake business partners make is jumping into business before getting to know each other…You must be able to connect to feel comfortable expressing your opinions, ideas and expectations.”[148]
Table 13.2 Partnerships: A Summary of Characteristics [149][150][151][152][153]
Liability Taxes Advantages Disadvantages
Unlimited for general partner; limited partners risk only their original investment. Individual taxes on business earnings; no income taxes as a business
• Owner(s) retain all profits
• Unlimited for general partner; limited partners risk only their original investment. Individual taxes on business earnings; no income taxes as a business
• Easy to form and dissolve
• Greater access to capital
• No special taxes
• Clear legal status
• Combined managerial skills
• Prospective employees may be attracted to a company if given incentive to become a partner
• Unlimited financial liability for general partners
• Interpersonal conflicts
• Financing limitations
• Management deficiencies
• Partnership terminated if one partner dies, withdraws, or is declared legally incompetent
• Shared decisions may lead to disagreements
Corporation
A corporation “is an artificial person created by law, with most of the legal rights of a real person. These include the rights to start and operate a business, to buy or sell property, to borrow money, to sue or be sued, and to enter into binding contracts”.[154] (see Table 13.3 “Corporations: A Summary of Characteristics”). Corporations make up 20 percent of all businesses in the United States, but they account for almost 90 percent of the revenue.[155] Although some small businesses are incorporated, many corporations are extremely large businesses—for example, Walmart, General Electric, Procter & Gamble, and Home Depot. Recent data show that only about one-half of the small business owners in the United States run incorporated businesses.[156]
Scott Shane, author of The Illusions of Entrepreneurship (Yale University Press, 2010), argues that small businesses that are incorporated have a much higher rate of success than sole proprietorships, outperforming unincorporated small businesses in terms of profitability, employment growth, sales growth, and other measures.[157] Shane maintains that being incorporated may not make sense for “tiny little businesses” because the small amount of risk may not be worth the complexity. However, Deborah Sweeney, incorporation expert for Intuit, disagrees, saying that “even the smallest eBay business has a risk of being sued” because shipping products around the country or the world can create legal problems if a shipment is lost.[158] Ultimately, it is the small business being successful that may be the biggest factor for the owner to move from a sole proprietorship to a corporation.
Table 13.3 Corporations: A Summary of Characteristics [159][160][161][162]
Liability Taxes Advantages Disadvantages
Limited; multiple taxation
• Limited liability
• Skilled management team
• Ease of raising capital
• Easy to transfer ownership by selling stock
• Perpetual life
• Legal-entity status
• Economies of large-scale operations
• Double taxation
• Difficult and expensive to start
• Individual stockholder has little control over operations
• Financial disclosure
• Lack of personal interest unless managers are also stockholders
• Credit limitations
• Government regulation and increased paperwork
Limited Liability Company
The limited liability company (LLC) is a relatively new form of business ownership that is now permitted in all fifty states, although the laws of each state may differ. The LLC is a blend of a sole proprietorship and a corporation: the owners of the LLC have limited liability and are taxed only once for the business.[163] The LLC provides all the benefits of a partnership but limits the liability of each investor to the amount of his or her investment (see Table 13.4 “Limited Liability Companies: A Summary of Characteristics”). “LLCs were created to provide business owners with the liability protection that corporations enjoy without the double taxation.”[164]
According to Carter Bishop, a professor at Suffolk University Law School, who helped draft the uniform LLC laws for several states, “There’s virtually no reason why a small business should file as a corporation, unless the owners plan to take the business public in the near future.”[165] In the final analysis, the LLC business structure is the best choice for most small businesses. The owners will have the greatest flexibility, and there is a liability shield that protects all owners. [166]
Table 13.4 Limited Liability Companies: A Summary of Characteristics [167][168][169][170][171]
Liability Taxes Advantages Disadvantages
Limited; owners taxed at individual income tax rate
• Limited liability
• Taxed at individual tax rate
• Shareholders can participate fully in managing company
• No limit on number of shareholders
• Easy to organize
• LLC members can agree to share profits and losses disproportionately
• Difficult to raise money
• No perpetual life
• Is dissolved at death, withdrawal, resignation, expulsion, or bankruptcy of one member unless there is a vote to continue
• No transferability of membership without the majority consent of other members
Key Takeaways
• Every small business must select a legal form of ownership. It is one of the first decisions that a small business owner must make.
• The most common forms of legal structure are the sole proprietorship, the partnership, and the corporation. An LLC is a relatively new business structure.
• When deciding on a legal structure, every small business owner must consider several important factors before making the choice.
• The sole proprietorship is the oldest, simplest, and cheapest form of business ownership. This business structure accounts for the largest number of businesses but the lowest amount of revenue. This is the choice for most small businesses.
• A partnership is two or more people voluntarily operating a business as co-owners for profit. There are general partnerships and limited partnerships.
• A corporation is an artificial person with most of the legal rights of a real person. Corporations make up about 20 percent of all businesses in the United States, but they account for almost 90 percent of the revenue.
• Small businesses that are incorporated outperform unincorporated small businesses in terms of profitability, employment growth, sales growth, and other measures.
• The LLC is a hybrid of a sole proprietorship and a corporation. It is the best choice for most small businesses.
Exercises
1. Select three small businesses of different sizes: small, medium, and large. Interview the owners, asking each about the legal structure that the owner chose and why. If any of the businesses are sole proprietorships, ask the owner if an LLC was considered. If not, try to find out why it was not considered.
2. Frank’s BarBeQue is currently a sole proprietorship. Frank’s son, Robert, is trying to persuade his father to either incorporate or become an LLC. Assume that you are Robert. Make a case for each legal structure and then make a recommendation to Frank. It is expected that you will go beyond the textbook in researching your response to this assignment.
People
Learning Objectives
1. Understand the complexities of hiring, retaining, and terminating employees.
2. Be aware of the laws that apply to businesses of all sizes and specifically to small businesses of certain sizes.
3. Understand outsourcing: what it is; when it is a good idea; and when it is a bad idea.
4. Describe ways to improve office productivity.
The term human resources has been deliberately avoided in this section. This term is more appropriate for large bureaucratic organizations that tend to view their personnel as a problem to be managed. Smaller and midsize enterprise personnel, however, are not mere resources to be managed. They should not be seen as cogs in a machine that are easily replaceable. Rather, they are people to be cultivated because they are the true lifeblood of the organization.
Many small businesses operate with no employees. The sole proprietor handles the whole business individually, perhaps with help from family or friends from time to time. Deciding to hire someone will always be a big leap because there will be an immediate need to worry about payroll, benefits, unemployment, and numerous other details.[172] A small business that looks to grow will face the hiring decision again and again, and additional decisions about compensation, benefits, retention, training, and termination will become necessary. Other issues of concern to a growing small business or a small business that wants to stay pretty much where it is include things such as outsourcing, how to enhance and improve productivity, and legal matters.
Hiring New People
All businesses want to attract, develop, and retain enough qualified employees to perform the activities necessary to accomplish the organizational objectives of the business.[173] Although most small businesses will not have a department dedicated to performing these functions, these functions must be performed just the same. The hiring of the first few people may end up being pretty simple, but as the hiring continues, there should be a more formal hiring process in place.
Figure 13.10 “Steps in the Hiring Process” illustrates the basics of any hiring process, whether for a sole proprietorship or a large multinational corporation.
Identify Job Requirements
A small business owner should not proceed with hiring anyone until he or she has a clear idea of what the new hire will do and how that new hire will help attain the objectives of the business. Workforce planning, the “process of placing the right number of people with the right skills, experiences, and competencies in the right jobs at the right time,”[175] is a way to do that. The scope of this planning will be very limited when a business is very small, but as a business grows, it will take on much greater importance. Doing things right with the first new hire will establish a strong foundation for hiring in the future. Forecasting needs for new people, both current and future, is part of workforce planning. No forecast is perfect, but it will provide a basis on which to make hiring decisions.
As an employer, every small business should prepare a job description before initiating the recruitment process. A good job description describes the major areas of an employee’s job or position: the duties to be performed, who the employee will report to, the working conditions, responsibilities, and the tools and equipment that must be used on the job.[176] It is important not to create an inflexible job description because it will prevent the small business owner and the employees from trying anything new and learning how to perform their jobs more productively.[177]
Choose Sources of Candidates
Because hiring a new employee is an expensive process, it is important to choose sources that have the greatest potential for reaching the people who will most likely be interested in what a small business has to offer. Unfortunately, it is not always possible to know what those sources are, so selecting a mix of sources makes good sense.
• Internet. The Internet offers a wealth of places to advertise a job opportunity. Monster.com, CareerBuilder.com, and LinkedIn.com are among the largest and most well-known sites, but there may be local or regional job sites that might work better, particularly if a business is very small. A business will not have the resources to bring people in from great distances. If a business has a Facebook or a Twitter presence, this is another great place to let people know about job openings. There may also be websites that specialize in particular occupations.
• Schools and colleges. Depending on the nature of the job, local schools and colleges are great sources for job candidates, particularly if the job is part time. Full-time opportunities may be perfect for the new high school or college graduate. It would be worth checking out college alumni offices as well because they often offer job services.
• Employee referrals. Referrals are always worth consideration, if only on a preliminary basis. The employee making the referral knows the business and the person being referred. Going this route can significantly shorten the search process…if there is a fit.
• Promotion from within. Promoting from within is a time-honored practice. The owner sends a positive signal to employees that there is room for advancement and management cares about its employees. It is significantly less costly and quicker than recruiting outside, candidates are easier to assess because more information is available, and it improves morale and organization loyalty.[178] On the downside, there may be problems between the person who is promoted and former coworkers, and the organization will not benefit from the fresh ideas of someone hired from the outside.
• Want ads. Want ads can be very effective for a small business, especially if a business is looking locally or regionally. The more dynamic the want ad, the more likely it will attract good candidates. Newspapers and local-reach magazines might be a business’s first thoughts but also consider advertising in the newsletters of relevant professional organizations and at the career services offices of local colleges, universities, and technical colleges.
Review Applications and Résumés
When looking for the best qualified candidates, be very clear about the objectives of the business and the associated reason(s) for hiring someone new. It is also critical to know the law. Some examples are provided here. This would be a good time to consult with a lawyer to make sure that everything is done properly.
1. Employee registration requirement. All US employers must complete and retain Form I-9 for each individual, whether a citizen or a noncitizen, hired for employment in the United States. The employer must verify employment eligibility and identity documents presented by the employee.[179]
2. The Civil Rights Act of 1964, the Civil Rights Act of 1991, and the Equal Employment Opportunity Act of 1972. Attempt to provide equal opportunities for employment with regard to race, religion, age, creed, gender, national origin, or disability.[180] The closest Equal Employment Opportunity Commission (EEOC) district office should be contacted for specific information.
3. Immigration Reform and Control Act of 1986. This law places a major responsibility on employers for stopping illegal immigration.
Labor Laws Governing Employers
The following is a brief synopsis of some of the federal statutes governing employers that may apply to a small business. In many instances, they are related to the size of the business.[181] There are definite advantages to staying small.
The following laws apply no matter the size of the business:
• Fair Labor Standards Act
• Social Security
• Federal Insurance Contributions Act
• Medicare
• Equal Pay Act
• Immigration Reform and Control Act
• Federal Unemployment Tax Act
This additional law applies if a business has more than ten employees:
• Occupational Safety and Health Administration Act
The following additional laws apply if a business has more than fourteen employees:
• Title VII Civil Rights Act
• Americans with Disabilities Act (ADA)
• Pregnancy Discrimination Act
The following additional laws apply if a business has more than nineteen employees:
• Age Discrimination in Employment Act
• Older Worker Benefit Protection Act
• Consolidated Omnibus Budget Reconciliation Act
This additional law applies if a business has more than forty-nine employees:
• Family Medical Leave Act
The following additional laws apply if a business has more than ninety-nine employees:
• Worker Adjustment and Retraining Notification Act
• Employee Retirement Income Security Act
Interview Candidates
Just as knowing the law is important when reviewing applications and résumés, it is also important when interviewing candidates. Several interview questions are illegal to ask—for example, “Do you have dependable child care in place?” and “Do you rent or own your own home?”[182] In general, the off-limit topics in most employment interviews include religion, national origin, race, marital status, parental status, age, disability, gender, political affiliation, criminal records, and other personal information such as financial and credit history.[183] In short, keep the interview focused on the job, its requirements, and the qualifications of the candidate.[184]
Select a Candidate and Negotiate an Offer
After any desired follow-up interviews are conducted, it is time to select a candidate and negotiate an offer. There are three main issues to consider: compensation, job performance and expectations, and accommodations for disabilities.
Wages and salaries are often used interchangeably, however they are different. Wages are payments based on an hourly pay rate or the amount of output. Production employees, maintenance workers, retail salespeople (sometimes), and part-time workers are examples of employees who are paid wages.Salaries are typically calculated weekly, biweekly, or monthly. They are usually paid to office personnel, executives, and professional employees.[193] Every small business should do its best to offer competitive wages and salaries, but a small business will generally not be able to offer wages and salaries that are comparable to those offered by large corporations and government. Employee benefits such as health and disability insurance, sick leave, vacation time, child and elder care, and retirement plans, are paid entirely or in part by the company; they represent a large component of each employee’s compensation.[194] Most employees have come to expect a good benefits program, even in a small business, so “the absence of a program or an inadequate program can seriously hinder a company’s ability to attract and keep good personnel.”[195] Not surprisingly, small businesses are also not in a position to offer the same level of benefits that can be offered by large corporations and the government. However, small businesses can still offer a good benefits program if it includes some or all the following elements: health insurance, disability insurance, life insurance, a retirement plan, flexible compensation, leave, and perks.[196] In addition, small businesses can offer benefits that only a small business can offer—for example, the flexibility to dress casually, half days on Friday, and bringing one’s pet to work. Other ideas include gym memberships or lunch programs. These things have proven to increase employee loyalty, and they will fit the budget of even the smallest business.[197]
Set Performance Expectations
It is in the best interests of a business for prospective new employees to know and understand their performance expectations. This means that a business must determine what these expectations are. New employees should understand the goals of the organization and, as applicable, the department in which they will be working. It should also be made clear how the employee’s work can positively impact the achievement of these goals.[198]
Make Accommodations for Disabilities
If a business is hiring someone with a disability and has fifteen or more employees, it is required by the ADA (enacted in 1990) to make reasonable workplace accommodations for employees with disabilities. Though not required, businesses with fewer than fifteen employees should consider accommodations as well.
Reasonable accommodations are adjustments or modifications which range from making the physical work environment accessible to restructuring a job, providing assistive equipment, providing certain types of personal assistants (e.g., a reader for a person who is blind, an interpreter for a person who is deaf), transferring an employee to a different job or location, or providing flexible scheduling. Reasonable accommodations are tools provided by employers to enable employees with disabilities to do their jobs. For example, employees are provided with desks, chairs, phones, and computers. An employee who is blind or who has a visual impairment might need a computer which operates by voice command or has a screen that enlarges print.[199]
A tax credit is available to an eligible small business, and businesses may deduct the costs (up to \$15,000) of removing an architectural barrier. Small businesses should check with the appropriate government agency before making accommodations to make sure that everything is done correctly.
Is a Business Hiring and Breeding Greedy and Selfish Employees?
If a business is worried about hiring a bunch of jerks, the EGOS Survey (Evaluation Gauge for Obnoxious Superstars) from Fast Company will help it find out. If a business owner answers truthfully, the owner can learn whether he or she is a leader of obnoxious superstars. Hiring jerks can happen in any size business.[200]
Retention and Termination
Acquiring skilled, talented, and motivated employees will be a continuing concern for all small businesses. But the concerns do not end there. There will be issues concerning retention and termination of employment.
Retention
Employee retention rates play an important role in the cost of running a business. The first few years of an employee’s service are the most costly because money will be spent on recruiting and training the employee. It is only after the employee has been working for some time that he or she will start making money for the business.[201]
Because of the costly and time-consuming nature of hiring new employees, many companies today increasingly emphasize retaining productive people.[202] Even the smallest of businesses should be concerned about retention because high turnover will be disruptive to the operations of the business and, as a result, may lessen the quality of the customer experience and customer satisfaction.
A good training and orientation program at the outset of employment can set the stage for increased retention. Training “is a continual process of providing employees with skills and knowledge they need to perform at a high level.”[203] This continuing process is important. According to Inc.com, “the quality of employees and the continual improvement of their skills and productivity through training, are now widely recognized as vital factors in ensuring the long-term success and profitability of small businesses.”[204] Training programs will vary greatly depending on the size and the nature of the business. However, all training programs must be based on both organizational and individual needs, spell out the problems that will be solved, and be based on sound theories of learning.[205] Many training and management development programs are not for amateurs, but the extent to which a small business can provide professionally delivered programs will be budget and needs related. In some instances, training is performed by someone who is currently doing the job—for example, using a particular machine, operating the cash register, stocking merchandise, and learning office procedures and protocols. Nothing additional is required.
Employee incentive programs are particularly important for small businesses because benefits satisfaction in small businesses typically lags behind benefits satisfaction in large corporations. A recent study[206] revealed that 81 percent of employees who are satisfied with their benefits are also satisfied with their jobs, whereas 23 percent of employees who are dissatisfied with their benefits are very satisfied with their jobs (Figure 13.11 “Benefits Satisfaction in Small Businesses”).
Figure 13.11 Benefits Satisfaction in Small Businesses [207]
Given the importance of benefits to employees, small businesses need to be very creative about what kinds of incentives are offered to their employees. One of the biggest incentives may be the flexibility and camaraderie that are not available in larger businesses,[208] but to increase employee retention and attract the best and brightest, there will need to be more.[209] Creating a sense of community, offering leadership opportunities, creating a culture of recognition, and constantly offering opportunity can be powerful incentives.[210] They can be very effective at increasing employee retention, particularly when there is insufficient money to provide large raises. People want to enjoy their jobs as well as earn money, and they may care about their community and passions equally as much as their salaries. This is an opportunity for small businesses because “smaller companies may be better positioned to provide work-life balance that makes for happier, healthier employees.”[211]
Video Clip 13.3 Keeping Small Business Employees
Some ideas for keeping small business employees. They begin with a good job description.
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=144
Video Clip 13.4 Why Your Best Employees Want to Leave
Seven reasons why your best employees want to leave.
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=144
Termination
Termination or firing will always be unavoidably painful,[212] but it is a managerial duty that is sometimes necessary. In small businesses, terminations are usually carried out by the owner. They should be done promptly to preserve the health of the business.[213] Terminations can be termination at-willor termination for cause.
• Termination at-will. Employment at will means that a person does not have an employment contract. The person is employed “at the will” of the employer for as little or as long as the owner desires. It also means that a person can stop working for an employer at any time. An employer “doesn’t need to give a reason for termination of an ‘at will’ employee, as long as the termination isn’t unlawful or discriminatory…Termination can be due to a merger, workforce reduction, change in company direction and business focus, poor company performance, or any number of other legitimate reasons.”[214]
• Termination for cause. When someone is terminated for cause, that person is being fired for a specific reason,[215] one of which may be behavior. Common causes for termination include but are not limited to stealing, lying, falsifying records, embezzlement, insubordination, deliberately violating company policies or rules, absenteeism and tardiness, unsatisfactory performance, changed job requirements, sexual harassment, and failing a drug or alcohol test. Sexual harassment is a form of sex discrimination that violates Title VII of the Civil Rights Act of 1964. According to the EEOC, sexual harassment is “unwelcome sexual advances, requests for sexual favors, and other verbal or physical conduct of a sexual nature constitutes sexual harassment when submission to or rejection of this conduct explicitly or implicitly affects an individual’s employment, unreasonably interferes with an individual’s work performance or creates an intimidating, hostile or offensive work environment.”[218]
When an employee has been terminated, the small business owner should inform the other employees. As a general rule, the less said to coworkers and other employees about an employee’s termination, the better. People will be curious, but do not infringe on the terminated employee’s privacy or say something that might leave a person open to legal action.[219] The best approach is to inform immediate coworkers, subordinates, and clients by simply telling them that the company no longer employs the employee. Do not mention any details but do include an explanation of how the terminated employee’s duties will be carried out in the future.[220]
Outsourcing
Outsourcing is the practice of using outside firms, some of which may be offshore, to handle work that is normally performed within a company.[221] Small business owners routinely outsource a range of services, such as landscaping; building, utility, and furniture maintenance; distribution; and cleaning. Consistent with the trend set by larger corporations, small businesses are outsourcing a range of services, many of which were once considered fundamental internal functions.[224]
A major reason for outsourcing is cost reduction. Other benefits of outsourcing include increasing efficiency, enabling a company to start new projects quickly, allowing a company to focus on its core business, leveling the playing field with larger companies, and reducing risk.[225] There is no question that outsourcing can be a good idea, but outsourcing is not always a good idea.
When Is Outsourcing a Good Idea?
Outsourcing is a good idea when it allows a small business “to continue performing the functions it does best, while hiring other companies [many of which may be other small businesses] to do tasks that they can handle more competently and cost-effectively.”[226] Traditionally, payroll and personnel services have been outsourced by small businesses, but small businesses now use outside providers for a much greater range of services, including the following:[227]
• Accounting and bookkeeping. A growth area here is outsourcing accounts receivable. This enables a small business to sell off its accounts receivable and invoices to a financing company.[228] As a small business grows, the process of collecting accounts receivable may become too cumbersome to handle without collection agencies becoming involved.[229]
• Specialist and expert help. Elance offers a range of services for small businesses. It has access to thousands of professionals around the world who can provide services such as graphic design, multimedia presentations, engineering, sales and marketing, writing, and translation.[230]
• Public relations and marketing services. These services are costly, require specialized expertise, and are not usually full-time needs.[231] Many service providers specialize in the needs of small businesses.
• Virtual assistants. These people are independent entrepreneurs who provide administrative, creative, or technical support. A growing phenomenon, they work on a contractual basis via online or electronic communications. Virtual Office Temps and VirtualAssistants.com are examples of companies that can connect virtual assistants with any company that is interested.[232]
• Creating benefits package. A tremendous amount of time and creativity would be required for a smaller company to create a benefits package that is competitive in the marketplace.[233] Given the vast complexities of health care, including health-care laws that differ by state, outsourcing this activity makes good sense.
• Legal services. A small business may need to consult an attorney for a variety of reasons, including the following:
• Choosing the business structure
• Constructing a partnership agreement
• Obtaining a corporate charter
• Registering a corporation’s stock
• Obtaining a trademark, a patent, or a copyright or intellectual property
• Filing for licenses or permits at the local, state, and federal levels
• Purchasing an existing business or real estate
• Hiring employees, independent contractors, and other external suppliers (outsourcing)
• Extending credit and collecting debts
• Creating valid contracts
• Initiating or defending against lawsuits
• Keeping current on and compliant with business law and regulations (e.g., advertising, employment and labor, finance, intellectual property, online business law, privacy law, environmental regulations, and the Uniform Commercial Code)
• Protecting intellectual property
• Protecting ideas or inventions from others’ infringement
However, the cost of a full-time attorney would probably be prohibitive. Outsourcing these services is an appropriate choice. Some legal firms offer small businesses a flat monthly fee instead of charging them by the hour,[237] a practice that is very helpful to the small business budget.
When Is Outsourcing a Bad Idea?
Although outsourcing has benefits, there are times when it is a bad idea. For example, sales and technology development are operations that are generally best handled in-house because they are full-time needs that are at the heart of any business.[238] Outsourcing might actually end up being the more expensive alternative, leading to a financial loss instead of a gain. An example would be the cost of a highly specialized expert.[239] In addition, when outsourcing overseas, the small business owner and/or managers may not be prepared to manage projects across time differences and cultural barriers and may not have clear guidelines, expectations, and processes in place to manage product or service quality.[240]
Office Productivity
All small businesses want their employees to work better and smarter. In fact, the smaller a business is, the more efficient and effective it must be. Productivity is an issue in two places: the office and in manufacturing. Office productivity (which applies to all levels in the organization) is discussed in this section, and the role of technology is the focus. “Office” is used broadly to include, for example, physical offices, virtual offices, work situations that involve in-the-car time (e.g., realtors and salespeople), restaurant kitchens, and people who work on the sales floor in retail establishments.
Even the smallest of businesses can improve productivity by using technology, even though such use may be very limited in some instances. For example, goods and services needed to run a business can often be ordered online; e-mail can be used for customer and supplier communication; taxes can be filed online; and a simple software package like Microsoft Communicator allows intra- and extracompany communication via e-mail, text, and video. It will be the rare business that uses no technology.
Some have referred to technology as the road map to small business success—helping grow the business, work smarter, attract more customers, enhance customer service, and stay ahead of the competition.[241] An important component of all this is high office productivity. Efficiency and effectiveness in the office will benefit the entire business.
With the proliferation of social networks, small businesses are implementing more Facebook-like applications into their day-to-day operations. [242]Yammer, for example, “enables a company’s employees to gather inside a private and secure social network that can be controlled and monitored by the employer. The goal is to increase productivity…[It] is about making people work more productively using communication that’s becoming very popular in the consumer space.”[243] Other similar products include Conenza and Chatter.
Some see the iPad as changing how business relationships are built—providing opportunities to connect with prospects in a more meaningful way and allowing people to collaborate with others in real time from wherever they are.[244] The iPad is also changing the way people can work. The SoundNote application allows note taking and recording a meeting simultaneously; once written, the notes can be e-mailed directly to the participants.[245] Just want to take notes? Use Evernote.[246] The iPad can be used in the kitchen of a restaurant, a café, a hotel, or a bar for finding recipes and cooking instructions, displaying recipes as PDF files, and working on budgets and cost analyses.[247] In retailing, the iPad can be used as a virtual sales assistant. In a dress department, coordinating accessories from a jewelry store or the shoe department can be accessed and recommended to the customer. Car dealers could customize a car by showing colors and finishes to the customer—all while standing in the parking lot.[248] In real estate, the iPad can be used for buyer consultations, listing presentations, tracking properties, and chatting with clients—just to name a few.[249]
Video Clip 13.5 Using the iPad for Real Estate
Some tips on how to use the iPad in real estate.
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=144
Although every small business owner may not see an immediate need for an iPad, it is a technology worth checking out. New applications for office productivity are coming out all the time.
A smartphone is a device that lets a person make phone calls but has other features found on a digital assistant or a computer, such as sending and receiving e-mail and editing Microsoft Office documents.[250] A popular brand is the Apple iPhone. Smartphones give a person access to company data that is normally not possible without a laptop; make it possible to accomplish more, faster; enable mobile workers to connect to company information while on the road; keep your calendar, address book, and task lists organized; and, perhaps most importantly, keep frustrations to a minimum because the technology is designed to work in tandem with a serverand a personal digital assistant (PDA). [251] A server is a computer or a series of computers that link other computers or electronic devices together.[252]. A PDA is a handheld computer that acts “as an electronic organizer or day planner that is portable, easy to use and capable of sharing information with your PC.”[253] Blackberry is a popular brand of the PDA. The smartphone can be used for numerous business functions, such as tracking equipment and accounts, keeping calendars and address books, connecting to the Internet, acting as a global positioning system (GPS), and running multimedia software.[254]
Like everyone else, small businesses have to do more with less. This means that effective collaboration is increasingly critical to success. Because collaboration is a daily requirement for all small businesses, the question becomes how to have productive collaboration without using up too much time and costing too much money. What is needed is a way to “spur employees to share ideas and increase productivity while protecting work-life balance.” [255] A recent study reported that among companies that used collaboration tools, 72 percent reported better business performance.[256] One popular collaboration tool is web conferencing: “Web conferencing services enable users to hold collaborative meetings with interactive whiteboard tools, give sales demonstrations with real-time efficacy, stage presentations with full and select moderator control or hold enhanced, multimedia roundtable discussions…And, with recording and playback tools available in the leading Web conferencing service providers, audience members and other authorized users can access meetings, presentations and demonstrations again and again or continually reference whiteboard sessions.”[257]
Although Top Ten Reviews ranked Infinite Conferencing, Netviewer Meet, and Adobe Connect Pro as the 2011 top three web conferencing services, each small business should select the product that best serves its needs and its budget.
Virtual or Telecommuting Employees
Another boon to office productivity and adding to the bottom line is the virtual or telecommuting employee. This is an employee that works from a location other than the traditional office. They can work from anywhere.[258] There is no agreement on the number of US workers that are already telecommuting. However, it has been estimated that 40 percent of the US workforce hold jobs that lend themselves to telecommuting.
The advantages of virtual employees include the following:
• Companies could save \$6,500 annually per employee.
• Virtual employees tend to be happier, healthier, and less stressed compared to their office-bound coworkers.
• Virtual workers are significantly more productive than their office-bound colleagues. The differential is estimated at 15 percent.
• Virtual employees almost always give back more than 50 percent of the time they save by not commuting.
• Some virtual workers actually put in more time per week than those who commute.
From the perspective of the virtual employee, the advantages of telecommuting are as follows: no distractions from coworkers; no stress from office politics; spending more time with the family; saving money on transportation, parking, and clothing; and avoiding traffic or saving time by not commuting.[264]
Virtual employees offer terrific advantages to the small business owner who is always looking to cut costs and attract high-quality employees. However, it is not something that works for everyone and every kind of business. For example, a restaurant cannot have a virtual waiter…at least not yet. A small business that wants to use virtual employees must create the appropriate infrastructure—that is, technology, security, policies, behavioral protocols, performance management, and so forth—to provide the best support for telecommuting workers in how, where, and when they do their jobs.[265] For support with telecommuting challenges, small business owners can tap into The Alternative Board, an organization with three thousand small- and midsized-business owners.[266]
Video Link 13.2 Making Telecommuting Work
Looking at telecommuting from the employee and the employer perspectives.
www.cbsnews.com/video/watch/?id=10162239n?tag=bnetdomain
Key Takeaways
• Deciding to hire someone will always be a big step because there will be an immediate need to worry about payroll, benefits, unemployment, and numerous other issues.
• The hiring process includes identifying job requirements, choosing sources of candidates, reviewing applications and résumés, interviewing candidates, conducting employment tests (if desired), checking references, conducting follow-up interviews if needed, selecting a candidate, and making an offer.
• It is very important to know employment law before proceeding with the hiring process. For example, several potential questions are illegal to ask.
• Whether it is required or not, small businesses should be willing to make accommodations for employees with disabilities.
• Retention is an important concern for all small businesses.
• When an employee is to be terminated, it is best to do it promptly.
• Outsourcing is about using outside firms, some of which may be offshore, to handle work that is normally performed within a company. Outsourcing can be either good or bad; it depends on the situation.
• Office productivity is about working smarter and better. Social networking, the iPad, smartphones, online collaboration tools, and virtual employees can all help increase productivity.
Exercises
1. As the owner of a one-hundred-employee business, you just learned that some of your employees were “dumpster diving” in the trash outside a competitor’s offices. In other words, they were looking for information that could provide your company with a competitive advantage. With investigation, you found out that the head of the espionage operation was a personal friend. You have decided to fire your friend immediately, along with his dumpster divers. How should you proceed with the termination of your friend and his operatives so that you will not be held liable in a lawsuit? Would you reconsider the firing of the operatives? Why or why not?[267]
2. Robert is trying to convince his father, Frank of Frank’s BarBeQue, to integrate more technology into his restaurant operations because it will increase productivity. Assuming the role of Robert, select technologies that you think would be a good fit for Frank’s restaurant. Prepare your recommendations for Frank.
The Three Threads
Learning Objectives
1. Explain how people and organization can add to customer value.
2. Explain how decisions about people and organization can impact cash flow.
3. Explain how technology and the e-environment are impacting people and organization.
Customer Value Implications
By definition, a small business is small. The CEO and the top management team have a much greater understanding of the tasks and operations of the entire business and what their employees are doing. (Sometimes their employees wish they did not have such a good knowledge of the tasks they, the employees, are supposed to be performing.) In a small business, it is much more likely for the CEO and the top management team to have a personalized relationship with their customer base. Sometimes this functions on a one-to-one basis and is predicated on a true sense of personal friendship. This intimacy between those at the top of a small business and their customers or clientele can yield tremendous benefits for both the business and the customers. Knowing the true needs of the customer on a personalized level greatly enhances the value produced by a business.
Small business organizations are flatter and less bureaucratic. Sometimes they are less centralized. This enables frontline personnel to be closer to the customer, where they can better ascertain the needs of the customer and make decisions more quickly to satisfy those needs. This adds to the value of these businesses in the eyes of their customers because of a more positive customer experience.
In addition to being closer to the customers, the owner of a smaller business has a closer relationship with the employees. There generally is no need for a formal “human resources” department that bureaucratizes relationships. The owner knows the strengths and the weaknesses of the employees and will best use them in the business. The owner can develop personal relationships with employees that are impossible in larger organizations. This closeness can often translate into an intangible strength—loyalty. Employees who are happy with their employment will provide greater value to the customer.
Cash-Flow Implications
The simpler the organizational structure, the more positive will be the impact on cash flow. Having unnecessary positions will negatively impact small business operations in terms of not only costs but also efficiency and effectiveness.
Improper hiring and termination procedures will also adversely affect cash flow. Recruiting employees is an expensive process, so errors in the hiring process will be a drain on the cash flow of a business and, as a result, its profitability. Termination is a particularly sensitive process, so a careful and thoughtful procedure should be developed for carrying it out. Errors in either hiring or termination may open up a business to lawsuits, another major hit to cash flow and profitability.
Technology adoption for office productivity improvements (e.g., social networking, iPads, and smartphones) may adversely affect the cash flow in the short term, but (hopefully) the higher productivity should offset those losses in the longer term. As an example, recall Lloyd’s Construction in Eagan, Minnesota, from Chapter 1 “Foundations for Small Business”. The company switched to a smartphone system that allowed for integrated data entry and communication. The company reduced its routing and fuel costs by as much as 30 percent, and they estimated that they saved \$1 million on a \$50,000 investment.[268]
Implications of Technology and the E-Environment
New technology solutions are being introduced every day, many of them potentially very useful for small businesses. This chapter discussed the productivity enhancement possibilities offered by social networking, the iPad, smartphones, and collaboration tools, but the discussion was only the tip of the iceberg. Technology is so pervasive in today’s workplace that ignoring it will be done at each business’s peril. Mobile technology is now even pervading the hiring process; the world of recruiting via mobile technology is moving at the speed of light. The result? More and more organizations are trying to figure out how to start using mobile devices to recruit new employees.[269] The prospect of targeting all populations of people is an exciting—but certainly challenging—one.
Another interesting technology product is talent management software developed by Taleo, which is targeted to the small business to simplify recruiting, hiring, and performance management with “unmatched flexibility.”[270] There are undoubtedly other similar products available. The point is that this is an example of the small business technology solutions that are available for exploration and consideration.
The e-environment is a small business facilitator extraordinaire. The web is a fabulous place, making collaboration and communication so much better and faster. It has opened the door to enhanced productivity, and a potentially important part of that is the virtual employee. Small businesses should seriously consider the advantages of virtual employees because they can help the small business expand its reach, increase employee morale, and contribute to a much better work-life balance.
Key Takeaways
• The less bureaucratic organizational structure of small businesses tends to open the door for more personalized relationships between the CEO and other top managers and customers. This adds considerable value to the business and the customer experience.
• The simpler the organizational structure, the more positive the impact on cash flow.
• Technology investments for increased productivity will be a drain on cash flow in the short term, but productivity improvements should offset the loss in the long term.
• New technology products are being introduced every day, many of them geared to the small business. Small businesses should make it a point to learn about what’s available and keep an open mind about adopting a new solution to an old problem.
• The e-environment has opened the door to multiple ways to improve office productivity, not the least of which is the virtual employee.
Exercises
1. Select a small business with between fifty and seventy-five employees. Set up an interview with the president or one of the other members of top management. Ask the person to describe the organizational structure of the business, and then ask him or her to discuss whether the structure helps or hinders his or her relationships with customers. Lastly, ask if there is anything about the organizational structure he or she would change—and why.
Disaster Watch
John owns a very successful electronics business. He has been in business for only three years and already has several large stores. He has seventy-five part- and full-time employees. The business thrives on a sales force that must be able to close deals, particularly on high-priced items.
Jennifer is John’s administrative assistant. She has been with him from the beginning, and John considers her to be a vital element in the success of the business. He had wooed her away from another large electronics chain. On Tuesday, Jennifer requested a private meeting with him. She arrived at the meeting clearly distressed. He asked her to sit down and tell him what was troubling her. She struggled not to cry but could not hold back the tears. She recounted the following story.
Ed Smith, a salesperson, had for the last five weeks been making inappropriate and suggestive comments to her. She told John that at first she tried to dismiss and deflect Ed’s comments with humor, and the humor clearly indicated that she had no interest. The result was that the comments became more frequent, more aggressive, and more vulgar. At this point (last Friday), Jennifer indicated to Ed that she found his remarks offensive and harassing. He laughed and, in the intervening days, continued the remarks, which became even more progressively lewd. It was Jennifer’s opinion that Ed was incapable of understanding how inappropriate his behavior was. She believes that his presence creates a significantly hostile working environment for her and other women. She thinks it would be best for the organization if Ed were fired immediately.
John expressed his profound sympathy to Jennifer and said that he would speak to Ed right away. This clearly was not what Jennifer wanted to hear. She left John’s office simply stating, “It’s either him or me.”
Although John was extremely sympathetic to Jennifer’s position, he recognized that he had to speak to Ed to protect himself. Further, John had to consider the fact that Ed was unquestionably his best salesperson. Two hours later, John called Ed into his office and related Jennifer’s story. Ed laughed it off as harmless word play, even going as far as saying, “Could you possibly see me being interested in a woman who looks like she does?” He then countered with, “Look. You know I’m your best salesman, and if I’m fired because of some slanderous comments, I’ll sue.” He then stormed out of John’s office.
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246. Ken Burgin, “20 Ways an iPad can Improve Your Restaurant, Café, Hotel or Bar,” ProfitableHospitality.com, March 14, 2011, accessed February 3, 2012, profitablehospitality.com/news/index.php/kitchen-management/20-ways-an -ipad-can-improve-your-restaurant-cafe-hotel-or-bar.
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266. Adapted from [citation redacted per publisher request].
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Recruiting, Motivating, and Keeping Quality Employees
The Grounds of a Great Work Environment
Howard Schultz has vivid memories of his father slumped on the couch with his leg in a cast.[1] The ankle would heal, but his father had lost another job—this time as a driver for a diaper service. It was a crummy job; still, it put food on the table, and if his father couldn’t work, there wouldn’t be any money. Howard was seven, but he understood the gravity of the situation, particularly because his mother was seven months pregnant, and the family had no insurance.
This was just one of the many setbacks that plagued Schultz’s father throughout his life—an honest, hard-working man frustrated by a system that wasn’t designed to cater to the needs of common workers. He’d held a series of blue-collar jobs (cab driver, truck driver, factory worker), sometimes holding two or three at a time. Despite his willingness to work, he never earned enough money to move his family out of Brooklyn’s federally subsidized housing projects. Schultz’s father died never having found fulfillment in his work life—or even a meaningful job. It was the saddest day of Howard’s life.
As a kid, did Schultz ever imagine that one day he’d be the founder and chairman of Starbucks Coffee Company? Of course not. But he did decide that if he was ever in a position to make a difference in the lives of people like his father, he’d do what he could. Remembering his father’s struggles and disappointments, Schultz has tried to make Starbucks the kind of company where he wished his father had worked. “Without even a high school diploma,” Schultz admits, “my father probably could never have been an executive. But if he had landed a job in one of our stores or roasting plants, he wouldn’t have quit in frustration because the company didn’t value him. He would have had good health benefits, stock options, and an atmosphere in which his suggestions or complaints would receive a prompt, respectful response.”[2]
Schultz is motivated by both personal and business considerations: “When employees have self-esteem and self-respect,” he argues, “they can contribute so much more: to their company, to their family, to the world.”[3][4] His commitment to his employees is embedded in Starbuck’s mission statement, whose first objective is to “provide a great work environment and treat each other with respect and dignity.”[5] Those working at Starbucks are called partners because Schultz believes working for his company is not just a job, it’s a passion.[6]
Video Clip The Man Behind Starbucks Reveals How He Changed the World
A major piece of the Starbucks success story has been the superior service provided by its motivated employees.
Human Resource Management
Learning Objective
1. Define human resource management and explain how managers develop and implement a human resource plan.
Employees at Starbucks are vital to the company’s success. They are its public face, and every dollar of sales passes through their hands.[7] According to Howard Schultz, they can make or break the company. If a customer has a positive interaction with an employee, the customer will come back. If an encounter is negative, the customer is probably gone for good. That’s why it’s crucial for Starbucks to recruit and hire the right people, train them properly, motivate them to do their best, and encourage them to stay with the company. Thus, the company works to provide satisfying jobs, a positive work environment, appropriate work schedules, and fair compensation and benefits. These activities are part of Starbucks’s strategy to deploy human resources in order to gain competitive advantage. The process is called human resource management (HRM), which consists of all actions that an organization takes to attract, develop, and retain quality employees. Each of these activities is complex. Attracting talented employees involves the recruitment of qualified candidates and the selection of those who best fit the organization’s needs. Development encompasses both new-employee orientation and the training and development of current workers. Retaining good employees means motivating them to excel, appraising their performance, compensating them appropriately, and doing what’s possible to retain them.
Human Resource Planning
How does Starbucks make sure that its worldwide retail locations are staffed with just the right number of committed employees? How does Walt Disney World ensure that it has enough qualified “cast members” to provide visitors with a “magical” experience? How does Norwegian Cruise Lines make certain that when the Norwegian Dawn pulls out of New York harbor, it has a complete, fully trained crew on board to feed, entertain, and care for its passengers? Managing these tasks is a matter of strategic human resource planning—the process of developing a plan for satisfying an organization’s human resources (HR) needs.
A strategic HR plan lays out the steps that an organization will take to ensure that it has the right number of employees with the right skills in the right places at the right times. HR managers begin by analyzing the company’s mission, objectives, and strategies. Starbucks’s objectives, for example, include the desire to “develop enthusiastically satisfied customers” as well as to foster an environment in which employees treat both customers and each other with respect.[8] Thus, the firm’s HR managers look for people who are “adaptable, self-motivated, passionate, creative team members.”[9] Likewise, Disney’s overall objectives include not only making all visitors feel as if they’re special in a special place but also ensuring that employees’ appearance reflects a special image (there’s even a forty-seven-page book on the subject).[10] Disney looks for people who best fulfill these job requirements. The main goal of Norwegian Cruise Lines—to lavish passengers with personal attention—determines not only the type of employee desired (one with exceptionally good customer-relation skills and a strong work ethic) but also the number needed (one for every two passengers on the Norwegian Dawn).[11]
Job Analysis
To develop an HR plan, HR managers must obviously be knowledgeable about the jobs that the organization needs performed. They organize information about a given job by performing a job analysis to identify the tasks, responsibilities, and skills that it entails, as well as the knowledge and abilities needed to perform it. Managers also use the information collected for the job analysis to prepare two documents:
• A job description, which lists the duties and responsibilities of a position
• A job specification, which lists the qualifications—skills, knowledge, and abilities—needed to perform the job
HR Supply and Demand Forecasting
Once they’ve analyzed the jobs within the organization, HR managers must forecast future hiring (or firing) needs. This is the three-step process summarized in Figure 14.1 “How to Forecast Hiring (and Firing) Needs”.
Starbucks, for instance, might find that it needs three hundred new employees to work at stores scheduled to open in the next few months. Disney might determine that it needs two thousand new cast members to handle an anticipated surge in visitors. The Norwegian Dawn might be short two dozen restaurant workers because of an unexpected increase in reservations.
After calculating the disparity between supply and future demand, HR managers must draw up plans for bringing the two numbers into balance. If the demand for labor is going to outstrip the supply, they may hire more workers, encourage current workers to put in extra hours, subcontract work to other suppliers, or introduce labor-saving initiatives. If the supply is greater than the demand, they may deal with overstaffing by not replacing workers who leave, encouraging early retirements, laying off workers, or (as a last resort) firing workers.
Recruiting Qualified Employees
Armed with information on the number of new employees to be hired and the types of positions to be filled, the HR manager then develops a strategy for recruiting potential employees. Recruiting is the process of identifying suitable candidates and encouraging them to apply for openings in the organization.
Before going any further, we should point out that, in recruiting and hiring, managers must comply with antidiscrimination laws; violations can have legal consequences. Discrimination occurs when a person is treated unfairly on the basis of a characteristic unrelated to ability. Under federal law, it’s illegal to discriminate in recruiting and hiring on the basis of race, color, religion, sex, national origin, age, or disability. (The same rules apply to other employment activities, such as promoting, compensating, and firing).[12] The Equal Employment Opportunity Commission (EEOC) enforces a number of federal employment laws, including the following:
• Title VII of the Civil Rights Act of 1964, which prohibits employment discrimination based on race, color, religion, sex, or national origin. Sexual harassment is also a violation of Title VII.
• The Equal Pay Act of 1963, which protects both women and men who do substantially equal work from sex-based pay discrimination.
• The Age Discrimination in Employment Act of 1964, which protects individuals who are forty or older.
• Title I and Title V of the Americans with Disabilities Act of 1990, which prohibits employment discrimination against individuals with disabilities.[13]
Where to Find Candidates
The first step in recruiting is to find qualified candidates. Where do you look for them, and how do you decide whether they’re qualified? Let’s start with the second part of the question first. A qualified person must be able to perform the duties listed in the job description and must possess the skills, knowledge, and abilities detailed in the job specification. In addition, he or she must be a good “fit” for the company. A Disney recruiter, for example, wants a candidate who fits a certain image—someone who’s clean-cut and “wholesome” looking. The same recruiter might also favor candidates with certain qualities—someone who has a “good attitude,” who’s a “go-getter” and a “team player,” and who’s smart, responsible, and stable.[14]
Internal versus External Recruiting
Where do you find people who satisfy so many criteria? Basically, you can look in two places: inside and outside your own organization. Both options have pluses and minuses. Hiring internally sends a positive signal to employees that they can move up in the company—a strong motivation tool and a reward for good performance. In addition, because an internal candidate is a known quantity, it’s easier to predict his or her success in a new position. Finally, it’s cheaper to recruit internally. On the other hand, you’ll probably have to fill the promoted employee’s position. Going outside gives you an opportunity to bring fresh ideas and skills into the company. In any case, it’s often the only alternative, especially if no one inside the company has just the right combination of skills and experiences. Entry-level jobs usually have to be filled from the outside.
How to Find Candidates
Whether you search inside or outside the organization, you need to publicize the opening. If you’re looking internally in a small organization, you can alert employees informally. In larger organizations, HR managers generally post openings on bulletin boards (often online) or announce them in newsletters. They can also seek direct recommendations from various supervisors.
Recruiting people from outside is more complicated. It’s a lot like marketing a product to buyers: in effect, you’re marketing the virtues of working for your company. Starbucks uses the following outlets to advertise openings:
• A dedicated section of the corporate Web site (“Job Center,” which lists openings, provides information about the Starbucks experience, and facilitates the submission of online applications)
• College campus recruiting (holding on-campus interviews and information sessions and participating in career fairs)
• Internships designed to identify future talent among college students
• Announcements on employment Web sites like Monster.com, Vault.com, Glassdoor.com, and SimplyHired.com
• Newspaper classified ads
• Facebook and Twitter
• Local job fairs
• In-store recruiting posters
• Informative “business cards” for distribution to customers[15]
When asked what it takes to attract the best people, Starbucks’s senior executive Dave Olsen replied, “Everything matters.” Everything Starbucks does as a company bears on its ability to attract talent. Accordingly, everyone is responsible for recruiting, not just HR specialists. In fact, the best source of quality applicants is the company’s own labor force.[16]
The Selection Process
Recruiting gets people to apply for positions, but once you’ve received applications, you still have to select the best candidate—another complicated process. The selection process entails gathering information on candidates, evaluating their qualifications, and choosing the right one. At the very least, the process can be time-consuming—particularly when you’re filling a high-level position—and often involves several members of an organization.
Let’s examine the selection process more closely by describing the steps that you’d take to become a special agent for the Federal Bureau of Investigation (FBI).[17] Most business students don’t generally aspire to become FBI agents, but the FBI is quite interested in business graduates—especially if you have a major in accounting or finance. With one of these backgrounds, you’ll be given priority in hiring. Why? Unfortunately, there’s a lot of white-collar crime that needs to be investigated, and people who know how to follow the money are well suited for the task.
Application
The first step in becoming a gun-toting accountant is, obviously, applying for the job. Don’t bother unless you meet the minimum qualifications: you must be a U.S. citizen, be age twenty-three to thirty-seven, be physically fit, and have a bachelor’s degree. To provide factual information on your education and work background, you’ll submit an application, which the FBI will use as an initial screening tool.
Employment Tests
Next comes a battery of tests (a lot more than you’d take in applying for an everyday business position). Like most organizations, the FBI tests candidates on the skills and knowledge entailed by the job. Unlike most businesses, however, the FBI will also measure your aptitude, evaluate your personality, and assess your writing ability. You’ll have to take a polygraph (lie-detector) test to determine the truthfulness of the information you’ve provided, uncover the extent of any drug use, and disclose potential security problems.
Interview
If you pass all these tests (with sufficiently high marks), you’ll be granted an interview. It serves the same purpose as it does for business recruiters: it allows the FBI to learn more about you and gives you a chance to learn more about your prospective employer and your possible future in the organization. The FBI conducts structured interviews—a series of standard questions. You’re judged on both your answers and your ability to communicate orally.
Physical Exam and Reference Checks
Let’s be positive and say you passed the interview. What’s next? You still have to pass a rigorous physical examination (including a drug test), as well as background and reference checks. Given its mission, the FBI sets all these hurdles a little higher than the average retail clothing chain. Most businesses will ask you to take a physical exam, but you probably won’t have to meet the fitness standards set by the FBI. Likewise, many businesses check references to verify that applicants haven’t lied about (or exaggerated) their education and work experience. The FBI goes to great lengths to ensure that candidates are suitable for law-enforcement work.
Final Decision
The last stage in the process is out of your control. Will you be hired or rejected? This decision is made by one or more people who work for the prospective employer. For a business, the decision maker is generally the line manager who oversees the position being filled. At the FBI, the decision is made by a team at FBI headquarters. If you’re hired as a special agent, you’ll spend twenty-one weeks of intensive training at the FBI Academy in Quantico, Virginia.
Contingent Workers
Though most people hold permanent, full-time positions, there’s a growing number of individuals who work at temporary or part-time jobs. Many of these are contingent workers hired to supplement a company’s permanent workforce. Most of them are independent contractors, consultants, or freelancers who are paid by the firms that hire them. Others are on-call workers who work only when needed, such as substitute teachers. Still others are temporary workers (or “temps”) who are employed and paid by outside agencies or contract firms that charge fees to client companies.
The Positives and Negatives of Temp Work
The use of contingent workers provides companies with a number of benefits. Because they can be hired and fired easily, employers can better control labor costs. When things are busy, they can add temps, and when business is slow, they can release unneeded workers. Temps are often cheaper than permanent workers, particularly because they rarely receive costly benefits. Employers can also bring in people with specialized skills and talents to work on special projects without entering into long-term employment relationships. Finally, companies can “try out” temps: if someone does well, the company can offer permanent employment; if the fit is less than perfect, the employer can easily terminate the relationship. There are downsides to the use of contingent workers, including increased training costs and decreased loyalty to the company. Also, many employers believe that because temps are usually less committed to company goals than permanent workers, productivity suffers.
What about you? Does temporary work appeal to you? On the plus side, you can move around to various companies and gain a variety of skills. You can see a company from the inside and decide up front whether it’s the kind of place you’d like to work at permanently. If it is, your temporary position lets you showcase your skills and talents and grab the attention of management, which could increase the likelihood you’ll be offered a permanent position. There are also some attractive lifestyle benefits. You might, for example, work at a job or series of jobs for, say, ten months and head for the beach for the other two. On the other hand, you’ll probably get paid less, receive no benefits, and have no job security. For most people, the idea of spending two months a year on the beach isn’t that appealing.
Key Takeaways
• The process of human resource management consists of all the actions that an organization takes to attract, develop, and retain quality employees.
• To ensure that the organization is properly staffed, managers engage in strategic human resource planning—the process of developing a plan for satisfying the organization’s human resource needs.
• Managers organize information about a given job by performing a job analysis, which they use to prepare two documents: a job description listing the duties and responsibilities of a position and a job specification, which lists the qualifications—skills, knowledge, and abilities—needed to perform the job.
• After analyzing the jobs that must be performed, the HR manager forecasts future hiring needs and begins the recruiting process to identify suitable candidates and encourage them to apply.
• In recruiting and hiring, managers must comply with antidiscrimination laws enforced by the Equal Employment Opportunity Commission (EEOC).
• Discrimination occurs when a person is treated unfairly on the basis of a characteristic unrelated to ability, such as race, color, religion, sex, national origin, age, or disability.
• Once a pool of suitable candidates has been identified, managers begin the selection process, reviewing information provided by candidates on employment applications and administering tests to assess candidates’ skills and knowledge.
• Candidates who pass this stage may be granted an interview and, perhaps, offered a job.
Exercise
You’re the chairperson of the management department at your college. Describe the steps you’d take to ensure that your department has enough qualified faculty to meet its needs.
Developing Employees
Learning Objective
1. Explain how companies train and develop employees, and discuss the importance of a diverse workforce.
Because companies can’t survive unless employees do their jobs well, it makes economic sense to train them and develop their skills. This type of support begins when an individual enters the organization and continues as long as he or she stays there.
New-Employee Orientation
Have you ever started your first day at a new job feeling upbeat and optimistic only to walk out at the end of the day thinking that maybe you’ve taken the wrong job? If this happens too often, your employer may need to revise its approach to orientation—the way it introduces new employees to the organization and their jobs. Starting a new job is a little like beginning college; at the outset, you may be experiencing any of the following feelings:
• Somewhat nervous but enthusiastic
• Eager to impress but not wanting to attract too much attention
• Interested in learning but fearful of being overwhelmed with information
• Hoping to fit in and worried about looking new or inexperienced[18]
The employer who understands how common such feelings are is more likely not only to help newcomers get over them but also to avoid the pitfalls often associated with new-employee orientation:
• Failing to have a workspace set up for you
• Ignoring you or failing to supervise you
• Neglecting to introduce you to coworkers (or introducing you to so many people that you have no chance of remembering anybody’s name)
• Assigning you no work or giving you busywork unrelated to your actual job
• Swamping you with facts about the company[19]
A good employer will take things slowly, providing you with information about the company and your job on a need-to-know basis while making you feel as comfortable as possible. You’ll get to know the company’s history, traditions, policies, and culture over time. You’ll learn more about salary and benefits and how your performance will be evaluated. Most importantly, you’ll find out how your job fits into overall operations and what’s expected of you.
Training and Development
It would be nice if employees came preprogrammed with all the skills they need to do their jobs. It would also be nice if job requirements stayed the same: once you’ve learned how to do a job (or been preprogrammed), you’d know how to do it forever. In reality, new employees must be trained; moreover, as they grow in their jobs or as their jobs change, they’ll need additional training. Unfortunately, training is costly and time-consuming.
How costly? On average, for every \$1 in payroll, large companies spend close to \$0.03 in employee training and development.[20] The consulting firm Booz Allen Hamilton invests almost \$0.08 in employee training and development. At Pfizer, the world’s largest pharmaceutical company, the total is \$0.14 out of every payroll dollar.[21] What’s the payoff? Why are such companies willing to spend so much money on their employees? Pfizer, whose motto is “Succeed through People,” regards employee growth and development as its top priority. At Booz Allen Hamilton, consultants specialize in finding innovative solutions to client problems, and their employer makes sure that they’re up-to-date on all the new technologies by maintaining a “technology petting zoo” at its training headquarters. It’s called a “petting zoo” because employees get to see, touch, and interact with new and emerging technologies. For example, those attending the “petting zoo” several years ago got to try out the Segway Human Transporter even before it hit the market.[22]
At Booz Allen Hamilton’s technology “petting zoo,” employees are receiving off-the-job training. This approach allows them to focus on learning without the distractions that would occur in the office. More common, however, is informal on-the-job training, which may be supplemented with formal training programs. This is the method, for example, by which you’d move up from mere coffee maker to a full-fledged “barista” if you worked at Starbucks.[23] You’d begin by reading a large spiral book (titled Starbucks University) on the responsibilities of the barista. After you’ve passed a series of tests on the reading material, you’ll move behind the coffee bar, where a manager or assistant manager will give you hands-on experience in making drinks. According to the rules, you can’t advance to a new drink until you’ve mastered the one you’re working on; the process, therefore, may take a few days (or even weeks). Next, you have to learn enough about different types of coffee to be able to describe them to customers. (Because this course involves drinking a lot of coffee, you don’t have to worry about staying awake.) Eventually, you’ll be declared a coffee connoisseur, but there’s still one more set of skills to master: you must complete a customer-service course, which trains you in making eye contact with customers, anticipating their needs, and making them feel welcome.[24]
Diversity in the Workplace
The makeup of the U.S. workforce has changed dramatically over the past 50 years. In the 1950s, more than 60 percent was composed of white males.[25] Today’s workforce, however, reflects the broad range of differences in the population—differences in gender, race, ethnicity, age, physical ability, religion, education, and lifestyle. As you can see in Table 14.1 “Employment by Gender and Ethnic Group”, more women and minorities have entered the workforce, and white males now make up only 36 percent of the workforce.[26] Their percentage representation diminished as more women and minorities entered the workforce.
Most companies today strive for diverse workforces. HR managers work hard to recruit, hire, develop, and retain a workforce that’s representative of the general population. In part, these efforts are motivated by legal concerns: discrimination in recruiting, hiring, advancement, and firing is illegal under federal law and is prosecuted by the EEOC.[27] Companies that violate antidiscrimination laws not only are subject to severe financial penalties but also risk damage to their reputations. In November 2004, for example, the EEOC charged that recruiting policies at Abercrombie & Fitch, a national chain of retail clothing stores, had discriminated against minority and female job applicants between 1999 and 2004. The employer, charged the EEOC, had hired a disproportionate number of white salespeople, placed minorities and women in less visible positions, and promoted a virtually all-white image in its marketing efforts. Six days after the EEOC filed a lawsuit, the company settled the case at a cost of \$50 million, but the negative publicity will hamper both recruitment and sales for some time to come.[28]
Group Total (%) Males (%) Females (%)
All employees 100 52 48
White 68 36 32
African American 14 6 8
Hispanic or Latino 13 7 5
Asian/Pacific Islander/Other 5 3 3
Table 14.1 Employment by Gender and Ethnic Group
There’s good reason for building a diverse workforce that goes well beyond mere compliance with legal standards. It even goes beyond commitment to ethical standards. It’s good business. People with diverse backgrounds bring fresh points of view that can be invaluable in generating ideas and solving problems. In addition, they can be the key to connecting with an ethnically diverse customer base. If a large percentage of your customers are Hispanic, it might make sense to have a Hispanic marketing manager. In short, capitalizing on the benefits of a diverse workforce means that employers should view differences as assets rather than liabilities.
Key Takeaways
• The process of introducing new employees to their jobs and to the company is called orientation.
• An effective approach is to take things slowly, providing new employees with information on a need-to-know basis while making them feel as comfortable as possible.
• New employees will need initial training to start their jobs, and they’ll need additional training as they grow in or change their jobs.
• Off-the-job training allows them to focus on learning without the distractions that would occur in the office, but on-the-job training is more common.
• In addition to having well-trained employees, it’s important that a workforce reflects the broad range of differences in the population.
• The efforts of HR managers to build a workforce that’s representative of the general population are driven in part by legal concerns: discrimination is illegal, and companies that violate antidiscrimination laws are subject to prosecution.
• But ensuring a diverse workforce goes well beyond both legal compliance and ethical commitment. It’s good business, because a diverse group of employees can bring fresh points of view that may be valuable in generating ideas and solving problems.
• Additionally, people from varied backgrounds can help an organization connect with an ethnically diverse customer base.
Exercises
1. (AACSB) Reflective Skills
2. (AACSB) Diversity
Motivating Employees
Learning Objective
1. Define motivation and describe several theories of motivation.
Motivation refers to an internally generated drive to achieve a goal or follow a particular course of action. Highly motivated employees focus their efforts on achieving specific goals; those who are unmotivated don’t. It’s the manager’s job, therefore, to motivate employees—to get them to try to do the best job they can. But what motivates employees to do well? How does a manager encourage employees to show up for work each day and do a good job? Paying them helps, but many other factors influence a person’s desire (or lack of it) to excel in the workplace. What are these factors? Are they the same for everybody? Do they change over time? To address these questions, we’ll examine four of the most influential theories of motivation: hierarchy-of-needs theory, two-factor theory, expectancy theory, and equity theory.
Hierarchy-of-Needs Theory
Psychologist Abraham Maslow’s hierarchy-of-needs theory proposed that we are motivated by the five unmet needs, arranged in the hierarchical order shown in Figure 7.3 “Maslow’s Hierarchy-of-Needs Theory”, which also lists examples of each type of need in both the personal and work spheres of life. Look, for instance, at the list of personal needs in the left-hand column. At the bottom are physiological needs (such life-sustaining needs as food and shelter). Working up the hierarchy we experience safety needs (financial stability, freedom from physical harm), social needs (the need to belong and have friends), esteem needs (the need for self-respect and status), and self-actualization needs (the need to reach one’s full potential or achieve some creative success).
There are two things to remember about Maslow’s model:
1. We must satisfy lower-level needs before we seek to satisfy higher-level needs.
2. Once we’ve satisfied a need, it no longer motivates us; the next higher need takes its place.
Let’s say, for example, that you’ve just returned to college and that for a variety of reasons that aren’t your fault, you’re broke, hungry, and homeless. Because you’ll probably take almost any job that will pay for food and housing (physiological needs), you go to work repossessing cars. Fortunately, your student loan finally comes through, and with enough money to feed yourself, you can look for a job that’s not so risky (a safety need). You find a job as a night janitor in the library, and though you feel secure, you start to feel cut off from your friends, who are active during daylight hours. You want to work among people, not books (a social need). So now you join several of your friends selling pizza in the student center. This job improves your social life, but even though you’re very good at making pizzas, it’s not terribly satisfying. You’d like something that will let you display your intellectual talents (an esteem need). So you study hard and land a job as an intern in the governor’s office. On graduation, you move up through a series of government appointments and eventually run for state senator. As you’re sworn into office, you realize that you’ve reached your full potential (a self-actualization need) and you comment to yourself, “It doesn’t get any better than this.”
Needs Theory and the Workplace
What implications does Maslow’s theory have for business managers? There are two key points: (1) Not all employees are driven by the same needs, and (2) the needs that motivate individuals can change over time. Managers should consider which needs different employees are trying to satisfy and should structure rewards and other forms of recognition accordingly. For example, when you got your first job repossessing cars, you were motivated by the need for money to buy food. If you’d been given a choice between a raise or a plaque recognizing your accomplishments, you’d undoubtedly have opted for the money. As a state senator, by contrast, you may prefer public recognition of work well done (say, election to higher office) to a pay raise.
Two-Factor Theory
Another psychologist, Frederick Herzberg, set out to determine which work factors (such as wages, job security, or advancement) made people feel good about their jobs and which factors made them feel bad about their jobs. He surveyed workers, analyzed the results, and concluded that to understand employee satisfaction (or dissatisfaction), he had to divide work factors into two categories:
• Motivation factors. Those factors that are strong contributors to job satisfaction
• Hygiene factors. Those factors that are not strong contributors to satisfaction but that must be present to meet a worker’s expectations and prevent job dissatisfaction
Figure 14.5 “Herzberg’s Two-Factor Theory” illustrates Herzberg’s two-factor theory. Note that motivation factors (such as promotion opportunities) relate to the nature of the work itself and the way the employee performs it. Hygiene factors (such as physical working conditions) relate to the environment in which it’s performed. (Note, too, the similarity between Herzberg’s motivation factors and Maslow’s esteem and self-actualization needs).
Two-Factor Theory and the Workplace
We’ll ask the same question about Herzberg’s model as we did about Maslow’s: What does it mean for managers? Suppose you’re a senior manager in an accounting firm, where you supervise a team of accountants, each of whom has been with the firm for five years. How would you use Herzberg’s model to motivate the employees who report to you? Let’s start with hygiene factors. Are salaries reasonable? What about working conditions? Does each accountant have his or her own workspace, or are they crammed into tiny workrooms? Are they being properly supervised or are they left on their own to sink or swim? If hygiene factors like these don’t meet employees’ expectations, they may be dissatisfied with their jobs.
As you can see in Figure 14.5 “Herzberg’s Two-Factor Theory”, fixing problems related to hygiene factors may alleviate job dissatisfaction, but it won’t necessarily improve anyone’s job satisfaction. To increase
satisfaction (and motivate someone to perform better), you must address motivation factors. Is the work itself challenging and stimulating? Do employees receive recognition for jobs well done? Will the work that an accountant has been assigned help him or her to advance in the firm? According to Herzberg, motivation requires a twofold approach: eliminating dissatisfiers and enhancing satisfiers.
Expectancy Theory
If you were a manager, wouldn’t you like to know how your employees decide to work hard or goof off? Wouldn’t it be nice to know whether a planned rewards program will have the desired effect—namely, motivating them to perform better in their jobs? Wouldn’t it be helpful if you could measure the effect of bonuses on employee productivity? These are the issues considered by psychologist Victor Vroom in his expectancy theory, which proposes that employees will work hard to earn rewards that they value and that they consider obtainable.
As you can see from Figure 14.6 “Vroom’s Expectancy Theory”, Vroom argues that an employee will be motivated to exert a high level of effort to obtain a reward under three conditions:
1. The employee believes that his or her efforts will result in acceptable performance.
2. The employee believes that acceptable performance will lead to the desired outcome or reward.
3. The employee values the reward.
Expectancy Theory and the Workplace
To apply expectancy theory to a real-world situation, let’s analyze an automobile-insurance company with one hundred agents who work from a call center. Assume that the firm pays a base salary of \$2,000 a month, plus a \$200 commission on each policy sold above ten policies a month. In terms of expectancy theory, under what conditions would an agent be motivated to sell more than ten policies a month?
1. The agent would have to believe that his or her efforts
would result in policy sales (that, in other words, there’s a positive link between effort and performance).
• The agent would have to be confident that if he or she sold more than ten policies in a given month, there would indeed be a bonus (a positive link between performance and reward).
• The bonus per policy—\$200—would have to be of value to the agent.
• Now let’s alter the scenario slightly. Say that the company raises prices, thus making it harder to sell the policies. How will agents’ motivation be affected? According to expectancy theory, motivation will suffer. Why? Because agents may be less confident that their efforts will lead to satisfactory performance. What if the company introduces a policy whereby agents get bonuses only if buyers don’t cancel policies within ninety days? How will this policy affect motivation? Now agents may be less confident that they’ll get bonuses even if they do sell more than ten policies. Motivation will decrease because the link between performance and reward has been weakened. Finally, what will happen if bonuses are cut from \$200 to \$25? Obviously, the reward would be of less value to agents, and, again, motivation will suffer. The message of expectancy theory, then, is fairly clear: managers should offer rewards that employees value, set performance levels that they can reach, and ensure a strong link between performance and reward.
Equity Theory
What if you spent thirty hours working on a class report, did everything you were supposed to do, and handed in an excellent assignment (in your opinion). Your roommate, on the other hand, spent about five hours and put everything together at the last minute. You know, moreover, that he ignored half the requirements and never even ran his assignment through a spell-checker. A week later, your teacher returns the reports. You get a C and your roommate gets a B+. In all likelihood, you’ll feel that you’ve been treated unfairly relative to your roommate.
Your reaction makes sense according to the equity theory of motivation, which focuses on our perceptions of how fairly we’re treated relative to others. Applied to the work environment, this theory proposes that employees analyze their contributions or job inputs (hours worked, education, experience, work performance) and their rewards or job outcomes (salary, benefits, recognition). Then they create a contributions/rewards ratio and compare it to those of other people. The basis of comparison can be any one of the following:
• Someone in a similar position
• Someone holding a different position in the same organization
• Someone with a similar occupation
• Someone who shares certain characteristics (such as age, education, or level of experience)
• Oneself at another point in time
When individuals perceive that the ratio of their contributions to rewards is comparable to that of others, they perceive that they’re being treated equitably; when they perceive that the ratio is out of balance, they perceive inequity. Occasionally, people will perceive that they’re being treated better than others. More often, however, they conclude that others are being treated better (and that they themselves are being treated worse). This is what you concluded when you saw your grade. You’ve calculated your ratio of contributions (hours worked, research and writing skills) to rewards (project grade), compared it to your roommate’s ratio, and concluded that the two ratios are out of balance.
What will an employee do if he or she perceives an inequity? The individual might try to bring the ratio into balance, either by decreasing inputs (working fewer hours, refusing to take on additional tasks) or by increasing outputs (asking for a raise). If this strategy fails, an employee might complain to a supervisor, transfer to another job, leave the organization, or rationalize the situation (perhaps deciding that the situation isn’t so bad after all). Equity theory advises managers to focus on treating workers fairly, especially in determining compensation, which is, naturally, a common basis of comparison.
Key Takeaways
• Motivation describes an internally generated drive that propels people to achieve goals or pursue particular courses of action.
• There are four influential theories of motivation: hierarchy-of-needs theory, two-factor theory, expectancy theory, and equity theory.
• Hierarchy-of-needs theory proposes that we’re motivated by five unmet needs—physiological, safety, social, esteem, and self-actualization and must satisfy lower-level needs before we seek to satisfy higher-level needs.
• Two-factor theory divides work factors into motivation factors (those that are strong contributors to job satisfaction) and hygiene factors (those that, though not strong contributors to satisfaction, must be present to prevent job dissatisfaction). To increase satisfaction (and motivate someone to perform better), managers must address motivation factors.
• Expectancy theory proposes that employees work hard to obtain a reward when they value the reward, believe that their efforts will result in acceptable performance, and believe that acceptable performance will lead to a desired outcome or reward.
• Equity theory focuses on our perceptions of how fairly we’re treated relative to others. This theory proposes that employees create contributions/rewards ratios that they compare to those of others. If they feel that their ratios are comparable to those of others, they’ll perceive that they’re being treated equitably.
Exercise
This chapter describes four theories of motivation: hierarchy-of-needs theory, two-factor theory, expectancy theory, and equity theory. Briefly describe each theory. Which one makes the most intuitive sense to you? Why do you find it appealing?
What Makes a Great Place to Work?
Learning Objective
1. Identify factors that make an organization a good place to work, including competitive compensation and benefits packages.
Every year, the Great Places to Work Institute analyzes comments from thousands of employees and compiles a list of “The 100 Best Companies to Work for in America,” which is published in Fortune magazine. Having compiled its list for more than twenty years, the institute concludes that the defining characteristic of a great company to work for is trust between managers and employees. Employees overwhelmingly say that they want to work at a place where employees “trust the people they work for, have pride in what they do, and enjoy the people they work with.”[29] They report that they’re motivated to perform well because they’re challenged, respected, treated fairly, and appreciated. They take pride in what they do, are made to feel that they make a difference, and are given opportunities for advancement.[30] The most effective motivators, it would seem, are closely aligned with Maslow’s higher-level needs and Herzberg’s motivating factors.
Job Redesign
The average employee spends more than two thousand hours a year at work. If the job is tedious, unpleasant, or otherwise unfulfilling, the employee probably won’t be motivated to perform at a very high level. Many companies practice a policy of job redesign to make jobs more interesting and challenging. Common strategies include job rotation, job enlargement, and job enrichment.
Job Rotation
Specialization promotes efficiency because workers get very good at doing particular tasks. The drawback is the tedium of repeating the same task day in and day out. The practice of job rotation allows employees to rotate from one job to another on a systematic basis, eventually cycling back to their original tasks. A computer maker, for example, might rotate a technician into the sales department to increase the employee’s awareness of customer needs and to give the employee a broader understanding of the company’s goals and operations. A hotel might rotate an accounting clerk to the check-in desk for a few hours each day to add variety to the daily workload. Rotated employees develop new skills and gain experience that increases their value to the company, which benefits management because cross-trained employees can fill in for absentees, thus providing greater flexibility in scheduling.
Job Enlargement
Instead of a job in which you performed just one or two tasks, wouldn’t you prefer a job that gave you many different tasks? In theory, you’d be less bored and more highly motivated if you had a chance at job enlargement—the policy of enhancing a job by adding tasks at similar skill levels (see Figure 14.7 “Job Enlargement versus Job Enrichment”). The job of sales clerk, for example, might be expanded to include gift-wrapping and packaging items for shipment. The additional duties would add variety without entailing higher skill levels.
Job Enrichment
As you can see from Figure 14.7 “Job Enlargement versus Job Enrichment”, merely expanding a job by adding similar tasks won’t necessarily “enrich” it by making it more challenging and rewarding. Job enrichment is the practice of adding tasks that increase both responsibility and opportunity for growth. It provides the kinds of benefits that, according to Maslow and Herzberg, contribute to job satisfaction: stimulating work, sense of personal achievement, self-esteem, recognition, and a chance to reach your potential.
Consider, for example, the evolving role of support staff in the contemporary office. Today, employees who used to be called “secretaries” assume many duties previously in the domain of management, such as project coordination and public relations. Information technology has enriched their jobs because they can now apply such skills as word processing, desktop publishing, creating spreadsheets, and managing databases. That’s why we now hear such a term as administrative assistant instead of secretary.[31]
Work/Life Quality
Building a career requires a substantial commitment in time and energy, and most people find that they aren’t left with much time for nonwork activities. Fortunately, many organizations recognize the need to help employees strike a balance between their work and home lives.[32] By helping employees combine satisfying careers and fulfilling personal lives, companies tend to end up with a happier, less-stressed, and more productive workforce. The financial benefits include lower absenteeism, turnover, and health care costs.
Alternative Work Arrangements
The accounting firm KPMG, which has made the list of the “100 Best Companies for Working Mothers” for twelve years, is committed to promoting a balance between its employees’ work and personal lives.[33] KPMG offers a variety of work arrangements designed to accommodate different employee needs and provide scheduling flexibility.[34]
Flextime
Employers who provide for flextime set guidelines that allow employees to designate starting and quitting times. Guidelines, for example, might specify that all employees must work eight hours a day (with an hour for lunch) and that four of those hours must be between 10 a.m. and 3 p.m. Thus, you could come in at 7 a.m. and leave at 4 p.m., while coworkers arrive at 10 a.m. and leave at 7 p.m. With permission you could even choose to work from 8 a.m to 2 p.m., take two hours for lunch, and then work from 4 p.m. to 6 p.m.
Compressed Workweeks
Rather than work eight hours a day for five days a week, you might elect to earn a three-day weekend by working ten hours a day for four days a week.
Part-Time Work
If you’re willing to have your pay and benefits adjusted accordingly you can work fewer than forty hours a week.
Job Sharing
Under job sharing, two people share one full-time position, splitting the salary and benefits of the position as each handles half the job. Often they arrange their schedules to include at least an hour of shared time during which they can communicate about the job.
Telecommuting
Telecommuting means that you regularly work from home (or from some other nonwork location). You’re connected to the office by computer, fax, and phone. You save on commuting time, enjoy more flexible work hours, and have more opportunity to spend time with your family. A study of 5,500 IBM employees (one-fifth of whom telecommute) found that those who worked at home not only had a better balance between work and home life but also were more highly motivated and less likely to leave the organization.[35]
Though it’s hard to count telecommuters accurately, some estimates put the number of people who work at home at least one day a week at 20 percent. This estimate includes 2 percent of workers who run home-based businesses and 2 percent who work exclusively at home for other companies.[36] Telecommuting isn’t for everyone. Working at home means that you have to discipline yourself to avoid distractions, such as TV, personal phone calls, home chores, or pets, and some people feel isolated from social interaction in the workplace.
Family-Friendly Programs
In addition to alternative work arrangements, many employers, including KPMG, offer programs and benefits designed to help employees meet family and home obligations while maintaining busy careers. KPMG offers each of the following benefits.[37]
Dependent Care
Caring for dependents—young children and elderly parents—is of utmost importance to some employees, but combining dependent-care responsibilities with a busy job can be particularly difficult. KPMG provides on-site child care during tax season (when employees are especially busy) and offers emergency backup dependent care all year round, either at a provider’s facility or in the employee’s home. To get referrals or information, employees can call KPMG’s LifeWorks Resource and Referral Service. KPMG is by no means unique in this respect: more than eight thousand companies maintain on-site day care[38] (Harris, 2000) and 18 percent of all U.S. companies offer child-care resources or referral services.[39]
Paid Parental Leave
Any employee (whether male or female) who becomes a parent can take two weeks of paid leave. New mothers also get time off through short-term disability benefits.
Caring for Yourself
Like many companies, KPMG allows employees to aggregate all paid days off and use them in any way they want. In other words, instead of getting, say, ten sick days, five personal days, and fifteen vacation days, you get a total of thirty days to use for anything. If you’re having personal problems, you can contact the Employee Assistance Program. If staying fit makes you happier and more productive, you can take out a discount membership at one of more than nine thousand health clubs.
Unmarried without Children
You’ve undoubtedly noticed by now that many programs for balancing work and personal lives target married people, particularly those with children. Single individuals also have trouble striking a satisfactory balance between work and nonwork activities, but many single workers feel that they aren’t getting equal consideration from employers (Collins & Hoover, 1995). They report that they’re often expected to work longer hours, travel more, and take on difficult assignments to compensate for married employees with family commitments.
Needless to say, requiring singles to take on additional responsibilities can make it harder for them to balance their work and personal lives. It’s harder to plan and keep personal commitments while meeting heavy work responsibilities, and establishing and maintaining social relations is difficult if work schedules are unpredictable or too demanding. Frustration can lead to increased stress and job dissatisfaction. In several studies of stress in the accounting profession, unmarried workers reported higher levels of stress than any other group, including married people with children.[40]
With singles, as with married people, companies can reap substantial benefits from programs that help employees balance their work and nonwork lives: they can increase job satisfaction and employee productivity and reduce turnover. PepsiCo, for example, offers a “concierge service,” which maintains a dry cleaner, travel agency, convenience store, and fitness center on the premises of its national office in Somers, New York.[41] Single employees seem to find these services helpful, but what they value most of all is control over their time. In particular, they want predictable schedules that allow them to plan social and personal activities. They don’t want employers assuming that being single means that they can change plans at the last minute. It’s often more difficult for singles to deal with last-minute changes because, unlike married coworkers, they don’t have the at-home support structure to handle such tasks as tending to elderly parents or caring for pets.
Compensation and Benefits
Though paychecks and benefits packages aren’t the only reasons why people work, they do matter. Competitive pay and benefits also help organizations attract and retain qualified employees. Companies that pay their employees more than their competitors generally have lower turnover. Consider, for example, The Container Store, which regularly appears on Fortune magazine’s list of “The 100 Best Companies to Work For.”[42] The retail chain staffs its stores with fewer employees than its competitors but pays them more—in some cases, three times the industry average for retail workers. This strategy allows the company to attract extremely talented workers who, moreover, aren’t likely to leave the company. Low turnover is particularly valuable in the retail industry because it depends on service-oriented personnel to generate repeat business.
In addition to salary and wages, compensation packages often include other financial incentives, such as bonuses and profit-sharing plans, as well as benefits, such as medical insurance, vacation time, sick leave, and retirement accounts.
Wages and Salaries
The largest, and most important, component of a compensation package is the payment of wages or salary. If you’re paid according to the number of hours you work, you’re earning wages. Counter personnel at McDonald’s, for instance, get wages, which are determined by multiplying an employee’s hourly wage rate by the number of hours worked during the pay period. On the other hand, if you’re paid for fulfilling the responsibilities of a position—regardless of the number of hours required to do it—you’re earning a salary. The McDonald’s manager gets a salary for overseeing the operations of the restaurant. He or she is expected to work as long as it takes to get the job done, without any adjustment in compensation.
Piecework and Commissions
Sometimes it makes more sense to pay workers according to the quantity of product that they produce or sell. Byrd’s Seafood, a crab-processing plant in Crisfield, Maryland, pays workers on piecework: Workers’ pay is based on the amount of crabmeat that’s picked from recently cooked crabs (A good picker can produce fifteen pounds of crabmeat an hour and earn about \$100 a day.).[43][44] If you’re working on commission, you’re probably getting paid for quantity of sales. If you were a sales representative for an insurance company, like The Hartford, you’d get a certain amount of money for each automobile or homeowner policy that you sell. [45]
Incentive Programs
In addition to regular paychecks, many people receive financial rewards based on performance, whether their own, their employer’s, or both. At computer-chip maker Texas Instruments (TI), for example, employees may be eligible for bonuses, profit sharing, and stock options. All three plans are incentive programs: programs designed to reward employees for good performance.[46]
Bonus Plans
TI’s year-end bonuses—annual income given in addition to salary—are based on company-wide performance. If the company has a profitable year, and if you contributed to that success, you’ll get a bonus. If the company doesn’t do well, you’re out of luck, regardless of what you contributed.
Bonus plans have become quite common, and the range of employees eligible for bonuses has widened in recent years. In the past, bonus plans were usually reserved for managers above a certain level. Today, however, companies have realized the value of extending plans to include employees at virtually every level. The magnitude of bonuses still favors those at the top. High-ranking officers (such as CEOs and CFOs) often get bonuses ranging from 30 percent to 50 percent of their salaries. Upper-level managers may get from 15 percent to 25 percent and middle managers from 10 percent to 15 percent. At lower levels, employees may expect bonuses from 3 percent to 5 percent of their annual compensation.[47]
Profit-Sharing Plans
TI also maintains a profit-sharing plan, which relies on a predetermined formula to distribute a share of the company’s profits to eligible employees. Today, about 40 percent of all U.S. companies offer some type of profit-sharing program.[48] TI’s plan, however, is a little unusual: while most plans don’t allow employees to access profit-sharing funds until retirement or termination, TI employees get their shares immediately—in cash.
TI’s plan is also pretty generous—as long as the company has a good year. Here’s how it works. An employee’s profit share depends on the company’s operating profit for the year. If profits from operations reach 10 percent of sales, the employee gets a bonus worth 4 percent of his or her salary. If operating profit soars to 20 percent, the employee bonuses go up to 26 percent of salary. But if operating profits fall short of a certain threshold, nobody gets anything.[49]
Stock-Option Plans
Like most stock-option plans, the TI plan gives employees the right to buy a specific number of shares of company stock at a set price on a specified date. At TI, an employee may buy stock at its selling price at the time when he or she was given the option. So, if the price of the stock goes up, the employee benefits. Say, for example, that the stock was selling for \$30 a share when the option was granted in 2007. In 2011, it was selling for \$40 a share. Exercising his or her option, the employee could buy TI stock at the 2007 price of \$30 a share—a bargain price.[50]
At TI, stock options are used as an incentive to attract and retain top people. Starbucks, by contrast, isn’t nearly as selective in awarding stock options. At Starbucks, all employees can earn “Bean Stock”—the Starbucks employee stock-option plan. Both full- and part-time employees get options to buy Starbucks shares at a set price. If the company does well and its stock goes up, employees make a profit. CEO Howard Schultz believes that Bean Stock pays off: because employees are rewarded when the company does well, they have a stronger incentive to add value to the company (and so drive up its stock price). Shortly after the program was begun, the phrase “bean-stocking” became workplace lingo for figuring out how to save the company money.
Benefits
Another major component of an employee’s compensation package is benefits—compensation other than salaries, hourly wages, or financial incentives. Types of benefits include the following:
• Legally required benefits (Social Security and Medicare, unemployment insurance, workers’ compensation)
• Paid time off (vacations, holidays, sick leave)
• Insurance (health benefits, life insurance, disability insurance)
• Retirement benefits
Unfortunately, the cost of providing benefits is staggering. According to the Employee Benefit Research Institute, it costs an employer 30 percent of a worker’s salary to provide the same worker with benefits. If you include pay for time not worked (while on vacation or sick and so on), the percentage increases to 41 percent. So if you’re a manager making \$100,000 a year, your employer is also paying out another \$41,000 for your benefits. The most money goes for health care (8 percent of salary costs), paid time off (11 percent), and retirement benefits (5 percent).[51]
Some workers receive only benefits required by law, including Social Security, unemployment, and workers’ compensation. Low-wage workers generally get only limited benefits and part-timers often nothing at all.[52] Again, Starbucks is generous in offering benefits. The company provides benefits even to the part-timers who make up two-thirds of the company’s workforce; anyone working at least twenty hours a week gets medical coverage.
Key Takeaways
• Employees report that they’re motivated to perform well when they’re challenged, respected, treated fairly, and appreciated.
• Other factors may contribute to employee satisfaction. Some companies use job redesign to make jobs more interesting and challenging.
• Job rotation allows employees to rotate from one job to another on a systematic basis.
• Job enlargement enhances a job by adding tasks at similar skill levels.
• Job enrichment adds tasks that increase both responsibility and opportunity for growth.
• Many organizations recognize the need to help employees strike a balance between their work and home lives and offer a variety of work arrangements to accommodate different employee needs.
• Flextime allows employees to designate starting and quitting times, compress workweeks, or perform part-time work.
• With job sharing, two people share one full-time position.
• Telecommuting means working from home. Many employers also offer dependent care, paid leave for new parents, employee-assistance programs, and on-site fitness centers.
• Competitive compensation also helps.
• Workers who are paid by the hour earn wages, while those who are paid to fulfill the responsibilities of the job earn salaries.
• Some people receive commissions based on sales or are paid for output, based on a piecework approach.
• In addition to pay, many employees can earn financial rewards based on their own and/or their employer’s performance.
• They may receive year-end bonuses, participate in profit-sharing plans (which use predetermined formulas to distribute a share of company profits among employees), or receive stock options (which let them buy shares of company stock at set prices).
• Another component of many compensation packages is benefits—compensation other than salaries, wages, or financial incentives. Benefits may include paid time off, insurance, and retirement benefits.
Exercise
(AACSB) Analysis
1. Describe the ideal job that you’d like to have once you’ve finished college. Be sure to explain the type of work schedule that you’d find most satisfactory, and why. Identify family-friendly programs that you’d find desirable and explain why these appeal to you.
2. Describe a typical compensation package for a sales manager in a large organization. If you could design your own compensation package, what would it include?
Performance Appraisal
Learning Objective
1. Explain how managers evaluate employee performance and retain qualified employees.
Employees generally want their managers to tell them three things: what they should be doing, how well they’re doing it, and how they can improve their performance. Good managers address these issues on an ongoing basis. On a semiannual or annual basis, they also conduct formal performance appraisals to discuss and evaluate employees’ work performance.
The Basic Three-Step Process
Appraisal systems vary both by organization and by the level of the employee being evaluated, but as you can see in Figure 14.8 “How to Do a Performance Appraisal”, it’s generally a three-step process:
1. Before managers can measure performance, they must set goals and performance expectations and specify the criteria (such as quality of work, quantity of work, dependability, initiative) that they’ll use to measure performance.
2. At the end of a specified time period, managers complete written evaluations that rate employee performance according to the predetermined criteria.
3. Managers then meet with each employee to discuss the evaluation. Jointly, they suggest ways in which the employee can improve performance, which might include further training and development.
It sounds fairly simple, but why do so many managers report that, except for firing people, giving performance appraisals is their least favorite task?[53] To get some perspective on this question, we’ll look at performance appraisals from both sides, explaining the benefits and identifying potential problems with some of the most common practices.
Among other benefits, formal appraisals provide the following:
• An opportunity for managers and employees to discuss an employee’s performance and to set future goals and performance expectations
• A chance to identify and discuss appropriate training and career-development opportunities for an employee
• Formal documentation of the evaluation that can be used for salary, promotion, demotion, or dismissal purposes (Nelson & Economy, 2003)
As for disadvantages, most stem from the fact that appraisals are often used to determine salaries for the upcoming year. Consequently, meetings to discuss performance tend to take on an entirely different dimension: the manager appears judgmental (rather than supportive), and the employee gets defensive. It’s the adversarial atmosphere that makes many managers not only uncomfortable with the task but also unlikely to give honest feedback. (They tend to give higher marks in order to avoid delving into critical evaluations.) HR professionals disagree about whether performance appraisals should be linked to pay increases. Some experts argue that the connection eliminates the manager’s opportunity to use the appraisal to improve an employee’s performance. Others maintain that it increases employee satisfaction with the process and distributes raises on the basis of effort and results.[54]
360-Degree and Upward Feedback
Instead of being evaluated by one person, how would you like to be evaluated by several people—not only those above you in the organization but those below and beside you? The approach is called 360-degree feedback, and the purpose is to ensure that employees (mostly managers) get feedback from all directions—from supervisors, reporting subordinates, coworkers, and even customers. If it’s conducted correctly, this technique furnishes managers with a range of insights into their performance in a number of roles.
Some experts, however, regard the 360-degree approach as too cumbersome. An alternative technique, called upward feedback, requires only the manager’s subordinates to provide feedback. Computer maker Dell uses this approach as part of its manager-development plan. Every six months, forty thousand Dell employees complete a survey in which they rate their supervisors on a number of dimensions, such as practicing ethical business principles and providing support in balancing work and personal life. Like most companies using this technique, Dell uses survey results for development purposes only, not as direct input into decisions on pay increases or promotions.[55]
Retaining Valuable Employees
When a valued employee quits, the loss to the employer can be serious. Not only will the firm incur substantial costs to recruit and train a replacement, but it also may suffer temporary declines in productivity and lower morale among remaining employees who have to take on heavier workloads. Given the negative impact of turnover—the permanent separation of an employee from a company—most organizations do whatever they can to retain qualified employees. Compensation plays a key role in this effort: companies that don’t offer competitive compensation packages (including benefits) tend to lose employees. But other factors come into play, some of which we discussed earlier, such as training and development, as well as helping employees achieve a satisfying work/nonwork balance. In the following sections, we’ll look at a few other strategies for reducing turnover and increasing productivity.[56][57][58]
Creating a Positive Work Environment
Employees who are happy at work are more productive, provide better customer service, and are more likely to stay with the company. A study conducted by Sears, for instance, found a positive relationship between customer satisfaction and employee attitudes on ten different issues: a 5 percent improvement in employee attitudes results in a 1.3 percent increase in customer satisfaction and a 0.5 percent increase in revenue.[59]
The Employee-Friendly Workplace
What sort of things improve employee attitudes? The twelve thousand employees of software maker SAS Institute fall into the category of “happy workers.” They choose the furniture and equipment in their own (private) offices; eat subsidized meals at one of three on-site restaurants; enjoy free soft drinks, fresh fruit on Mondays, M&M’s on Wednesdays, and a healthy breakfast snack on Fridays in convenient break rooms; and swim and work out at a seventy-seven-thousand-square-foot fitness center. They set their own work hours, and they’re encouraged to stay home with sick children. They also have job security: no one’s ever been laid off because of an economic downturn. The employee-friendly work environment helps SAS employees focus on their jobs and contribute to the attainment of company goals.[60][61] Not surprisingly, it also results in very low 3 percent turnover.
Recognizing Employee Contributions
Thanking people for work done well is a powerful motivator. People who feel appreciated are more likely to stay with a company than those who don’t.[62] While personal thank-yous are always helpful, many companies also have formal programs for identifying and rewarding good performers. The Container Store, a national storage and container retailer, rewards employee accomplishments in a variety of ways. Recently, for example, twelve employees chosen by coworkers were rewarded with a Colorado vacation with the company’s owners, and the seven winners of a sales contest got a trip to visit an important supplier—in Sweden.[63] The company is known for its supportive environment and has frequently been selected as one of the top U.S. companies to work for.
Involving Employees in Decision Making
Companies have found that involving employees in decisions saves money, makes workers feel better about their jobs, and reduces turnover. Some have found that it pays to take their advice. When General Motors asked workers for ideas on improving manufacturing operations, management was deluged with more than forty-four thousand suggestions during one quarter. Implementing a few of them cut production time on certain vehicles by 15 percent and resulted in sizable savings.[64]
Similarly, in 2001, Edward Jones, a personal investment company, faced a difficult situation during the stock-market downturn. Costs had to be cut, and laying off employees was one option. Instead, however, the company turned to its workforce for solutions. As a group, employees identified cost savings of more than \$38 million. At the same time, the company convinced experienced employees to stay with it by assuring them that they’d have a role in managing it.[65]
Why People Quit
As important as such initiatives can be, one bad boss can spoil everything. The way a person is treated by his or her boss may be the primary factor in determining whether an employee stays or goes. People who have quit their jobs cite the following behavior by superiors:
• Making unreasonable work demands
• Refusing to value their opinions
• Failing to be clear about what’s expected of subordinates
• Rejecting work unnecessarily
• Showing favoritism in compensation, rewards, or promotions[66]
Holding managers accountable for excessive turnover can help alleviate the “bad-boss” problem, at least in the long run. In any case, whenever an employee quits, it’s a good idea for someone—someone other than the individual’s immediate supervisor—to conduct an exit interview to find out why. Knowing why people are quitting gives an organization the opportunity to correct problems that are causing high turnover rates.
Involuntary Termination
Before we leave this section, we should say a word or two about termination—getting fired. Though turnover—voluntary separations—can create problems for employers, they’re not nearly as devastating as the effects of involuntary termination on employees. Losing your job is what psychologists call a “significant life change,” and it’s high on the list of “stressful life events” regardless of the circumstances. Sometimes, employers lay off workers because revenues are down and they must resort to downsizing—to cutting costs by eliminating jobs. Sometimes a particular job is being phased out, and sometimes an employee has simply failed to meet performance requirements.
Employment at Will
Is it possible for you to get fired even if you’re doing a good job and there’s no economic justification for your being laid off? In some cases, yes—especially if you’re not working under a contract. Without a formal contract, you’re considered to be employed at will, which means that both you and your employer have the right to terminate the employment relationship at any time. You can quit whenever you want (which is good for you), but your employer can fire you whenever it wants (which is obviously bad for you).
Fortunately for you, over the past several decades, the courts have undercut employers’ rights under the employment-at-will doctrine.[67] By and large, management can no longer fire employees at will: usually, employers must show just cause for termination, and in some cases, they must furnish written documentation to substantiate the reasons for terminating an employee. If it’s a case of poor performance, the employee is generally warned in advance that his or her current level of performance could result in termination. As a rule, managers give employees who have been warned a reasonable opportunity to improve performance. When termination is unavoidable, it should be handled in a private conversation, with the manager explaining precisely why the action is being taken.
Key Takeaways
• Managers conduct performance appraisals to evaluate work performance, usually following a three-step process:
1. Setting goals and performance expectations and specifying the criteria for measuring performance
2. Completing written evaluations to rate performance according to predetermined criteria
3. Meeting with employees to discuss evaluations and ways to improve performance
• Turnover—the permanent separation of an employee from a company—has a negative effect on an organization.
• In addition to offering competitive compensation, companies may take a variety of steps to retain qualified employees:
1. Providing appropriate training and development
2. Helping employees achieve a satisfying work/nonwork balance in their lives
3. Creating a positive work environment
4. Recognizing employee efforts
5. Involving employees in decision making
• On the other hand, employers may have to terminate the employment of (that is, fire) some workers.
1. They may lay off workers because revenues are down and they have to downsize—to cut costs by eliminating jobs.
2. Sometimes a job is phased out, and sometimes an employee simply fails to meet performance requirements.
• If there’s no written employment contract, the employment relationship falls under the principle of employment-at-will, by which an employer can end it at any time. Usually, however, the employer must show just cause.
Exercises
1. What steps does a manager take in evaluating an employee’s performance? Explain the benefits of performance appraisals, and identify some of the potential problems entailed by the performance-evaluation process.
2. As an HR manager, what steps would you take to retain valuable employees? Under what circumstances would you fire an employee? Can you fire someone without giving that person a warning?
Labor Unions
Learning Objective
1. Explain why workers unionize and how unions are structured, and describe the collective-bargaining process.
As we saw earlier, Maslow believed that individuals are motivated to satisfy five levels of unmet needs (physiological, safety, social, esteem, and self-actualization). From this perspective, employees should expect that full-time work will satisfy at least the two lowest-level needs: they should be paid wages that are sufficient for them to feed, house, and clothe themselves and their families, and they should have safe working conditions and some degree of job security. Organizations also have needs: they need to earn profits that will satisfy their owners. Sometimes, the needs of employees and employers are consistent: the organization can pay decent wages and provide workers with safe working conditions and job security while still making a satisfactory profit. At other times, there is a conflict—real, perceived, or a little bit of both—between the needs of employees and those of employers. In such cases, workers may be motivated to join a labor union—an organized group of workers that bargains with employers to improve its members’ pay, job security, and working conditions.
Figure 14.10 “Labor Union Density, 1930–2010” charts labor-union density—union membership as a percentage of payrolls—in the United States from 1930 to 2010. As you can see, there’s been a steady decline since the mid-1950s, and, today, only about 12 percent of U.S. workers belong to unions (U.S. Department of Labor, 2011). Only membership among public workers (those employed by federal, state, and local governments, such as teachers, police, and firefighters) has grown. In the 1940s, 10 percent of public workers and 34 percent of those in the private sector belonged to unions. Today, this has reversed: 36 percent of public workers and 7 percent of those in the private sector are union members.[68]
Why the decline in private sector unionization? Many factors come into play. The poor economy has reduced the number of workers who can become union members. In addition, we’ve shifted from a manufacturing-based economy characterized by large, historically unionized companies to a service-based economy made up of many small firms that are hard to unionize. Finally, there are more women in the workforce, and they’re more likely to work part-time or intermittently.[69][70]
Union Structure
Unions have a pyramidal structure much like that of large corporations. At the bottom are locals that serve workers in a particular geographical area. Certain members are designated as shop stewards to serve as go-betweens in disputes between workers and supervisors. Locals are usually organized into national unions that assist with local contract negotiations, organize new locals, negotiate contracts for entire industries, and lobby government bodies on issues of importance to organized labor. In turn, national unions may be linked by a labor federation, such as the American Federation of Labor and Congress of Industrial Organizations (AFL-CIO), which provides assistance to member unions and serves as the principal political organ for organized labor.
Collective Bargaining
In a nonunion environment, the employer makes largely unilateral decisions on issues affecting its labor force, such as salary and benefits. Management, for example, may simply set an average salary increase of 3 percent and require employees to pay an additional \$50 a month for medical insurance. Typically, employees are in no position to bargain for better deals. (At the same time, however, for reasons that we’ve discussed earlier in this chapter, employers have a vested interest in treating workers fairly. A reputation for treating employees well, for example, is a key factor in attracting talented people.)
The process is a lot different in a union environment. Basically, union representatives determine with members what they want in terms of salary increases, benefits, working conditions, and job security. Union officials then tell the employer what its workers want and ask what they’re willing to offer. When there’s a discrepancy between what workers want and what management is willing to give—as there usually is—union officials serve as negotiators to bring the two sides together. The process of settling differences and establishing mutually agreeable conditions under which employees will work is called collective bargaining.
The Negotiation Process
Negotiations start when each side states its position and presents its demands. As in most negotiations, these opening demands simply stake out starting positions. Both parties expect some give-and-take and realize that the final agreement will fall somewhere between the two positions. If everything goes smoothly, a tentative agreement is reached and then voted on by union members. If they accept the agreement, the process is complete and a contract is put into place to govern labor-management relations for a stated period. If workers reject the agreement, negotiators go back to the bargaining table.
Mediation and Arbitration
If negotiations stall, the sides may call in outsiders. One option is mediation, under which an impartial third party assesses the situation and makes recommendations for reaching an agreement. A mediator’s advice can be accepted or rejected. If the two sides are willing to accept the decision of a third party, they may opt instead for arbitration, under which the third party studies the situation and arrives at a binding agreement.
Grievance Procedures
Another difference between union and nonunion environments is the handling of grievances—worker complaints on contract-related matters. When nonunion workers feel that they’ve been treated unfairly, they can take up the matter with supervisors, who may or may not satisfy their complaints. When unionized workers have complaints (such as being asked to work more hours than stipulated under their contract), they can call on union representatives to resolve the problem, in conjunction with supervisory personnel. If the outcome isn’t satisfactory, the union can take the problem to higher-level management. If there’s still no resolution, the union may submit the grievance to an arbitrator.
When Negotiations Break Down
At times, labor and management can’t resolve their differences through collective bargaining or formal grievance procedures. When this happens, each side may resort to a variety of tactics to win support for its positions and force the opposition to agree to its demands.
Union Tactics
The tactics available to the union include striking, picketing, and boycotting. When they go on strike, workers walk away from their jobs and refuse to return until the issue at hand has been resolved. As undergraduates at Yale discovered when they arrived on campus in fall 2003, the effects of a strike can engulf parties other than employers and strikers: with four thousand dining room workers on strike, students had to scramble to find food at local minimarkets. The strike—the ninth at the school since 1968—lasted twenty-three days, and in the end, the workers got what they wanted: better pension plans.
Though a strike sends a strong message to management, it also has consequences for workers, who don’t get paid when they’re on strike. Unions often ease the financial pressure on strikers by providing cash payments. (Some unionized workers, by the way, don’t have the right to strike. Strikes by federal employees, such as air-traffic controllers, are illegal because they jeopardize the public interest).
The adverse affects of a strike can impact management and workers alike. [71]
When you see workers parading with signs outside a factory or an office building (or even a school), they’re probably picketing. The purpose of picketing is informative—to tell people that a workforce is on strike or to publicize some management practice that’s unacceptable to the union. In addition, because other union workers typically won’t cross picket lines, marchers can interrupt the daily activities of the targeted organization. How would you like to show up for classes to find faculty picketing outside the classroom building? In April 2001, faculty at the University of Hawaii, unhappy about salaries, went on strike for thirteen days. Initially, many students cheerfully headed for the beach to work on their tans, but before long, many more—particularly graduating seniors—began to worry about finishing the semester with the credits they needed to keep their lives on schedule.[72]
The final tactic available to unions is boycotting, in which union workers refuse to buy a company’s products and try to get other people to follow suit. The tactic is often used by the AFL-CIO, which maintains a national “Don’t Buy or Patronize” boycott list. In 2003, for example, at the request of two affiliates, the Actor’s Equity Association and the American Federation of Musicians, the AFL-CIO added the road show of the Broadway musical Miss Saigon to the list. Why? The unions objected to the use of nonunion performers who worked for particularly low wages and to the use of a “virtual orchestra,” an electronic apparatus that can replace a live orchestra with software-generated orchestral accompaniment.[73]
Management Tactics
Management doesn’t sit by passively, especially if the company has a position to defend or a message to get out. One available tactic is the lockout—closing the workplace to workers—though it’s rarely used because it’s legal only when unionized workers pose a credible threat to the employer’s financial viability. Another tactic is replacing striking workers with strikebreakers—nonunion workers who are willing to cross picket lines to replace strikers. Though the law prohibits companies from permanently replacing striking workers, it’s often possible for a company to get a court injunction that allows it to bring in replacement workers.
Lockout tactics were used in the 2011 labor dispute between the National Football League (NFL) and the National Football League Players Association when club owners and players failed to reach an agreement on a new contract. Prior to the 2011 season, the owners imposed a lockout, which prevented the players from practicing in team training facilities. Both sides had their demands: The players wanted a greater percentage of the revenues, which the owners were against. The owners wanted the players to play two additional season games, which the players were against. With the season drawing closer, an agreement was finally reached in July 2011 bringing the 130-day lockout to an end and ensuring that the 2011 football season would begin on time.[74]
The Future of Unions
As we noted earlier, union membership in the United States is declining. So, what’s the future of organized labor? Will membership continue to decline and unions lose even more power? The AFL-CIO is optimistic about union membership, pointing out recent gains in membership among women and immigrants, as well as health care workers, graduate students, and professionals.[75][76]
But convincing workers to unionize is still more difficult than it used to be and could become even harder in the future. For one thing, employers have developed strategies for dissuading workers from unionizing—in particular, tactics for withholding job security. If unionization threatens higher costs for wages and benefits, they can resort to part-time or contract workers. They can also outsource work, eliminating jobs entirely, and more employers are now investing in technology designed to reduce the amount of human labor needed to produce goods or offer services.
Key Takeaways
• Some workers belong to labor unions—organized groups of workers that bargain with employers to improve members’ pay, job security, and working conditions.
• Unions have a pyramidal structure. At the bottom are locals, who serve workers in a particular geographical area.
1. Locals are usually organized into national unions that assist with local contract negotiations and negotiate industry-wide contracts.
2. Nationals may be linked by a labor federation, such as the AFL-CIO, which provides assistance to member unions and serves as the principal political organ for organized labor.
• When there’s a discrepancy between what workers want in terms of salary increases, benefits, working conditions, and job security and what management is willing to give, the two sides engage in a process called collective bargaining.
1. If everything goes smoothly, a contract is soon put into place.
2. If negotiations break down, the sides may resort to mediation (in which an impartial third party makes recommendations for reaching an agreement) or arbitration (in which the third party imposes a binding agreement).
• When unionized workers feel that they’ve been treated unfairly, they can file grievances—complaints over contract-related matters that are resolved by union representatives and employee supervisors.
• If labor differences can’t be resolved through collective bargaining or formal grievance procedures, each side may resort to a variety of tactics. The union can do the following:
1. Call a strike (in which workers leave their jobs until the issue is settled)
2. Organize picketing (in which workers congregate outside the workplace to publicize their position)
3. Arrange for boycotting (in which workers and other consumers are urged to refrain from buying an employer’s products)
• Management may resort to a lockout—closing the workplace to workers—or call in strikebreakers (nonunion workers who are willing to cross picket lines to replace strikers).
Exercises
1. You’ve just gotten a job as an autoworker. Would you prefer to work in a unionized or nonunionized plant? Why? If you were hired as a high-level manager in the company, would you want your workers to be unionized? Why, or why not? What’s your opinion on the future of organized labor? Will union membership grow or decline in the next decade? Why, or why not?
2. What happens in a unionized company when negotiations between labor and management break down? Identify and describe the tactics that unions can use against management and those that management can use against unions.
Cases and Problems
Learning on the Web (AACSB)
What’s Your (Emotional) IQ?
If you were an HR manager, on what criteria would you base a hiring decision—intelligence (IQ), education, technical skills, experience, references, or performance on the interview? All these can be important determinants of a person’s success, but some experts believe that there’s an even better predictor of success. It’s called emotional intelligence (or EI), and it gained some currency in the mid-1990s thanks to Daniel Goleman’s book Emotional Intelligence: Why It Can Matter More Than IQ. EI is the ability to understand both our own emotions and those of others, as well as the ability to use that understanding in managing our behavior, motivating ourselves, and encouraging others to achieve goals.
An attractive aspect of EI is that, unlike IQ, it’s not fixed at an early age. Rather, its vital components—self-awareness, self-management, social awareness, and relationship management—can be strengthened over time. To assess your level of EI, go to the Web site maintained by the Hay Group, a management-consulting firm, and take the ten-item test that’s posted there (http://psychology.about.com/library/quiz/bl_eq_quiz.htm?questnum=6&cor=2399). After completing the test, you’ll get your EI score, some instructions for interpreting it, and an answer key.
When you’ve finished with the test, rank the following items according to the importance that you’d give them in making a hiring decision: intelligence, education, technical skills, experience, references, interview skills, and emotional intelligence. Explain your ranking.
Career Opportunities
Are You a People Person?
You might not like the idea of sitting across the desk from a corporate college recruiter and asking for a job, but what if you were on the other side of the desk? As a recruiter, you’d get to return to campus each year to encourage students to join your company. Or, maybe you’d like to help your company develop a new compensation and benefits program, implement a performance-evaluation system, or create a new training program. All these activities fall under the umbrella of HR.
To learn more about the field of HR, go to the WetFeet Web site (http://wetfeet.com/Careers-and-Industries/Industries/Human-Resources.aspx#jobdescriptions) and read the page “Human Resources Overview.” Then answer these questions:
1. What is the human resources field like?
2. What do HR professionals like about their jobs? What do they dislike?
3. Are job prospects in the HR field positive or negative? Which HR areas will experience the fastest growth?
4. Based on the job descriptions posted, which specific HR job would you want?
Finally, write a paragraph responding to this question: Do you find the HR field interesting? Why, or why not?
Ethics Angle (AACSB)
Misstating the Facts
Life couldn’t get much better for George O’Leary when he was named the head football coach at Notre Dame. Unfortunately, he barely had time to celebrate his new job before he was ruled ineligible: after just a week on the job, he was forced to resign, embarrassing himself, his family, his friends, and Notre Dame itself. Why? Because of a few lies that he’d put on his résumé twenty years earlier. To get the facts behind this story, go to the Sports Illustrated Web site (http://sportsillustrated.cnn.com/football/college/news/2001/12/14/oleary_notredame/) and read the article “Short Tenure: O’Leary Out at Notre Dame After One Week.” Then, answer the following questions:
1. Was O’Leary’s punishment appropriate? If you were the athletic director at Notre Dame, would you have meted out the same punishment? Why, or why not?
2. False information on his résumé came back to haunt O’Leary after twenty years. Once he’d falsified his résumé, was there any corrective action that he could have taken? If so, what?
3. If O’Leary had told Notre Dame about the falsifications before they came to light, would they have hired him?
4. Would his previous employer take him back?
5. O’Leary was later hired as a head coach by the University of Central Florida. Will the episode involving his résumé undermine his ability to encourage players to act with integrity? Will it affect his ability to recruit players?
6. What’s the lesson to be learned from O’Leary’s experience? In what ways might a few (theoretical) misstatements on your résumé come back to haunt you?
Team-Building Skills (AACSB)
Dorm Room Rescue
Any night of the week (at least as of this writing), you can relax in front of the TV and watch a steady stream of shows about how to improve your living space—such as New Spaces. You like the concept of these programs well enough, but you’re tired of watching them in a tiny, cluttered dorm room that’s decorated in early barracks style. Out of these cramped conditions, however, you and a team of friends come up with an idea. On graduation, you’ll start a business called Dorm Room Rescue to provide decorating services to the dorm dwellers who come after you. You’ll help college students pick colors and themes for their rooms and select space-saving furniture, storage materials, area rugs, and wall decorations. Your goal will be to create attractive dorm rooms that provide comfort, functionality, and privacy, as well as pleasant spaces in which students can relax and even entertain.
The team decides to develop a plan for the HR needs of your future company. You’ll need to address the following issues:
1. Number of employees
2. Job descriptions: duties and responsibilities for each type of employee
3. Job specifications: needed skills, knowledge, and abilities
The Global View (AACSB)
Sending Ed to China
You’re the HR manager for a large environmental consulting firm that just started doing business in China. You’ve asked your top engineer, Ed Deardon, to relocate to Shanghai for a year. Though China will be new to Deardon, working overseas won’t be; he’s already completed assignments in the Philippines and Thailand; as before, his wife and three children will be going with him.
You’ve promised Deardon some advice on adapting to living and working conditions in Shanghai, and you intend to focus on the kinds of cultural differences that tend to create problems in international business dealings. Unfortunately, you personally know absolutely nothing about living in China and so must do some online research. Here are some promising sites:
Instructions
Prepare a written report to Deardon in which you identify and explain five or six cultural differences between business behavior in the United States and China, and offer some advice on how to deal with them.
1. Introductory material on Howard Schultz and Starbucks comes from Howard Schultz and Dori Jones Yang, Pour Your Heart into It: How Starbucks Built a Company One Cup at a Time (New York: Hyperion, 1997), 3–8.
2. Schultz, H., and Dori Jones Yang, Pour Your Heart into It: How Starbucks Built a Company One Cup at a Time (New York: Hyperion, 1997), 138.
3. (Schultz & Yang, 1997)
4. Schultz, H., and Dori Jones Yang, Pour Your Heart into It: How Starbucks Built a Company One Cup at a Time (New York: Hyperion, 1997), 138.
5. Starbucks, “Our Starbucks Mission Statement,” Starbucks, http://www.starbucks.com/about-us/company-information/mission-statement (accessed October 8, 2011)
6. Starbucks, “Our Starbucks Mission Statement,” Starbucks, http://www.starbucks.com/about-us/company-information/mission-statement (accessed October 8, 2011).
7. Schultz, H., and Dori Jones Yang, Pour Your Heart into It: How Starbucks Built a Company One Cup at a Time (New York: Hyperion, 1997), 125.
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Data versus Information
Learning Objectives
1. Distinguish between data and information.
2. Define information system (IS) and identify the tasks of the information systems manager.
By the time the company took the plunge and committed \$100 million to marketing-related information technology (IT), Caesars had been collecting and storing data about customers for almost a decade. “While the company thought it important to collect customer information,” recalls a senior marketing executive, “the problem was we had millions of customers to collect information on, but we had no systematic way of turning it into a marketing decision. We didn’t know what to do with it.” In other words, Caesars was collecting a lot of data but not necessarily any information. So what’s the difference?
As an example, suppose that you want to know how you’re doing in a particular course. So far, you’ve taken two 20-question multiple-choice tests. On the first, you got questions 8, 11, and 14 wrong; on the second, you did worse, missing items 7, 15, 16, and 19. The items that you got wrong are merely data—unprocessed facts. What’s important is your total score. You scored 85 on the first exam and 80 on the second. These two numbers constitute information—data that have been processed, or turned into some useful form. Knowing the questions that you missed simply supplied you with some data for calculating your scores.
Now let’s fast-forward to the end of the semester. At this point, in addition to taking the two tests, you’ve written two papers and taken a final. You got a 90 and 95 on the papers and a 90 on the final. You now have more processed data, but you still want to organize them into more useful information. What you want to know is your average grade for the semester. To get the information you want, you need yet more data—namely, the weight assigned to each graded item. Fortunately, you’ve known from day one that each test counts 20 percent, each paper 10 percent, and the final exam 40 percent. A little math reveals an average grade of 87.
Though this is the information you’re interested in, it may be mere data to your instructor, who may want different information: an instructor who intends to scale grades, for example, will want to know the average grade for the entire class. You’re hoping that the class average is low enough to push your average of 87 up from a B+ to an A– (or maybe even an A—it doesn’t hurt to hope for the best). The moral of the story is that what constitutes information at one stage can easily become data at another: or, one person’s information can be another person’s data.
As a rule, you want information; data are good only for generating the information. So, how do you convert data into information that’s useful in helping you make decisions and solve problems? That’s the question we’ll explore in the next section.
Information Systems
To gather and process data into information and distribute it to people who need it, organizations develop an information system (IS)—the combination of technologies, procedures, and people who collect and distribute the information needed to make decisions and coordinate and control company-wide activities. In most large organizations, the IS is operated by a senior management team that includes a chief information officer (CIO) who oversees information and telecommunications systems. There may also be a chief technology officer who reports to the CIO and oversees IT planning and implementation. As for information managers, their tasks include the following:
• Determining the information needs of members of the organization
• Collecting the appropriate data
• Applying technology to convert data into information
• Directing the flow of information to the right people
Differences in Information Needs
The job is complicated by the fact that information needs vary according to different levels, operational units, and functional areas. Consider, for instance, the information needs of managers at several levels:
• Top managers need information for planning, setting objectives, and making major strategic decisions.
• Middle managers need information that helps them allocate resources and oversee the activities under their control.
• First-line managers require information that helps them supervise employees, oversee daily operations, and coordinate activities.
Figure 15.1 “Information Needs and Flows” illustrates a hypothetical hierarchy of information needs at Caesars. The president, for example, needs information to determine whether profitability is up or down or if the organization is facing any new competitive threats. At the vice-presidential level, executives need information that will help them in controlling and planning for specific areas of operations. The VP of casino operations, for example, might need to know which operations are most profitable—slots, table games, or other gaming activities. The VP of hotel operations might want to know whether room revenues are going up or down.
Figure 15.1 Information Needs and Flows
The information needs of middle-level and lower-level managers are different still. The slot-machine manager might want to know whether the placement of machines on the casino floor affects profitability. The poker manager might want to know whether all table games comply with state regulations. At a lower level, the pit manager (who’s in charge of table games in a particular area) needs to know whether there’s a card-counter at his blackjack table or whether a dealer’s activities are suspicious.
Even at a given level, information needs can vary. A manager on the hotel side of the business, for instance, doesn’t care much about profitability at the poker tables, while a pit manager doesn’t have much use for hotel housekeeping reports. The reports that an accountant needs would hardly be the same as those needed by a human resources manager.
The Need to Share Information
Having stressed the differences in information needs, we should pause to remind ourselves that the managerial levels, operations, and functions of every organization are intertwined, to a greater or lesser degree. If you’ll glance again at Figure 15.1 “Information Needs and Flows”, you’ll be reminded that organizations need to share information, that information must flow, and that it must flow in both directions, bottom-up and top-down. At Caesars, for instance, both casino and hotel managers are concerned about security, which is also of interest to managers in different functional areas. Information supplied by the security group is obviously vital to managers in the gaming areas, but HR managers also need it to screen potential employees. Marketing information is clearly important to both casino and hotel operations: to maximize overall profits, the company uses marketing data to fill hotel rooms with customers who spend big in the casinos.[1]
Caesars’s information needs entail more than allowing individuals in a given casino to share information; information has to be shared among all of Caesars’s thirty-nine casinos. Thus, Caesars relies on an integrated IT system that allows real-time communication among all its properties. Installing the system (in the mid-1990s) was complicated, and not everyone in the organization liked the idea. Some managers felt that information sharing threatened their independence. Others, including some in the IT group, doubted that a large number of separate IT systems could be adequately integrated. To get everyone on board, John Bushy, then senior VP of information technology, pledged that he wouldn’t cut his hair until the system was up and running. By the time it was operational in 1997, Bushy had hair down to his shoulders, but it was worth it: Caesars’s ability to share real-time information across all its properties has been a major factor in the company’s success. Caesars’s new system cut costs by \$20 million a year, increased brand recognition, and increased the number of customers playing at more than one Caesars property by 72 percent.[2][3]
Enterprise Systems
Many large and mid-size companies rely on a highly integrated system called an enterprise resource planning (ERP) system to channel information to multiple users. To understand what an ERP system does, forget about the P for planning (it really doesn’t have much to do with planning) and the R for resource (it’s an imprecise term).[4] Focus on the E for enterprise. An ERP system integrates the computer needs of all activities across the enterprise into a single system that serves all users. Such broad integration isn’t a simple task, and you wouldn’t be the first person to wonder whether it wouldn’t be easier to give each department its own computer system. Salespeople, for example, need a system that tracks sales and generates sales reports. Meanwhile, manufacturing personnel don’t need to track sales but do need to track inventory. What’s the problem with stand-alone computer systems? Quite simply, users in various departments can’t share information or communicate with each other.
What If You Don’t Have ERP?
Imagine that you’re a sales manager for a fairly large manufacturing company that produces and sells treadmills. Like every other department in the organization, you have your own computer system. A local sporting-goods store orders one hundred treadmills through a regional sales representative. It’s your job to process the order. It wouldn’t be much of a problem for you to go into your computer and place the order. But how would you know if the treadmills were actually in stock and when they could be delivered? How would you know if the customer’s credit was any good? You could call the warehouse and ask if the treadmills are in stock. If they are, you’d tell the warehouse manager that you’re placing an order and hope that the treadmills are still in stock by the time your order gets there two days later. While you’re at it, you’d better ask for an expected delivery date. As a final precaution, you should probably call the finance department and ask about your customer’s credit rating. So now you’ve done your job, and it can hardly be your fault that because the cost of manufacturing treadmills has gone up, accounting has recommended an immediate price increase that hasn’t shown up in your computer system yet.
What If You Do Have ERP?
Wouldn’t it be easier if you had an ERP system like the one illustrated in Figure 15.2 “ERP System”—one that lets you access the same information as every other department? Then you could find out if there were one hundred treadmills in stock, the expected delivery date, your customer’s credit rating, and the current selling price—without spending most of the day exchanging phone calls, e-mails, text messages, and faxes. You’d be in a better position to decide whether you can give your customer credit, and you could promise delivery (at a correct price) on a specified date. Then, you’d enter the order into the system. The information that you entered would be immediately available to everyone else. The warehouse would know what needs to be shipped, to whom, and when. The accounting department would know that a sale had been made, the dollar amount, and where to send the bill. In short, everyone would have up-to-date information, and no one would have to reinput any data.
Key Takeaways
• Data are unprocessed facts. Information is data that have been processed or turned into some useful form.
• To gather and process data into information and distribute it to people who need it, an organization develops an information system (IS)—the combination of technologies, procedures, and people who collect and distribute the information needed to make decisions and to coordinate and control company-wide activities.
• In most large organizations, the information system is operated by a senior management team that includes a chief information officer (CIO) who oversees information and telecommunications systems.
• There may also be a chief technology officer who reports to the CIO and oversees IT planning and implementation.
• The tasks of information managers include:
1. Determining the information needs of people in the organization
2. Collecting the appropriate data
3. Applying technology to convert data into information
4. Directing the flow of information to the right people
• The job is complicated by the fact that information needs vary according to different levels, operational units, and functional areas.
• In addition, information must be shared. To channel information to multiple users, large and mid-size companies often rely on a highly integrated system called an enterprise resource planning (ERP) system.
• An ERP system integrates the computer needs of all business activities across the enterprise into a single computer system that serves all users.
Exercises
1. Using the college-application process as an example, explain the difference between data and information. Identify the categories of data that you supplied on your college application and the information generated from them by the admissions department.
2. (AACSB) Analysis
3. (AACSB) Analysis
Managing Data
Learning Objective
1. Explain how IS managers capture, store, and analyze data.
Did you ever think about how much data you yourself generate? Just remember what you went through to start college. First, you had to fill out application forms asking you about test scores, high school grades, extracurricular activities, and finances, plus demographic data about you and your family. Once you’d picked a college, you had to supply data on your housing preferences, the curriculum you wanted to follow, and the party who’d be responsible for paying your tuition. When you registered for classes, you gave more data to the registrar’s office. When you arrived on campus, you gave out still more data to have your ID picture taken, to get your computer and phone hooked up, to open a bookstore account, and to buy an on-campus food-charge card. Once you started classes, data generation continued on a daily basis: your food card and bookstore account, for example, tracked your various purchases, and your ID tracked your coming and going all over campus. And you generated grades.
And all these data apply to just one aspect of your life. You also generated data every time you used your credit card and your cell phone. Who uses all these data? How are they collected, stored, analyzed, and distributed in organizations that have various reasons for keeping track of you?
Data and Databases
To answer such questions, let’s go back to our Caesars example. As we’ve seen, Caesars collects a vast amount of data. Its hotel system generates data when customers make reservations, check in, buy food and beverages, purchase stuff at shops, attend entertainment events, and even relax at the spa. In the casino, customers apply for rewards programs, convert cash to chips (and occasionally chips back to cash), try their luck at the tables and slots, and get complimentary drinks. Then, there are the data generated by the activities of the company itself: employees, for instance, generate payroll and benefits data, and retail operations generate data every time they buy or sell something. Moreover, if we added up all these data, we’d have only a fraction of the amount generated by the company’s gaming operations.
How does Caesars handle all these data? First of all, it captures and stores them in several databases— electronic collections of related data that can be accessed by various members of the organization. Think of databases as filing cabinets that can hold massive amounts of organized information, such as revenues and costs from hotel activities, casino activities, and events reservations at each of Caesars facilities.
Warehousing and Mining Data
What if Caesars wants to target customers who generate a lot of revenue, by using a program designed to entice return visits? How would it identify and contact these people? Theoretically, it could search through the relevant databases—those that hold customer-contact information (such as name and address) and information about customer activity in the company’s hotels, casinos, and entertainment venues. It would be a start, perhaps, but it wouldn’t be very efficient. First of all, it would be time-consuming. Plus, what if the same data weren’t stored in a similar fashion in each database? In that case, it would be quite hard to combine the data in a meaningful way. To address this problem, Caesars managers will rely on a system like the one illustrated in Figure 15.3 “The Data Mining Process”, which calls for moving all the relevant data into a data warehouse—a centralized database in which data from several databases are consolidated and organized so that they can be easily analyzed.
Data Mining
With the data in one central location, management can find out everything it needs to about a particular group of customers. It can also use the data to address some pretty interesting questions. Why do people come to our casinos? How can we keep customers coming back? How can we increase the number of visits per customer? How can we increase the amount they spend on each visit? What incentives (such as free dinners, hotel rooms, or show tickets) do our customers like most? To come up with answers to these questions, they’ll perform a technique called data mining—the process of searching and analyzing large amounts of data to reveal patterns and trends that can be used to predict future behavior.
Data Mining and Customer Behavior
By data-mining its customer-based data warehouse, Caesars’s management can discover previously unknown relationships between the general behavior of its customers and that of a certain group of customers (namely, the most profitable ones). Then, it can design incentives to appeal specifically to those people who will generate the most profit for the company.
To get a better idea of how data mining works, let’s simplify a description of the process at Caesars. First, we need to know how the casino gathered the data to conduct its preliminary analysis. Most customers who play the slots use a Caesars player’s card that offers incentives based on the amount of money that they wager on slot machines, video poker, and table games.[5] To get the card, a customer must supply some personal information, such as name, address, and phone number. From Caesars’s standpoint, the card is extremely valuable because it can reveal a lot about the user’s betting behavior: actual wins and losses, length of time played, preferred machines and coin denominations, average amount per bet, and—most important—the speed with which coins are deposited and buttons pushed.[6] As you can see from Figure 15.3 “The Data Mining Process”, Caesars’s primary data source was internal—generated by the company itself rather than provided by an outside source—and drew on a marketing database developed for customer relationship management (CRM).
Figure 15.4 Caesars Resort
Caesars collects data on its customers by using players’ cards to gather information and to track betting behavior. [7]
What does the casino do with the data that it’s mined? Caesars was most interested in “first trippers”—first-time casino customers. In particular, it wanted to know which of these customers should be enticed to return. By analyzing the data collected from player’s-card applications and from customer’s actual play at the casino (even if for no more than an hour), Caesars could develop a profile of a profitable customer. Now, when a first-timer comes into any of its casinos and plays for a while, Caesars can instantly tell whether he or she fits the profitable-customer profile. To lure these people back for return visits, it makes generous offers of free or reduced-rate rooms, meals, entertainment, or free chips (the incentive of choice for Caesars’s preferred customers). These customers make up 26 percent of all Caesars’s customers and generate 82 percent of its revenues. Surprisingly, they’re not the wealthy high rollers to whom Caesars had been catering for years. Most of them are regular working people or retirees with available time and income and a fondness for slots. They generally stop at the casino on the way home from work or on a weekend night and don’t stay overnight. They enjoy the thrill of gambling, and you can recognize them because they’re the ones who can’t push the button or pump tokens in fast enough.[8]
Key Takeaways
• Organizations capture and store data in databases—electronic collections of related data that can be accessed by various people in the organization.
• To facilitate data analysis, IS managers may move data from various databases into a data warehouse—a centralized database in which data are consolidated and organized for efficient analysis.
• To come up with answers to a huge range of questions, managers perform a technique called data mining—the process of searching and analyzing large amounts of data to reveal patterns and trends that can be used to predict future behavior.
Exercise
(AACSB) Analysis
Caesars uses data mining to identify its most profitable customers and predict their future behavior. It then designs incentives to appeal specifically to these customers. Do you see any ethical problems with this process? Is it ethical to encourage people to gamble? Explain your answer.
Types of Information Systems
Learning Objective
1. Discuss ways in which an IS can be designed to meet the needs of individuals at various organizational levels.
As we saw earlier, different managers, operational units, and functional areas have different information needs. That’s why organizations often tailor information systems to meet particular needs. Caesars’s IT group, for example, developed the Player Contact System [9][10] to help its casino salespeople connect to top customers on a more personal basis. Working from a prioritized list of customer names displayed on a computer screen, the salesperson clicks on a name to view relevant information about the customer, such as background and preferred casino activities. There’s even a printed script that can be used to guide the conversation. Such a system isn’t very helpful, however, to middle or top-level managers, who need systems to help them carry out their oversight and planning responsibilities. To design marketing programs, for instance, marketing managers rely on summary information gleaned from a dedicated customer-relationship management system. Let’s look at some of the widely available information systems designed to support people at the operational and upper-management levels.
Operations Support Systems
Operations support systems are generally used by managers at lower levels of the organization—those who run day-to-day business operations and make fairly routine decisions. They may be transaction processing systems, process control systems, or design and production systems.
Transaction Processing Systems
Most of an organization’s daily activities are recorded and processed by its transaction processing system, which receives input data and converts them into output—information—intended for various users. Input data are called transactions—events that affect a business. A financial transaction is an economic event: it affects the firm’s assets, is reflected in its accounting statements, and is measured in monetary terms. Sales of goods to customers, purchases of inventory from suppliers, and salaries paid to employees are all financial transactions. Everything else is a nonfinancial transaction. The marketing department, for example, might add some demographic data to its customer database. The information would be processed by the firm’s transaction processing system, but it wouldn’t be a financial transaction.
Figure 15.5 “Transaction Processing System” illustrates a transaction processing system in which the transaction is a customer’s electronic payment of a bill. As you can see, transaction processing system output can consist not only of documents sent to outside parties (in this case, notification of payment received), but also of information circulated internally (in the form of reports), as well as of information entered into the database for updating.
Process Control Systems
Process control refers to the application of technology to monitor and control physical processes. It’s useful, for example, in testing the temperature of food as it’s being prepared or gauging the moisture content of paper as it’s being manufactured. Typically, it depends on sensors to collect data periodically. The data are then analyzed by a computer programmed either to make adjustments or to signal an operator.
Caesars uses process-control technology to keep customers happy. At any given point, some slot machines are down, whether because a machine broke or ran out of money or somebody hit the jackpot. All these contingencies require immediate attention by a service attendant. In the past, service personnel strolled around looking for machines in need of fixing. Now, however, a downed slot machine sends out an “I need attention” signal, which is instantly picked up by a monitoring and paging system called MessengerPlus and sent to a service attendant.
Design and Production Systems
Modern companies rely heavily on technology to design and make products. Computer-aided design (CAD) software, for instance, enables designers to test computer models digitally before moving new products into the prototype stage. Many companies link CAD systems to the manufacturing process through computer-aided manufacturing (CAM) systems that not only determine the steps needed to produce components but also instruct machines to do the necessary work. A CAD/CAM system can be expanded by means of computer-integrated manufacturing (CIM), which integrates various operations (from design through manufacturing) with functional activities ranging from order taking to final shipment. The CIM system may also control industrial robots—computer-run machines that can perform repetitive or dangerous tasks. A CIM system is a common element in a flexible manufacturing system, which makes it possible to change equipment setups by reprogramming computer-controlled machines that can be adapted to produce a variety of goods. Such flexibility is particularly valuable to makers of customized products.
Management Support Systems
Mid- and upper-level managers rely on a variety of information systems to support decision-making activities, including management information systems, decision support systems, executive support systems, and expert systems.
Management Information Systems
A management information system extracts data from a database to compile reports, such as sales analyses, inventory-level reports, and financial statements, to help managers make routine decisions. The type and form of the report depend on the information needs of a particular manager. At Caesars, for example, several reports are available each day to a games manager (who’s responsible for table-game operations and personnel): a customer-analysis report, a profitability report, and a labor-analysis report.[11]
Decision Support Systems
A decision support system is an interactive system that collects, displays, and integrates data from multiple sources to help managers make nonroutine decisions. For example, suppose that a gaming company is considering a new casino in Pennsylvania (which has recently legalized slot machines). To decide whether it would be a wise business move, management could use a decision support system like the one illustrated in Figure 15.6 “Decision Support System”. The first step is to extract data from internal sources to decide whether the company has the financial strength to expand its operations. From external sources (such as industry data and Pennsylvania demographics), managers might find the data needed to determine whether there’s sufficient demand for a casino in the state. The decision support system will apply both types of data as variables in a quantitative model that managers can analyze and interpret. People must make the final decision, but in making sense of the relevant data, the decision support system makes the decision-making process easier—and more reliable.[12]
Executive Information Systems
Senior managers spend a good deal of their time planning and making major decisions. They set performance targets, determine whether they’re being met, and routinely scan the external environment for opportunities and threats. To accomplish these tasks, they need relevant, timely, easily understood information. Often, they can get it through an executive information system, which provides ready access to strategic information that’s customized to their needs and presented in a convenient format. Using an executive information system, for example, a gaming-company executive might simply touch a screen to view key summary information that highlights in graphical form a critical area of corporate performance, such as revenue trends. After scanning this summary, our executive can “drill down” to retrieve more detailed information—for example, revenue trends by resort or revenue trends from various types of activities, such as gaming, hotel, retail, restaurant, or entertainment operations.
Artificial Intelligence
Artificial intelligence is the science of developing computer systems that can mimic human behavior. Ever since the term was coined in 1956, artificial intelligence has always seemed on the verge of being “the next big thing.” Unfortunately, optimistic predictions eventually collided with underwhelming results, and many experts began to doubt that it would ever have profitable applications.[13] In the last decade, however, some significant advances have been made in artificial intelligence—albeit in the area of game playing, where activities are generally governed by small sets of well-defined rules. But even the game-playing environment is sometimes complex enough to promote interesting developments. In 1997, for example, IBM’s Deep Blue—a specialized computer with an advanced chess-playing program—defeated the world’s highest-ranked player.[14]
More recently, several artificial intelligence applications have been successfully put to commercial use. Let’s take a brief look at two of these: expert systems and face-recognition technology.
Expert Systems
Expert systems are programs that mimic the judgment of experts by following sets of rules that experts would follow. They’re useful in such diverse areas as medical diagnosis, portfolio management, and credit assessment. For example, you’ve called the customer-service department of your credit-card company because you want to increase your credit line. Don’t expect to talk to some financial expert who’s authorized to say yes or no. You’ll be talking to a service representative with no financial expertise whatsoever. He or she will, however, have access to an expert system, which will give you an answer in a few seconds. How does it work? The expert system will prompt the representative to ask you certain questions about your salary and living expenses. It will also check internal corporate data to analyze your purchases and payment behavior, and, based on the results, it will determine whether you get an increase and, if so, how much.
At Caesars, an expert system called the Revenue Management System helps to optimize the overall profitability of both hotel and casino operations. When a customer requests a room, the program accesses his or her profile in the database and consults certain “rules” for assessing the application.[15] One rule, for example, might be, “If the customer has wagered more than \$100,000 in the past year, add 10 points.” Eventually, the system decides whether your application will be accepted (and at what rate) by adding up points determined by the rules. While a tightwad may not get a room even when there are vacancies, a high roller may get a good rate on a luxury suite even if the hotel is nearly full.
Face-Recognition Technology
Caesars uses another particularly interesting, and sophisticated, application of artificial intelligence. In the hotel-casino business, it’s crucial to identify and turn away undesirable visitors. One tool for this task is a digital camera-surveillance system that uses face-recognition technology. Using this technology, a program classifies a person’s face according to the presence/absence or extent of certain unique features, such as dimpled chins, receding jaws, overbites, and long or short noses. If there’s a match on, for example, fifteen features between a person being scanned and someone in the company database, a staff member decides whether the two people are the same. If a security manager then concludes that the face belongs to a skilled card-counter, the customer will be discouraged from playing blackjack; if it belongs to a known cheater, the individual will be escorted out of the casino. The system, however, does more than spot undesirables. It can also identify high rollers and send information about customers to managers on the floor. That’s why a Caesars manager can greet a preferred customer at the door with his favorite drink and a personalized greeting, such as “Hi, Bill! How’s Karen? Did you ever get that vintage Corvette? Here, have a gin rickey on the house”.[16][17]
Key Takeaways
• Information needs vary according to managerial level (top, middle, or first-line).
• An IS, or information system, can be divided into two categories:
1. Those that meet the needs of low-level managers
2. Those that meet the needs of middle- and upper-level managers
• Low-level managers—those who run day-to-day operations and make routine decisions—use operations support systems, which usually fall into three categories: transaction processing systems, process control systems, and computer-aided design software.
1. Most daily activities are recorded and processed by a transaction processing system, which receives input data and converts them into output—information—intended for various users.
2. Process control refers to the application of technology to monitor and control physical processes, such as food preparation. The system depends on sensors to collect data for analysis by a computer programmed either to make adjustments or to signal an operator.
3. Technology can be used to design and make products. Computer-aided design (CAD) software, for instance, enables designers to test computer models digitally before moving new products into the prototype stage.
• Mid- and upper-level managers may use one of four types of management support system to assist in decision-making activities: management information systems, decision support systems, executive information systems, and expert systems.
1. A management information system extracts data from a database to compile reports, such as sales analyses, needed for making routine decisions.
2. A decision support system is an interactive system that collects and integrates data from multiple sources to assist in making nonroutine decisions.
3. To develop plans and make major decisions, managers may gather relevant, timely, easily understood information through an executive information system; an EIS provides ready access to strategic information that’s customized to their needs and presented in a convenient format.
4. An expert system mimics expert judgment by following sets of rules that experts would follow; it relies on artificial intelligence—the science of developing computer systems that can mimic human behavior.
Exercise
(AACSB) Analysis
For each of the following situations, select the appropriate management support system to aid the user: decision support system, executive support system, or expert system. In each case, describe the management support system that you recommend.
• You’re trying to identify a rash on your arm.
• You own two golf courses in the Northeast, and you’re thinking about building one in Florida. You need to gather and analyze information about your current operations in the Northeast, as well as external information about the golf industry in Florida.
• You own three McDonald’s franchises. Every morning, you want to know the revenues and costs at each store. You’re also interested in a breakdown of revenues by product and costs by category of expense (salaries, food and ingredients, maintenance, and so on).
Computer Networks and Cloud Computing
Learning Objectives
1. Describe the main systems for sharing information through networked computers.
2. Define cloud computing and identify its advantages and disadvantages.
Once it’s grown beyond just a handful of employees, an organization needs a way of sharing information. Imagine a flower shop with twenty employees. The person who takes phone orders needs access to the store’s customer list, as do the delivery person and the bookkeeper. Now, the store may have one computer and everyone could share it. It’s more likely, however, that there are a number of computers (several for salespeople, one for delivery, and one for bookkeeping). In this case, everyone needs to be sure that customer records have been updated on all computers every time that a change is required.
Networks
Likewise, many companies want their personal computers to run their own software and process data independently. But they also want people to share databases, files, and printers, and they want them to share applications software that performs particular tasks, including word processing, creating and managing spreadsheets, designing graphical presentations, and producing high-quality printed documents (desktop publishing).
The solution in both cases is networking—linking computers to one another. The two major types of networks are distinguished according to geographical coverage:
• A local area network (LAN) links computers that are in close proximity—in the same building or office complex. They can be connected by cables or by wireless technology. Your university might have a LAN system that gives you access to resources, such as registration information, software packages, and printers. Figure 15.7 “Local Area Network (LAN)” illustrates a LAN that’s connected to another network by means of a gateway—a processor that allows dissimilar networks to communicate with one another.
Figure 15.7 Local Area Network (LAN)
• Because a wide area network (WAN) covers a relatively large geographical area, its computers are connected by telephone lines, wireless technology, or even satellite.
Like the one in Figure 15.7 “Local Area Network (LAN)”, some networks are client-server systems, which include a number of client machines (the ones used by employees for data input and retrieval) and a server (which stores the database and the programs used to process the data). Such a setup saves time and money and circulates more-accurate information.
Cloud Computing
A cloud is a “visible mass of condensed water vapor floating in the atmosphere, typically high above the ground”.[18] The term “cloud computing” means performing computer tasks using services provided over the Internet.[19] So how do you connect the two definitions? When IT professionals diagrammed computer systems, they used a cloud symbol to represent the Internet. So when you hear or read that an individual or company is using the “cloud” or technology firms, such as IBM, Hewlett-Packard, and Salesforce.com, are offering cloud services, just substitute the word “Internet” for “cloud” and things will make sense.
You might be surprised to learn that you’re already using the cloud—that is if you use Facebook (which is very likely—in fact, just mentioning Facebook here might prompt you to stop studying and check out your friends’ pages). How do you know that Facebook is a cloud application? Remember the trick: just substitute the word “Internet” for “cloud.” The Facebook computer application lets you store information about yourself and share it with others using the Internet.
Business Applications
Think about the functional areas of business you’ve explored in this text: accounting, finance, human resources, management, marketing, operations, and product design. Now imagine you’re Katrina Lane, senior vice president and chief technology officer for Caesars Entertainment, who is responsible for the information technology needed to handle multiple tasks in all these functional areas. You’re sitting at your desk when Gary Loveman, chief executive officer of Caesars, walks in and gives you the news. Caesars just purchased the Planet Hollywood Casino and Resort in Las Vegas and will open up two new casinos in Ohio in 2012. This is good news for the company, but it means a lot of work for you and your staff.
You wonder whether this might be the time to outsource some of your computing tasks to a technology firm specializing in cloud computing. You remember an example that really makes sense:[20] Right now, whenever Microsoft comes out with a new version of Word, Caesars has to pay \$350 per PC for the latest version. Wouldn’t it make more sense to rent the use of the Microsoft Word program from a cloud vendor for say \$5 a month (or \$60 a year)? Given that the average time between new releases of Word is two years, your total cost per PC would be \$120 (2 × \$60)—a savings of about \$230 per PC (\$350 − \$120). Your employees wouldn’t mind; instead of working offline, they would just login to the Internet and work with their online version using the files that were saved for them. And the members of your IT staff would be pleased that they wouldn’t need to install the new version of Word on all your PCs.
The As-A-Service Group
Companies can contract for various cloud computing services. The Microsoft Word example discussed previously is classified as software as a service (SaaS). This type of service gives companies access to a large assortment of software packages without having to invest in hardware or install and maintain software on its own computers. The available software, which includes e-mail and collaboration systems and customer relationship management programs, can be customized and used by an individual client or shared among several clients. A second type of service is called infrastructure as a service (IaaS). Instead of providing users with software, a technology firm offering infrastructure as a service provides hardware, including servers, central processing units, network equipment, and disk space.[21] The most successful IaaS provider is Amazon Web Services.[22] The company rents computer power and storage to users who access their data via the Internet. The last as-a-service model is called platform as a service (PaaS). Those offering platform as a service provide services that enable users to develop customized web applications. Because they don’t have to start from scratch but rather build on existing platforms made available by the service provider, the web applications can be developed quickly.
Video Clip 15.1 Cloud Computing
“Traditional business applications and platforms are too complicated and expensive. They need a data center, a complex software stack, and a team of experts to run them.”
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=173
Advantages and Disadvantages of Cloud Computing
In making your final decision (as the pretend chief technology officer for Caesars) you should consider these advantages and disadvantages of cloud computing:
Advantages
Shifting some of Caesars’s IT functions to the cloud would produce a number of advantages:
1. Cost Savings—By “renting” software rather than buying it, Caesars can reduce its costs. The monthly fee to “use” the software is generally less than the combined cost of buying, installing, and maintaining the software internally. On the hardware site, housing Caesars’s data in a service provider’s facilities, rather than in-house, reduces the large outlay of cash needed to build and maintain data centers.
2. Speed of Delivery—Purchasing and installing software and data processing equipment can be time consuming. A cloud computing service provider could get Caesars’s applications up and running in only a few weeks.
3. Scalable—Caesars is constantly expanding both in the number of casinos it owns and geographically. In this ever-changing environment, it’s difficult to gauge the level of our technology needs. If we overestimate our requirements, we end up paying for technology we don’t need. If we underestimate, efficiency goes down, and the experience for our customers diminishes. By using cloud computing we are able to have exactly what we need at our disposal at any point in time.
4. Employees Can Be Mobile—The use of cloud computing will free workers from their desks and allow them to work wherever they are. As applications move to the cloud, all that is needed for our employees to connect to their “offices” is the Internet. This mobility benefit also makes it easier for employees to collaborate on projects and connect with others in the company.
5. Information Technology Staff—Although our current staff is extremely qualified and dedicated, finding experienced and knowledgeable staff is a continuing problem particularly in the casino industry which suffers from historically high turnover. By using cloud computing, we reduce our human resource needs by shifting some of our work to outside vendors who are able to hire and keep well qualified individuals (in part because IT professionals enjoy working for technology companies).
Disadvantages
Although the advantages of moving to a cloud environment outnumber the disadvantages, the following disadvantages are cause for concern:
1. Disruption in Internet Service—If Caesars moves some of its applications to the cloud, its employees can work on these applications on any device and in any location as long as they have an Internet connection. But what if the Internet is unavailable because of a disruption? Depending on the length of the disruption, this could create serious problems for Caesars.
2. Security—Many companies are reluctant to trust cloud service providers with their data because they’re afraid it might become available to unauthorized individuals or criminals. This is a particular problem for Caesars, which collects and stores sensitive client information and has to constantly be on the lookout for fraudulent activity of staff and customers.[23]
3. Service Provider System Crash—Organizations considering moving to the cloud are justifiably concerned about the possibility of a computer service crash at their service providers’ facilities. It looks like this concern was warranted. In April of 2011, Amazon Web Service (a leading cloud services provider) experienced an outage in one of its large web-connected data centers. The outage crashed its system and brought down the Web sites of a number of companies, including the location-based social network, Foursquare.[24] It took more than thirty-six hours to get all seventy or so of the crashed sites up and running.
Go or No Go?
So, pretend chief technology officer for Caesars, what’s your decision: will you get on the cloud or stay on the ground? If you are curious about what the real chief technology officer did, she took the high road and transferred a number of applications to Salesforce.com’s Web-based Force.com’s cloud applications service.[25]
Key Takeaways
• Once an organization has grown to more than a few employees, it needs to network individual computers to allow them to share information and technologies.
• A client-server system links a number of client machines (for data input and retrieval) with a server (for storing the database and the programs that process data).
• Many companies want personal computers to run their own software and process data independently.
• But they also want individuals to share databases, files, printers, and applications software that perform particular types of work (word processing, creating and managing spreadsheets, and so forth).
• There are two systems that can satisfy both needs.
1. A local area network (LAN) links computers in close proximity, connecting them by cables or by wireless technology.
2. A wide area network (WAN) covers a relatively large geographical area and connects computers by telephone lines, wireless technology, or satellite.
• The term “cloud computing” means performing computer tasks using services provided over the Internet.
• The software as a service (SaaS) category of cloud computing gives companies access to a large assortment of software packages without having to invest in hardware or install and maintain software on its own computers.
• A technology firm offering infrastructure as a service provides users with hardware, including servers, central processing units, network equipment, and disk space.
• Those offering the platform as a service category of cloud computing provide services that enable users to develop customized web applications.
• Shifting IT functions to the cloud produces a number of advantages, including cost savings, speedy delivery of software, scalability (you pay for only what you need), employee mobility, and a reduction in information technology staff.
• The following disadvantages of cloud computing are cause for concern: disruption in internet service, security issues, and unreliability of service provider systems.
Exercises
1. What’s the difference between a LAN and a WAN? Give an example of the use to which each type of system can be put. Does your college maintain either type of computer network?
2. In what ways could your college benefit from cloud computing? In responding, consider the three types of services offered by cloud service providers: software as a service, infrastructure as a service, and platform as a service. What type of security issues might your college administrators be concerned with?
Data Communications Networks
Learning Objective
1. Explain how four networking technologies—the Internet, the World Wide Web, intranets, and extranets—make data communication possible.
In addition to using networks for information sharing within the organization, companies use networks to communicate and share information with those outside the organization. All this is made possible by data communication networks, which transmit digital data (numeric data, text, graphics, photos, video, and voice) from one computer to another using a variety of wired and wireless communication channels. Let’s take a closer look at the networking technologies that make possible all this electronic communication—in particular, the Internet (including the World Wide Web), intranets, and extranets.
The Internet and the World Wide Web
Though we often use the terms Internet and World Wide Web interchangeably, they’re not the same thing.[26] The Internet is an immense global network comprising smaller interconnected networks linking millions of computers around the world. Originally developed for the U.S. military and later adapted for use in academic and government research, the Internet experienced rapid growth in the 1990s, when companies called Internet service providers were allowed to link into the Internet infrastructure in order to connect paying subscribers. Today, Internet service providers, such as CompuServe, America Online (AOL), MSN, and Comcast, enable us to use the Internet to communicate with others through e-mail, texting, instant messaging, online conferencing, and so on. These services also connect us with third-party providers of information, including news stories, stock quotes, and magazine articles.
The World Wide Web (or simply “the Web”) is just a portion of the Internet—albeit a large portion. The Web is a subsystem of computers that can be accessed on the Internet using a special protocol, or language, known as hypertext transfer protocol (HTTP). What’s the difference between the Internet and the Web? According to Tim Berners-Lee (one of the small team of scientists who developed the concept for the Web in 1989), the Internet is a network of networks composed of cables and computers. You can use it to send “packets” of information from one computer to another, much like sending a postcard. If the address on the packet is accurate, it will arrive at the correct destination in much less than a second. Thus, the Internet is a packet-delivery service that delivers such items as e-mail messages all over the globe. The Web, by contrast, is composed of information—documents, pictures, sounds, streaming videos, and so on. It’s connected not through cables, but rather through hypertext links that allow users to navigate between resources on the Internet.[27]
Because it’s driven by programs that communicate between computers connected to the Internet, the Web couldn’t exist without the Internet. The Internet, on the other hand, could exist without the Web, but it wouldn’t be nearly as useful. The Internet itself is enormous, but it’s difficult to navigate, and it has no pictures, sounds, or streamed videos. They exist on computers connected to the Web, which also makes it much easier to retrieve information. The creation of Web browsers—software, such as Microsoft’s Internet Explorer and Netscape Navigator, that locates and displays Web pages—opened up the Internet to a vast range of users. Almost 80 percent of individuals in the United States use the Internet regularly.[28][29] So, who’s in charge of the Web? No one owns it, but an organization called the World Wide Web Consortium (W3C) oversees the development and maintenance of standards governing the way information is stored, displayed, and retrieved on it.[30]
The Technology of the Web
Figure 15.8 Google
Let’s look a little more closely at some of the technologies that enable us to transmit and receive data over the Web. Documents on the Web are called Web pages, and they’re stored on Web sites. Each site is maintained by a Webmaster and opens with a home page. Each Web page is accessed through a unique address called a uniform resource locator (URL). For example, if you want to find statistics on basketball star LeBron James, you could type in the URL address http://www.nba.com/home/playerfile/lebron_james. The prefix http:// is the protocol name, http://www.nba.com the domain name, playerfile the subdirectory name, and lebron_james the document name (or Web page). A computer that retrieves Web pages is called a Web server. A search engine is a software program that scans Web pages containing specified keywords and provides a list of documents containing them. The most popular search engine is Google; others include Bing, Yahoo!, Ask, and AOL.
Intranets and Extranets
What’s the difference among the Internet, an intranet, and an extranet? It depends on who can and can’t access the information on the network. The Internet is a public network that anyone can use. A company’s intranet, on the other hand, is a private network using Internet technologies that’s available only to employees; access is controlled by a software program called a firewall. The information available on an intranet varies by company but may include internal job postings, written company policies, and proprietary information, such as price lists meant for internal use only.
An extranet is an intranet that’s partially available to certain parties outside the organization. Say, for example, you’ve posted the following information on your intranet: company policies, payroll and benefit information, training programs, parts specifications and inventories, and production schedules. To allow suppliers to bid on contracts, you might give them access to sections of the site disclosing parts specifications, inventories, and production schedules. All other sections would be off limits. You’d control access to employee-only and supplier-accessible sections by means of usernames and passwords. As you can see from Figure 15.9 “How an Extranet Works”, which illustrates some of the connections made possible by an extranet, access can be made available to customers and business partners, as well.
E-Commerce
The level of e-commerce—conducting business over the Internet—varies by company. Some companies, such as Amazon.com, rely on the Internet for their existence. Others, especially smaller firms, have yet to incorporate the Internet into their business models, but these companies belong to a dwindling group: about half of small companies and 90 percent of large companies have Web sites, and a third of the companies that maintain Web sites sell products through them.[31][32] Larger companies now find that they must do business over the Internet, including selling and buying goods.
Why Business Uses the Internet
Businesses use the Internet for four purposes: presenting information, selling products, distributing digital products, and acquiring goods and services.
Presenting Information
By posting a Web site, a company can tell people about itself, its products, and its activities. Customers can also check the status of orders or account balances. Information should always be current, complete, and accurate. Customers should be able to find and navigate the site, which should be able to accommodate them during high-use periods.
Selling Products
Selling over the Internet—whether to individuals or to other businesses—enables a business to enlarge its customer base by reaching buyers outside its geographical area. A company selling over the Internet must attract customers to its site, make the buying process simple, assure customers that the site is secure, and provide helpful information.
Distributing Digital Products
Some companies use the Internet to sell and deliver such digital products as subscriptions to online news services, software products and upgrades, and music and video products. In these businesses, the timely delivery of products is crucial. Sales of digital products over the Internet are expected to increase substantially in the future, particularly sales of digital music.[33][34]
Acquiring Goods and Services
E-purchasing (which was introduced in Chapter 11 “Operations Management in Manufacturing and Service Industries”) saves time, speeds up delivery, reduces administrative costs, and fosters better communications between a firm and its suppliers. Most importantly, it cuts the costs of purchased products because it’s now feasible for buyers to request competitive bids and do comparative shopping. Many companies now use a technology called electronic data interchange to process transactions and transmit purchasing documents directly from one IS to another. Figure 15.10 “Electronic Data Interchange System and Value-Added Networks” shows an electronic data interchange system at a company that subscribes to a value-added network—a private system supplied by a third-party firm—over which it conducts a variety of transactions.
The Virtual Company
Imagine a company that retails products for schoolteachers over the Internet—for example, books, software, and teaching supplies purchased from various manufacturers and distributors. It would need facilities to store inventories and personnel to handle inventories and fill customer orders. But what if this company decided to get out of the traditional retail business? What if it decided instead to team up with three trading partners—a book publisher, a software developer, and a manufacturer of office supplies? Our original company could re-create itself as a Web site for marketing the books, software, and supplies provided by its partners, without taking physical possession of them. It would become a virtual company. Its partners would warehouse their own products and furnish product descriptions, prices, and delivery times. Meanwhile, the virtual company, besides promoting all three lines of products, would verify customer orders and forward them to its partners, who would ship their own products directly to customers. All four partners would be better off, because they’d be competing in a business in which none of them could compete by itself. This business approach has allowed Spun.com, a CD, DVD, and game Internet retailer, to avoid carrying the \$8 million inventory that it would have needed to support its sales. Rather than hold its own inventory, Spun.com merely passes the orders on to Alliance Entertainment (a home entertainment products wholesale distributor), which ships them directly to customers.[35]
Key Takeaways
• Data communication networks transmit digital data from one computer to another computer using a variety of wired and wireless communication channels.
• One such network, the Internet, is an immense global network of smaller interconnected networks linking millions of computers.
• By connecting paying subscribers into the Internet infrastructure, a company called an Internet service provider provides services, such as e-mail, online conferencing, and instant messaging.
• A large portion of the Internet, the World Wide Web (“the Web”), is a subsystem of computers that can be accessed by means of a special protocol known as hypertext transfer protocol (HTTP).
• Computers on the Web are connected with hypertext links that permit users to navigate among Internet resources.
• A Web browser is software that locates and displays Web pages.
• Though the Web couldn’t exist without the Internet, it’s the Web that provides such multimedia material as pictures, sounds, and streaming videos.
• Businesses use the Internet for four purposes: presenting information, selling products, acquiring goods and services, and distributing digital products.
• While the Internet is a public network that anyone can use, a company’s intranet is a private network that’s available only to its employees; access is controlled by a software program called a firewall.
• An extranet is an intranet that’s partially available to certain outside parties, such as suppliers.
Exercises
1. If asked by your instructor, how would you explain the difference between the Internet and the World Wide Web?
2. (AACSB) Analysis
Security Issues in Electronic Communication
Learning Objective
1. Identify and discuss challenges faced by companies engaged in e-commerce.
E-commerce has presented businesses with opportunities undreamt of only a couple of decades ago. But it also has introduced some unprecedented challenges. For one thing, companies must now earmark more than 5 percent of their annual IT budgets for protecting themselves against disrupted operations and theft due to computer crime and sabotage.[36] The costs resulting from cyber crimes—criminal activity done using computers or the Internet—are substantial and increasing at an alarming rate. A 2010 study of forty-five large U.S. companies revealed that the median cost of cybercrime for the companies in the study was \$3.8 million a year.[37] And some cybercrimes involve viruses that can spread rapidly from computer to computer creating enormous damage. It’s estimated, for example, that damage to 50,000 personal computers and corporate networks from the so-called Blaster worm in August 2003 totaled \$2 billion, including \$1.2 billion paid by Microsoft to correct the problem.[38] The battle against technology crime is near the top of the FBI’s list of priorities, behind only the war against terrorism and espionage.[39] In addition to protecting their own operations from computer crime, companies engaged in e-commerce must clear another hurdle: they must convince consumers that it’s safe to buy things over the Internet—that credit-card numbers, passwords, and other personal information are protected from theft or misuse. In this section, we’ll explore some of these challenges and describe a number of the efforts being made to meet them.
Data Security
In some ways, life was simpler for business-people before computers. Records were produced by hand and stored on paper. As long as you were careful to limit access to your records (and remembered to keep especially valuable documents in a safe), you faced little risk of someone altering or destroying your records. In some ways, storing and transmitting data electronically is a little riskier. Let’s look at two data-security risks associated with electronic communication: malicious programs and spoofing.
Malicious Programs
Some people get a kick out of wreaking havoc with computer systems by spreading a variety of destructive programs. Once they’re discovered, they can be combated with antivirus programs that are installed on most computers and that can be updated daily. In the meantime, unfortunately, they can do a lot of damage, bringing down computers or entire networks by corrupting operating systems or databases.
Viruses, Worms, and Trojan Horses
The cyber vandal’s repertory includes “viruses,” “worms,” and “Trojan horses.” Viruses and worms are particularly dangerous because they can copy themselves over and over again, eventually using up all available memory and closing down the system. Trojan horses are viruses that enter your computer by posing as some type of application. Some sneak in by pretending to be virus-scanning programs designed to rid your computer of viruses. Once inside, they do just the opposite.
Spoofing
It’s also possible for unauthorized parties to gain access to restricted company Web sites—usually for the purpose of doing something illegal. Using a technique called “spoofing,” culprits disguise their identities by modifying the address of the computer from which the scheme has been launched. Typically, the point is to make it look as if an incoming message has originated from an authorized source. Then, once the site’s been accessed, the perpetrator can commit fraud, spy, or destroy data. You could, for example, spoof a manufacturing firm with a false sales order that seems to have come from a legitimate customer. If the spoof goes undetected, the manufacturer will incur the costs of producing and delivering products that were never ordered (and will certainly never be paid for).
Every day, technically savvy thieves (and dishonest employees) steal large sums of money from companies by means of spoofing or some other computer scheme. It’s difficult to estimate the dollar amount because many companies don’t even know how much they’ve lost.
Revenue Theft
In addition to the problems of data security faced by every company that stores and transmits information electronically, companies that sell goods or provide services online are also vulnerable to activities that threaten their revenue sources. Two of the most important forms of computer crime are denial of service and piracy.
Denial of Service
A denial-of-service attack does exactly what the term suggests: it prevents a Web server from servicing authorized users. Consider the following scenario. Dozens of computers are whirring away at an online bookmaker in the offshore gambling haven of Costa Rica. Suddenly a mass of blank incoming messages floods the company’s computers, slowing operations to a trickle. No legitimate customers can get through to place their bets. A few hours later, the owner gets an e-mail that reads, “If you want your computers to stay up and running through the football season, wire \$40,000 to each of 10 numbered bank accounts in Eastern Europe.”
You’re probably thinking that our choice of online gambling as an example of this scheme is a little odd, but we chose it because it’s real: many companies in the online-gambling industry suffer hundreds of such attacks each year.[40] Because most gambling operations opt to pay the ransom and get back to business as usual, denial of service to businesses in the industry has become a very lucrative enterprise.
Online gambling operations are good targets because they’re illegal in the United States, where they can’t get any help from law-enforcement authorities. But extortionists have been known to hit other targets, including Microsoft and the Recording Industry Association of America. The problem could become much more serious if they start going after e-commerce companies and others that depend on incoming orders to stay afloat.
Piracy
Technology makes it easier to create and sell intellectual property, but it also makes it easier to steal it. Because digital products can be downloaded and copied almost instantly over the Internet, it’s a simple task to make perfect replicas of your favorite copyright-protected songs, movies, TV shows, and computer software, whether for personal use or further distribution. When you steal such materials, you’re cheating the countless musicians, technicians, actors, programmers, and others involved in creating and selling them. Theft cuts into sales and shrinks corporate profits, often by staggering amounts. Entertainment-industry analysts estimate that \$30 billion worth of songs were illegally downloaded in the five year period ending in 2009.[41] The software industry estimates that the global market for pirated software reached \$59 billion in 2010.[42]
So, what’s being done to protect the victimized companies? Actually, quite a lot, even though it’s a daunting task, both in the United States and abroad.[43] In 1998, Congress passed the Digital Millennium Copyright Act, which outlaws the copying of copyright-protected music (unless you’re copying legally acquired music for your own use). The penalties are fairly stiff: up to three years in prison and \$250,000 in fines.[44][45] To show that it means business, the music industry is also hauling offenders into court, but legal action is costly and prosecuting teenage music lovers doesn’t accomplish much. Some observers believe that the best solution is for the industry to accelerate its own efforts to offer its products online.[46] Initial attempts seem to be working: people who are willing to obey copyright laws have downloaded more than ten billion songs from the iTunes site alone.[47]
Firewalls
Builders install firewalls (or fireproof walls) in structures to keep a fire that starts in one part of a building from entering another part. Companies do something similar to protect their computer systems from outside intruders: they install virtual firewalls—software and hardware systems that prevent unauthorized users from accessing their computer networks.
You can think of the firewall as a gatekeeper that stands at the entry point of the company’s network and monitors incoming and outgoing traffic. The firewall system inspects and screens all incoming messages to prevent unwanted intruders from entering the system and causing damage. It also regulates outgoing traffic to prevent employees from inappropriately sending out confidential data that shouldn’t leave the organization.
Risks to Customers
Many people still regard the Internet as an unsafe place to do business. They worry about the security of credit-card information and passwords and the confidentiality of personal data. Are any of these concerns valid? Are you really running risks when you shop electronically? If so, what’s being done to make the Internet a safer place to conduct transactions? Let’s look a little more closely at the sort of things that tend to bother some Internet users (or, as the case may be, nonusers), as well as some of the steps that companies are taking to convince people that e-commerce is safe.
Credit-Card Theft
One of the more serious barriers to the growth of e-commerce is the perception of many people that credit-card numbers can be stolen when they’re given out over the Internet. Though virtually every company takes considerable precautions, they’re not entirely wrong. Cyber criminals, unfortunately, seem to be tirelessly creative. One popular scheme involves setting up a fraudulent Internet business operation to collect credit-card information. The bogus company will take orders to deliver goods—say, Mother’s Day flowers—but when the day arrives, it will have disappeared from cyberspace. No flowers will get delivered, but even worse, the perpetrator can sell or use all the collected credit-card information.
Password Theft
Many people also fear that Internet passwords—which can be valuable information to cyber criminals—are vulnerable to theft. Again, they’re not altogether wrong. There are schemes dedicated entirely to stealing passwords. In one, the cyber thief sets up a Web site that you can access only if you register, provide an e-mail address, and select a password. The cyber criminal is betting that the site will attract a certain percentage of people who use the same password for just about everything—ATM accounts, e-mail, employer networks. Having finagled a password, the thief can try accessing other accounts belonging to the victim. So, one day you have a nice cushion in your checking account, and the next you’re dead broke.
Invasion of Privacy
If you apply for a life-insurance policy online, you may be asked to supply information about your health. If you apply for a mortgage online, you may be asked questions about your personal finances. Some people shy away from Internet transactions because they’re afraid that such personal information can be stolen or shared with unauthorized parties. Once again, they’re right: it does happen.
How Do “Cookies” Work?
In addition to data that you supply willingly, information about you can be gathered online without your knowledge or consent.[48] Your online activities, for example, can be captured by something called a cookie. The process is illustrated in Figure 15.11 “How Cookies Work”. When you access a certain Web site, it sends back a unique piece of information to your browser, which proceeds to save it on your hard drive. When you go back to the same site, your browser returns the information, telling the site who you are and confirming that you’ve been there before. The problem is not that the cookie can identify you in the same way as a name or an address. It is, however, linked to other information about you—such as the goods you’ve bought or the services you’ve ordered online. Before long, someone will have compiled a profile of your buying habits. The result? You’ll soon be bombarded with advertisements targeted to your interests. For example, let’s suppose you check out the Web site for an online diet program. You furnish some information but decide that the program is not for you. The next time you log on, you may be greeted by a pop-up pushing the latest miracle diet.
Figure 15.11 How Cookies Work
Cookies aren’t the only form of online espionage. Your own computer, for example, monitors your Internet activities and keeps track of the URLs that you access.
Shoring Up Security and Building Trust
So, what can companies do to ease concerns about the safety of Internet transactions? First, businesses must implement internal controls for ensuring adequate security and privacy. Then, they must reassure customers that they’re competent to safeguard credit-card numbers, passwords, and other personal information. Among the most common controls and assurance techniques, let’s look at encryption and seals of assurance.
Encryption
The most effective method of ensuring that sensitive computer-stored information can’t be accessed or altered by unauthorized parties is encryption—the process of encoding data so that only individuals (or computers) armed with a secret code (or key) can decode it. Here’s a simplified example: You want to send a note to a friend on the other side of the classroom, but you don’t want anyone else to know what it says. You and your friend could devise a code in which you substitute each letter in the message with the letter that’s two places before it in the alphabet. So you write A as C and B as D and so on. Your friend can decode the message, but it’ll look like nonsense to anyone else. This is an oversimplification of the process. In the real world, it’s much more complicated: data are scrambled using a complex code, the key for unlocking it is an algorithm, and you need certain computer hardware to perform the encryption/decryption process.
Certificate Authorities
The most commonly used encryption system for transmitting data over the Internet is called secure sockets layer (SSL). You can tell whether a Web site uses SSL if its URL begins with https instead of http. SSL also provides another important security measure: when you connect to a site that uses SSL (for example, your bank’s site), your browser will ask the site to authenticate itself—prove that it is who it says it is. You can be confident that the response is correct if it’s verified by a certificate authority—a third-party (such as VeriSign) that verifies the identify of the responding computer and sends you a digital certificate of authenticity stating that it trusts the site.
Key Takeaways
• Though a source of vast opportunities, e-commerce—conducting business over the Internet—also presents some unprecedented challenges, particularly in the area of security.
1. Malicious programs, such as viruses and worms, can wreak havoc with computer systems.
2. Unauthorized parties may gain access to restricted company Web sites in order to steal funds or goods.
3. Firewalls—software and hardware systems that prevent unauthorized users from accessing computer networks—help to reduce the risks of doing business online.
• Companies that do business online are also vulnerable to illegal activities.
1. A denial-of-service attack, for example, prevents a Web server from servicing authorized users; the culprit demands a ransom to stop the attack.
2. Companies that use the Internet to create and sell intellectual property (such as songs, movies, and software) face the problem of piracy.
3. The theft of digital products, which can be downloaded and copied almost instantly over the Internet, not only cheats the individuals and organizations that create them, but also reduces sales and shrinks corporate profits.
• Finally, online businesses must convince consumers that it’s safe to buy things over the Internet—that credit-card numbers, passwords, and other personal information are protected from theft.
• One effective method for protecting computer-stored information is encryption—the process of encoding data so that only individuals (or computers) armed with a secret code (or key) can decode it.
1. A commonly used encryption scheme is a secure sockets layer (SSL), which directs the user’s browser to ask a site to authenticate itself.
2. Often, the user receives a digital certificate of authenticity, verifying that a third-party security provider called a certificate authority has identified a computer.
Exercise
(AACSB) Reflective Skills
Are you, or is someone you know, hesitant to buy things over the Internet? What risks concern you? What are companies doing to ease consumers’ concerns about the safety of Internet transactions?
Careers in Information Management
Learning Objective
1. Identify career opportunities in information management.
The number and variety of opportunities in the IS field have grown substantially as organizations have expanded their use of IT. In most large organizations, the senior management team includes a chief information officer (CIO) who oversees information and telecommunications systems. A large organization might also have a chief technology officer who reports to the CIO and oversees IT planning and implementation.
Most entry-level IS jobs require a business degree with a major in information systems. Many people supplement their IS majors with minors in computer science or some other business area, such as accounting, finance, marketing, or operations management.
If you’re starting out with an IS degree, you may choose to follow either a management path or a technical path. At Kraft Foods, for example, IS professionals can focus on one of two areas: applications development (a management focus) and information technology (a technology focus). “Applications development,” according to the company itself, “calls for an ability to analyze [Kraft’s] clients’ needs and translate them into systems applications. Information technology calls for the ability to convert business systems specifications into technical specifications and to provide guidance and technical counsel to other Kraft professionals”.[49] Despite the differences in focus, Kraft encourages IS specialists to develop expertise in both areas. After all, it’s the ability to apply technical knowledge to business situations that makes IS professionals particularly valuable to organizations. (By the way, if you want a career in casinos, you can major in casino management at a number of business schools.)
Key Takeaways
• The number and variety of opportunities in the information systems (IS) field have grown substantially as companies have expanded their use of information technology.
• The senior management team in large organizations includes a chief information officer who oversees information and a chief technology officer who oversees IT planning and implementation.
• Most entry-level IS jobs require a business degree with a major in information systems.
• Many supplement their IS majors with computer science or some other business area, such as accounting, finance, marketing, or operations management.
• Those entering organizations with IS degrees may choose to follow either a management or a technology path.
Exercise
(AACSB) Reflective Skills
Why is studying IT important to you as a student? How will competency in this area help you get and keep a job in the future?
Cases and Problems
Learning on the Web
Taking Care of Your Cyber Health
It seems that some people have nothing better to do than wreak havoc by spreading computer viruses, and as a computer user, you should know how to protect yourself from malicious tampering. One place to start is by reading the article “How Computer Viruses Work,” by Marshall Brain, which you can access by going to the How Stuff Works Web site (http://computer.howstuffworks.com/virus.htm). After reading the article, answer the following questions:
1. Why do people create viruses?
2. What can you do to protect yourself against viruses?
Career Opportunities
Could You Manage a Job in IT or IS?
Do you have an aptitude for dealing with IT? Would you enjoy analyzing the information needs of an organization? Are you interested in directing a company’s Internet operations or overseeing network security? If you answered yes to any of these questions, then a career in IT and IS might be for you. Go to the U.S. Department of Labor Web site (http://www.bls.gov/oco/ocos258.htm) and learn more about the nature of the work, qualifications, and job outlook in IT and IS management. Bearing in mind that many people who enter the IT field attain middle-management positions, look for answers to the following questions:
1. What kinds of jobs do IT managers perform?
2. What educational background, work experience, and skills are needed for positions in IT management?
3. What’s the current job outlook for IS and IT managers? What factors drive employment opportunities?
4. What’s the median annual income of a mid-level IT manager?
Ethics Angle (AACSB)
Campus Commando or Common Criminal?
Do you want to be popular (or at least more prominent) on campus? You could set up a Web site that lets fellow students share music files over the campus network. All you have to do is seed the site with some of your own downloaded music and let the swapping begin. That’s exactly what Daniel Peng did when he was a sophomore at Princeton. It was a good idea, except for one small hitch: it was illegal, and he got caught. Unimpressed with Peng’s technological ingenuity, the Recording Industry Association of America (RIAA) sued him, and he was forced to settle for \$15,000. Instead of delivering music, Peng’s Web site now asks visitors to send money to help defray the \$15,000 and another \$8,000 in legal costs.
To learn more about the case, read these articles from the Daily Princetonian: “Peng, RIAA Settle Infringement Case” (http://www.dailyprincetonian.com/2003/05/02/8154/), and “Peng ’05 Sued by Recording Industry for ‘Wake’ Site” (http://www.dailyprincetonian.com/2003/04/04/7791).
After researching the topic, answer the following questions:
1. The practice of sharing commercial music files is illegal. Do you think that it’s also unethical? Why, or why not?
2. What steps to curb the practice are being taken by the music industry? By college administrators? By the government? Do you approve of these steps? Have they been effective?
3. What, ultimately, do you see as the solution to the problem?
Source: Josh Brodie, “Peng, RIAA Settle Infringement Case,” The Daily Princetonian, http://www.dailyprincetonian.com/2003/05/02/8154/ (accessed November 14, 2011); Zachary Goldfarb and Josh Brodie, “Peng ’05 Sued by Recording Industry for ‘Wake’ Site,” The Daily Princetonianhttp://www.dailyprincetonian.com/2003/04/04/7791/ (accessed November 14, 2011).
Team-Building Skills (AACSB)
CampusCupid.com
It’s no secret that college can be fun. For one thing, you get to hang around with a bunch of people your own age. Occasionally, you want to spend time with just one special someone, but finding that special person on a busy campus can take some of the fun out of matriculating. Fortunately, you’re in the same love boat with a lot of other people, so one possible solution—one that meshes nicely with your desire to go into business—is to start an online dating service that caters to your school. Inasmuch as online dating is nothing new, you can do some preliminary research. For example, go to the Internetnews Web site (http://www.internetnews.com/ec-news/article.php/2228891/Online+Personals+Big+Profits+Intense+Competition.htm) and read the article “Online Personals: Big Profits, Intense Competition.”
Next, you and several of your classmates should work as a team to create a business model for an online dating service at your school. After working out the details, submit a group report that covers the following issues:
1. Services. How will you earn revenues? What services will you offer? How will you price these services? What forms of payment will you accept? Will you sell ads? If so, what kinds?
2. Appearance. What will your site look like? Will it have graphics? Sound? Video? What will your domain name be? What information will you collect from customers? What information will you provide to visitors?
3. Operations. What criteria will you use to match customers? How will your customers interface with the Web site? How will they connect with each other? Will you design your own software or buy or lease it from vendors? Before you answer, go to these vendors’ Web sites and check out their dating software:
4. Attracting Customers. How will you attract customers to the site? How will you monitor and analyze site activity?
5. Security. How will you guarantee confidentiality? How will you ensure that your site is secure? How will you limit access to students at your school?
6. Opportunities and Challenges. What opportunities do e-businesses offer? What challenges do they create? How would your business model change if you decided to run it as a traditional business rather than as an e-business?
The Global View (AACSB)
“Hong Kong—Traditional Chinese”
Hewlett-Packard (HP) provides technology solutions to individuals, businesses, and institutions around the world. It generates annual revenues of \$80 billion from the sale of IT products, including computers, printers, copiers, digital photography, and software. Anyone in the United States who wants to buy an HP product, get technical support, download software, learn about the company, or apply for a job can simply go to the HP Web site. But what if you live in Hong Kong? How would you get answers to your questions? You’d do the same thing as people in this country do—go to HP’s Web site.
Try to imagine, however, the complex process of developing and maintaining a Web site that serves the needs of customers in more than seventy countries. To get a better idea, go to the HP Web site (http://www.hp.com). Start by looking at HP’s line of notebooks and checking its prices. Then, review the company information (click on “About HP” in the bottom right) that’s posted on the site, and, finally, look for a job—it’s good practice (click on “Jobs” in the bottom right).
Now pretend that you live in Hong Kong and repeat the process. Start by going to the same HP Web site (http://www.hp.com). Click on the United States (next to U.S. flag in the bottom left) and then Asia and Oceania. If you can read Chinese, click on “Hong Kong—Traditional Chinese.” Otherwise, click on “Hong Kong—English.” Then, answer the following questions:
1. How easy was it to navigate the site and to switch back and forth between the U.S. and Hong Kong sections of the site?
2. Identify at least five differences between the two sections.
3. Does HP’s Web site meet the needs of customers in both the United States and Hong Kong? Why, or why not? How could it be improved?
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29. Kessler, S., “Study: 80 Percent of Children under 5 Use Internet Weekly,” Mashable, March 15, 2011, http://content.usatoday.com/communities/technologylive/post/2011/03/study-80-percent-of-children-under-5-use-internet-weekly/1 (accessed November 14, 2011).
30. Wikipedia, “World Wide Web,” Wikipedia, http://en.Wikipedia.org/wiki/World_Wide_Web (accessed November 14, 2011).
31. Marketing Charts, March 15, 2011, http://www.marketingcharts.com/direct/less-than-half-of-small-biz-have-sites-16575/, (accessed November 14, 2011).
32. Cambell, A., “Over 70% of the Largest Small Businesses Have a Website”, Selling to Small Businesses, http://www.sellingtosmallbusinesses.com/70-percent-largest-small-businesses-have-website/ (accessed November 14, 2011).
33. Sisario, B., “Digital Music Leads Boost in Record Sales,” The New York Times, July 6, 2011, http://artsbeat.blogs.nytimes.com/2011/07/06/digital-music-leads-boost-in-record-sales/ (accessed November 14, 2011).
34. Phillips, M., “Digital Music Services Hit First Major Milestone as Downloads Outsell Physical Formats for the First Time,” Head-Fi, September 2, 2004, http://www.head-fi.org/t/59174/legal-downloads-outselling-other-formats (accessed November 14, 2011).
35. Research at Penn, “Can E-Tailers Find Fulfillment with Drop Shipping?” Research at Penn, http://www.upenn.edu/researchatpenn/article.php?21&bus (accessed November 14, 2011).
36. Alexander, S., “Feds Take Up Arms as Computer Crime Becomes Multibillion-Dollar Problem,” Minneapolis Star Tribune, Computer Crime Research Center, http://www.crime-research.org/news/2003/10/Mess0601.html (accessed November 14, 2011).
37. Ponemon Institute, “First Annual Cost of Cyber Crime Study: Benchmark Study of U.S. Companies,” Ponemon Institute, July 2010, http://www.riskandinsurancechalkboard.com/uploads/file/Ponemon%20Study%281%29.pdf (accessed November 14, 2011).
38. Shukovsky, P., “Blaster Worm Attacker Gets 18 Months,” Seattle Post-Intelligencer, http://www.seattlepi.com/local/article/Blaster-worm-attacker-gets-18-months-1165231.php (accessed November 14, 2011).
39. Alexander, S., “Feds Take Up Arms as Computer Crime Becomes Multibillion-Dollar Problem,” Minneapolis Star Tribune, Computer Crime Research Center, http://www.crime-research.org/news/2003/10/Mess0601.html (accessed November 14, 2011).
40. Baker, S., and Brian Grow, “Gambling Sites, This Is a Holdup,” BusinessWeek Online, August 9, 2004, http://www.businessweek.com/magazine/content/04_32/b3895106_mz063.htm (accessed November 14, 2011).
41. Recording Industry Association of America, “For Students Doing Reports,” Recording Industry Association of America, http://www.riaa.com/faq.php (accessed November 14, 2011).
42. Epstein, Z., “Global Market for Pirated Software Reaches \$59 billion,” BGR Innovation, http://www.bgr.com/2011/05/12/global-market-for-pirated-software-reaches-59-billion/ (accessed November 14, 2011).
43. AudioMicro, “Can’t Stop Piracy,” AudioMicro, May 20, 2010, http://www.audiomicro.com/royalty-free-music-blog/2010/05/can%E2%80%99t-stop-piracy/ (accessed November 14, 2011).
44. Recording Industry Association of America, “The Law,” Recording Industry Association of America, http://www.riaa.com/physicalpiracy.php?content_selector=piracy_online_the_law (accessed November 14, 2011).
45. World Law Direct, “Is Downloading Music Illegal?,” World Law Direct, http://www.worldlawdirect.com/article/1395/downloading-music-legal.html (accessed November 14, 2011).
46. Green, H., “Digital Media: Don’t Clamp Down Too Hard,” BusinessWeek Online, October 14, 2002, http://www.businessweek.com/magazine/content/02_41/b3803121.htm (accessed November 14, 2011).
47. Apple, “Apple’s App Store Downloads Top 10 Billion,” Apple, http://www.apple.com/pr/library/2011/01/22Apples-App-Store-Downloads-Top-10-Billion.html (accessed November 14, 2011).
48. Reputation.com, “Are Cookies Jeopardizing Your Online Privacy?,” Reputation.com, http://www.reputation.com/how_to/are-cookies-jeopardizing-your-online-privacy/ (accessed November 14, 2011).
49. Kraft Foods, “Careers at Kraft: Information Systems,” Kraft Foods, http://www.kraftfoods.com/careers/careers/systems.htm (accessed June 2, 2006). | textbooks/biz/Management/Maritime_Management%3A_Micro_and_Small_Businesses_(Pauley)/05%3A_E-Business/5.01%3A_Chapter_15-_Managing_Information_and_Technology.txt |
Learning Objectives
1. Define e-business and e-commerce and explain the difference between them.
2. Understand that there are several different types of e-commerce and that a business can be engaged in more than one type at the same time.
3. Explain what a business model is and why the model that is selected is so important.
E-business and e-commerce are terms that are often used interchangeably. But e-business and e-commerce are not the same. This section will elaborate on the differences between the two and some of the foundational knowledge that is critical to understanding and using e-commerce in particular.
E-Business
It is important that small businesses understand the nature of e-business and how it can facilitate operations as well as growth—if growth is desired. It has been said on other occasions, and it will continue to be said, that not all small businesses look for growth, choosing instead to happily remain small. For the small businesses that do want to grow, however, e-business can help them do it through the internet and online technologies to create operational efficiencies, thereby increasing customer value.[1]
E-Business Components
E-business involves several major components: business intelligence (BI), customer relationship management (CRM), supply chain management (SCM), enterprise resource planning (ERP), e-commerce, conducting electronic transactions within the firm, collaboration, and online activities among businesses.[2]
Business intelligence is about the activities that a small business may undertake to collect, store, access, and analyze information about its market or competition to help with decision making. When conducted online, BI is efficient and quick, helping companies to identify noteworthy trends and make better decisions faster. BI has been described as “the crystal ball of the 21st century.”[3]
Customer relationship management (CRM) refers to “…a customer service approach that focuses on building long-term and sustainable customer relationships that add value for the customer and the company.”[4] It is a company-wide strategy that brings together information from all data sources within an organization (and sometimes from external data sources) to give one holistic view of each customer in real time. The goal is to reduce costs and increase profitability while providing customer satisfaction.[5]
Every small business has a supply chain, the network of vendors that provide the raw components that are needed to make a product or deliver a service. The management of this network is known as supply chain management (SCM). Efficiently and effectively improving the way that a company finds raw components and then delivers the product or the service to the customer; SCM is about efficiently and effectively improving the way that a company finds those raw components and then delivers the product or the service to the customer.[6] SCM applications are now available for small businesses. More details about SCM are presented in Chapter 12 “People and Organization”.
Enterprise resource planning (ERP), is about integrating all departments and functions across a company (sales, marketing, human resources, finance, accounting, production, engineering, etc.) into a single computer system that can serve the particular needs of each department. The objective is to provide information quickly and efficiently to those who need it. Small businesses have many vendor choices for ERP systems. There are more than thirty vendors in the field, and they are looking to small and midsize businesses as their primary growth market.[7]
E-commerce, is the marketing, selling, and buying of goods and services online. It generates revenue, which e-business does not. E-commerce is typically associated with e-marketing, but most of this chapter is dedicated to the operational, nonmarketing dimensions of e-commerce.
Conducting electronic transactions within a firm can occur through an intranet, a private network within a business that is used for information sharing, processing, and communication., e-mail, and instant messaging. An intranet is a private network within a business that is used for information sharing, processing, and communication. The goal is to “streamline the workplace and allow easy information exchange within an organization.”[8]
Collaboration can occur internally or externally, and it often involves business partners. The goal is to help teams or business partners communicate with each other more effectively and efficiently, manage projects and shared materials, save companies the costs of travel, and reduce travel-related productivity losses. E-mail, instant messaging, newsgroups, bulletin boards, discussion boards, virtual team rooms, online meetings, and wikis, a web page that can be viewed and modified by anybody with a web browser and access to the Internet unless it is password protected, are common means of collaboration.[9] The most well-known wiki is Wikipedia.
Online activities between businesses focus on information sharing and communication via e-mail, online meetings, instant messaging, and extranets. An extranet, is the part of an intranet that is made available to business partners, vendors, or others outside a company. It allows a business “to share documents, calendars, and project information with distributed employees, partners, and customers” and “it enables 24/7 private, secure access to collaborative tools with just an Internet connection.”[10]They make communication easier, eliminate redundant processes, reduce paperwork, increase productivity, provide immediate updates and information, and provide quick response times to problems and questions.[11] The result is money and time saved for employees, the company, vendors, and your customers. Commercial transactions typically do not take place on extranets.
As integral as e-business may be to many small businesses, however, there will be small businesses that choose not to go the e-business route. Small businesses that are nonemployers and/or are very small operations that choose to stay that way—for example, local delis, gift shops, restaurants, dry cleaners, and ice cream shops can be and are successful without having to make a commitment to e-business. Therefore, a small business can choose to incorporate all, some, or none of the e-business components. Given the ways in which the Internet continues to transform small businesses, however, it would be virtually impossible for a small business to operate totally outside the realm of e-business.
E-Commerce
The moment that an exchange of value occurs, e-business becomes e-commerce.[12] E-commerce is the revenue generator for businesses that choose to use the Internet to sell their goods and services. Some small businesses rely on the Internet to grow and survive. Many small businesses also look to e-commerce for their own business needs, such as computers and office technology, capital equipment and supplies, office furnishings, inventory for online sale, or other business-related goods.[13] This is not surprising considering the pervasiveness of the Internet for business transactions of all shapes and sizes.
Types of E-Commerce
Every Internet business is either pure-play, or brick-and-click. A pure-play business, such as Amazon and Zappos, has an online presence only and uses the capabilities of the Internet to create a new business. Brick-and-click businesses, such as Barnes and Noble and Vermont Country Store, combine a physical presence with an online presence. These businesses use the Internet to supplement their existing businesses. [14]
There are several different types of e-commerce. A common classification system is with respect to the nature of transactions or the relationships among participants.[15] There are seven major types of e-commerce:
1. Business-to-business (B2B) e-commerce, where businesses focus on selling to other businesses or organizations, is the largest form of e-commerce.[16][17] Cisco, Staples, and Spiceworks (information technology [IT] and IT networks for the small- and medium-sized business) are all B2B companies.
2. Business-to-consumer (B2C) is the earliest form of e-commerce, but it is second in size to B2B. It refers to retail sales between businesses and individual consumers. Consumers gather information; purchase physical goods, such as books and clothing; purchase information goods, such as electronic material or digitized content, such as software; and, for information goods, receive products over an electronic network. [18]
3. Consumer-to-consumer (C2C)e-commerce is where consumers sell products and personal services to each other with the help of an online market maker to provide catalog, search engine, and transaction-clearing capabilities so that products can be easily displayed, discovered, and paid for. The most well-known C2C business is eBay, but there are many other online market makers as well. Craigslist is an extremely popular small e-commerce business for placing classified ads.
4. Business-to-government (B2G) e-commerce can generally be defined as transactions with the government. The Internet is used for procurement, filing taxes, licensing procedures, business registrations, and other government-related operations. This is an insignificant segment of e-commerce in terms of volume, but it is growing.
5. Consumer-to-business (C2B) e-commerce is between private individuals who use the Internet to sell products or services to organizations and individuals who seek sellers to bid on products or services. [19]Elance is an example of C2B where a consumer posts a project with a set budget deadline and within hours companies and/or individuals review the consumer’s requirements and bid on the project. The consumer reviews the bids and selects the company or individual that will complete the project. Elance empowers consumers around the world by providing the meeting ground and platform for such transactions.“Ecommerce Definition and Types of Ecommerce,” DigitSmith, accessed October 10, 2011, www.digitsmith.com/ecommerce-definition.html. Priceline.com is a well-known example of C2B e-commerce.
6. Mobile commerce (m-commerce) refers to the purchase of goods and services through wireless technology, such as cell phones, and handheld devices, such as Blackberries and iPhones. Japan has the lead in m-commerce, but it is expected to grow rapidly in the United States over the next several years. eMarketer predicts mobile content revenues will grow to more than \$3.53 billion in 2014, a compound annual growth rate of nearly 20 percent for the period 2009–2014, with the fastest growth coming from mobile music.[20]
7. Peer-to-peer (P2P) technology makes it possible for Internet users to share files and computer resources directly without having to go through a central web server. P2P began with Napster offering free music downloads via a file-sharing system.Tamago launched the world’s first P2P commerce system in 2005, which allowed people to sell every type of digital media directly from their computers to customers all over the world. People who publish videos, photos, music, e-books, and so forth can earn royalties, while buyers earn commissions for distributing media to others.[22]
Figure 16.2 How P2P E-Commerce Works at Tamago.com
Although these types of e-commerce have been discussed individually, there are many instances in which one company engages in multiple types. Office Depot and Staples are brick-and-click businesses that engage in B2B, B2C, and perhaps B2G e-commerce. Carbonite and Gourmet Gift Baskets are both pure-play small businesses that engage in B2C and B2B e-commerce.
E-Commerce Business Models
The decision to engage in e-commerce is an important one. The advantages are clear: lower business costs; 24/7 accessibility anywhere; the potential for stronger customer service; the ability to introduce a niche product; the ability to reach global markets on a more equalized basis with larger firms, making mass customization possible; and greater customer loyalty. But the risks are there as well. Internet problems, website problems, security and privacy breaches, intellectual property theft, legal liability, product and/or service failure, customer deceit, and customer dissatisfaction are but a few of the risks. Therefore, the choice of an e-commerce business model must be made carefully. Each model will have different implications in terms of business planning and strategy.
An e-commerce business model is the method that a business uses to generate revenue online. “The business model spells out how a company makes money by specifying where it is positioned in the value chain. Some models are quite simple. A company produces a good or service and sells it to customers. If all goes well, the revenues from sales exceed the cost of operation and the company realizes a profit. Other models can be more intricately woven.”[24] Another way to look at a business model is that it “reflects management’s hypothesis about what customers want, how they want it, and how the enterprise can organize to best meet those needs, get paid for doing so, and make a profit.”[25] There are many models to choose from, and new models will continue to emerge as technology evolves and businesses look for new and creative ways to generate revenue. Some of the many e-commerce business models are as follows:[26]
• The virtual merchant model is used by online retailers that operate over the Internet only. FreshDirect is a small business that offers fresh food and brand-name groceries for home delivery in New York. Amazon is another example of a virtual merchant.
• The brokerage model brings buyers and sellers together and facilitates transactions. Supply Chain Connect is a small business that helps “companies optimize their purchasing and sales purchasing and sales processes through the use of e-commerce across a broad range of products including chemicals, plastics, wire and cable, and manufactured goods.”[27]
• The incentive marketing model is a “customer loyalty program that provides incentives to customers such as redeemable points or coupons for making purchases from associated retailers.”[28]Cool Savings, a small business that uses this model, wants to be its customers’ free resource for valuable coupons, discounts, and special offers from their favorite brands and stores.
Because the business model will be at the center of the business plan, the model must be designed carefully. Although value proposition and the revenue model may be the most important and easily identifiable aspects of a company’s business model, the other six elements are equally important.[29][30]
Table 16.1 Key Elements of a Business Model
Components Key Questions
Value proposition Why should the customer buy from you?
Revenue model How will you earn your money?
Market opportunity What market space do you intend to serve, and what is its size?
Competitive environment Who else occupies your intended market space?
Competitive advantage What special advantages does your firm bring to the market space?
Market strategy How do you plan to promote your products or services to attract your target audience?
Organizational development What types of organizational structures within the firm are necessary to carry out the business plan?
Management team What kinds of experiences and background are important for the company’s leaders to have?
E-Commerce Trends
For businesses already engaged in e-commerce and for those that are thinking about it, being aware of the latest e-commerce trends is important because they could have a long-term influence on the future of a company’s market. This influence, in turn, could mean life or death for your e-commerce operations. Several general e-commerce trends can be identified, and they are relevant to all e-commerce operations.
• E-commerce will continue to grab more market share.[32]
• It is expected that, in some way, the web will influence 53 percent of all purchases made in 2014.[33].
• The lines between online and offline commerce will become less defined. If somebody buys from a mobile device in your store, is that a web sale or a store sale? Retailers need to think of some new ways that they can take the web’s influence into account.[34]
• B2B e-commerce will continue to significantly outpace B2C e-commerce, representing more than 85 percent of all e-commerce.
• M-commerce is the fastest growing segment of visitors to e-commerce websites. If a business does not allow customers to both browse its catalog and conduct transactions on a mobile device, customers will seek out other brands that offer such experience.[35]
• Many businesses have increased their social marketing initiatives through a combination of Facebook pages, Twitter tweets, YouTube fan videos, and blogs. Any business that sells its products or services online without having a social strategy will suffer.[36]
The following e-commerce trends specifically apply to small businesses:
• The Internet will continue to create opportunities for small businesses. It is now possible to buy a wide range of specialized products and services that are not available elsewhere. The Internet has provided a lifeline for many small producers and has allowed entrepreneurs to enter retailing without having to invest heavily in physical outlets.[37] Small businesses can easily enter the e-commerce arena as pure-play businesses. Take Socrata, an online service that makes it easy to share data—anything from crime statistics to football schedules. This small start-up business discovered that federal agencies were the site’s biggest users. “It became clear that a really good place for our technology was helping government organizations share data in the interest of transparency.”[38]
• Broadband and wireless networks will be everywhere. Small businesses will need to factor in the effect of the broadband revolution on their businesses.[39] Consider the case of the small, ten-person shop in Seattle that engraves plaques and trophies. Today, 60 percent of its business is conducted online, with customers who live outside the Seattle area.[40]
• The Internet will continue to be a platform that provides small businesses with a wide range of new tools, services, and capabilities. Small businesses will find new ways to use the Internet, contributing to the blurred distinctions between the physical and the virtual worlds.[41]
• Small business relationships will become increasingly virtual as online social networks expand.[42] Many small businesses are promoting their presence on Facebook and Twitter. Westbrook Lobster and Arisco Farms are both small businesses in Connecticut that have an online social presence. Naked Pizza in New Orleans has a presence on Twitter that has proven to be a boon to its business. [43]
Video Clip 16.1
Naked Pizza on Twitter
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=178
Naked Pizza can now be followed on Twitter.
Is E-Commerce for All Small Businesses?
Despite the popularity and pervasiveness of e-commerce, not all small businesses may be interested in pursuing e-commerce as a part of their businesses. Many small businesses survive without an online presence. However, business analysts have agreed for a long time “that for any company larger than a local mom and pop store, e-commerce is now a business requirement.”[44]
Key Takeaways
• E-business and e-commerce are not synonymous terms. E-commerce generates revenue. E-business does not.
• E-business and/or e-commerce may not be of interest to all small businesses. However, using technology well is proving to be one of the most prominent drivers of business success.
• E-business consists of several major components, one of which is e-commerce.
• Every Internet business is either pure-play (an Internet presence only) or brick-and-click (having both a physical and an online presence).
• The seven major types of e-commerce are B2B, B2C, C2C, B2G, C2B, m-commerce, and P2P.
• An e-commerce business model is the method that a business uses to generate revenue online. Some models are very simple; others are more complicated. New business models are being introduced all the time.
• E-commerce will continue to grab more market share, and the line between online and offline commerce will become less defined.
Exercises
1. In The Mill’s restaurant case, the son, Robert, wants to bring his expertise to improving the operations of the business. What other elements of digital technology, e-business, and e-commerce could be used to improve operations?
2. Joan Watson is the owner of Joan’s Gourmet Baskets, a small brick-and-mortar business that specializes in gourmet gift and picnic baskets. Joan has been keeping up with the fancy food and gourmet food trends (being a great fan of the Fancy Food Show that is held several times a year), and she thinks she should tap into this sector by creating an online business that will complement her physical business. This would make her baskets available to a wider market. She is proud of the quality of her products and the customer loyalty that she has earned through her hard work and hopes she will be able to be just as successful in the e-commerce environment.
Joan knows that she needs more information before proceeding further. She has asked you to prepare a report that answers the following questions: How will her physical business compare to her online business; that is, where will things be the same, and where will they be different? What business model should she use? What are the special challenges and obstacles she will face as she moves from traditional commerce to e-commerce? What is Web 2.0 all about and does she need to be concerned about it? She expects that you will do additional gourmet foods research to support your ideas.
E-Commerce Operations
Learning Objectives
1. Explain the issues associated with whether a small business should buy or build its website.
2. Explain some of the legal issues that are relevant to e-commerce.
3. Discuss the need for an ethical website, particularly in terms of security, privacy, and trust.
4. Explain why order fulfillment is such an important part of successful e-commerce.
There are multiple parts to the creation of an e-commerce website: the infrastructure (the nuts and bolts building of the site), the e-marketing side (the design and creation of a web presence, and the operational side. The operational side is the focus of this section.
The Website: Buy or Build?
Unless a small business owner is technologically savvy or employs someone who is, building the company’s website in-house from the ground up is not a particularly good idea. An effective website presence requires a good looking, professionally designed website. There are several approaches to having someone else build that website. Two are described here.
• Full-service web developers provide design, programming, support, hosting, search engine optimization, and more. Any combination of the services can be selected. Having the developer perform all the services would be the most expensive alternative. Hosting is the housing, serving, and maintaining of the files for one or more websites.Search engine optimization refers to the strategies intended to position a website at the top of search engines such as Google, Yahoo!, and Bing. [46]
• A much lower-priced option is to select one of the many companies online that can help you to design your website. Typically these sites provide a choice of website design templates that can be easily edited; design services that are available if none of the templates meet your needs; hosting; domain name selection (your business address or name on the Internet, e.g., gone.2012books.lardbucket.org) and domain name registration (registering your domain name with a domain name registrar and paying a fee that must be renewed annually); and search engine placement (submitting your website to specific search engines of your choice). [47] Intuit.comand Webs.comare two companies that offer these and other services. The lowest level of services are often free.
Video Clip 16.2
Domain Name Dollar Store
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=178
A humorous look at getting a URL for your website at a rock bottom price.
The ultimate cost for a website will be a function of its size, complexity, and the level of design. No two projects will cost the same. Part of the process of building a website, however, should be conducting some research and talking with website designers. The Internet offers a variety of sources on how to determine how much a website should cost. WebpageFX.com offers a historical perspective on website costs, a cost calculator to find out how much a web project would cost, and examples of specific web design and website development projects with cost figures.[48]
Consider the following two scenarios:
• “A small business needs a website for their business so they have a presence on the Internet. The site is simple—about 5 pages with information about the business, the services they provide, and a form that can be submitted and the information received via email. The budget isn’t available for creating a graphic ‘look,’ and existing images will be used. A smaller, less experienced designer may take on a project like this for a few hundred dollars. A medium sized firm might quote \$3000 to \$4000 depending on variables. A larger firm would probably not take a project this small.”[49]
• “A mail order company wants to get into online sales. They currently have no website. They have a narrow mix of about 200 products with a broad target market; it’s also time to update their image. Depending on a wide range of variables, a project like this could start at about \$7000 and go into six figures.”[50]
There is no easy answer to the question of how much a website will cost. “A simple answer is that it will cost whatever a business is willing to spend—anywhere from free to millions of dollars.” A better way to address cost is to answer the following questions: [51]
• What are your needs, goals, and expectations?
• What are the needs and expectations of your visitors, customers, and clients?
• Is your business already established with its unique brand or identity?
• What is required in terms of the skills, experiences, and level of design?
• Do you want to hire a high-profile design shop, a medium-sized design studio, a small company, or a student?
• What can you afford to budget for your project?
Legal
There is nothing easy about the law. It is complex under the best of circumstances, but it is necessary to protect the rights and privileges of people and businesses. Companies that choose to engage in e-commerce must be aware of the legal environment because “a lack of awareness…can lead to missteps as well as missed opportunities….”[52] A summary of important legal issues for e-commerce is in Table 16.2 “Important Legal Issues for E-Commerce”. However, the focus here is on three areas: electronic transactions, intellectual property, and jurisdiction.
Table 16.2 Important Legal Issues for E-Commerce
Issue Description
Jurisdiction The ability to sue in other states or countries.
Electronic transactions All transactions that take place online.
Liability The use of multiple networks and trading partners makes documenting responsibility difficult. How can liability for errors, malfunctions, or fraudulent use of data be determined?
Identity fraud The Identity, Theft, and Assumption Deterrence Act of 1998 makes identity fraud a federal felony carrying a three- to twenty-five-year prison sentence.
Defamation Is the Internet service provider liable for material published on the Internet because of services it provides or supports? (Usually not.) Who else is liable for defamation? What if the publisher is in another country?
Intellectual property law Protects creations of the human mind.
Digital signatures Digital signatures are recognized as legal in the United States and some but not all other countries.
Regulation of consumer The United States allows the compilation and sale of customer databases. The European Union does not.
Time and place An electronic document signed in Japan on January 5 may have the date January 4 in Los Angeles. Which date is considered legal if a dispute arises?
Electronic contracts If all the elements to establish a contract are present, an electronic contract is valid and enforceable.
Taxation Taxation of sales transactions by states is on hold in the United States and some but not all other countries. Expect this issue to be revived because the potential for increased revenue to the states is significant.
Electronic transactions are the many kinds of transactions that take place online, including contractual dealings, buying and selling of goods and services, information exchange, financial transactions (credit card payments; payor services, such as PayPal; and money transfers), and communications. When developing a website, the small business owner must ensure that all online business transactions will be secure, particularly those involving money. This discussion must take place with whomever is developing your website.
Intellectual property is “a creation of the mind, such as inventions, literary and artistic works, and symbols, names, images, and designs, used in commerce.” [54] Music, photos, videos, digital news, and artwork are forms of intellectual property that can be transmitted over the Internet. All small business owners need to be concerned about the theft of intellectual property. They are afforded multiple protections, which are summarized in Table 16.3 “Intellectual Property Protections”.
Table 16.3 Intellectual Property Protections
Law Protection Provided by the Law
Intellectual property law Protects creations of the human mind
Patent law Protects inventions and discoveries
Copyright law Protects original works of authorship, such as music and literary works and computer programs
Trademark law Protects brand names and other symbols that indicate source of goods and services
Trade secret law Protects confidential business information
Law of licensing Enables owners of patents, trademarks, copyrights, and trade secrets to share them with others on a mutually agreed-on basis
Law of unfair competition dealing with counterfeiting and piracy Protects against those who try to take a free ride on the efforts and achievements of creative people
It is important to protect intellectual property because businesses will not realize the full benefits of their inventions and would be inclined to focus less on research and development. Additionally, without intellectual property protections, “exporters face unfair competition abroad, non-exporters face counterfeit imports at home, and all businesses face legal, health and safety risks from the threat of counterfeit goods entering their supply chains.”[56] Unfortunately, US small businesses are at a disadvantage because:[57]
• They may lack the knowledge, expertise, or resources necessary to prevent the theft of their ideas and products.
• Many small businesses do not have personnel and operators overseas, so they do not have the necessary eyes and ears needed to be vigilant. The theft of their ideas and products often goes undetected.
• Small businesses generally do not have the kinds of access and resources that are likely available to larger companies (e.g., specialized legal counsel).
Because of the complexities of intellectual property protections, this area requires the services of an attorney, preferably one experienced and knowledgeable in cyberlaw.
Jurisdiction refers to the right and power that a court has to interpret and apply the law in a particular geographic location. [58] “A court must have jurisdiction over the litigants and the claims before it entertains a lawsuit. In the context of Internet commerce, this issue erupts when a dispute arises between businesses from different states [or countries].”[59] Many small businesses will be selling products online in other states and in other countries, so it is important to understand the jurisdictions that might be applicable to any online transaction. “In many cases, laws from the customer’s state are the ones that will apply in the event a problem arises. This is equally true regarding the laws of other countries.” [60] From the perspective of any business, but particularly a small business, it would be much easier from both a time and a money perspective to have an issue litigated in the home state of a business. Although there are no guarantees, these steps can be taken to increase the chances of a dispute being settled in the home state of a business: [61]
1. If using a contract with another party, make sure the contract says that any dispute must be filed in your home state and that both parties to the contract agree to jurisdiction in that state.
2. When a customer is purchasing an item on the website of a business, one of the terms and conditions of the transaction should be that the customer agree to jurisdiction in the home state of that business. This can be done with a check box next to the statement. Make the customer check it off before completing the purchase.
3. A less effective way is to include a disclaimer on the website that any transaction will convey jurisdiction to the home state of a business, and any dispute must be heard by a court of competent jurisdiction in the home state of the business.
All these steps should also be considered when selling to other countries. However, the laws in other countries will undoubtedly introduce complications into protecting the US-based business. Take the example of Yahoo! and the sale of Nazi memorabilia on one of its auction websites. A French court ruled that such sales breached French law against the display of Nazi items. Yahoo! took steps to remove and ban all such hate paraphernalia from its auction sites, but it continued to fight jurisdiction of the French ruling in American courts.[62] It would be very easy for a small business to inadvertently find itself in a similar situation. That is why a business needs to be careful when selling outside its home country. Be familiar with foreign laws. This is not an easy task because the minute a business website goes live, the business goes global. The laws of the world suddenly become relevant.
Ethical Issues
It is known that “ethical factors do play a significant role in e-consumers’ purchasing decisions.”[63] Therefore, ethical factors should be of major concern in e-commerce and, accordingly, in the information and protections offered by an e-commerce website.
It has been observed that the “Internet represents a new environment for unethical behavior,” and “ethical transgressions are more likely to happen in e-transactions as compared to face-to-face transactions.”[64] To a large extent, this is due to the absence of physical and interpersonal cues that are present in traditional retailing or business settings. The implication is that e-commerce operations should focus more specifically and explicitly on the ethics messages that are being conveyed by the website. Thus the focus of this ethics discussion is on three major components of e-commerce ethics: security, privacy, and trust.
Security and Privacy
Website security (the protection of a company, its suppliers, its customers, and its employees from criminal activity) is a critical consideration for any small business engaged in e-commerce. The Internet is a global playground for criminals. It is less risky to steal online because “the potential for anonymity on the Internet cloaks many criminals in legitimate-looking identities, allowing them to place fraudulent orders with online merchants, steal information by intercepting e-mail,…shut down e-commerce sites by using software viruses,”[65] and steal financial information and money. This new type of crime is referred to as cybercrime, and it is a serious threat to e-commerce.
Cybercrime refers to any criminal activity that is done using computers and the Internet,[66] and it includes a wide range of offences. Downloading illegal music, stealing from online bank accounts, stealing credit card numbers and personal information, stealing identities, posting confidential business information on the Internet, and creating and distributing viruses on other computers are only some of the thousands of crimes that are considered cybercrimes.[67] Cybercrimes can take place anytime and anyplace. It has cost American companies a median loss of \$3.8 million a year, and data protection and information technology (IT) practitioners from 45 US organizations from various sectors reported that, across their companies, 50 successful attacks were experienced over a four-week period.[68]
Video Clip 16.3 The Challenges of Cybercrime
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Cybercrime today.
Video Clip 16.4 Cybercrime
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Cybercrime is on the rise.
Video Clip 16.5 Cybercrime in Canada
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New cybercrime threats.
Cybercrime is more profitable than the illegal drug trade (more than \$100 billion globally per year). Every three seconds an identity is stolen, and without security, an unprotected PC can become infected within four minutes of connecting to the Internet. A Microsoft security intelligence report maintains that cybercrime is fast maturing as a profession, with cybercriminals becoming more sophisticated and packaging online threats that can be sold to others.[71]
Examples of Cybercrimes “Computer Crime & Intellectual Property Section,” US Department of Justice, accessed October 10, 2011, www.cybercrime.gov.
The Computer Crime & Intellectual Property Section of the US Department of Justice keeps a running list of press releases related to cybercrimes. Here are three examples.
1. A Miami man pled guilty to one count of conspiracy to traffic in and possess unauthorized credit card numbers with intent to defraud, and one count of trafficking in unauthorized credit card numbers.
2. A Rhode Island man pleaded guilty to Internet sales of unregistered, unlabeled pesticides for cats and dogs while infringing on the trademark of two well-known national brand names, “Frontline” and “Frontline Plus.” The man made more than 3,500 sales through eBay.
3. A Canadian man was sentenced to 33 years in prison for selling counterfeit cancer drugs using the Internet.
Cybercrime hurts the bottom line of any business, but small and medium-sized businesses are the new cybercrime target. “Hackers and computer criminals…are taking a new aim—directly at small and midsize businesses…Smaller businesses offer a much more attractive target than larger enterprises that have steeled themselves with years of security spending and compliance efforts.”[72] Small businesses are potentially very lucrative targets for several reasons:
• Nearly one fifth of small businesses do not use antivirus software.
• Two thirds of small businesses do not have a security plan in place.
• Sixty percent of small businesses do not use encryption on their wireless links.
• Only about 60 percent of mom-and-pop shops have met the credit card industry’s data security standards for protecting credit card data. Compliance at the smallest businesses is even worse.
• Two thirds of small and medium-sized businesses believe that large companies are the main target for cybercrime,…yet 85 percent of the fraud seen in business occurs in small and medium-sized businesses.[73]
The cybercriminal is looking to steal and disrupt. Securing a website should be a top priority for any company—small, medium, or large—that uses the Internet to conduct its business.
Video Clip 16.6 How SSL Security Works on E-Commerce Websites
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How Amazon.com grew so fast by incorporating SSL security.
Given the state of cybercrime, assuring the security and the privacy of e-consumers (the protection of the personal information of customers on the Internet) are necessary to build and maintain confidence in the e-market, particularly because the risk of privacy invasion and security flaws is significant.[74] Further, such assurances have been found to have a significant impact on the willingness to purchase. [75]
E-customers voice their privacy concerns in different ways. Here are some examples:[76]
• “I don’t like websites that ask you for personal information that is not necessary for the purchase to be made.”
• “All privacy notices contain the same information, and besides, how do I know that the website actually follows the privacy policy.”
• “I’m not comfortable at all with the idea of the online retailer having my personal information and selling it to other companies for marketing purposes.”
The scope of failure in protecting customers’ personal information can be potentially devastating because of the global reach of the Internet; the effect can easily reach millions of people. [77] Heartland is a payment processor responsible for handling about 100 million credit card transactions every month. They disclosed in June 2009 that thieves had used malicious software in its network in 2008 to steal an unknown number of credit card numbers. [78]
Fortunately, the theft of credit card and other personal information originating from websites accounted for only about 11 percent of the identity theft or fraud that affected 11 million Americans in 2009.[79] This is why the act of providing credit card information on a website for a purchase is still considered by some people to be so risky that they refuse to conduct any Internet transactions. This has obvious implications for any small company that hopes to do business online.
Fortunately, there is a very straightforward way to provide the security and privacy that online customers seek: the use of Secure Sockets Layer (SSL), a security protocol that is used by web browsers and web servers to help users protect their data during transfer.[80]
Companies like VeriSign offer SSL protection certificates, and the placement of its icon on a website can offer security and privacy assurances to online customers. The inclusion of SSL protection should be discussed with your website designer.
Trust
Trust is about believing—believing that someone will do what they say and that they will not intentionally do something to hurt you. Trust is an important part of all business relationships. Without trust, all e-commerce would come to a halt. “Trust is central to establishing successful e-commerce ventures and to ensure the continued success of this business paradigm into the future.”[81] Trust will improve competitiveness, reduce the costs of doing business, build loyalty, and increase the effectiveness of websites. In short, trust can be an important source of competitive advantage. Trust is essential.
In the physical world, trust is much easier to develop. Physical cues from spaces and buildings, face-to-face voice and body language, and salesperson effectiveness can translate easily into trust relationships. In the online world, however, trust develops as a result of the complex interaction of multiple factors that have design implications for the website. Here are some examples of trust:
• The customer observes the seller to be honest, fair, responsible, and benevolent.
• The customer expects that the company behind the website will not engage in opportunistic behavior.
• The customer is confident about the site’s security and privacy protection (security and privacy having been shown to be an important determinant of a customer’s willingness to buy online).
• The customer perceives the company’s website as appealing (linked to layout, typography, font size, and color choices)—the belief being that an appealing website reflects a company has the capabilities and resources to fulfill its promises.
• The customer experiences a site that is easy to use (i.e., easy to navigate, easy to search, easy to gather information) and has relevant content, interactivity, site consistency, and site reliability.
• The customer perceives presentation flaws (e.g., poor style, incompleteness, language errors, conflicting colors, delay, and confusing terminology) as indicators of a low-quality, untrustworthy website.
Another element of trust is order fulfillment. Order fulfillment is all about meeting expectations, and some argue that this is the most important element of trust. [87] Delays in the delivery of a product, the delivery of the wrong product, and the hassles of returning merchandise are stresses that can contribute to a less-than-satisfactory Internet buying experience. Such experiences contribute to a lack of trust. In contrast, satisfied consumers express themselves this way: [88]
• “Products at this site are a bit pricey, but it is worth purchasing from this site since you get what you order and within the promised delivery time.”
• “I keep purchasing from this site because they always have the items I want in stock.”
Buying some products online, such as clothing, furniture, and toys, does not offer buyers the opportunity to touch and feel the product before buying. As a result, order fulfillment becomes even more important to customer satisfaction.
Linked closely to order fulfillment is product reliability. Product reliability refers to “the accurate display and description of a product so that what customers receive is what they thought they ordered.”[89] Online retailers should provide a complete and realistic description of the product and its benefits—with high-quality pictures and perhaps even demonstration videos if possible, appropriate, and affordable—along with product availability and likely ship dates. Customers should be notified by e-mail of order acceptance, and the anticipated delivery date with phone and e-mail contacts for any needed assistance.
Video Link 16.1 Inflatable Fruitcake
Inflatable fruitcake with demonstration.
www.inflatablefruitcake.com/
What all this says is that website owners must proceed carefully to create their online presence in a way that will inspire trust. “If consumers trust online merchants and have confidence in the reliability and integrity of merchants, they will likely feel more at ease making purchases and disclosing sensitive information online. Therefore, the success of online merchants and the future of e-commerce may depend heavily on online trust.”[90]
Payment Options
Nowhere are security, privacy, and trust more necessary than at the point of payment. Without this transaction, there is no e-commerce, so it is imperative that small businesses selling online take the necessary steps to reduce customer concerns about shopping online. A recent survey found that retailers operating online may have lost more than \$44 billion dollars over a one-year period as a result of transaction problems on their websites; in addition, 27 percent of online shoppers would turn to an offline or online competitor if they encountered an online transaction issue. [91] More specifically, online shoppers who encountered a transaction problem would react as follows: [92]
• Sixty-six percent would contact customer service, including
• Fifty-three percent calling customer service; and
• Thirty-six percent e-mailing or logging a web complaint with customer service.
• Thirty-two percent would abandon the transaction entirely, including
• Twenty-seven percent turning to an online or offline competitor.
To make matters even worse, the potential for lost revenue when customers have a negative online shopping experience is amplified by the rising use of social media like Facebook and Twitter; the voicing of displeasure on social networks can significantly damage a company’s reputation.[93] The message is clear. Online transactions must run smoothly.
But there is another important issue: the number of payment options that are offered to the customer. Research shows that the more payment options customers have, the more likely they will complete their purchase.
• Merchants offering multiple payment methods have lower cart abandonment rates.
• If you can afford it and maintain your profit margin, offering multiple payment options is a means to increase your sales by increasing customer confidence and convenience.
• North American online businesses with four or more options for payment see an average sales conversion rate of 72 percent. The sales conversion rate is the percentage of site visitors that make a purchase.
• Each new payment option added at the point of checkout results in a sales increase of 5–20 percent.
Customers shopping online expect convenience and a variety of payment options. Credit cards are by far the most popular means for making an online payment, with one survey indicating that 70 percent of online consumers used this payment method.[99] Any small business that does not have its website set up to accept credit cards will lose 60–80 percent of its potential orders. Further, offering a credit card option will increase the number of orders, and those orders will be substantially larger because credit cards enable impulse buying, reassure customers of your legitimacy, and simplify your billing.[100]
Consistent with credit cards being the online payment method of choice, it has been reported that 99 percent of online businesses offer a general purpose credit card, which include Visa, MasterCard, American Express, and Discover. However, debit cards are growing in popularity ahead of other payment alternatives.
The 15 Most Popular Online Payment Solutions
• Due
• Stripe
• Dwolla
• Apple Pay
• Payoneer
• 2Checkout
• Amazon Payments
• Square
• Payza
• Skrill
• Venmo
• Google Wallet
• WePay
• Intuit GoPayment
• Authorize.net
The implications of this for small business are that credit cards should be the first payment method that should be set up for online sales. Additional payment methods should be added as quickly as the budget allows because it is clear that more payment options translate into a greater likelihood of purchase. However, the choice of alternative payment methods should be in keeping with the growth strategy of the business. It may be that offering one method of payment provides a satisfactory level of sales, thereby eliminating the need for additional methods for sales growth.
Key Takeaways
• It is important to protect intellectual property.
• Ethics influence consumer purchases.
• Small businesses are the new target for cybercrime. As a result, small businesses must pay attention to their website security because it will protect the business and influence customer trust.
Exercises
1. Find three small business websites. Analyze each website in terms of its trustworthiness. Discuss why you would or would not trust each site. Be specific.
2. Discuss whether you think an unintelligible privacy policy is ethical. Be specific in your arguments.
E-Commerce Technology
Learning Objectives
1. Explain what an e-commerce platform is.
2. Discuss the importance of a CRM solution to a small business.
3. Explain m-commerce and why small businesses should consider incorporating it into their e-commerce strategy.
4. Explain the significance of Web 2.0 to a small business.
Digital technology has put small business on a more equal footing with its larger competitors. Although it is certainly true that a commitment to technology is not for every small business, it is also true that technology is transforming small business in important ways: (1) businesses are easier to find online than ever before; (2) communicating with customers is shifting to e-mail marketing and social media; (3) e-mail and mobile phones are improving productivity; (4) collaboration among employees who are working in multiple venues is easier; (5) outsourcing is easier; and (6) more companies are shifting their attention to how they can sell products and services online. Using technology well is proving to be one of the most prominent drivers of business success.[102]
Technology specifically related to e-commerce is a large umbrella. E-commerce platforms, customer relationship management (CRM), going mobile, and Web 2.0 will be discussed in this section.
E-Commerce Platforms
An e-commerce platform is the software that makes it possible for a business to sell online. In general, the core e-commerce platform should support basic requirements such as custom styling, search engine optimization, credit card processing, promotions, catalog management, analytics, product browsing, checkout, and order management. Additionally, e-commerce platforms should provide self-service content management systems (CMS), support multiple languages, and support multiple stores.[103] These requirements may vary slightly depending on which type of e-commerce is being conducted. Analytics refer to the tools that can track the different ways people use your website and then make sense of the data.[104]
The all-in-one e-commerce platform solution has become more popular with online merchants. This solution provides everything: the core e-commerce platform plus hosting, accounting, analytics, and marketing tools such as e-mail management. Because all the tools are integrated, they work together.[105] It has also been reported that e-commerce platforms are now enabling online retailers to better reach consumers through mobile devices and social media sites.[106] This is great news for the small business that wants to tap into these growing markets.
The list of e-commerce software providers is always growing, but there are many products that are tailored specifically for small to medium-sized businesses. Some of the names that come up frequently for small business are BigCommerce, Magento, Affinity Internet, ProStores (for the smaller merchant), and Miva Merchant. However, this list is not exhaustive, and new products enter the marketplace all the time.
Customer Relationship Management
Customer relationship management refers to “a customer service approach that focuses on building long-term and sustainable customer relationships that add value for the customer and the company.” [107]Some small businesses may wonder whether they really need the added complexity of a small business CRM solution. The answer will depend to a large extent on the size of the business and its growth objectives. However, it has been observed that there is no small business out there that, “sometimes in spite of themselves, didn’t benefit from implementing a… CRM or its watered down equivalent—a simpler Contact Management software solution.”[108] Recent studies have revealed that CRM applications account for the following: [109]
• Revenue increases of up to 41 percent per salesperson
• Decreased sales cycles of over 24 percent
• Lead conversion rate improvements of over 300 percent
• Customer retention improvements of 27 percent
• Decreased sales and marketing costs of 23 percent
• Improved profit margins of over 2 percent
It has also been noted that companies can boost their profits by almost 100 percent by retaining just 5 percent of their customers.[110] What does this mean for the small business that chooses to go with a CRM solution? As long as the solution is well implemented and actually used, there should be an immediate payoff and productivity improvement throughout the company. Additionally, choosing to engage in e-commerce makes the selection of a CRM solution even more important because the quality of customer relationships is so important to online success.
Although there was a time when CRM solutions were not feasible for small business, they are available today for even the smallest businesses. These CRM solutions are priced and designed with the small business in mind.
Going Mobile
As defined earlier in this chapter, mobile e-commerce (m-commerce) refers to the purchase of goods and services through wireless technology, such as cell phones and handheld devices. It consists of two primary components: “…the ability to use a wireless phone or other mobile device to conduct financial transactions and exchange payments over the Internet…and the ability to deliver information that can facilitate a transaction—from making it easy for your business to be ‘found’ via a mobile Web browser to creating mobile marketing campaigns such as text promotions and loyalty programs.”[111] It is predicted that in 2015 m-commerce revenues will make up 8.5 percent of all US e-commerce revenue and 20 percent of global e-commerce revenue. In the United States, that will represent only one half of 1 percent of all retail revenues.[112] However, even though m-commerce is lagging behind other mobile uses, wireless devices and m-commerce are expected to create another revolution in e-commerce. The most important thing that online retailers can do is to “…take action soon because the mobile environment is adapting much more quickly than the web.”[113]
Small businesses need to sort out the hype from what’s real and the trends.
1. From the second quarter 2009 through the second quarter 2010, Amazon’s customers around the world used mobile devices to buy more than \$1 billion in products. This is a trend that any small business with an e-commerce website should watch closely.
2. Mobile devices connected to the Internet are reshaping the way people are going about their personal and professional lives.
3. One of the fastest growth areas in e-commerce will be using mobile devices to make online purchases.
4. Close to 80 percent of organizations plan to have mobile websites by the end of 2011. Online retailers without an m-commerce strategy will be in the minority.
5. Handheld devices are increasingly being used to research products, compare prices, and buy online while shopping.
6. A central driver to m-commerce growth is smartphone ownership and the corresponding mobile Internet use.
7. Nearly 58 percent of Americans have researched a product or a service online.
8. Among cell phone owners, 11 percent purchased a product or a service using their phones.
Video Clip 16.7 Mobile E-Commerce Capabilities
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Gene Alvarez, Gartner Group, discusses m-commerce.
Major retailers have been able to easily offer remote access to customers who want to make purchases using mobile devices (e.g., Target and Nordstrom). Software is now available for small businesses to offer some of the same bells and whistles, giving their online customers the ability to shop via smartphones.[121]
Mobile e-commerce may not be for all small businesses, but a small business owner who is already in e-commerce or has plans to do so should give it consideration. Multichannel shoppers tend to purchase more, so small companies need to think of ways to “effectively engage customers by delivering consistent, rich experiences across all channels, including mobile, to maintain and fuel double-digit ecommerce industry growth rates.”[122] Online customers are ready and increasingly interested in using mobile devices to make purchases.
Web 2.0
There is no agreement about an exact definition of Web 2.0 but, in general, it refers to websites that are more interactive, engaging, and interesting than before. A Web 2.0 site is one where visitors can engage with you, your business, and your site by doing things like the following:[123]
• Posting comments on your blog or your articles or chatting in a forum
• Retweeting your content, sharing it on Facebook, or Digging it
• Watching a video, listening to a podcast, or participating in a webinar
• Taking a quiz or responding to a poll
Web 2.0 is about having a conversation with your customers. This is very different from Web 1.0, where websites were static and all you could do was read. Web 2.0 sites are collaborative and interactive. The small business that creates a site that engages and interacts with people, that makes people want to stick around, will be giving people more of a chance to create a connection with the business.[124] These closer ties will increase customer awareness and consideration of the company’s products and services, improve customer satisfaction, increase the chances of loyalty, increase the chances for sales, and add to the bottom line. There will also be significant benefits realized between the small business and its suppliers and partners: lowering the costs of communication and doing business.
A much smaller percentage of small businesses have adopted elements of Web 2.0 as compared to large enterprises and midsize companies.[125] However, many small businesses are using Web 2.0 in a variety of positive ways.[126]
• One business owner operated a Facebook group, attracted interest in the business, and developed loyalty through the group.
• Another business routinely put press releases online and attested to their value at getting the company’s website found in search engines.
• The owner of a product company reported good results with videos that were loaded on YouTube and on the company’s website. The video attracted people to the site and also engaged existing visitors on the site.
• A small real-estate company has a Facebook page, a blog, and a property value calculator that allows homeowners to calculate an approximation of their home’s value without having to speak with a realtor. The information is then sent via e-mail.
As Web 2.0 keeps evolving, the value and opportunities it will bring to small businesses will continue to grow. “The increased flow of two-way information between business and customer, the increase in information distribution through blogs and wikis, and the increased participation of customers in product improvement and even design will continue. By adopting Web 2.0 technologies and tools, small businesses can improve market share, profit, and reputation, now and in the future.”[127]
Video Clip 16.8 Web 2.0
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Evolution of website technology to Web 2.0.
Key Takeaways
• E-commerce platforms make it possible for businesses to sell online. The all-in-one platform solution has become more popular with online merchants. There are many platforms that are tailored specifically for small and medium-sized businesses.
• Small businesses should think about CRM. CRM solutions are now available for even the smallest of businesses.
• Even though m-commerce is lagging behind other mobile uses, wireless devices and m-commerce are expected to create another revolution in e-commerce.
• Web 2.0 is important. It is about having a conversation with your customers. Small businesses need to learn about it and strongly consider incorporating it into their e-commerce strategies.
• Web 2.0 keeps evolving, so the value and opportunities it will bring to small businesses will continue to grow.
Exercises
1. Select three small business websites. Identify the features that are examples of Web 2.0.
2. Find three CRM solutions (software products) online that are geared to small businesses. Compare the features. If you owned a small business, which one would you choose? Why?
The Three Threads
Learning Objectives
1. Explain how e-business and e-commerce contribute to customer value.
2. Explain how e-business and e-commerce can benefit a company’s cash flow.
3. Explain why e-business and e-commerce are becoming increasingly necessary for small business survival.
Customer Value Implications
E-business in general and e-commerce in particular can both contribute to increased customer value. In the case of e-business, moving operations to digital technology can improve productivity, reduce or eliminate duplicative processes, streamline supply chain management and enterprise resource planning, improve customer and vendor relationships, improve business intelligence, increase and improve internal collaboration while doing the same with external business partners. In all instances, the customer, the vendor, and the business partner should realize increased value from doing business with the company in terms of greater efficiency, speed of information flows and transactions, and overall satisfaction.
In the case of e-commerce, customer value is provided via convenience, a greater selection of products, the ability to easily compare prices and services, 24/7 availability, privacy protection, multiple payment options, and reliable order fulfillment processes. Web 2.0, in particular, presents “consumers with a whole array of options in searching for value products and services and finding exactly what they need and want with minimum efforts, in line with the current customer desire for personalization, individual approach and empowerment.” [128]
Cash-Flow Implications
The cash flow of a small business should benefit from all the sources of value just mentioned because they should result in lower operating costs, improved customer relationships, and higher sales. In particular, cash flow should increase as a result of the following:
• Prepaid purchases by business-to-business (B2B) customers. This may apply to other e-commerce customers as well.
• Multiple payment options. The greater the number of options, the higher the number of sales and the higher the average order size.
• Lower costs of sales as a result of the reduced need for telephone, travel expenses, and live salespeople.
• Eliminating many steps in business processes and cutting out the middlemen. [129]
• Saving money on employees and salaries because of customer outsourcing (i.e., anything that the customer does individually, things like searching for product or service information, entering his or her billing information, and signing up for an e-mail confirmation. These are things that customer service representatives do not have to do.[130]
• Increased sales as a result of selling niche products. “It turns out that most small businesses (and start-ups) have relatively niche-y products…The Internet disproportionately favors small businesses since it enables them to position their niche goods to people shopping for that particular niche good.”[131]
This is not an exhaustive list. However, it is illustrative of the many ways in which e-business and e-commerce can impact the cash flow of a small business in a favorable way.
Digital Technology and E-Environment Implications
Although not all small businesses may choose to go the route of digital technology and the e-environment (e-business and e-commerce), it has been advised on many fronts that small businesses seriously consider creative ways in which to incorporate them all into their operations. Digital technology is difficult to avoid, whether it be computers, smartphones, or iPads. Even on a small scale, digital technology can help improve business processes and keep costs down.
The importance of e-business and e-commerce to small business has been the focus of this chapter. Realistically, neither can be avoided by small businesses that want to grow. E-commerce in particular has opened up the world to small business. Websites have “created a flattening effect in the sense that small businesses and large businesses [are] suddenly on a level playing field…The web [allows] small companies to have the same reach as a large firm. A small company’s web site [can] be viewed a million times just as easily as a large firm’s web site, and that information [is] available worldwide, 24 hours a day. Small businesses [can] now have some of the same abilities as large companies to reach customers with rich content of information about their products nationally or internationally.”[132] The small business that wants to grow will ignore e-business and e-commerce at its peril.
Key Takeaways
• E-business and e-commerce both contribute to increased customer value.
• The cash flow of a small business should benefit from the customer value offered by e-business and e-commerce.
• Even though some small businesses may choose not to go the route of digital technology, e-business, or e-commerce, it has been suggested that small businesses seriously consider creative ways in which to incorporate them into all operations.
Exercises
1. Select three small businesses that engage in e-commerce. Interview the owners and ask them to describe (1) how e-commerce has added customer value and (2) the positive and negative impacts on cash flow.
2. Locate at least one small business that is a nonemployer (i.e., consists of only the owner). Interview the owner about the role that digital technology plays in the business and what his or her plans are, if any, to increase its incorporation. Find out if the business has a website. If it does, are there plans to engage in e-commerce? If the business does not have a website, find out why not and whether there are any plans to create one.
Disaster Watch – I’ve Been Hacked
I’ve Been Hacked!
Not discouraged by the bad economy, Marnie McCormick opened “The Country Store” in the local shopping center. McCormick had done her homework. She originally leased the store front for a temporary stint, selling a line of unique handcrafted products and locally made foods while asking people what sort of products they wished were available in the area. In this way, she was able to build the kind of store that was needed, using the existing demand to decide what kinds of products she would offer.
McCormick had a myriad of concerns at start-up—inventory, suppliers, marketing, outfitting the store, and administrative systems. What she did not know was that someone had hacked into her computer system. From somewhere unknown, the hard drive of her computer in the store had been hacked. The hackers had downloaded a key-logging program (a virus that makes it possible for the hacker to record all your keystrokes, gaining access to passwords and other sensitive information). The hackers were able to see everything that she typed into the computer: e-mails, communications with vendors and customers, passwords—everything. The hackers only had to wait until she logged into her online bank account before they had all the information they needed for the payoff. She soon discovered that someone had been in her bank account, transferring money at will. The hackers had changed the password. The system crashed immediately.
As soon as she had opened the doors to her new store, McCormick had to close them. What should she do to get her store up and running again? How can she prevent this from happening in the future?[133]
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138. Telephone interview with Victor Castro, director of e-commerce, Vermont Teddy Bear Company, March 9, 2012. | textbooks/biz/Management/Maritime_Management%3A_Micro_and_Small_Businesses_(Pauley)/05%3A_E-Business/5.02%3A_Chapter_16-_E-Business_and_E-Commerce-_The_Difference.txt |
Learning Objectives
1. Understand how marketing for small businesses differs from marketing for big businesses.
2. Understand the most significant risk factor facing small businesses.
3. Explain marketing strategy and why it is so important for small businesses.
Small-business marketing and big business marketing are not the same. The basic marketing principles that guide both are the same, but there are important differences with respect to scope, budget, risk factors, and areas of opportunity.[1][2] Small businesses cannot compete with the marketing budgets of big companies. As a result, small businesses do not have the luxury of large staffs and the staying power that comes with high profits. There is little room for error. Failed strategies can lead to ruin.
The scope of small business marketing does not extend across the same level of multiple products and services that characterize most big businesses. Combined with having few if any products in the pipeline, this significantly reduces the insulation that small businesses have against ups and downs in the marketplace or strategic failures. “Small business marketing strategies have to be more targeted, cost-effective and more elaborately planned [s]o as to minimize the losses in case the strategy fails.”[3]
Competition is the most significant risk factor facing small businesses. Trying to eliminate an established brand takes a lot of work, but it is an overnight job to wipe out a small business. Competition is a huge threat for small businesses.[4] This means that small businesses should be very knowledgeable about their competition to deal effectively with them.
Opportunity areas for small businesses are also very different from those of big businesses. The small business can take advantage of niche markets and local needs and wants. They are much better able to emphasize personal, one-to-one interactions and can market real time in ways that cannot be matched by big businesses. Smaller can actually end up being more powerful.[5]
Given the special marketing vulnerabilities of small businesses, the importance of understanding the components of a marketing strategy —all within the context of marketing objectives, should be clear. A marketing strategy involves selecting one or more target markets, deciding how to differentiate and position the product or the service, and creating and maintaining a marketing mix that will hopefully prove successful with the selected target market(s)—all within the context of marketing objectives. Marketing objectives are what a company wants to accomplish with its marketing strategy: “Strategy is not a wish list, set of goals, mission statement, or litany of objectives…A marketing strategy is a clear explanation of how you’re going to get there, not where or what there is. An effective marketing strategy is a concise explanation of your stated plan of execution to reach your objectives…Marketing without strategy is the noise before failure.”[6]
Key Takeaways
• Small-business marketing and big business marketing are not the same.
• The most significant risk factor facing small businesses is competition.
• It is important for a small business to have a marketing strategy so that it is better positioned to choose among options.
• An effective marketing strategy is a concise explanation of a business’s stated plan of execution to reach its objectives.
• Marketing without strategy is the noise before the failure.
Exercises
1. You just started a new job with a twenty-five-employee small business. By accident, you found out that the company does not have a clear marketing strategy. So far, the company has been lucky with its product sales, but you have a feeling that things will not continue at the same pace for much longer because a competitor has entered the marketplace. Assuming that you had the opportunity, how would you go about convincing the owner that the smart thing to do right now is to create a marketing strategy? Make the case to the owner.
The Marketing Strategy Process
Learning Objectives
1. Describe the marketing strategy process.
2. Explain why segmentation, target market, differentiation, positioning, and website decisions are so important for the small business.
3. Describe the marketing strategy decision areas for each element of the marketing mix.
The focus of this text is on the management of the small business that is up and running as opposed to a start-up operation. As a result, the considerations of marketing strategy are twofold:
1. to modify or tweak marketing efforts already in place and
2. to add products or services as the business evolves. In some instances, it may be appropriate and desirable for a small business to backfit its marketing activities into a complete marketing strategy framework.
The marketing strategy process consists of several components (Figure 17.1 “Marketing Strategy Process”). Each component should be considered and designed carefully: company vision, company mission, marketing objectives, and the marketing strategy itself.
Vision and Mission
It is awfully important to know what is and what is not your business.[9]
-Gertrude Stein
The vision statement tries to articulate the long-term purpose and idealized notion of what a business hopes to become. (Where do we see the business going?) It should coincide with the founder’s goals for the business, stating what the founder ultimately envisions the business to be.[10] The mission statement looks to articulate the more fundamental nature of a business (i.e. why the business exists?). It should be developed from the customer’s perspective, be consistent with the vision, and answer three questions: What do we do? How do we do it? And for whom do we do it?
Both the vision statement and the mission statement must be developed carefully because they “provide direction for a new or small firm, without which it is difficult to develop a cohesive plan. In turn, this allows the firm to pursue activities that lead the organization forward and avoid devoting resources to activities that do not.”[11] Although input may be sought from others, the ultimate responsibility for the company vision and mission statements rests with the small business owner. The following are examples of both statements:
• Vision statement. “Within the next five years, Metromanage.com will become a leading provider of management software to North American small businesses by providing customizable, user-friendly software scaled to small business needs.”[12]
• Mission statement. “Studio67 is a great place to eat, combining an intriguing atmosphere with excellent, interesting food that is also very good for the people who eat there. We want fair profit for the owners and a rewarding place to work for the employees.” [13]
Marketing Objectives
Marketing objectives are what a company wants to accomplish with its marketing. They lay the groundwork for formulating the marketing strategy. Although formulated in a variety of ways, their achievement should lead to sales. The creation of marketing objectives is one of the most critical steps a business will take. The company needs to know, as precisely as possible, what it wants to achieve before allocating any resources to the marketing effort.
Marketing objectives should be SMART: specific, measurable, achievable, realistic, and time-based (i.e., have a stated time frame for achievement). It has been recommended that small businesses limit the number of objectives to a maximum of three or four. If you have fewer than two objectives, you aren’t growing your business like you should be in order to keep up with the market. Having more than four objectives will divide your attention, and this may result in a lackluster showing on each objective and no big successes. [14] If a small business has multiple marketing objectives, they will have to be evaluated to ensure that they do not conflict with each other. The company should also determine if it has the resources necessary to accomplish all its objectives.[15]
For small businesses that already have, or are looking to have, a web presence and sell their products or services online, e-marketing objectives must be included with all other marketing objectives. E-marketing is defined as “the result of information technology applied to traditional marketing.”[16] The issues of concern and focus will be the same as for traditional marketing objectives. The difference is in the venue (i.e., online versus onground). Examples of e-marketing objectives are as follows: to establish a direct source of revenue from orders or advertising space; improve sales by building an image for the company’s product, brand, and/or company; lower operating costs; [17] provide a strong positive customer experience; and contribute to brand loyalty. The ultimate objective, however, will be “the comprehensive integration of e-marketing and traditional marketing to create seamless strategies and tactics.”[18]
The Marketing Strategy
With its focus being on achieving the marketing objectives, marketing strategy involves segmenting the market and selecting a target or targets, making differentiation and positioning decisions, and designing the marketing mix. The design of the product (one of the four Ps) will include design of the company website. Differentiation refers to a company’s efforts to set its product or service apart from the competition, and positioning is placing the brand (whether store, product, or service) in the consumer’s mind in relation to other competing products based on product traits and benefits that are relevant to the consumer.[19] It has been said that “in some cases strategy just happens because a market and a product find each other and grow organically. However, small businesses that understand the power of an overarching marketing strategy, filtered and infused in every tactical process, will usually enjoy greater success.”[20]
Key Takeaways
• The marketing strategy process consists of company vision, company mission, marketing objectives, and the marketing strategy itself.
• The company vision: Where do we see the business going?
• The company mission: Why does our business exist?
• Marketing objectives: What do we want to accomplish with our marketing strategy?
• Marketing strategy: How will we accomplish our marketing objectives?
• Marketing objectives should be SMART: specific, measurable, achievable, realistic, and time-based (i.e., have a specific time frame for accomplishment).
• Small businesses should limit the number of objectives to three or four to increase the chances that they will be achieved.
• E-marketing objectives must be included with traditional marketing objectives.
• E-marketing and traditional marketing should be integrated to create seamless marketing strategies and tactics.
• Marketing strategy involves segmenting the market, selecting a target or targets, making differentiation and positioning decisions, and designing the marketing mix. The design of the product will include design of the company website.
Exercises
1. Develop the marketing objectives for The Mill restaurant in New Glasgow, PEI.
2. Explain the differences between an onground marketing strategy and an online marketing strategy.
Segmentation and the Target Market
Learning Objectives
1. Explain segmentation and the target market.
2. Explain why segmentation, the target market, differentiation, positioning, and website decisions are so important for a small business.
3. Describe the marketing strategy decision areas for each element of the marketing mix.
Whether market segments and target markets are selected on the basis of intuition, marketing research, or a combination of the two, they are the basis for creating an effective marketing mix for any small business. Segmentation and target market decisions must be made for both onground and online customers.
Segmentation
Market segmentation dividing a market into relatively homogeneous subgroups that behave much the same way in the marketplace, is the necessary precursor to selecting a target market or target markets. The challenge is knowing which group(s) to select. Many small business owners have a good intuitive sense of the segments that make sense for the business, and they choose to go with that intuition in devising their marketing strategy. However, that intuition may not be precise or current enough to be of the most help in planning a marketing strategy. Marketing research can be of help here, even to the smallest of businesses.
Table 17.1 Market Segmentation
Consumer Segmentation Examples Business Segmentation Examples
Geographic Segmentation
• Region (e.g., Northeast or Southwest)
• City or metro size (small, medium, or large)
• Density (urban, suburban, or rural)
• Climate (northern or southern)
Demographic Segmentation
• The industry or industries to be served
• The company sizes to be served (revenue, number of employees, and number of locations)
Demographic Segmentation
• Age
• Family size
• Family life cycle (e.g., single or married without kids)
• Gender
• Income
• Occupation
• Education
• Religion
• Race/ethnicity
• Generation
• Nationality
• Social class
Operating Variables
• The customer technologies to be focused on
• The users that should be served (heavy, light, medium, or nonusers)
• Whether customers needing many or few services should be served
Psychographic Segmentation
• Personality
• Lifestyle
• Behavioral occasions (regular or special occasion)
• Values
Purchasing Approaches: Which to Choose?
• Highly centralized versus decentralized purchasing
• Engineering dominated, financially dominated, and so forth
• Companies with whom a strong relationship exists or the most desirable companies
• Companies that prefer leasing, service contracts, systems purchases, or sealed bidding
• Companies seeking quality, service, and price
Behavioral Segmentation
• Benefits of the product (e.g., toothpaste with tartar control)
• User status (nonuser, regular user, or first-time user)
• Usage rate (light user, medium user, or heavy user)
• Loyalty status (none, medium, or absolute)
• Attitude toward the product (e.g., enthusiastic or hostile)
Situational Factors: Which to Choose?
• Companies that need quick and sudden delivery or service
• Certain application of the product instead of all applications
• Large or small orders or something in-between
Personal Characteristics: Which to Choose?
• Companies with similar people and values
• Risk-taking or risk-aversive customers
• Companies that show high loyalty to their suppliers
Other Characteristics
• Status in industry (technology or revenue leader)
• Need for customization (specialized computer systems)
Marketing research can help the small business identify and refine the segments that offer the greatest opportunities. Part of that process will be to identify segments that meet the requirements of measurability; substantiality, stability, accessibility, actionability, and differential response.[21] Meeting these requirements will increase the chances for successful segmentation.
• Measurability. Is it easy to identify and estimate the size of a segment? A small business that moves forward without a clear definition of its market segments is working blind. Intuition can only go so far. Are there people who are interested in freshly baked cookies for dogs (it would seem so), and how many of these people are there? (Check out Happy Hearts Dog Cookies.)
• Substantiality. Is the segment large and profitable enough to justify an investment? A small business may not require a huge number of customers to be profitable, but there should be enough people interested in the product or the service being offered to make operating the business worthwhile. Fancy designer clothes for dogs, for example, is a business that can survive—but not everywhere (see www.ralphlauren.com/search/index.jsp?kw=pup&f=Home).
• Stability. Stability has to do with consumer preferences. Are they stable over time? Although segments will change over time, a small business needs to be aware of preferences that are continuously changing. Small businesses can be more nimble at adapting their businesses to change, but too much volatility can be damaging to a business’s operations.
• Accessibility. Can a business communicate with and reach the segment? A small business interested in women who work outside the home will present greater communication challenges than will stay-at-home wives and mothers.
• Actionability. Is a small business capable of designing an effective marketing program that can serve the chosen market segment? There was a small manufacturer of low-priced cigarettes in Virginia that found it difficult to compete with the big brands and other established lower-priced brands such as Bailey’s. The manufacturer’s solution was to sell to Russia where “Made in Virginia, USA” worked very well with customers and retailers.[22]
• Differential response. The extent to which market segments are easily distinguishable from each other and respond differently to company marketing strategies.[23] For the small business that chooses only one segment, this is not an issue. However, the small manufacturer of ramen noodles in New York City needs to know whether there are different segments for the product and whether the marketing strategy will appeal to those segments in the same positive way.
Once multiple segments have been identified, it is necessary to select a target market or target markets. If only a single segment has been identified, it becomes the target market.
Target Market
The selection of a target market or target markets will be based on the segments that have been identified as having the greatest potential for the business. A target market refers to one or more segments that have been chosen as the focus for business operations. Only some of the people in the marketplace will be interested in buying and/or using a company’s product or service, and no company has the resources to be all things to all people. Resources are always finite, but this will especially be the case for the small business, so all marketing efforts should be directed as precisely as possible.
Selecting the target market should be guided by several considerations:[24]
• Financial condition of the firm. Limited resources may dictate the selection of only one target market.
• Whether the competition is ignoring smaller segments. If yes, this may be a ready-made target market.
• Is the market new to the firm? If yes, concentrating on one target market may make the most sense.
• Specific need or want. Does the proposed target market have a specific need or want for the product or the service?
• Ability to buy. Does the proposed target market have the resources to buy the product or the service?
• Willingness to buy. Is the proposed target market willing to buy the product or the service?
• Will this target market be profitable? There needs to be enough demand to make money.
Choosing the right target market is a critical part of the marketing strategy of a small business. The target market should be the best match for a company’s products and services, thus helping to maximize the efficiency and effectiveness of its marketing efforts.
If a small business wants to go with a niche market, the same considerations apply. A niche market is a small, more narrowly defined market that is not being served well or at all by mainstream product or service marketers. The great advantage of pursuing a niche market is that you are likely to be alone there: “other small businesses may not be aware of your particular niche market, and large businesses won’t want to bother with it.”[25] Ideally, a small business marketing to a niche market will be the only one doing so. Niches are very important to small businesses that want to sell pricey chocolates (see, for example, www.cocoadolce.com/about.php). They focus on niches such as weddings, seasonal offerings, and specialty items. They also sell online in order to reach a broader market.
Key Takeaways
• Market segments and target markets are the basis for creating an effective marketing mix.
• Segmentation and target market decisions must be made for both onground and online customers.
• Market segmentation precedes the selection of a target market.
• There are many ways to segment a market.
• Segments must be measurable, substantial, stable, accessible, actionable, and easily distinguishable from other segments.
• The target market should be the segment or segments that show the greatest profit potential for a small business.
• A niche market is a small, more narrowly defined target market that is not being served well or at all by other businesses.
Exercises
1. How should the market for The Mill’s restaurant be segmented for his new restaurant in Summerside, PEI? How should Frank decide on a target market or target market(s)? Be specific. Do not assume that the Summerside market is the same as the New Glasgow market.
2. Assume that you work for a small manufacturer of children’s hair-care products. What criteria would you use for effective segmentation? How would you then decide on a target market or target markets?
Differentiation and Positioning
Learning Objectives
1. Explain differentiation and positioning.
2. Explain why differentiation and positioning are so important for an online marketing strategy and an onground marketing strategy.
3. Understand that a successful differentiation strategy cannot be copied by competitors.
4. Understand that there are many ways to differentiate a product or a service.
5. Understand that successful positioning of a small business or its brand is built on a well-defined target market combined with solid points of differentiation.
Differentiation and positioning considerations are relevant to each element of the marketing mix as well as to onground and online marketplaces. The small business should be working toward a competitive advantage— “The ability to perform in one or more ways that competitors cannot or will not match.”[26]
Differentiation
Differentiation, setting yourself apart from the competition, is one of the most important and effective marketing tools available to small business owners.[27] Effective differentiation can put a business (or a brand) in the top position among the competition, but an ineffective differentiation strategy can leave a business buried in the middle or at the bottom of the pack.[28] A successful differentiation strategy cannot be imitated by competitors—but it can bring you great success with consumers.[29]
Video Clip 17.1 Business Differentiation: Showing Up Differently
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
Differentiation is everyone’s goal, but few are able to achieve it.
Small businesses, whether business-to-consumer (B2C) or business-to-business (B2B), can differentiate their companies or brands in many different ways: quality, service, price, distribution, perceived customer value, durability, convenience, warranty, financing, range of products/services offered, accessibility, production method(s), reliability, familiarity, product ingredients, and company image are all differentiation possibilities.[30] There are others as well, limited only by the imagination. One way to uncover differentiation possibilities is to examine customer experience with a product or a service by asking the following questions:[31]
• How do people become aware of their needs for a product or a service?
• How do customers find a company’s offering?
• How do customers make their final selection?
• How do consumers order and purchase the product or the service?
• What happens when the product or the service is delivered?
• How is the product installed?
• How is the product or the service paid for?
• How is the product stored?
• How is the product moved around?
• What is the consumer really using the product for?
• What do consumers need help with when they use the product?
• What about returns or exchanges?
• How is the product repaired or serviced?
• What happens when the product is disposed of or no longer used?
No matter what the bases are for differentiating a company or a product, the decision should be made carefully with the expectation that the difference cannot be imitated. When customers are asked whether they can tell the difference between a particular small business and its closest competitors, the answer will hopefully be yes.
Video Clip 17.2 The “Murals Your Way” Advantage
https://www.youtube.com/watch?v=mQgSi9KPLSY
How Murals Your Way sets itself apart from other wall mural companies.
Video Link 17.1 Bedbug Dog Sniffs Up Profits. An unusual means of differentiation.
http://money.cnn.com/video/smallbusiness/2010/08/13/sbiz_bedbug_canine.cnnmoney
https://www.orkincanada.ca/blog/k9-bed-bug-detection/
Positioning
Positioning is about the mind of the consumer: placing a company or a brand (sometimes they are the same, e.g., Carbonite, CakeLove, and Sugar Bakery & Sweet Shop) in the consumer’s mind in relation to the competition.[32]
The positioning decision is often the critical strategic decision for a company or a brand because the position can be central to customers’ perception and choice decisions. Further, because all elements of the marketing program can potentially affect the position, it is usually necessary to use a positioning strategy as a focus for developing the marketing program. A clear positioning strategy can ensure that the elements of the marketing program are consistent and supportive.[33]
Both big and small businesses practice positioning, but small businesses may not know it as positioning. The small business owner thinks about positioning intuitively, does not use the terminology, and does not always know how to promote the position. Additionally, in many if not most small businesses, “the positioning of products is based on the opinions of the business owner, his or her family, and selected friends and family.”[34] This notwithstanding, an understanding of positioning should be in every small business owner’s tool kit.
Video Clip 17.3 Small-Business Market Position
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
Small-business owners must figure out how the company should be positioned.
Video Clip 17.4 What Is Market Positioning?
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
A discussion of positioning.
Successful positioning of a small business or its brand is built on a well-defined target market combined with solid points of differentiation. There are six approaches to positioning that the small business owner should consider:[35]
1. Positioning by attribute. The most frequent positioning strategy. The focus is on a particular attribute, a product feature, or customer benefit. CakeLove in Maryland positions itself as “cakes from scratch” with natural ingredients (not the least of which is butter, lots of it).
Video Link 17.2 Welcome to CakeLove
An introduction to CakeLove bakery.
A Vimeo element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
1. Positioning by price/quality. A very pervasive approach to positioning. Some small companies and brands offer more in terms of service, features, or performance, and a higher price serves to signal this higher quality to the customer. As an example, Derry Church Artisan Chocolates are very expensive, but they position themselves as having the very high quality that justifies a high price.[36]
2. Positioning by use or application. Focuses on how a product is used or different applications of the product. A solitary custom tailoring shop located in a downtown professional office area could position itself as the only tailor where you can conveniently go “for lunch.”
3. Positioning by product user. The focus shifts from the product to the user. KIND Snacks are cereal bars positioned as a snack bar for those who are interested in a snack that is wholesome, convenient, tasty, healthy, and “economically sustainable and socially impactful.”[37] It is a great snack for hikers and campers.
4. Positioning by product class. Focuses on product-class associations. A cleaning service that uses only green products and processes can position itself as the green choice in cleaning services. Healthy Homes Cleaning is an example of a green cleaning business.
5. Positioning with respect to a competitor. Comparing a small business brand to its competitors. Some comparisons will be very direct; others will be subtle.[38] A small manufacturer that does not miss delivery times and makes products that are free of flaws can position itself on the basis of timely delivery and manufacturing excellence.[39]
Joe’s Redhots’ Business Positioning Strategy
Joe’s Redhots will sell premium-quality hot dogs and other ready-to-eat luncheon products to upscale business people in high-traffic urban locations. Joe’s Redhots will be positioned versus other luncheon street vendors as “the best place to have a quick lunch.” The reasons are that Joe’s Redhots have the cleanest carts; the most hygienic servers; the purest, freshest products; and the best value. Prices will be at a slight premium to reflect this superior vending service. Joe’s Redhots will also be known for its fun and promotional personality, offering consumers something special every week for monetary savings and fun.[40]
The challenge for a small business is to decide which approach to positioning a company or a brand is the best fit. This decision “often means selecting those associations which are to be built upon and emphasized and those associations which are to be removed or de-emphasized.”[41] In the process of writing a positioning statement, something that is encouraged as a way to keep the business on track, be aware of the difference between a broad positioning statement and a narrow positioning statement. A broad statement should encompass enough to allow a company to add products without the need to create a new positioning statement on a frequent basis; a narrow positioning statement puts a company in a “specialist” position in its market.[42] The following are some examples:
• Broad position statement. “Professional money management services for discerning investors”
• Narrow position statement. “Equity strategies for low risk investors”
• Broad position statement. “Elegant home furnishings at affordable prices”
• Narrow position statement. “Oak furniture for every room in your house”[43]
Key Takeaways
• Differentiation and positioning considerations are relevant to each element of the marketing mix as well as the onground and online marketplaces.
• Differentiation and positioning can contribute to the competitive advantage of a small business.
• Differentiation is one of the most important and effective marketing tools available to a small business owner.
• Small businesses, both B2B and B2C, can differentiate their companies or brands in many different ways.
• Ideally, differentiation should be done in a way that cannot be imitated by the competition.
• Positioning is about placing a company or a brand in the mind of the consumer in relation to the competition. It is always comparative.
• Small businesses practice positioning as much as larger companies do, but they may not use the terminology.
• All small business owners should understand what positioning is and how they can use it to their advantage.
Exercises
1. Although The Mill has a very loyal following in New Glasgow, PEI, developing a marketing plan and strategy for the Summerside store will require specific statements of differentiation and positioning. What should they be? Remember that the New Glasgow market may be similar to the Summerside market, but the two markets should not be seen as identical.
2. Continuing with the scenario about the small manufacturer of hair-care products for children, how would you differentiate and position the product for competitive advantage?
Marketing Strategy and Product
Learning Objectives
1. Understand why product is the key element in the marketing mix.
2. Identify the multiple decisions and considerations that factor into product or service development.
3. Describe the three product layers and explain why small businesses should pay attention to them.
4. Explain the importance of product design to marketing strategy.
5. Understand the role of packaging to product success.
6. Explain what a brand is and why it is probably a company’s most important asset.
7. Explain the implications of the product life cycle for the marketing mix.
8. Understand that a company’s website is part of its product or service, whether or not the company sells anything online.
9. Explain the decision areas for the company website.
The key element in the marketing mix is the product. Without it, price, promotion, and place are moot. The same is true for marketing strategy. Fulfilling a company’s vision and mission and achieving its marketing objectives must be led by the product.
There are multiple decisions and considerations that factor into product or service development: features and benefits, product mix, design, brand, the product life cycle, and the company website. Knowing product development issues can be very helpful for even the smallest business that is looking to keep its current product line responsive to the customers while also looking to expand its product line as the company grows (if growth is desired).
Product Features and Benefits
A product has multiple layers: core, augmented, and symbolic. These three layers can help a small business owner understand the product features and benefits that will best deliver value to current and prospective customers. These layers also provide the bases for differentiating and positioning the product. The product layers refer to both products and services and business-to-consumer (B2C) or business-to-business (B2B) customers.
Figure 17.3 The Product Layers
The core layer is the nuts and bolts of a product, its physical anatomy, and its basic features. It is also the basic benefit or problem solution that B2C or B2B customers are looking for. Someone buying an airline ticket, for example, is buying transportation.[44] Someone buying an ice cream cone is buying a delicious and fun treat. The core layer is also where considerations of quality begin. Quality “refers to overall product quality, reliability, and the extent to which [the product or the service] meets consumers’ needs,” and the perception of quality has the greatest impact on customer satisfaction.[45] Decisions about design, manufacturing, preparation, ingredients, service delivery, component parts, and process materials all reflect a business’s philosophy about quality.
The augmented layer is where additional value is added via things such as packaging, promotion, warranties, guarantees, brand name, design, financing opportunities where appropriate, prompt and on-time service, and additional services that may enhance a product. The augmented layer for Southwest Airlines is its well-known brand name, its packaging and promotion as a “fun” flying experience, and its “bags fly free” policy. The ice cream cone that is purchased in an old-fashioned ice cream parlor will likely be considered of greater value to many customers than the ice cream cone purchased at a Dairy Queen. It is this layer where many marketing mistakes are made because opportunities are missed.
The symbolic layer captures the meaning of a product to a consumer—its emotional and psychological connections. There are many loyal customers of Southwest Airlines because they really enjoy flying with them. It is inexpensive, convenient, and fun. The old-fashioned ice cream parlor will engender nostalgia and create powerful emotional ties. The most serious marketing errors are made when the symbolic product layer is either ignored or not understood. The power of symbolism should never be underestimated.
Every small business should look at its products within the context of the product layers. It is the creativity and imagination of the small business owner with the product layers that can set a business apart. They provide an excellent basis for dissecting an existing product to see where opportunities may have been missed, features could be added or changed, and features or enhancements could be explained more effectively in promotional activities. The product layers should also be used to develop new products that the business plans to introduce.
Product Mix
All small businesses have a product mix, the selection of products or services that is offered to the marketplace. With respect to the product mix for small companies, a company will usually start out with a limited product mix. However, over time, a company may want to differentiate products or acquire new ones to enter new markets. A company can also sell existing products to new markets by coming up with new uses for its products.[46] No matter the approach, the product mix needs to be created so that it is responsive to the needs, wants, and desires of the small business’s target market.
For small businesses engaged in e-marketing, product selection is a key element for online success. Part of the challenge is deciding which products to market online because some products sell better online than others.[47] If a business has a brick-and-mortar presence, a decision must be made whether all the inventory or only part of it will be sold online. Items that sell well online change over time, so it is important to keep up to date on the changes.[48] A second decision to be made is the number of items in the catalog (i.e., the number of items you will sell). Given intense online competition and shoppers’ desires for good selections, there needs to be a critical mass of products and choices—unless a company is lucky enough to have a very narrow niche with high demand. If a company has only one or two products to sell, the situation should be evaluated to determine whether selling online will be profitable.[49]
Product Design
In his book, Re-imagine! Business Excellence in a Disruptive Age,[50] Tom Peters devotes two chapters to the importance of design to business success. He says that design is “the principal reason for emotional attachment (or detachment) relative to a product service or experience”—and he quotes Apple’s CEO, Steve Jobs, in saying that design is the “fundamental soul of a man-made creation.”[51] This is true whether the product comes from a big business or a small business.
Product design involves aesthetic properties such as color, shape, texture, and entire form, but it also includes a consideration of function, ergonomics, technology, and usability as well as touch, taste, smell, sight, and sound. The pulling together of these things, as appropriate to the specific product or service being designed, should result in a design that matches customer expectations. “Design represents a basic, intrinsic value in all products and services.”[54]
Design offers a powerful way to differentiate and position a company’s products and services, often giving company a competitive edge.[55] Improved profit margins from increased sales and increased market share are often the result. It is essential to get the visual design of a product right for the market you are appealing to. It can make the difference between selling a product—or not.[56]
Design is particularly important in making and marketing retail services, apparel, packaged goods, and durable equipment. The designer must figure out how much to invest in form, feature development, performance, conformance, durability, reliability, repairability, and style. To the company, a well-designed product is one that is easy to manufacture and distribute. To the customer, a well-designed product is one that is pleasant to look at and easy to open, install, use, repair, and dispose of. The designer must take all these factors into account.
The arguments for good design are particularly compelling for smaller consumer products companies and start-ups that do not have big advertising dollars.[57]
Quirky.com is a small business that has taken product design to a whole new level: collaboration. First seen as a “bold but ultimately wild-eyed idea,”[58] Quirky recently secured \$6 million in venture financing. A company like this could be very helpful to a small business that is looking to introduce a new product.
Video Clip 17.5 Quirky’s Ben Kaufman on Innovation
https://youtube.com/watch?v=FFOvzxxQx8c
An innovative approach to product design: collaboration.
Design issues also apply to services. Some of the design issues for services that are delivered in a store (e.g., dry cleaning, repair, and restaurant) are the same as for any retail store: the design of the physical space, the appearance of the personnel, the helpfulness of the personnel, the ease of ordering, and the quality of service delivery. For services that are performed at a customer’s home or at a business site, the design issues include timeliness; the appearance and helpfulness of personnel; the quality of installation, service, and repair; and the ease of ordering the service. The special characteristics of services (i.e., intangibility, perishability, inseparability, and variability, as defined in Figure 17.4 “The Characteristics of Services”) present design challenges that are different from those faced by physical products.
Figure 17.4 The Characteristics of Services
Whether a small business is offering a product, a service, or a combination of the two to either the B2C or B2B marketplace, there is no question that excellent product design is a gateway to business success.
Packaging Design
The design of the product or the service package is another decision component of the product. Packaging can be defined as “all the activities of designing and producing the container for a product.”[60] Packages “engage us consciously and unconsciously. They are physical structures but at the same time they are very much about illusion. They appeal to our emotions as well as to our reason.”[61] Thus the package communicates both emotional and functional benefits to the buyer, and it can be a powerful means of product differentiation. A well-designed package can build brand equity and drive sales.[62] A poorly designed package can turn the customer off and can lead to wrap rage—the anger and frustration that results from not being able to readily access a product, which often leads to injuries. Although difficult-to-open packaging may be seen as necessary by the manufacturers and retailers, it does not do much for a positive customer experience.
Video Clip 17.6 Wrap Rage
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
Wrap rage: what it is about, with examples.
Video Clip 17.7 Opening Plastic Clamshells with a Can Opener
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
Plastic clamshell packages inspire wrap rage. They are easier to open if you start with a can opener.
Brand
A brand is defined by the American Marketing Association as “a name, term, sign, symbol, or design, or a combination of them, intended to identify the goods or services of one seller or group of sellers and to differentiate them from those of competitors…A brand may identify one item, a family of items, or all items of that seller. If used for the firm as a whole, the preferred term is trade name.”[63] A brand is a promise to the consumer that certain expectations will be met, a promise that—if broken—may result in the loss of that customer. A company’s brand is probably its most important asset.
Video Clip 17.8 A Brand Is More Than a Logo
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
What a brand is all about.
Building a brand is an ongoing process for a small business because it wants a memorable identity. It is important for the business to constantly monitor its brand to ensure that it represents the core values and needs of its existing and potential customers.[64] The brand needs to reach people on an emotional level because customers ultimately make decisions on an emotional level, not a logical level.[65] For this reason, a small business should think in terms of tapping into as many senses as possible with its brand. “Almost our entire understanding of the world is experienced through our senses. Our senses are our link to memory and can tap right into emotion.”[66] Scenting the air of a store with a fresh fragrance could be a powerful contributor to the store’s brand.
Whether a small business wants to keep its brand (but may be monitoring it) or is looking to rebrand, there are four fundamental qualities of great brands that should be kept in mind:[67]
1. They offer and communicate a clear, relevant customer promise, such as fun, speedy delivery, or superior taste.
2. They build trust by delivering on that promise. Keeping a customer informed when something goes wrong can help build and retain trust.
3. They drive the market by continually improving the promise. A small business should always be looking to make things better for its customers. Think in terms of the total customer experience.
4. They seek further advantage by innovating beyond the familiar. If a small business focuses on the customer experience, there are undoubtedly ways to improve the brand by adding the unexpected.
The ultimate objective is to have a brand that delivers a clear message, is easy to pronounce, confirms a company’s credibility, makes an emotional connection with the target market, motivates the buyer, and solidifies customer loyalty.
Video Clip 17.9 Good Branding Will Build a Company
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
A strong branding and marketing strategy is an investment that will pay dividends for years to come.
Video Clip 17.10 How to Create a Great Brand
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
A small business owner talks about the importance and mechanisms of creating a strong and memorable company brand.
Video Clip 17.11 How to grow a small business
https://www.youtube.com/watch?v=D7tF-cY2M9o
Jack Ma – Aliexpress.com; Alibaba Group
Product Life Cycle
Every product has a life span. Some are longer than others. The pet rock had a very short life span. The automobile is still going strong. Some products or services experience an early death, not able to make it very far out the door. Take, for example, Colgate Kitchen Entrees (yes, as in the toothpaste); Cosmopolitan Yogurt (off the shelves in eighteen months); and Ben-Gay Aspirin (the idea of swallowing Ben-Gay was not a winner).[70]
Even the big guys make mistakes, so small businesses are not immune from product goofs. The products that do make it, however, go through what is known as the product life cycle (PLC) defined as “the performance of the product in terms of sales and profits over time.”[71] The traditional PLC is shown in Figure 17.5 “The Traditional Product Life Cycle”.
Figure 17.5 The Traditional Product Life Cycle
Small-business owners should understand the PLC because there are specific implications for marketing strategy. The product development (incubation) stage is when a product is being prepared for sale. There are costs but no sales. The product introduction stage is when a product is available to buy for the first time. Sales will generally be low but increasing, marketing expenses will be high, and profits will be typically low or nonexistent. The focus of the marketing strategy will be to create awareness, establish a market, and create demand for the product.
The product growth stage is when sales grow rapidly as the target market adopts a product and competition enters the marketplace once it observes the success. Marketing strategy should focus on differentiation and building a brand preference. There is substantial profit improvement. Rapid growth must be managed carefully so that the company does not succeed into failure.
The product maturity stage is characterized by slow growth because most of the buyers interested in a product have bought it. Sales may increase but slowly due to intense price competition. Profits stabilize or decline. The marketing strategy must focus on getting people to switch brands by using special promotions and incentives.
The product decline stage is when sales decline and profits erode. A product has become obsolete because of an innovation (think VHS to DVD to Blu-Ray) or the tastes of the target market have changed. The marketing strategy works to reinforce the brand image of the product. The product may be dropped from the product line or rejuvenated if possible and practical.
There are many small business owners who may not see the PLC as applying to their products or services. After all, accounting services are accounting services, a luncheonette is a luncheonette, and hardware is hardware. Thinking this way would be a mistake. Accounting practices change, people’s tastes change, hardware solutions change, and government regulation inserts itself. What is successful today may not be successful tomorrow. The PLC provides guidance for watching how a product or a service progresses in the marketplace so that the necessary marketing strategy steps can be taken.
The New Product Development Process
If the development of a new product is being considered, the following steps are suggested as guidance:
• Generate new product ideas. Search for ideas for new products.
• Screen new product ideas. Make sure the product fits the target market and the overall mission of the business.
• Develop and evaluate new product concepts. Develop product concepts and determine how consumers will view and use the product.
• Perform a product business analysis. Calculate projected business costs, return on investment, cash flow, and the long-term fixed and variable costs. Long-term fixed costs are production costs that do not vary with the number of units produced (e.g., annual rent). Long-term variable costs are production costs that vary with the number of units produced (e.g., selling more hot dogs will require more hot dogs, ketchup, mustard, and relish).
• Design and develop the product. Develop a product prototype. A product prototype is an exact match to the product description developed in the concept development and evaluation stages. It is a sample.
• Test market the product. Introduce the product to a market to find out how the product will be received when it is introduced for real. The test market should be as close as possible in terms of characteristics (e.g., demographics) as the target market. For a small business, an appropriate test market might be a few select customers.
• Launch the product or the service. The product is introduced to the full marketplace.[82]
The Company Website
A company’s website is part of its product or service. The conventional wisdom is that all businesses should have a website. The reality is that there are many small businesses that do very well for themselves without a web presence. The small local deli, accounting or insurance services, a legal firm, a liquor store, or a dental office may not see the need for a website. At the same time, customers are increasingly expecting a web presence, so any small business that does not have a website runs the risk of losing sales because of it. The time may also be approaching when not having a website will be perceived as odd, with questions raised as to the seriousness of the business. Every small business without a website should determine whether this matters to them or not.
This section about the company website is targeted to the small business that has a web presence already or is planning to have one. A small business owner should have a basic understanding of website design to contribute to the discussion and communicate effectively when working with professionals[83]—as well as to organize the owner’s visceral reaction when it is time to evaluate other websites, plan the company’s website, or revise the company’s current website.[84] In addition, any commitment to e-marketing requires a website.
Stanford University’s Persuasive Technology Lab found that people quickly evaluate a website by visual design alone, with the visual design setting the tone for the user’s experience.[85] “Image is everything online. Good design evokes trust, makes navigation clear, establishes branding, appeals to target customers, and makes them feel good about doing business with the website they are on. Design does not have to be expensive for it to work. It does, however, need to represent an organization and appeal to a visitor. Professional design is not something organizations spend money on; it is something they invest in to support trust, positioning, and long-term marketing” (emphasis added).[86]
This section of the chapter discusses website objectives and the fundamental design elements: layout, color, typography, graphics, interactivity, navigation, usability, content, and performance. User experience is also discussed.
Video Clip 17.12 Top Web Design Mistakes Small and Large Businesses Make
https://youtube.com/watch?v=022tMCnizgQ
Four mistakes that small businesses should watch for when designing their websites.
Website Objectives
“The goal of any Web site is to deliver quality content to its intended audience and to do so with an elegant design.”[87]Website objectives define what a company wants its website to do. For example, a website can build awareness of the business; build awareness of particular brands or services; distribute information to supporters, customers, and stakeholders on products or issues; sell products or services; build relationships with customers; develop a new marketing strategy or reinforce an existing strategy; manage an event (e.g., online registration and payment); build the company image; and gather marketing research by collecting data from users or conducting online surveys.[88] Clear-cut objectives will increase the chances that a company’s website design and content will work to achieve those objectives.[89]
Website Layout
Layout refers to the positioning of the various elements that comprise a web page: where each text object will be positioned on each page or screen, the width and length of columns, the amount of space that will be placed between the lines of text, the alignment to be used (e.g., left or right), whether the page will be text only or use more advanced designs (e.g., multiple columns),[90][91] and the placement of graphics. Layout is important because it is one of the first things a visitor perceives when landing on a website. Research shows that “web users spend 69% of their time viewing the left half of the page and 30% viewing the right half, [so] a conventional layout is thus more likely to make sites profitable.”[92]
Color
Color is a powerful component of design. It affects mood and emotion, and it evokes associations with time and place. For example, psychedelic color combinations take us back to the 1960s, and turquoise and yellow combinations remind us of art deco in the 1950s. For websites, color is important in defining a site’s environment because “[P]eople see color before they absorb content.”[93] A lasting color impression occurs within ninety seconds and accounts for 60 percent of acceptance. What are the implications for website design? Decisions regarding color can be highly important to success.
The key to the effective use of color in website design is “to match the expectations of the target audience. Financial services sites tend to use formal colors (e.g., green or blue) with simple charts to illustrate the text but not many pictures. Sites directed at a female audience tend to feature lighter colors, usually pastels, with many pictures and an open design featuring lots of white space. Game sites are one type of site that can get away with in-your-face colors, Flash effects, and highly animated graphics.”[94]
Colors should be selected that reflect the purpose of the site and enhance the design. Understanding the meaning of color and the cultural use of color and how colors interact is important in website design to convey the right tone and message and evoke the desired response to the site.[95] The wrong choice could adversely affect a visitor’s experience at the site,[96] which could adversely affect a company’s sales and image.
Video Clip 17.13 Color Psychology in Web Design
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
Insights into color and its importance in website design.
Color Perceptions for Business
“The following list provides the traditional meanings of common colors and suggests compatible business usage:
• Pink. Romance, love, friendship, delicacy, feminine; ideal for relationship coaches, florists, and breast cancer awareness sites.
• Purple. Royalty, spiritual, transformation, creativity, new age; ideal for spirituality-based or new age businesses and businesses in the creative realm.
• Blue. Solid, communication, calm, wisdom, trust, reassuring; ideal for financial businesses, insurance companies, and lawyers.
• Green. Growth, money, abundance, fertility, freshness, health, environment; ideal for grocers, environmental businesses, therapists, healthcare businesses.
• Red. Energy, strength, passion; ideal for bold businesses based on power and for professionals; use in combination with black.
• Black. Power, sophisticated, elegant, formal, style, dramatic, serious; ideal for fine dining establishments; commonly used as an accent color.
• Gold and yellow. Wealth, wisdom, prestige, power, energy, joy, clarity, light, intelligence, optimism; ideal for the construction industry.
• White. Purity, goodness, simplicity, clean; ideal for almost every business.
• Brown. Friendship, earthy, comfort, content, reliable, sturdy; ideal for businesses involved in administrative support.
• Orange. Vibrant, enthusiasm, energy, warmth; ideal for creative businesses and teachers.
• Gray. Security, staid, quality, professional, stable; ideal for the legal industry.”[97]
Typography
Typography is the art of designing a communication by using the printed word.”[98] More specifically, it is the use of typefaces (or fonts) in a design. Typeface refers to a particular type or font (e.g., Times New Roman and Arial). Typography is an integral part of web design and plays a role in the aesthetics of the website.[99] About 95 percent of the information on the web is written language, so it is only logical that a web designer should understand the shaping of written information (i.e., typography).It is possible to blow away more than 50 percent of website visitors and readers by choosing the wrong typeface.[101]
Graphics
Graphics defined as pictures, artwork, animations, or videos, can be very effective if used correctly. Graphics can provide interest, information, fun, and aesthetics, but they can also take forever to load, be meaningless or useless, not fit on the screen, and use colors that are not browser safe colors (i.e., colors that look the same on PC and Macintosh operating systems). Images enhance a web page, but they should be selected and placed carefully.
Graphics should be used to “convey the appropriate tone of your message. As the old saying goes, a picture is worth a thousand words. Make sure your images correspond to the text and are appropriate to the business you offer. For example, an audiologist shouldn’t use a picture of a woman holding her glasses because the spotlight should be on hearing.”[102] Graphics should also help create a mood, or a sense of place. The use of the graphics has to be thoroughly considered because they slow the loading of a website.[103]
It has been shown that quality images boost sales and enhance the visitor experience. “Consumers who browse products on websites want to see the products they’re considering for purchase represented by the highest quality image possible…People do not buy what they cannot see, so the higher the quality and resolution of [the] imagery, the better [the] results will be.”[104] The key for any small business that wants graphics on its website is to consider how the graphics will add value to the user experience. The graphics should be for the direct benefit of the user, not the business. Do not get carried away with lots of images and animations because they can make a web page very hard to read. Graphics are a major part of the design, not just afterthoughts.[105]
Site Navigation
People will not use a website if they cannot find their way around it. If web users cannot find what they are looking for or figure out how the site is organized, they are not likely to stay long—or come back.[106] “The purpose of site navigation is to help visitors quickly and easily find the information they need on a website. Among the questions considered in site navigation are, How will visitors enter a site? How will visitors use the site? How will they find out what is available at the site? How will they get from one page to another and from one section to another? How will visitors find what they are looking for?”[107]
Site navigation must be easy, predictable, consistent, and intuitive enough so that visitors do not have to think about it.[108] “Designing effective navigation can also entice your visitors to try out the other things you offer on your site.”[109] The key to understanding navigation is to realize that if it is too hard to use or figure out, web visitors will be gone in a nanosecond, perhaps never to be seen again. What does this mean to a small business? Lost sales and lost opportunities.
Site Usability
A website’s usability, or ease of use, “can make or break an online experience, and it is directly correlated to the success of the site.”[110] Website usability measures the quality of a user’s experience when interacting with a website,[111] and it works hand in hand with site navigation. According to usability.gov, usability is a combination of five factors:
1. Ease of learning. How fast can a user who has never seen the user interface before learn it sufficiently well to accomplish basic tasks? The user interface is the way a person interacts with a website.[113]
2. Efficiency of use. Once an experienced user has learned to use the website, how fast can he or she accomplish tasks?
3. Memorability. If a user has used the website before, can he or she remember enough to use it effectively the next time or does the user have to start over again learning everything?
4. Error frequency. How often do users make errors while using the website, how serious are these errors, and how do users recover from these errors?
5. Subjective satisfaction. How much does the user like using the website?
Usability is necessary for survival on the Internet. If a website is difficult to use, people will leave,[114] and they may be inclined to tell everyone they know on Facebook and Twitter about their negative experiences. It is as simple—and as serious—as that. Small-business owners should consider post-launch usability testing to help ensure the best user experience. Three free tools are HubSpot’s Website Grader, SiteTuners, and Google Analytics.
Site Interactivity
Site interactivity is about things on a company’s website site that prompt some kind of action from visitors.[115] Visitors become engaged with the site, they stay longer, they look deeper into the site to see what the company is offering, they are less likely to jump to another site, and they feel that they are part of a community and connected. This will keep them coming back to the site.[116]
There are many ways in which a small business can provide interactivity on its site. The following are some examples:
• Free calculators for calculating payments when something is being financed
• Surveys, polls, or quizzes
• Blogs, bulletin boards, and discussion forums
• Facebook and Twitter links
• Searchable database of frequently asked questions
• Site search engine
• Interactive games, puzzles, and contests
• Articles that engage visitors, allowing them to add comments or opinions
• Three-dimensional flip-books (e.g., Gorenje Kitchens showcase a range of products, thus engaging the visitor while flipping through the book.)
The sources of interactivity on a website are limited only by a small business owner’s creativity and, of course, budget. However, it should never be a question of saying yes or no to interactivity. It is a matter of how much, what kind, and where. Remember that when customers feel compelled to do something, they are that much closer to buying.[119]
Content
Content refers to all the words, images, products, sound, video, interactive features, and any other material that a business puts on its website. It is the content that visitors are looking for, and it is what will keep them on the site. High-quality content will also keep people interested so that they come back for more. “A poorly and ineffectively ‘written’ website has an adverse impact on the efficiency of the website. Moreover, it also gives a negative impression of the brand [or company] behind it. Without good ‘content’ a website is an empty box.”[122]
Good content is relevant, customer-centric (i.e., it is written in the language and words of the target audience(s) that visit the website), and complies with what we know about how people read online content. They don’t. They scan it—because it takes 25 percent longer to read the same material online than it does to read it on paper.[123] If a company’s content does not fit its target audience(s), the website will not generate good results.[124]
Most small businesses may think that they must generate all website content. However, some of the best and most successful content may be the easiest to create: the content generated by website users. Interestingly, it is not uncommon for user-generated content to get higher search engine rankings than a business’s home page, not an insignificant fact.[125]User-generated content includes the following:[126]
• Message boards
• Product reviews
• New uses for a company’s products (e.g., using a dishwasher to cook a whole salmon)
• Testimonials or case studies (how users solved problems)
• Social media pages
• Twitter feeds
• Video contest submissions
• Interviews with users
• Online groups or communities such as LinkedIn or Ning
The gold standard of user-generated content is customer reviews. Customer reviews can increase site traffic by as much as 80 percent, overall conversions by 60 percent, and the average order value by 40 percent. With respect to the posting of both positive and negative reviews, it has been shown that “users trust organizations that post both negative and positive reviews of their product if organizations address the feedback constructively.”[127]
There are many factors that will contribute to the success of a small business website. However, the website will not do as well as it should, and it will not reach its full potential, without good quality content.[128]
Video Link 17.3
The Value of the About Page
Why the “About” page is so important to a business website.
videos.smallbusinessnewz.com/2011/01/26/the-value-of-the-about-page
Product Display
How a website displays products will impact the success of the website. As a result, product display should be seen as a website design issue. Key decisions that should be made for each category of product that is available on the website include the choice of which products to feature, how to provide product detail pages (an individual page for each product is preferable because there is more room for product details), the sort options that will be available to the shopper (e.g., price), and where items on special will be placed on the page (the upper right corner is recommended).[129]
Performance
No matter how well designed a website is, and no matter how high the quality of content, a website that takes too long to load will lose visitors. A website’s loading speed determines how fast the pages respond to a user request. Faster site speed is preferred by the users who want an optimal browsing experience, and the small business that wants increasing incoming connections and high sales. Users want faster speeds.[130]
Visiting a fast-loading site is a pleasant experience. Visiting a slow-loading site is not. Surveys now show that a person will wait less than three seconds (perhaps even less) for a webpage to load before leaving, with a one-second delay possibly meaning a 7 percent reduction in sales.[131] Google claims that the amount of site traffic drops by 20 percent for every 0.5 seconds of load time.[132]
There are several factors that slow down the loading time for a website, not the least of which is the connection speed of the user’s computer. This is out of the control of the web designer and the site owner (the small business). The biggest culprit, however, is a large graphic or several small graphics on a single page.[133] There are ways around this, known by any credible website designer. The impact of “slow down” features should be tested before the site launches and monitored afterwards.[134] The small business owner can take advantage of some of the popular tools that are available, usually for free, to measure a company’s website speed: YSlow (a Firefox extension); Google Page Speed (a Firefox add-on); or Webmaster Tools. Once the problem areas have been identified, steps can be taken to make improvements. The goal is to have an interesting and speedy site.
Key Takeaways
• The key element in the marketing mix is the product. Without it, price, promotion, and place are moot.
• All products and services have three layers: core, augmented, and symbolic.
• All small businesses have a product mix, the selection of products or services that is offered to the marketplace.
• Product selection is a key element for online success because some products will sell better online than others.
• Product design is the principal reason for emotional attachment or detachment relative to a product, a service, or an experience. It presents a powerful way to differentiate and position a company’s products and services.
• The product or service package communicates both emotional and functional benefits to the buyer, and it can be an important means of product differentiation.
• A company’s brand is probably its most important asset.
• The product life cycle refers to a product’s life span.
• A company’s website is part of its product or service. Website objectives must be developed and decisions must be made about the fundamental design elements of layout, color, typography, graphics, interactivity, usability, content, product display, and performance.
Exercises
1. Go to “How to Rate a Web Site” at www.newentrepreneur.com/Resources/Articles/Rate_a_Web_Site/rate_a_web_site.html and download the Web Site Scorecard. Select two small business websites or use the websites specified by your professor. Working with the “How to Rate a Web Site” article and the Web Site Scorecard, evaluate the two sites. Be sure to note your impressions about the site’s performance in each area.
2. The Mill has a very basic website: the store’s location, hours, and some of the menu. Emily’s son, Robert, has extensive experience with website design. How do you think he would advise his mother on fully using the website for competitive advantage?
3. For each of the following, describe the core, augmented, and symbolic layers.
1. a gift shop
2. a dry cleaner
3. a dance studio
4. highway paving materials
4. Some marketers believe that product performance (functions) makes the most difference when consumers evaluate products. Other marketers maintain that the looks, feel, and other design elements of products (form) are what really make the difference. Make the case: Product functionality is the key to brand success OR product design is the key to product success.[137]
Marketing Strategy and Price
Learning Objectives
1. Understand the role of price in the marketing mix and to a company.
2. Understand the different pricing strategies that a small business can follow.
3. Understand price-quality signaling and its importance to the pricing decision.
4. Understand that the price of a product or a service lets customers know what to expect from a business.
Marketing, whether online or onground, is the only activity that generates revenue for most small businesses, and the price element in the marketing mix accounts for that. Price can be defined very narrowly as the amount of money charged for a product or a service. However, price is really more than that. It is “the sum of all values (such as money, time, energy, and psychic cost) that buyers exchange for the benefits of having or using a good or service.”[138] Ultimately, the meaning of price will depend on the viewpoints of the buyer and the seller.[139]
Deciding on a price for its products or services is one of the most important decisions that a small business will make. The price of a product or a service must be a price that the company’s target market is willing to pay and a price that generates a profit for the company. If this is not the case, the business will not be around for long.”[140]
Choosing the right pricing strategy is not an easy thing to do because there are so many factors involved. For example, competition, suppliers, the availability of substitute products or services, the target market, the image and reputation of a business, cost and profit objectives, operating costs, government regulation, and differentiation and positioning decisions will all impact price. Pricing is a complex activity, often seen as an art rather than a science. For small businesses that are marketing or want to market online, pricing strategies are even more complicated. For example, online buyers have increasing power that leads to control over pricing in some instances (e.g., online bidding on eBay). There is also price transparency where buyers and sellers can easily and quickly view and compare prices for products sold online, and some companies use dynamic pricing.[141]
There are several pricing strategies available to the small business owner. However, having the lowest price is not typically a strong position for small businesses because larger competitors can easily destroy any small business that is trying to compete on price alone.[142] Think Walmart. The best choice for a small business will be the strategy that helps the business reach its sales and profit objectives, enhances the reputation of the company, satisfies the target market, and sends the correct price-quality signal. Price-quality signaling occurs when the cost of a good or a service reflects the perceived quality of that product or service.[143] However, pricing objectives must be formulated before a pricing strategy can be selected.
Pricing Objectives
Pricing objectives (i.e., what the company wants to accomplish with its pricing strategy) should be related to a company’s objectives and should follow the decision about where a company wants to position its products or services.[144] Different small businesses in the same industry may have different pricing objectives based on size of the business; in-house capabilities; and whether the focus is on profit, sales, or government action.[145]
• Sales-based objectives. Increasing sales volume and market share relative to the competition may involve penetration pricing, where a business prices a new product below that of the competition to quickly penetrate the market at the competitor’s expense, acquire a large market share, and then gradually raise the price. This objective might be appropriate for a small business that is introducing a new product or service to a very competitive marketplace.
• Profit-maximization objectives. Quickly recovering the costs of product development while providing customer value may involve price skimming, where a new product is priced higher than that of the competition to maximize profit. This objective would work for a small business with customers who are more concerned with quality, uniqueness, and status rather than price. However, a product’s image and quality must warrant the high price.
• Status-quo-based objectives. Used to minimize the impact of competitors, government, or channel members and to avoid a sales decline, these objectives are reactive rather than proactive, so they should be adopted for the short term only. Small businesses must be able to meet the needs of their target market.
Pricing Strategy
Once the pricing objectives are set, a small business must determine a pricing strategy. The small business owner can consider a variety of approaches. Discount pricing, cost-based pricing, prestige pricing, even-odd pricing, and geographic pricing are discussed here. In general, traditional pricing strategies can also be applied to the online environment.[146] How goods and services are priced tells consumers a lot about what to expect from a small business.
Discount Pricing
A small business might choose discount pricing, offering quantity discounts to customers who buy in large quantities.[147] if it is looking to drive traffic and sales short term or if it wants to be permanently seen as the value leader in an industry.[148] Discount pricing is used with customers who buy in large quantities, customers who buy during off-peak times (seasonal), promotions used to increase traffic, and loss leaders (products that are discounted to get customers in the door in the hope that they will also buy more profitable products). Discount pricing can be used in the online environment in ways similar to brick-and-mortar stores. If the discounting is short term, inventory can be reduced, and revenues are increased temporarily.[149] An important disadvantage, however, is that customers often associate low price with low quality, particularly if a brand name is unfamiliar. A discount pricing strategy could lead to a product or a service being perceived as low quality. Also, price reductions can be easily matched by the competition, eliminating any but the earliest advantage.[150]
Cost-Based Pricing
Cost-based pricing is a very simple approach. A company figures out how much it costs to make a product or deliver a service and then sets the price by adding a profit to the cost. For example, if it costs a small toy manufacturer \$10 to make its signature stuffed animal (taking into account fixed and variable costs) and the company wants a 20 percent profit per unit, the price to the retailer will be \$12.[151]
Cost-based pricing is very easy to use. It is flexible (allowing different profit percentages to be added to different product lines), allows for easy price adjustments if costs go up or down, and is simple to calculate. On the downside, cost-based pricing ignores product demand, what the competition is doing with pricing, and positioning, and it provides no incentive for cost efficiencies.[152]
Prestige Pricing
Prestige pricing (or premium pricing) taps into the belief that a high price means high quality. Although this relationship exists in many instances, it is not true in all cases. Nonetheless, prestige pricing is “a strategy based on the premise that consumers will feel that products below a particular price will have inferior quality and will not convey a desired status and image.”[153] A small children’s clothing store that carries only top-of-the-line merchandise would use a prestige pricing strategy. Clothing from this store would be seen as having a higher perceived value than clothing from Macy’s but perhaps comparable in value to clothing from Bloomingdale’s, Nordstrom, or Neiman-Marcus.
Prestige pricing can be very effective at improving brand identity in a particular market. However, it is not typically used when there is direct competition because such competition tends to have a downward effect on pricing. Unique products usually have the best chance of succeeding with prestige pricing.[154]
Even-Odd Pricing
Also known as the “nine and zero effect,”[155]Even-odd pricing can be used to communicate quality or value. It assumes that consumers are not perfectly rational, which is true. Emotion plays a much larger role in consumer behavior than rationality.
Even-numbered pricing, or setting selling prices in whole numbers (e.g., \$20), conveys a higher-quality image. A small, high-end gift shop, for example, would use even pricing for most if not all its products, with odd-numbered prices (e.g., \$18.97) used for products that are on sale. Odd-numbered prices give consumers the impression that they are getting a great value. It is a psychological effect with no basis in logic. But it does work in practice.
Geographic Pricing
Some small companies will use a geographic pricing strategy. This pricing strategy takes the geographic location of a customer into consideration, the rationale being that distribution can increase product delivery costs and thus the cost of the product.[156] Taxes, the cost of advertising, competitors who benefit from government subsidies, consumer demand, differences in costs of living, and the general cost of doing business are other factors that enter into the decision to use geographic pricing. Small businesses that sell outside the United States would likely encounter the need for geographic pricing. This strategy might also be appropriate when selling in different states.
Key Takeaways
• Marketing is the only activity that generates revenue for most small businesses.
• Price accounts for revenue.
• Determining a price for its products or services is one of the most important decisions that a small business will make.
• There are many factors involved in choosing the right pricing strategy.
• Having the lowest price is not typically a strong position for small businesses.
• Pricing objectives should be created before a pricing strategy is selected.
• In general, traditional pricing strategies can be applied to the online environment.
• Discount pricing, cost-based pricing, prestige pricing, even-odd pricing, and geographic pricing are pricing strategies that can be considered by a small business.
• How goods and services are priced tells consumers a lot about what to expect from a small business.
Exercises
1. The Mill is planning to significantly expand its takeout business. Currently, customers come into the restaurant and order from the menu. With the new Summerside facility and website, customers will be able to order online or fax an order to the restaurant. Emily and Robert have been arguing over how to structure the takeout portion of their operations. Emily wants to maintain the approach where customers order items from the menu. Robert believes that in today’s world, it would be more convenient for customers to order complete prepackaged meals. Mother and son have argued about the nature of these meals. Emily has suggests a limited number of standard meals that could be prepared during the day and sold in the evening when commuters are returning home. However, this might mean that excess inventory would be built up on unwanted items. Robert wants to offer greater variety. These would include a main course, two side dishes, and a dessert. Because there could be a large number of combinations, most would have to be made after the receipt of an order. The “rush” to make these meals would drive up costs. How would you go about pricing these two types of meals?
2. Visit two small businesses—one that you think would use even-numbered pricing and one that you think would use odd-numbered pricing. Were you right? If not, how would you describe their pricing strategies? Be as specific as you can.
3. Visit NapaStyle, and analyze its pricing strategy.
4. Select a product or a service that you purchased recently from an onground small business and an online small business. The two businesses should be different. Evaluate the price that you paid. What appears to be the pricing strategy of each business? Do you think the price was fair? Why or why not? How would you assess the value that you received for the price you paid?Adapted from David L. Kurtz, Contemporary Business (Hoboken, NJ: John Wiley & Sons, 2011), 488.Tip: If you are not sure whether an online business can be considered a small business, type in the name of the business plus “corporate HQ” into Google or your preferred search engine. The search should return results that include the number of employees. As long as the company has fewer than five hundred employees, you are all set.
Marketing Strategy and Place
Learning Objectives
1. Understand the role of place in the marketing mix and the importance of place to a company.
2. Understand the different distribution strategies that a small business can follow.
3. Explain the importance of logistics to small businesses.
No matter how great a product or a service may be, customers cannot buy it unless it is made available to them onground or online or both. This is the role of the place in the marketing mix—to get a product or a service to the target market at a reasonable cost and at the right time. Channels of distribution must be selected, and the physical distribution of goods must be managed
Channels of Distribution
A small business may choose the direct, retail, wholesale, service, or hybrid channels. In general, business-to-business (B2B) distribution channels parallel those of business-to-consumer (B2C) businesses.
Direct Channel
Many small businesses use the direct channel. The direct channel involves selling directly to the final consumer with no intermediaries. The direct channel provides close contact with the customer and full control of all aspects related to the marketing of a company’s products.[157] The Sugar Bakery & Sweet Shop in East Haven, Connecticut (winner of the Food Network’s 2010 “Cupcake Wars”), uses the direct channel, as does the local farmer when selling fruits and vegetables to the local population. Michael Dell started out by selling computers from his dorm room, and the founders of Nantucket Nectars began their business by selling their home-brewed fruit drinks to boaters in Nantucket Harbor. Many B2B sellers also use the direct channel. Consolidated Industries, Inc., for example, sells helicopter parts directly to Sikorsky Aircraft and airline parts directly to Boeing.
Video Clip 17.14 Sugar Bakery & Sweet Shop
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The story of the winner of the Food Network’s 2010 “Cupcake Wars.”
Video Link 17.4 iPhone App Beefs Up Sausage Sales
How an iPhone app has made business easier and better for a mobile sausage vendor.
money.cnn.com/video/technology/2010/09/16/t_turnaround_lets_be_frank_square.cnnmoney
Service businesses use the direct channel because there is no way to do otherwise. Services are performed and consumed at the same time, so there is no role for intermediaries. Tanning salons, home repair services, legal services, real estate services, and medical services all deliver directly to the consumer. Online services are also delivered directly to the final consumer, such as Carbonite and Legal Zoom.
The Internet has increased the opportunities for small businesses to use the direct channel as the only means of distribution or as an additional sales channel For example, Vermont Teddy Bear in Shelburne, Vermont, uses the Internet as its primary sales channel. Its only other channel is its onground factory tours that are offered year-round.
Video Clip 17.15 Vermont Teddy Bear Company
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How the company started and how it has grown. It now makes 5,000 bears a day.
Retail Channel
Many small businesses may choose to produce or manufacture products and distribute them to retailers for sale. This is considered an indirect channel, because the retailer is an intermediary between the producer or manufacturer and the final consumer. If a small business that makes one-of-a-kind, handcrafted picture frames sells its frames to a picture-framing business that in turn sells the frames to its customers, this would be an example of using the retail channel. An online business that sells products made by several producers or manufacturers would also be using the retail channel—and would be called an e-tailer.
Video Clip 17.16 Future Vision of Retailing
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Microsoft’s vision of future retailing.
Video Clip 17.17 YOUReality Retail Visualization Product
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A new software product that enables customers to interact with products in their own space—really, really cool.
Although selling through retailers may expand the distribution coverage to a small business’s target market, the business must give up some control over pricing and promotion. In addition, the business should expect to get a wholesale price from the retailer that is significantly lower than what it would get if it sold directly to the final consumer.
Wholesale Channel
Wholesalers, a (large or small) business that sells to retailers, contractors, or other types of businesses but not to the general public are also intermediaries. A wholesaler is “a [large or small] business that sells to retailers, contractors, or other types of businesses (excluding farms), but not to the general public (or at least not in any significant amount).”[158] A small business that chooses to use wholesalers is also using an indirect channel of distribution. Using a wholesaler makes sense when a business makes a product that it wants to sell in many stores that would not be easily or conveniently reachable through the direct channel or the retail channel. For example, Kathleen King’s small gourmet baked goods company (now known as Tate’s Bake Shop) earns much of its annual revenue from the wholesale distribution of its baked goods to approximately one hundred gourmet shops on Long Island, in New York City, and in other states.[159] Her products can be viewed online at www.tatesbakeshop.com, and her story—including some valuable business lessons that she learned along the way.
Video Clip 17.18 Tate’s Bake Shop
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The story of Kathleen King’s gourmet baked goods business—and some important business lessons learned.
Although any small business that uses wholesalers will see a reduction in profit, there are several advantages to wholesaling. For example, wholesalers are able to sell and promote to more customers at a reduced cost, they can deliver more quickly to buyers because wholesalers are closer to them, and wholesalers can inventory products, thereby reducing inventory costs and risks to their suppliers and customers.[160] Small businesses that produce only one or a few products commonly use the wholesale channel of distribution. Retail outlets may not be placing orders from the small business because it is not known. The wholesaler can put the product in front of them.[161]
Multichannel Distribution
A small business may choose a multichannel distribution system (or hybrid channel). This channel option uses two or more channels of distribution to reach one or more customer segments, offering customers multiple purchase and communication options. The multichannel approach offers three important advantages:[164]
1. Increased market coverage. More customers are able to shop for a company’s product in more places, and customers who buy in more than one channel are often more profitable than one-channel customers.
2. Lower channel cost. Selling by phone or online is cheaper than selling via personal visits to small customers.
3. More customized selling. A technical sales force could be added to sell more complex equipment.
The hybrid approach works well for small businesses. Tate’s Bake Shop sells directly through its store in Southampton, New York, and online. It sells indirectly to gourmet retailers such as Sugar and Spice in Chappaqua, New York, through its wholesalers. Local restaurants also use the multichannel approach when customers can order online or by phone and then pick up the food at the restaurant.
Physical Distribution (Logistics)
Physical distribution (logistics) involves “all the activities involved in the physical flow and storage of materials, semifinished goods, and finished goods to customers in a manner that is efficient and cost effective.”[165] Logistics can be performed by the producer or the manufacturer, intermediaries, or the customer. Deciding on the right logistics solution may be the differentiator that puts a company ahead of its competition.[166] Logistics are relevant to both online and onground companies.
The costs of logistics can account for as much as 10–35 percent of a company’s gross revenues, so any money that can be saved can lead to more affordable products for consumers and increased profitability. The costs will vary by several factors (e.g., industry sector, company location, and company size). Retailers that offer a wide assortment of products will spend more on logistics because transportation and storage costs will increase as the number of carried products increases.[167]
Video Clip 17.19 Logistics
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UPS Commercial: We Love Logistics. A fun insight into what logistics are all about.
Logistics involve the following four primary functions: transportation, warehousing, inventory control, and order processing.[168]
1. Transportation. The transportation choices for a small business will determine whether products will arrive at their destination in good condition and on time. Transportation costs will increase product price. The choices include truck, rail, air, water, and pipeline. Table 17.1 “Characteristics of Different Modes of Transportation” compares these choices. The selection of the best mode or combination of transportation modes depends on a variety of factors, including cost, speed, appropriateness for the type of good, dependability, and accessibility. All these things will affect customer value and customer satisfaction.
Table 17.1 Characteristics of Different Modes of Transportation
Mode Percentage of Total Transportation Cost Speed Product Examples*
Rail 42 Medium Lower Coal, stone, cement, oil, grain, lumber, and cars
Truck 28 Higher Higher Perishables, clothing, furniture, and appliances
Pipeline 16 Lower Low Oil, gas, chemicals, and coal as a semifluid
Water 13 High Low Coal, stone, cement, oil, grain, and cars
Air 0.4 High High Jewelry, perishables, electronics, wine, and spirits
*Small businesses are represented in each of the product examples given.
1. Warehousing.[170] Producers and manufacturers must store goods before they are sold because production and consumption rarely match. Some inventory may be kept at or near the point of production or manufacture, but the rest is located in warehouses. Some warehouses also provide assembly, packaging, and promotional display construction services…all for a fee, of course.
2. Inventory controlInventory control is about ensuring that goods are where customers want them when they want them. In other words, it is about avoiding the “out of stock” situation that irritates customers. Small-business owners must understand how much inventory will be needed to address their customers’ needs on a timely basis and at the appropriate cost (think pricing strategy). High inventories are undesirable because they may lead to obsolete products, depressed sales of new models, and liquidation prices that may change customer expectations in the future.[171] Small businesses should think of inventory as a wasting asset: it does not improve with time and, in fact, becomes less valuable with every day that passes—taking up space and incurring heat, light, power, handling, and interest charges. Every day that shows inventory and no sales will also show no profit. The goal is to keep inventory as low as possible.[172]
3. Order processing.[173] Every small business should want to shorten the elapsed time between an order’s receipt, delivery, and payment. Although there are typically multiple steps involved, the reality is that the longer the cycle, the lower the customer’s satisfaction, the higher the company’s costs, and the lower the company’s profits. Streamlining the process should be a priority.
There are several things that small businesses can do to increase the efficiency and the effectiveness of their logistics.[174] For example, a business can select a logistics company that is industry specific (e.g., wine or clothing) because that company will understand the shipping needs of the products or use small business logistics services from UPS or FedEx.
Logistics management also includes supply chain management.
Place and the Website
For small businesses that sell online or hope to sell online, the company website “places” the product or the service in the hands of the customer. As a result, there are several decisions that must be made to facilitate the process so that customers can have a good online experience and be less inclined to abandon their shopping carts and leave the site without making a purchase.
• Better sorting and searching. Make it easier for shoppers to find what they are looking for.
• Multibrand combinations in a single cart. If multiple brands are carried, make it possible to combine shopping carts across brands and apply promotions on the entire cart.
• Clarity on price and delivery rate. Prices and delivery rates should be marked clearly, with no ambiguity.
• Multiple payment options. Offer more than credit cards. (See Chapter 4 “E-Business and E-Commerce” for a discussion of payment options.)
• Check-out options. Do not require a customer to register before completing checkout.
• Provide a product search engine. The larger and more complex the product selection, the more a product search engine is needed. Shoppers can search by product name; product type; price; product attributes, such as color, size, or material; or brand either alone or in combination.
• Two clicks to buy. The fewer the number of clicks to buy, the greater the chances that a shopper will do just that.
• Customer support. Offer customer support throughout the buying process. Make it easy to communicate with a real person; spell out the company’s warranty, refund, and return policies; ensure privacy and security; and let shoppers know if you put cookies on their computers.
• Fulfilling orders. Ideally, send each customer an e-mail confirming when the order is completed, remind the shopper to print the order details, and provide a tracking number with a direct link to the carrier’s website so that the shopper can follow the progress of shipment.
Shopping cart abandonment, or leaving a website without buying any of the items in the shopping cart, is something that affects almost every Internet retailer, including small businesses. Cart abandonment estimates range from 20 percent to 60 percent.[177] An understanding of why shoppers are abandoning their carts should lead to some serious thinking during website design and operation. Table 3.2 “Why Online Shoppers Abandon Their Shopping Carts” gives examples of why shoppers abandon a purchase. Because shipping is the number one reason why shoppers abandon their shopping carts, think very carefully about what the shipping charges will be.[178]
Table 17.2 Why Online Shoppers Abandon Their Shopping Carts
High shipping charges 46%
Wanted to comparison shop 37%
Lack of money 36%
Wanted to look for a coupon 27%
Wanted to shop offline 26%
Could not find preferred payment option 24%
Item was unavailable at checkout 23%
Could not find customer support 22%
Concerned about security of credit card data 21%[179]
Key Takeaways
• Understand that place is about getting the product or the service to the target market where customers want it, when they want it, and at a reasonable cost.
• A small business may choose the direct, retail, wholesale, service, or hybrid channels or some combination of these channels.
• In general, B2B distribution channels parallel those of B2C businesses.
• The direct channel involves selling to the final customer with no intermediaries involved.
• Service businesses use the direct channel only because services are performed and consumed at the same time.
• The retail channel is considered indirect because the retailer is an intermediary between the producer or manufacturer and the final customer.
• The wholesale channel is also an indirect channel. The wholesaler is placed between the producer or manufacturer and the retailer.
• The multichannel distribution system (hybrid channel) uses two or more channels to reach one or more customer segments.
• Logistics are about getting materials, semifinished goods, and finished goods to customers efficiently and cost effectively. They can be handled by the producer or the manufacturer, intermediaries, or the customer.
• Logistics include decisions related to warehousing, transportation, inventory control, and order processing. These decisions are relevant to both online and onground companies.
• Websites play an important role in “placing” goods and services into the hands of customers.
• It is important to reduce the number of customers who abandon their shopping carts (i.e., leave the website without purchasing the items in their shopping carts).
• Shopping cart abandonment is common among online retailers. Shoppers abandon their carts for a variety of reasons, the most important one being high shipping charges.
Exercises
1. Assume that you own a small business that specializes in gift baskets for children. You have been satisfied with your success so far but are anxious to spread your wings. You sell online as well as onground and have received several notes from potential online customers expressing their disappointment that you distribute the gift baskets only in the Charlottetown area. You have decided to find out what logistics would be involved in shipping to Nova Scotia; Newfoundland; Quebec; and British Columbia. Discuss the transportation mode(s) that would best fit your company for each area.
2. Visit Levenger, Carbonite, and ZipCar. How do these small businesses get their products or services “into the hands” of the customer? Think broadly and creatively.
Marketing Strategy and Promotion
Learning Objectives
1. Understand the role of promotion in the marketing mix and its importance to a company.
2. Understand the different ways that a small business can promote its products or services.
3. Explain the differences and similarities in the marketing communications mix of online and onground businesses.
Promotion, the fourth P in the marketing mix, is now more commonly referred to as marketing communications. Marketing communications can be defined as “the means by which firms attempt to inform, persuade, and remind customers—directly or indirectly—about the products and brands they sell. In a sense, marketing communications represent the ‘voice’ of the company and its brands and are a means by which it can establish a dialogue and build relationships with consumers.”[180] Marketing communications are all about getting the word out about a company’s products and services because customers cannot buy what they do not know about, and, in the process, creating more of a two-way relationship with customers than was typical of the more traditional notion of promotion. A further conceptual iteration is the term integrated marketing communications (IMC) which is “[T]he coordination and integration of all marketing communication tools, avenues, and sources within a company into a seamless program designed to maximize the communication impact on consumers, businesses, and other constituencies of an organization.”[181] Small-business owners should be familiar and comfortable with all three terms because at least one of them will be the basis of conversations with vendors, employees, and other businesses. However, from a small business management perspective, IMC should be the guiding philosophy for a company.
Prior to selecting and designing any communications, however, objectives must be established for the marketing communications program.
IMC Objectives
Every small business must decide what it wants to accomplish with its IMC plan. Although many IMC plans may be oriented toward a single objective, it is possible for a program to accomplish more than one objective at a time. The problem is that this may be confusing to potential customers.[182] IMC objectives can fall into seven major categories: increase demand, differentiate a product (stressing benefits and features not available from competitors), provide more information about the product or the service (more information seen as being correlated with greater likelihood of purchase), build brand equity (the value added to a brand by customer perceptions of quality and customer awareness of the brand), reduce purchase risk (important for new products and gaining new customers of current products), stimulate trial (to build new brands and rejuvenate stagnant brands),[183] and brand recognition. As with all objectives, IMC objectives must meet the SMART (specific, measurable, achievable, realistic, and time-based).
Marketing Communications Mix
The marketing communications mix for a small business, either pure-play or brick-and-click, will consist of some combination of the following major modes of communication: advertising, sales promotion, events and experiences, public relations (PR) and publicity, direct marketing, interactive marketing, word-of-mouth communication, and personal selling.[184] Each mode of communication has its own advantages and disadvantages, which should all be considered carefully before any final selections should be made.
Advertising
Advertising is “any paid form of nonpersonal presentation and promotion of ideas, goods, or services by an identified sponsor.”[186] Advertising is around us all the time—for example, ads are on television and radio, in newspapers and magazines, in train stations and on trains, on the sides and inside of buses, in public restrooms, in taxis, on websites, and on billboards. Ads can also be found in other places, and the locations are limited only by the creativity of the company placing the ads.
Small businesses must choose advertising media (e.g., radio, television, newspapers, billboards, the Internet, and magazines) based on its product, target audience, and budget. A local travel agency selling spring getaways to college students, for example, might post flyers on campus bulletin boards, run ads in the campus newspaper (for the students) and local newspapers (for the parents), and run ads on the college radio station. Examples of tried and true advertising media for small businesses include the yellow pages, newspaper and magazine advertising, direct mail, business cards, vehicle advertising, radio and cable television advertising, bench/bus stop advertising, local website advertising, e-mail advertising, eBay listings, community involvement, and cross-promotion (joining forces with other businesses). Even advertising in the big leagues is not out of the question for a small business. Salesgenie.com decided to advertise during Super Bowl XLII in February 2008, choosing to risk major capital to connect with the huge Super Bowl customer base.[189]
Advertising on the Internet is also a consideration for the marketing communications mix of any business with a web presence. According to Lorrie Thomas, author of Online Marketing,[190] online advertising “can rocket your web marketing into the stratosphere” if it is done correctly. If not done correctly, however, it will “blast a giant crater in your budget.” Online advertising includes the following entities: banner ads (image ads that range in size and technical capability); e-mail advertising (ads in newsletters, an ad in another company’s e-mail, e-mailing a list with a dedicated message, or a company advertising to its own customers with its own e-mail list); news site advertising (placing ads on news, opinion, entertainment, and other sites that the audience frequents); blog advertising (buying ads directly on popular blogs); social media advertising (advertising on sites such as Twitter, Facebook, and LinkedIn); and affiliate marketing (company A places an ad for its product on the site of company B; company A then pays company B an agreed-on fee when a customer clicks on the ad and buys something).[191] Another possibility is Google AdWords. A small business can promote itself alongside relevant Google search results and on Google’s advertising network. This allows a business to reach people who are already looking online for information about the products and services that a business offers.[192]
Video Link 17.5 Attracting Consumer Attention through Advertising
Relating ads to the target market, making ads appealing, and including the element of surprise.
videos.smallbusinessnewz.com/2011/01/31/attracting-consumer-attention-through-advertising
Advertising offers several advantages to the small business. For example, advertising is able to reach a diverse and geographically dispersed audience; it allows the seller to repeat a message many times; and it provides the opportunity for dramatizing the company and its products through the artful use of print, color, and sound. However, the audience does not feel obligated to pay attention or respond to an ad.[193] Whether the advantages of advertising outweigh the costs and disadvantages is something that must be decided by each small business.
Sales Promotion
Given the expense of advertising and the fact that consumers are exposed to so many advertising messages every day, many companies correctly believe that advertising alone is not enough to get people to try a product a product or a service. Enter lower-cost sales promotion techniques. Sales promotion refers to the variety of short-term incentives to encourage trial or purchase of a product or a service. Examples of commonly used sales promotions include contests, sweepstakes, coupons, premiums and gifts, product samples, rebates, low-interest financing, price discounting, point-of-sale displays, and frequent user or loyalty programs. These promotions can be used by and offer several advantages to small businesses:[196]
• Attracting new customers with price. A reduced price could lure customers away from the competition. For example, a small electronics store that is competing with a large retailer could offer a discounted price on a popular cell phone for a limited time.
• Gain community favor. By offering a promotion that helps a worthy cause, you can create a good name for the business. Donate a portion of sales to the local food bank, buy clothing for the homeless, or donate to the local animal shelter to help pay veterinarian bills.
• Encourage repeat purchases. Rewards and loyalty programs can be very successful for small businesses. Coffee clubs are popular (buy so many coffees at the regular price and you get one cup free), but this approach can work for sandwiches at a deli, bags of bird food or dog food at the local pet store, shoe repairs at the local cobbler, dry cleaning services, and virtually any other kind of business.
• Entice reluctant customers. Giving away a free product or service is usually a good way to get people to try a product or a service for the first time, the hope being that it will lead to a purchase. However, the product or the service has to be good enough to stand on its own so that when the “free” unit is gone, the person will come back to buy.
• Providing information. It can be very effective if you run a promotion that helps provide information to potential customers to help them make a decision. This works especially well for products or services that are complicated or unfamiliar to customers, for example, software or product usage (particularly for business-to-business [B2B] customers), financial services, investment services, or estate planning. Free onground seminars or webinars or webcasts (seminars or presentations that are delivered online and that are typically an hour in length) can be very effective at gaining new customers or clients.
Sales promotions can be delivered to the customer in a variety of ways, such as snail mail (US Postal Service), in person, in local new newspapers and regional editions of national magazines, on television and radio, in e-mail, on websites, and in electronic coupons that are sent to a customer’s mobile device. Groupon, which is described as the hottest thing in retail marketing right now, offers customers coupons at local businesses: everything from restaurants to spas to painting lessons to sleigh rides.
Video Clip 17.20 Learn How Groupon Works!
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
A hot new source of coupons for local businesses.
Events and Experiences
Events and experiences are “company-sponsored activities and programs designed to create daily or special brand interactions.”[197] A small business could choose to sponsor a Halloween costume event for pets,[198] or an entertainment event, such as a battle of the bands, to raise money for local scholarships. Participation in a local business fair could provide exposure for a product or a service and the opportunity to experience the product if that is possible. A local restaurant could participate in a chili competition. Factory tours and company museums, both of which can also be virtual, can offer great experiences for customers.
There are several advantages to events and experiences:[199] (1) A well-chosen event or experience can be very effective because the consumer gets personally involved. (2) Experiences are more actively involving for consumers because they are real time. (3) Events are not hard sell, and most consumers will appreciate the softer sell situation.
Events and experiences also tap into the importance of the customer experience. Today, customers “[W]ant products, communications, and marketing campaigns to deliver experiences. The degree to which a company is able to deliver a desirable customer experience—and to use information technology, brands, and integrated communications and entertainment to do so—will largely determine its success.”[200] By having special events, a small business will stand out from the rest:[201] and they will create desirable publicity for the company.
Public Relations and Publicity
Public relations (PR) and publicity are designed to promote a company’s image or its individual products.[202] A small business can also use PR to clarify information in response to negative publicity. Publicity usually being “an outcome of PR that is produced by the news media and is not paid for or sponsored by the business involved.”[203] Traditional PR tools include press releases and press kits that are sent to the media to generate positive press on behalf of the business. A press kit, the most widely used PR tool, pulls together company and product information to make a good, solid first impression.[204] A press kit can be particularly useful for small businesses, although the smallest of businesses may not see the need. Other common platforms include speeches, seminars (online and offline), brochures, newsletters, annual reports, charitable donations, community relations, and company magazines.[205] Increasingly, companies are using the Internet: interactive social media, such as blogs, Twitter, and Facebook; home-page announcements for specific occasions (e.g., messages of sympathy for the victims of a disaster); and e-mail.
Social media services such as Google Alerts and TweetBeep can be very helpful for managing a company’s reputation. Reputation management “[I]s the process of tracking other’s opinions and comments about a company’s actions and products, and reacting to those opinions and comments to protect and enhance the company’s reputation.”[206] Both services notify the business when the company name is mentioned. Addressing extremely negative comments immediately is very important for any small business with a web presence.
Most small businesses are not likely to have PR departments. Instead, there will be one person whose job includes—among many other things—PR and publicity. The key is for PR and marketing to work closely together so that “every piece of communication produced by the company speaks with one voice.”[207]
Getting publicity for a small business is usually free. Stories about events and experiences might be of interest to the media. One great idea is to have a group of people outside the business with positive picketing, holding signs such as “Low prices” or “Beware of friendly employees.” This was actually done by a small business, and it resulted in the business being on the front page of the local paper.[208]
Video Link 17.6 Obtaining Publicity for a Business
Information and tips for small businesses.
videos.smallbusinessnewz.com/2009/08/28/obtaining-publicity-for-your-business
PR and publicity tend to be underused by all businesses. However, PR and publicity should be particularly appealing to the small business because of the following three distinct qualities:[209]
• High credibility. News stories and features are more authentic and credible to readers.
• Ability to catch buyers off guard. PR can reach prospects who prefer to avoid salespeople and advertisements.
• Dramatization. PR has the potential for dramatizing a company or a product.
Direct Marketing
Direct marketing is the “promotion of a product from the producer directly to the consumer or business user without the use of any type of channel members.”[210] Common direct marketing platforms include catalogs; direct mailing; telemarketing; television shopping; electronic shopping; fax mail; voice mail; blogs; websites;[211] E-mail; direct response radio, television, and Internet;[212] Social media, such as Facebook and Twitter; and mobile devices. Because channel members are bypassed, direct marketing normally allows for greater profitability; perhaps more importantly, however, it can develop stronger brand loyalty with customers.[213]
Video Link 17.7 What Is Direct Marketing?
A brief explanation of direct marketing.
www.videojug.com/expertanswer/small-business-advertising/what-is-direct-marketing
Direct marketing is about using information to educate, establish trust, and build a company (or someone in it) as an authority. This can be accomplished in multiple ways, such as website copy, a one-time piece of direct mail, a series of articles that build on one another,[214] a webcast or webinar, or a blog. There is no one more qualified to educate the market about a need than a small business owner: “They’re the ones who will know their audience and what they’ll find unique, irresistible and compelling. They’re the best people to craft the message. Everything else in the organization can be outsourced, but the knowledge that a small business owner has about the people they serve, that can’t be replicated.”[215]
Direct marketing offers several advantages to both the business-to-consumer (B2C) and B2B small businesses:[216]
• Flexible targeting. A business can identify, isolate, and “talk” with well-defined target markets. This can translate into a higher conversion and success rate than if you tried to communicate with everyone in the mass market.
• Customized messages. Can be prepared to appeal to the addressed individual.
• Up-to-date. Messages can be prepared quickly.
• Multiple uses. Direct marketing can be used to sell, but it can also be used to test new markets, trial new products or customers, reward existing customers to reward loyalty, collect information for future campaigns, or segment a customer base.
• Lower cost per customer acquisition. The cost can be significantly less than other marketing methods.
• Control and accountability. Direct marketing offers great control and accountability than other marketing methods.
• Swift and flexible. Direct marketing is swift and flexible in achieving results.
Interactive Marketing
Interactive marketing refers to “[O]nline activities and programs designed to engage customers or prospects and directly or indirectly raise awareness, improve image, or elicit sales of products and services.”[217] Everything is personalized and individualized—from the website content to the products being promoted.[218] The audience is engaged with the brand, with customers getting the chance to reshape and market it in their own unique way.[219] Forrester Research forecasts that interactive marketing expenditures will reach \$55 billion by 2015, accounting for 21 percent of all expenditures on marketing. The greatest growth is projected to come from social media, with the next biggest growth sector being mobile marketing.[220]
Common interactive marketing tools include e-mail, websites, online shopping, videos, webinars and webcasts, blogs, and social media such as Facebook and Twitter. Because e-mail, websites, online shopping, webinars and webcasts have been mentioned previously, the focus here will be on videos, blogs, and social media. Using online videos has become an increasingly popular strategy in small business marketing. Consumers are much more likely to visit a company after viewing its video, and they can be up to 40 percent more likely to make some sort of contact.[221] Online video content is becoming increasingly popular with avid Internet users, so a small business should consider creating a video for its website. The content can be created easily, and it can be posted on the company’s website as well as in other locations on the Internet (YouTube or on the company’s blog, for instance) to get more page views.[222] According to Ad-ology’s 2011 Small Business Marketing Forecast, 45 percent of US small businesses with fewer than 100 employees plan to use online video. This reflects the fact that small businesses are becoming increasingly savvy about how to use the Internet to market their products and services.[223]Paul Bond Boots, a small US maker of custom-made cowboy boots that are individually handmade to fit, features five really cool videos on its website. Recently, the company has turned to the Internet for most of its sales.
A blog “is a web page made up of usually short, frequently updated posts that are arranged chronologically—like a what’s new page or a journal.” Business blogs, as opposed to personal blogs, are used as a company communication tool to share a company’s knowledge and expertise, build additional web traffic, connect with potential customers, develop niche markets, give the business a human face, help reputation management, and provide a free avenue for press releases.[224] For an example, visit Michael Chiarello’s blog at www.michaelchiarello.com. If his name is not familiar, he is the founder of NapaStyle, a high-end small business retailer with both an onground and online presence.
Blogs are fairly simple to set up, and they are a great way to keep website content fresh. However, even though small businesses hear much about blogs these days, creating one must be considered carefully. Blogs today “have evolved into multimedia communities where bloggers (and the blogging community) have grown in size, stature, and impact to eclipse all but the largest media outlets.”[225] But this does not mean that it is essential for every small business to have a blog. Maintaining a blog takes a lot of time and energy—and then there need to be people to read it. After careful consideration, it may be better to focus a company’s promotional efforts elsewhere.
Social media “generally refers to websites featuring user-generated content or material created by visitors rather than the website publishers. In turn, these sites encourage visitors to read and respond to that material.”[226] Social media is changing the way that people communicate and behave. Social media outlets such as Facebook, LinkedIn, and Twitter are, among other things, driving purchases—and they should be seen “like a virtual cocktail party where all attendees can discuss [a company’s] products, services, experiences, and new ideas.”[227]
The top four social media networks are Twitter, Facebook, LinkedIn, and YouTube. This is true in general and for small businesses in particular.[228] Overall, small businesses use social media sites for lead generation, monitoring what is being said about their businesses, keeping up with the industry, improving the customer experience, and competitive intelligence.[229] Many small businesses in the B2B sector are already using social media for business as a resource, to engage in initiatives, or both. However, companies with more than one hundred employees are more active than smaller companies.[230]
Despite the hype surrounding social media, and the fact that many small businesses are already connected, small businesses must still consider the use of social media just as carefully as the other modes of marketing communications. Social media has not worked out well for some small businesses that have used it, so each business must decide what social media is expected to do for the company, and then it must be used well and strategically. When considering whether or how to factor social media into an IMC strategy, consider these words from Lisa Barone, cofounder and chief branding officer at Outspoken Media, “In 2011, if you’re not using social media to gain attention over your competitors, you can bet they’re using it to gain attention over you.”[231] This will undoubtedly continue to be the case.
Video Clip 17.21 Social Media
https://youtube.com/watch?v=lvbs-oQr5ms
The top five things you should know about social media.
Personal Selling
A small business owner needs to connect with customers before a sale can take place. Sometimes personal selling is the best way to do that. Personal selling, “The process of communicating with a potential buyer (or buyers) face-to-face with the purpose of selling a product or service,”[232] is absolutely essential in the marketing communications mix of a small business. History has shown that the most successful entrepreneurs have been skilled salespeople who were able to represent and promote their companies and products in the marketplace.[233] It stands to reason that successful small business owners should have the same sales skills.
Although personal selling plays an important role in the sale of consumer products, it is even more important in the sale of industrial and business products. More than four times as many personal selling activities are directed toward industrial and business customers than toward consumers.[234] Regardless of the type of customer or consumer, however, the objectives of personal selling are the same:[235]
• Building product awareness. A salesperson should educate customers and consumers on new product offerings.
• Creating interest. Because personal selling is a person-to-person, and often a face-to-face, communication, it is a natural way for getting customers and consumers to experience a product for the first time. Creating interest goes hand-in-hand with building product awareness.
• Providing information. A large part of the conversation with the customer focuses on product information.
• Stimulating demand. The most important objective of personal selling by far is persuading customers and consumers to make a purchase.
• Reinforcing the brand. Most personal selling focuses on building long-term relationships with customers and consumers. However, strong relationships can be built only over time, and they require regular communication.
Like all other forms of marketing communications, personal selling offers both advantages and disadvantages. On the plus side, personal selling is flexible and dynamic, providing companies with the best opportunity to tailor a message to satisfy customers’ needs. Personal selling’s interactive nature also makes it the most effective promotional method for building relationships with customers, particularly in the B2B market, and it is the most practical promotional method for reaching customers who are not easily reached through other methods.[236] Personal selling can help a small business build strong, loyal relationships with customers and consumers.
On the minus side, the biggest disadvantage may be the negative perceptions that many people have of salespeople: pushy, annoying, slippery, and willing to do anything for the sale—whether legal or not. The reality, of course, is that most salespeople (unfortunately, not all) do not fit this stereotype. The successful salesperson is the person who focuses his or her efforts on satisfying customers over the long term as opposed to his or her own selfish interests. Also on the negative side is the high cost of personal selling. Personal sales contacts are very expensive, with the costs incurred (compensation plus sales support) whether the sale is made or not.[237] Then there are the costs of training the sales staff on product knowledge, industry information, and perhaps selling skills.[238] Depending on the size of the company, small businesses will have varying numbers of salespeople, so some of the costs will vary as well.
The traditional sales process is typically seen as a series of six steps:
1. Prospecting and qualifying. Locating potential customers who have a need for a product and the ability to pay for it. For example, prospects for a small electric motor company would be all the businesses that use small electric motors. Prospects can be found through a variety of sources, including current customers, trade directories, business associates, and newspaper or magazine articles.
2. Preapproach. It is important to learn as much about a prospect as you can. For example, you want to know about the prospect’s needs, attitudes about available products and brands, critical product attributes and benefits desired, and current vendor(s).
3. Presentation and demonstration. This is where the salesperson tells the product “story” to the buyer: the product’s features, advantages, benefits, and value. It is important not to spend too much time on product features because benefits and value will most directly influence the purchase decision. It is also important to ask questions and listen carefully to a prospect’s answers because they will provide valuable insights into the prospect’s needs.
4. Overcoming objections. You should expect customers to pose objections. The key to overcoming these objections is to maintain a positive approach, ask the prospect to clarify the objections, and respond to the objections by reiterating the major benefits of the product or the service and pointing out additional features, guarantees, service, and anything else that would address the objections.
5. Closing. This is when the salesperson asks the prospect to buy the product. The request can be direct, or the salesperson can encourage the purchase by using a trial closing approach like asking, “Would you like us to finance product A for you?” Closing the sale is understandably the most difficult step for many salespeople because of the fear that the prospect will say no.
6. Follow-up and maintenance. These activities are necessary for customer satisfaction and repeat business. They are key to establishing the strong long-term relationships that every small business desires and needs. The salesperson should schedule a follow-up call to ensure proper installation, instruction, servicing, and troubleshooting and resolution should any problems be detected. Always remember that unhappy customers will defect to competition—and they will spread negative comments about the company. Because it is much cheaper to retain an old customer than to obtain new ones, it is in a company’s best interests to provide good follow-up and maintenance services.
Although these steps are helpful as a way to summarize the kinds of things that are relevant to personal selling, the Internet has revolutionized the selling process.[242] The traditional process just described has become largely obsolete, with roles changing. Web searches and online content help prospective customers or clients do their own prospecting and qualifying. This eliminates the most time-consuming part of the traditional sales process. A company’s website becomes the first sales presentation and, as a result, is critical in moving a prospect toward a sale. In short, all employees must be fully integrated into web marketing because web marketing is the primary driver of the sales process. The more web-savvy you are, the greater the chances that your selling will beat the competition.[243]
Video Link 17.8 Small Business Selling
An overview of personal selling.
www.videojug.com/interview/small-business-selling
Key Takeaways
• Promotion and marketing communications are relatively synonymous terms.
• IMC is about pulling all the marketing communications together to convey a consistent message.
• Small-business owners should be familiar and comfortable with the terms promotion, marketing communications, and integrated marketing communications (IMC).
• There are multiple categories of IMC objectives.
• The marketing communications mix for a small business will consist of some combination of advertising, sales promotion, events and experiences, PR and publicity, direct marketing, interactive marketing, and personal selling. This mix is applicable to both pure-play and brick-and-click businesses.
• There is a lot of hype about blogs and social media. They can be very effective, but they have not worked well for all small businesses that have used them. They should be considered carefully before inclusion in a company’s IMC strategy.
Exercises
1. The Mill restaurant has historically taken a very low-key approach to promoting the business, choosing to rely on word-of-mouth communication. Robert believes that Emily needs to increase the sophistication of the marketing communications. Design an IMC plan for Emily’s The Mill Restaurant. Keep the following in mind: (1) Emily’s is a small business with a very limited IMC budget; (2) advertising in prime time and national television are not options; and (3) Emily is selling both food and its catering sauces.
2. Choose two products or services that you purchased recently from small businesses, one from an online business and one from an onground business. The products should be different from those chosen for price. For each product or service, identify the various media that were used to promote the product or the service and analyze the marketing communications mix. Do you agree with the marketing communications mix that was used? What recommendations would you make for change?[244]Tip: If you are not sure whether an online business can be considered a small business, type in the name of the business plus “corporate HQ” into Google or your preferred search engine. The search should return results that include the number of employees. As long as the company has fewer than five hundred employees, you are all set.
The Three Threads
Learning Objectives
1. Understand the role of marketing strategy in delivering customer value.
2. Explain how marketing strategy can positively and negatively impact cash flow.
3. Explain how digital technology and the e-environment are impacting marketing strategy.
Customer Value Implications
Marketing plays a key role in creating and delivering value to the customer, but it is the establishment of a strong link between customer value requirements and the major value-producing activities of a firm that is the foundation on which the delivery of superior customer value is based.[245] Marketing strategy provides that strong link.
A customer’s decision to buy will always be contingent on the strategic effectiveness of the marketing mix: the ability of the product or the service to meet the needs, wants, and desires of the customer; a price that is attractive when compared with possible alternatives; the availability of the product or the service in an onground or online place that is in sync with the customer’s needs; and an integrated marketing communications (IMC) program that creates awareness, provides information, and persuades. Although the different elements of the marketing mix will be of differing importance depending on the customer and the situation, it all begins with the product. Well-designed and well-made products will usually come out ahead on the customer value scale. Innovative channels of distribution, such as Redbox for DVDs, gourmet and ethnic food carts, kiosks in airports for selling small electronics products, and conducting financial transactions on a smartphone, can all add to customer value. Social media as a part of the IMC mix can be a particularly great way to create customer value because a consumer’s social network can be used as a communication channel to spread the word about a product’s characteristics, quality, benefits, and value.[246] Salespeople also create value for customers by helping to identify creative and cost-effective solutions to customer problems, making the customer buying process easier, and creating a positive customer experience. Pricing is always tricky, but there should be a clear and positive link between the price that customers pay and what customers see as the value received in return.
Cash-Flow Implications
An efficient and effective marketing strategy will keep costs down and stimulate sales. A small business owner could not ask for more as a way to realize a positive cash flow. However, the reality is that things will not go as planned most of the time, and this will wreak havoc with cash flow. This means that the marketing strategy should be developed and implemented within the context of a cash-flow strategy so that when things do not go as planned, you can make appropriate adjustments.
One of the biggest temptations for creating cash flow when money is tight is cutting the price as a way to stimulate sales. Think very carefully before doing this. The price reduction may generate more sales, but you may send unintended negative signals to customers about quality and value. You may also trigger a price cut by competitors that eliminates the benefits of your own price cut. A better strategy would be to maintain the price and offer the customer more value—as long as that additional value does not end up costing you more in money in the long run.[247]
Digital Technology and E-Environment Implications
The opportunities for using digital technology and the e-environment in marketing strategy have exploded as the technologies continue to develop and become more sophisticated. Strategic decisions can be made more quickly, with information that can be compiled and analyzed more completely and faster than ever before. The Internet offers an information bonanza and myriad opportunities for implementing the marketing strategy.
Mobile commerce continues to be one of the biggest trends to affect small business owners. More than 48 percent of Americans who own smartphones use them for shopping, so integrating mobile commerce into the marketing strategy should be strongly considered. Many small businesses that already use mobile commerce are seeing positive results. Aaron Maxwell, founder of Mobile Web Up, reported that one client has already seen 10 percent growth per month.[248] Since early 2011, small companies have increasingly been drawn to quick-response (QR) codes. These high-tech bar codes are scanned with smartphone cameras, after which company and/or product content pops up on the screen. The customer then chooses to act or not act based on the content. The Ethical Bean Coffee Company in Vancouver, British Colombia, uses this technology in its train ads. Customers scan the code in an ad, a coffee menu pops up on their screens, and they can order a cup of coffee to be picked up at one of the Ethical Bean coffee shops. There are some challenges with using this technology, including cost,[249] but it is worth considering for the marketing communications strategy.
Mobile technologies, such as wireless Internet and cellular Internet access, have significantly impacted personal selling, making it possible for salespeople to access needed information at any time. Key business applications are increasingly being made available through a browser rather than being loaded on a salesperson’s computer—again being accessible anywhere or anytime. Online video conferencing and web or phone conferencing allow for electronic presentations in lieu of face-to-face meetings. Sales training can be delivered over the Internet, and RSS feeds or e-mail enable salespeople to be notified quickly when new training material is available.
The marketing strategy of a small bank could include targeting the increasing number of small business owners that are starting to do their banking on the go. Customers can check balances, transfer funds, and take and send pictures of checks for remote deposit. It has been estimated that at least 50 percent of small businesses will do their banking through mobile devices by the end of 2013.[250] For the very small business, raising cash to proceed with the marketing strategy can actually be done through crowdfunding, securing small amounts of money from multiple contributors online. Margaret Broom of New Haven, Connecticut, used Peerbackers.com to raise money for renovating a new space for a yoga studio. In 45 days she raised \$10,000 from more than 100 contributors, with average contributions of \$15 to \$20. The funds do not need to be paid back because they are contributions. However, some businesses give their contributors products or services from the business as an appreciation.[251]
Video Clip 17.22 Susie’s Lemonade Stand
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=190
How wireless technology can provide communication and distribution support.
Key Takeaways
• Marketing strategy plays a key role in delivering customer value.
• Marketing strategy should be developed within the context of a cash-flow strategy.
• Digital technology and the e-environment continue to offer significant opportunities for small businesses.
Exercises
You run a small, specialized electronics firm that produces unique and highly sophisticated products. Your sales are evenly split between military contracts and commercial aviation. Two years ago, during a recent economic downturn, your business was under considerable cost pressure. To reduce costs, you switched from two American-based suppliers to a Taiwanese manufacturer. Last week, a national newspaper released a story that revealed that this Taiwanese manufacturer was using counterfeit chips produced in mainland China. This is clearly illegal, but things were made even worse by the speculation that the Chinese-made chips might be mechanisms that could be used in cyber warfare. It looks as though there will be at least one congressional investigation that will examine the national security issues associated with the counterfeit chips. Unfortunately, your firm was prominently mentioned in the article as one of the firms that had purchased a large number of these chips. This could have a major impact on a firm of your size.
1. What should you do?
2. How would you develop a marketing communications plan to deal with this crisis?
3. How would you deal with the anticipated cash-flow crisis?
4. How should you handle the issue of customer value?
Disaster Watch
Robert has spent the last year building his Internet business. He registered his domain name shortly after developing his idea. Three months were then spent waiting for his web developer to create a custom website built to his specifications. Just when Robert thought his online venture was going to die on the vine, his web guru called to ask if Robert wanted to see the site.
Robert quickly typed in the URL of his domain. There, for all to see, was his website. The online catalog was complete, the merchant account had been set up—and has been for two weeks because he has been paying the monthly fees in anticipation of the site launch date. The e-mail at the domain is configured, and Robert’s online business is underway.
Search engine optimization helps to drive traffic to Robert’s site. He sends out e-mail messages to everyone on his mailing list to let them know that his online venture is now open for business. Sales started slowly, as expected, but they grew steadily. The twenty-third sale was as exciting as the first.
On the morning of the business’s one-year anniversary since buying his domain name, Robert goes to the office and turns on his computer with thoughts of checking his e-mail. His e-mail program announces an error. Something about “could not connect to server.”
Robert’s first thought was that perhaps the hosting company was having a network issue. He decides to wait for half an hour…but gets the same error. He decides to wait another ten minutes and try again. If it still does not work then, he plans to call his hosting company.
Ten minutes go by. The error keeps showing up. One more try. The error pops up again. Robert picks up the phone and calls the hosting company. Once he gets a tech on the phone, he explains the situation, saying that he needs his e-mail up and running so that he can follow up on the orders that came into the store last night. The next ten minutes are spent double-checking settings on the e-mail program. Still nothing works.
Eventually, someone at the hosting company thinks to check the domain name. DISASTER! The domain name had expired at midnight. No business can be conducted, and some people may think he has gone out of business.
What does Robert have to do now?[252]
Elegant Touch
Anita Bruscino, the sole proprietor of Elegant Touch, began her career as a mechanical engineer. She worked in her family’s manufacturing business until she and her father left because of too many factions in the company. This provided her with the opportunity to start her own business, something she had always known in her heart that she wanted to do.
Anita was inspired to open a gift shop by a family friend who had owned her own gift shop. She gave Anita advice on starting her own business, and Elegant Touch opened in 1994. Anita has since expanded the business and is celebrating the shop’s eighteenth anniversary, with the last six years in its larger location. The shop is warm, lovely, and comfortable, featuring unique gifts for all occasions and specializing in American handcrafted gift items and gift baskets. Shoppers will also find maternity gifts, items for the sweet tooth, specialty foods, special seasonal sectionsand a friendly smile from Anita. One thing that you will not find at Elegant Touch is what you find in other gift shops in her market area. When selecting products for her shop, Anita asks vendors whether other stores in the area carry the gift line she is considering. She will not carry duplicates. She likes to see new things and follows the trade magazines to help her do that. When asked how she chooses the products to carry, she described the process as instinctive—“from the gut.”
Anita describes her customer demographics as mostly women, between thirty and seventy years old, married, and established with a home. Because many of her customers are repeat customers, the reason for fresh products is clear. A stale product line is not something that she can afford. Her pricing strategy is consistent with common practice in the industry, but many of her customers have commented that she delivers very high value for the prices she charges. She is not interested in selling online because she does not want to expand any further. She is at a nice comfort level and does not want to deal with the additional inventory implications or the need to hire additional employees. As a result, the Elegant Touch website is for basic information only. In promoting Elegant Touch, Anita says that word of mouth works the best. She advertises in the local paper occasionally, supports local events, and is preparing for her first e-mail blast. She is exploring a Facebook presence but is not yet convinced that it will be of much value to her business.
Like all small businesses, Elegant Touch has been impacted by the ups and downs in the economy, with some times being tougher than others. Because Anita has only two part-time employees, however, she has not been faced with the employee layoffs that have hit other small companies. When asked what keeps her going in the rough times, she answered, “You have to love it.” Just walk into her gift shop, and you will see clearly that she does.[254]
1. Lynne Saarte, “Small Business Marketing Is Different from Big Business Marketing,” Articlecity, accessed December 1, 2011, http://www.articlecity.com/articles/marketing/article_4959.shtml
2. Lyndon David, “Small Business Marketing Strategy: How Different Is It from Larger Businesses?,” Slideshare, accessed December 1, 2011, http://www.slideshare.net/lyndondavid/small-business-marketing-strategy-how-different -is-it-from-larger-businesses.
3. Lyndon David, “Small Business Marketing Strategy: How Different Is It from Larger Businesses?,” Slideshare, accessed December 1, 2011, http://www.slideshare.net/lyndondavid/small-business-marketing-strategy-how-different-is-it-from-larger -businesses
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254. Except for the content from CheshirePatch.com, all information herein is based on an interview with Anita Bruscino, owner of Elegant Touch, March 2, 2012. | textbooks/biz/Management/Maritime_Management%3A_Micro_and_Small_Businesses_(Pauley)/06%3A_Marketing/6.01%3A_Chapter_17-_Marketing_Strategy.txt |
Brandon Fisher, the founder of Center Rock Inc., is shown on the left side in the picture. The man to his right is Richard Soppe, the senior drilling application engineer. The number 33 is the number of Chilean miners who were rescued in 2010. Brandon and his company, now at seventy-five employees, are true American heroes.
Center Rock manufactures and distributes a complete line of air drilling tools and products. At its state-of-the-art manufacturing facility in Pennsylvania, they build stock and made-to-order products that are used by leading drilling, oil and gas, foundation, construction, roadway, and mining contractors across North America, Europe, Asia, Russia, and Australia. Fisher entered the global market four years ago as a way to expand the business. He was able to finance the expansion internally, so financing was not an issue.
Center Rock Inc., founded in 1998 by then twenty-six-year-old Brandon Fisher, began as a drilling company. He designed and built his own horizontal drilling rig and, shortly thereafter, began focusing on making Center Rock an air and rock drilling supplier and manufacturer. He recognized the need for a manufacturing company that was reactive to customer needs, with innovative products and 24/7 customer service and support. Working with his high-tech engineering and design team, Fisher created a company different from its competitors with its unique products and service capabilities.
“I love what I do,” says Fisher. “There is always a challenge in this industry to find new ways to drill into the earth, and the challenge feeds the excitement.”[1]
US Small Business in the Global Environment
Learning Objectives
1. Understand and appreciate the role of small businesses in the global environment.
2. Learn about the global growth opportunities for small businesses.
3. Understand the advantages and the disadvantages of a small business going global.
Although small businesses make up a disproportionately large share of the number of companies that export and import, this represents only about 1 percent of the total number of small businesses. Thus many small businesses have yet to compete globally. The opportunities are there. “So much of what America makes is in great demand,” said US Commerce Secretary Gary Locke in an interview, adding further that the growth potential for small companies is outside the United States. Dale Hayes, vice president of US marketing for UPS concurs, observing that the demand for high-quality American products is huge. It may be that a small business is already competing globally because foreign-owned companies are competing in our own backyards.[4]
Yet the global marketplace is not relevant to most small businesses. Given that 99 percent of the small businesses in the United States are not operating globally—preferring to grow (if they want to) locally, regionally, and perhaps nationally—it is reasonable to conclude that going global will interest only a few. Those few, however, must undertake careful analyses before jumping into the global arena.
The Small Business Global Presence
It may seem to many that the global market is the domain of the large corporations, but the statistics tell a very different story. Small businesses actually account for close to 97.6 percent of US exporters and 32.8 percent of the value of US exports as well as 97.1 percent of all identified importers and 31.9 percent of the known import value.[5] Consider the following additional facts:[6]
• Small businesses account for 96.4 percent of all manufacturing exporters, which is 17.2 percent of the sector’s \$562 billion in exports.
• Nearly 100 percent (99.2 percent) of exporting wholesalers were small businesses, which is 61.1 percent of the sector’s \$218 billion in exports.
• Of other companies with exports, 96.9 percent were small businesses. These companies include manufacturing companies of prepackaged software and books, freight forwarders and other transportation service firms, business services, engineering and management services, gas and oil extraction companies, coal mining companies, and communication services, to name a few.
• Small businesses account for 93.6 percent of all manufacturing importers, which is 12.9 percent of the sector’s \$602 billion in imports.
• Nearly 100 percent (99.2 percent) of wholesaler importers were small businesses, contributing 56.8 percent of the sector’s \$451 billion in imports.
• Small businesses accounted for 94.3 percent of the companies that both exported and imported, accounting for 29 percent of the export value and 27 percent of the import value.
This tells us that small businesses are very active in the global marketplace, and small business success in international markets is extremely important to the welfare of the United States.[7] Although it is true that small businesses are major users of imported goods, the focus of this chapter is on small business exporting because exporting can be an effective way to diversify the customer base, manage market fluctuations, grow, and become more competitive.[8]
Small businesses are limited in the products and the services that they export. Small business exports are concentrated in four main product categories: computers and electronic products, chemicals, machinery, and transportation equipment. However, the leading product categories in terms of market share were wood products, apparel and accessories, tobacco products, beverages, and leather products.[9]
Although the United States is one of the world’s largest participants in global services trade, very little information exists with respect to services exports by small businesses. What is known is that it is increasingly common for most US services firms to establish a foreign affiliate —a branch or a subsidiary of the parent company established outside the national boundaries of the parent company’s home market—because most services are better supplied in close proximity to the principal or final customers.[10] Additionally, in some business sectors, foreign regulations may restrict the delivery of some services to affiliates only. For example, to comply with domestic solvency requirements, some countries require that personal lines of insurance be carried out only by affiliates. Another example is the protection of intellectual property rights. This is often accomplished through the services of affiliates, thus intellectual property is kept in-house.[11]
What is particularly interesting is that most of the service exporting occurs in businesses with 0–19 employees, with the least service exporting done by small businesses with 300–499 employees. This may be the exact opposite of what you would expect.
The Advantages of Going Global
The flexibility of a smaller company may make it possible to meet the demands of global markets and redefine a company’s programs more quickly than might occur in the larger multinational corporation. [12] A multinational corporation is a company that operates on a worldwide scale without ties to any specific nation or region; it is organized under the laws of its own country.[13] This flexibility of the smaller company is particularly true of the micromultinationals, a relatively new category of tiny companies that operate globally, having a presence and people in multiple countries.
These micromultinationals outsource virtually everything to specialists all over the world and sell to people all over the world through the Internet.[16] The Internet is inexpensive technology, and the services designed to help small businesses make it possible for the small company to operate across borders with the same effectiveness and efficiencies as large businesses.[17]
Micromultinationals
Generation Alliance is a branding and design firm that provides services to clients all over the world. They have core employees in Australia and specialist contractors in New Zealand, the United Kingdom, Germany, Switzerland, Jamaica, Dubai, and Singapore. One of their more interesting projects was to rebrand the country of Botswana for the global market.[18]
Worketc operates in the large and competitive business software market. Their focus is small businesses, selling web-based customer relationship management (CRM), project management, billing, shared calendars, help desk, and document management software. The company is headquartered in Sydney, Australia, and it claims happy customers in sixteen countries. The United States accounts for 86 percent of its customers.
There are many reasons why small businesses should consider going global:
• A small business that thinks and sells only domestically may be reaching only a small share of its potential customers because 95 percent of the world’s consumers live outside the United States.
• Exporting enables companies to diversify their portfolios and weather changes in the domestic economy. This stabilizes seasonal and cyclical market fluctuations.
• Exporting helps small businesses grow and become more competitive in all their markets, which reduces the dependence on existing markets.
• Exporting increases sales and profits, also extending the sales potential of existing products. Research has shown that exporting can expand total sales 0.6 percent to 1.3 percent faster than would otherwise be the case.
• Exporting companies are able to sell excess production capacity.
• Exporting companies are nearly 8.5 percent less likely to go out of business.
• There are higher worker earnings as well, which contributes to the betterment of the community.
According to the US Small Business Administration (SBA),[25] US exporting businesses experience faster annual employment growth by 2 to 4 percentage points over their nonexporting counterparts. Workers employed in exporting companies have better paying jobs and better opportunities for advancement. Research has estimated that blue-collar worker earnings in firms that export are 13 percent higher than those in nonexporting plants, 23 percent higher when comparing large plants, and 9 percent higher when comparing small plants. White-collar employees also benefit from higher salaries, 18 percent more than their nonexporting counterparts. Less skilled workers also earn more at companies that export. Lastly, the benefits that all workers receive at exporting plants are 37 percent higher and include improved medical insurance and paid leave.
Video Link 18.1 Why Export?
Why small businesses should consider entering the global marketplace.
www.inc.com/exporting/whyexport.htm
The Disadvantages of Going Global
There is no question that the benefits of going global are considerable. However, disadvantages or barriers must also be considered. For example, a small business will incur additional costs, such as modifying its product or its packaging (perhaps even changing the name of its product so that it does not convey negative meanings outside the United States), developing new promotional materials, administrative costs (such as hiring staff to launch the export expansion and dedicating personnel for traveling), traveling to foreign locations (very important), and shipping. It may also be necessary for the owner to subordinate short-term profits to long-term gains, wait longer for payments, apply for additional financing, and obtain special export licenses.[28] There will be differences in consumer needs, wants, and usage patterns for products; differences in consumer response to the elements of the marketing mix and differences in the legal environment may conflict with those of the United States.[29] Then, of course, there are cultural and language issues along with the all-too-familiar fear of the unknown. [30] A recent survey of exporting and nonexporting members of the National Small Business Association (NSBA) and the Small Business Exporters Association (SBEA) reported the following main barriers to small businesses selling their goods and/or services to foreign customers:[31]
• I do not have goods and/or services that are exportable: 49 percent.
• I do not know much about it and am not sure where to start: 38 percent.
• I would worry too much about getting paid: 29 percent.
• It is too costly: 27 percent.
• It would take too much time away from my regular, domestic sales: 17 percent.
• I cannot obtain financing to offer products or services to foreign customers: 7 percent.
Three things were identified as the single largest challenge: worrying about getting paid (26 percent), feeling that exporting is confusing and difficult to do (24 percent), and having limited goods and/or services that are exportable (18 percent).
Richard Ginsburg in the SBA’s Office of International Trade has commented that most US small businesses simply do not understand the value of taking their business global, further noting that “the number-one barrier to trade is the psychological acceptance that global business is necessary.[32]
Small businesses also face some resource constraints that reduce their ability to export. For example, small businesses are more likely than larger firms to face scarcities of financial and human resources that limit their ability to take advantage of global opportunities. Limited personnel, the inability to meet quality standards, the lack of financial backing, and insufficient knowledge of foreign markets are important constraints affecting the ability of small businesses to export.[33] Fortunately, being proactive, innovative, and willing to take risks have helped small businesses overcome export impediments and improve export performance.[34]
The disadvantages of going global may warrant a go-slow approach, but they should not be viewed as knockout factors. If a business’s financial situation is weak, the timing may not be right for becoming an exporter…but perhaps exporting makes sense in the future. In any case, very careful thinking should precede the decision to export.
2010 Winner of the Growth through Global Trade Award
The UPS Growth through Global Trade Award recognizes businesses with fewer than five hundred employees that are excelling in international trade. The inaugural winner was SteelMaster Buildings LLC, in Virginia Beach, Virginia, a manufacturer, designer, and supplier. The UPS award was followed up by two other national awards and four regional awards related to SteelMaster’s increases in global trade plus a mention in a September 2010 speech by the former US Secretary of Commerce, Gary Locke, at a trade conference. The company earned first place in the 2011 Export Video Contest cosponsored by the SBA and VISA.
Video Link 18.1 Starting an Import/Export Business
A YouTube element has been excluded from this version of the text. You can view it online here: https://pb.libretexts.org/maritime/?p=200
How to start an Import/Export business.
SteelMaster employs fifty people, excluding distributors. It exports to more than forty countries and has distributorship relationships in more than fifty international markets (e.g., South Korea, Romania, Mexico, Angola, Chile, Peru, Slovakia, South Sudan, and Australia). This distributor network has provided an important source of market differentiation. Since the company began exporting in 2006, in response to the very competitive and saturated US market, the company’s revenue has quadrupled, and exporting now represents over 20 percent of its total revenue. In addition,
• The SteelMaster website is user-friendly and offers a bilingual choice for Spanish-speaking viewers. Live chat is also available. In addition, various parts of the website have been translated to other languages (i.e., Korean, French, Romanian, Portuguese, and Arabic) to serve the company’s international customers in their own languages.
• SteelMaster buildings are environmentally friendly and can be recycled. Green buildings are offered that protect against nonuniform weathering and reduce energy loads on buildings due to a long-term, bright service that helps heat reflectivity.
• SteelMaster’s Galvalume Plus coated steel has been approved by the ENERGY STAR program for both low-slope and high-slope applications.
• The SteelMaster product can be easily used in the wake of natural disasters, such as earthquakes, flooding, or hurricanes. The company has participated in humanitarian relief efforts, specifically in Haiti. The company stands ready to provide safe and reliable construction solutions to people in need around the world.
Key Takeaways
• Small businesses make up a disproportionately large share of the number of companies that export and import. However, this is only about 1 percent of the total number of small businesses.
• The growth potential for small companies outside the United States is huge because of the demand for high-quality American products.
• Small businesses account for close to 98 percent of US exporters and 33 percent of the value of US exports.
• Small business success in international trade is extremely important to the welfare of the United States.
• There are many advantages and disadvantages of a small business going global. These must be analyzed very carefully before deciding to enter the global marketplace.
• A recent survey of small business owners revealed that the number one barrier to exporting was the feeling that their businesses did not have exportable goods and/or services. The number one challenge was worrying about getting paid.
Exercises
1. Go to www.trade.gov/mas/ian/statereports. Select your state and prepare a profile of small business exporting. Review additional sites as well, for example, websites sponsored by your state’s commerce and/or economic development departments. When looking at government sites, you may see the term small- and medium-sized businesses or something similar. They are simply referring to businesses with fewer than five hundred employees. This is the small business group for your purposes.
What You Should Know Before Going Global
Learning Objectives
1. Learn about the different ways that a business can export.
2. Understand the importance of an industry analysis.
3. Understand that it is important to carefully assess a business.
4. Learn about the marketing decisions that must be made.
5. Learn about the kinds of legal and political issues that will affect the exporting activities of a business.
6. Understand why the currency exchange rate is important to determining price.
7. Learn about the different sources of financing.
Although expanding into global markets offers many important benefits, not the least of which is increased profits, it will also introduce new complexities into the operations of a small business. There are several key decisions (see Figure 18.1) that will need to be made, including the following:[39]
• Determine which foreign market(s) to enter.
• Analyze the expenditures required to enter a new market and determine the source(s) of financing.
• Determine the best way to organize the overseas operation in concert with the US organization.
• Determine the extent to which, if any, the marketing mix will need to be adapted to the needs of the foreign market(s).
• Figure out the best way for the business to get paid.
These decisions, and others, will be based on an assessment of the ways to export, an analysis of the industry and the business, marketing and cultural factors, legal and political conditions, currency exchange issues, and sources of financing.
Video Link 18.2 A Family Business Goes Global
A small business specializing in leather-care products gets a lesson in expanding beyond its old fashioned clientele.
money.cnn.com/video/fsb/2008/09/10/fsb.pecard.makeover.fsb
Ways to Export
Small businesses can choose from two basic ways to export: directly or indirectly.[40] There are advantages and disadvantages of each that should be understood before making a choice.
Direct Exporting
In direct exporting, a small business exports directly to a customer who is interested in buying a particular product. The small business owner makes all the arrangements for shipping and distributing the product overseas, is responsible for the marketing research, and collects payment. This approach gives the owner greater control over the entire transaction and entitles him or her to higher profits—although these higher profits are accompanied by the need to invest significantly more resources and efforts (see Table 18.1). It also requires a significantly changed internal organizational structure, which entails more risk.
Table 18.1 Advantages and Disadvantages of Direct Exporting
Advantages Disadvantages
Potential profits are greater because intermediaries are eliminated. It takes more time, energy, and money than an owner may be able to afford.
The owner has a greater degree of control over all aspects of the transaction. It requires more “people power” to cultivate a customer base.
The owner knows customers, and the customers know the owner. Customers feel more secure in doing business directly with the owner. Servicing the business will demand more responsibility from every level in the organization. The owner is held accountable for whatever happens. There is no buffer zone.
Business trips are much more efficient and effective because an owner can meet directly with the customer responsible for selling the product. The owner may not be able to respond to customer communications as quickly as a local agent can.
The owner knows whom to contact if something is not working. The owner gets slightly better protection for trademarks, patents, and copyrights. The owner must handle all the logistics of the transaction. If it is a technological product, the owner must be prepared to respond to technical questions and provide on-site start-up training and ongoing support services.
The owner is presented as fully committed and engaged in the export process and develops a better understanding of the marketplace. As a business develops in the foreign market, the owner has greater flexibility to improve or redirect marketing efforts.
Indirect Exporting
Indirect exporting involves entering “into an agreement with an agent, distributor, or a traditional exporting house for the purpose of selling (or marketing and selling) the products in the target market.”[45] Many small businesses choose this option, at least at the outset. It is the simplest approach, particularly when a business does not have the necessary human and financial resources to promote products in foreign markets in any other way (see Table 18.2). The easiest way to export indirectly is to sell to an intermediary in the United States because the business will normally not be responsible for collecting payment from the overseas customer or coordinating the shipping logistics.[48]
Table 18.2 Advantages and Disadvantages of Indirect Exporting
Advantages Disadvantages
Does not require a lot of organizational effort or staff workers. Not all types of goods lend themselves to indirect exporting (e.g., technically complex goods and services).
The producer of the goods is subject to only small dangers and risk (e.g., a short-term drop in the exchange rate). The profits of a business will be lower, and control over foreign sales is lost.
It is an almost risk-free way to begin. It demands minimal involvement in the export process. It allows the owner to continue to concentrate on its domestic business. A business very rarely knows who its customers are, thus losing the opportunity to tailor its offerings to their evolving needs.
The business has limited liability for product marketing problems. There is always someone else at which to point the finger. When an owner visits, he or she is a step removed from the actual transaction and feels out of the loop.
The owner learns on the fly about international marketing. Depending on the type of intermediary with which the owner is dealing, the owner does not have to be concerned with shipment and other logistics. The intermediary might be offering products similar to a particular business’s products, including directly competitive products, to the same customers instead of providing exclusive representation.
A business can field-test its products for export potential. In some instances, the local agent can field technical questions and provide necessary product support. The long-term outlook and goals for an export program can change rapidly, and if a business has put its product in someone else’s hands, it is hard to redirect efforts accordingly.
Industry Analysis
Before jumping into the global pond, it is a good idea to identify where an industry currently is and then look at the trends and directions that are predicted over the next three years. This will be true whether a business is only on the ground, only online, or both brick and click.
A business should try to determine how competitive an industry is in the global market.[51] Try to get as good a picture of the market as possible because the better informed a business is, the better its chances of a successful global entry. Learn a product’s potential in a given market, where the best prospects for success seem to be, and common business practices.[52]
A small business owner may be reticent about conducting market research before going global, particularly if domestic research efforts have been limited or nonexistent. However, the global market is a very different animal compared to the domestic market. It is even more important to conduct thorough market research to help identify possible risks in advance so that the appropriate steps can be taken to avoid mistakes. This ultimately portrays the business as forward-thinking, trustworthy, and credible.[53]
• Several resources should be consulted. However, the best guide to exporting for the small business comes from the US government.[54]
• The SBA is a great place to start to find information to help a business break into the global game. The information on exporting and importing is comprehensive and easily understood.
• The US government portal Export.gov provides online trade resources and one-on-one assistance for global businesses. Export.gov provides particularly helpful information on regulations, licenses, and trade data and analysis. Trade data can help a business identify the best countries to target for exports. A business can gauge the size of the market for a product or a service and develop a pricing strategy to become competitive.[55]
• The US International Trade Commission offers market information, trade leads, and overseas business contacts. Trade professionals are available to help a business every step of the way with information counseling that can reduce costs, risks, and the mystery of exporting.[56]
• The US Department of Commerce provides trade opportunities for US business, export-related assistance, and market information.[57]
• Information about protecting intellectual property abroad can be found at http://www.stopfakes.gov. This is important because counterfeiting and piracy cost the world economy approximately \$650 billion per year.[58]
Other sources to be consulted include people in the same business or industry, industry-specific magazines, trade fairs, seminars,[59] and export training and technical assistance that is available to small businesses through the states and the federal government. The Federation of International Trade Associations is a global trade portal that provides trade leads, market research, links to eight thousand import/export websites, and even travel services. WorldBid.com describes itself as the largest network of international trade marketplaces in the world, providing trade leads and new business contacts.[60]
The Internet makes it possible to gather and view tremendous amounts of information. If a business is thinking seriously about going global, there is no better time to take advantage of this quick-and-easy access than now.
Video Link 18.3 Knowing the Export Environment
Government experts identify challenges and debunk some myths.
www.inc.com/exporting/exportsuccess.htm
Business Assessment: Are You Ready?
It is important to honestly self-evaluate a business to determine whether it is really ready to go global or not…or at least not yet.[61]If a business is thinking about expanding globally, it is probably already doing something right to have reached this point. However, that does not preclude the importance of assessing its strengths and its weaknesses to determine the approach that should be taken in the global market.[62] This will be true no matter what role e-commerce plays in a business. Even a micromultinational business should assess its strengths and its weaknesses, although its instantaneous presence as a global business means that the assessment must be done at start-up and then must continue as products and services move from country to country.
There are several issues that should be addressed. The following are some of the questions that should be asked:
• Why is a business successful in the domestic market? What is its growth rate? What are its strengths?
• What products have export potential? Do the products fill a niche that is exclusive to the US market? Are they packaged in a way that can be understood by non-English-speaking consumers? Do they violate any cultural taboos or contain ingredients that will prohibit their sale in a foreign market? Identify the key selling features of the products, identify the needs that they satisfy, and identify any selling constraints.
• What are the competitive advantages of a particular business’s products over other domestic and international businesses?
• What competitive products are sold abroad and by whom?
• Does the product require complementary goods and technologies? If so, who will provide them?
• How will the business provide customer service?
• Can production handle a wider demographic? Can the business increase output without sacrificing quality?
• Does the business have the money to market globally?
• Is the entire business (including all staff) committed to a global effort?
If a product is an industrial good, a business will want to know things such as what firms will likely use it, whether its use or life might be affected by climate, and whether geography will present transportation problems that will affect purchase. In the case of a consumer good, a business will want to know who will consume it; how frequently it will be purchased; whether it will be restricted abroad; whether climate or geography will negatively impact accessibility for purchase; and—perhaps most importantly—whether it conflicts with traditions, taboos, habits, or the beliefs of customers abroad.[67]
A helpful tool to assess readiness is the export questionnaire available at www.export.gov/begin/assessment.asp. This questionnaire highlights characteristics common to successful exporters and identifies areas that need to be strengthened to improve export activities.
Video Link 18.4 Where Will Your Next Customer Come From?
Small businesses looking to grow should look beyond US borders to find new customers.
www.sba.gov/content/where-will-your-next-customer-come
Marketing
Just as it is necessary to offer a different marketing mix (see Figure 18.2) for different target markets, it will generally be necessary to adapt the marketing mix to the global market in general and different countries in particular. A business’s unique value proposition (the set of benefits offered to customers to satisfy their needs and wants consisting of some combination of products, services, information, and experiences)[68] is what will differentiate one marketplace offering from the competition. Given the more diversified competition in the global marketplace, identifying the value proposition is even more critical—and most likely more difficult—than in the domestic market.[69]
Product
The ideal situation is when a product developed for the US market can be sold in a foreign country without any changes. Although some kinds of products can be introduced with no changes (e.g., cameras, consumer electronics, and many machine tools),[70]most products usually have to be altered in some way to meet conditions in a foreign market.[71] From a small business perspective, the owner will want to market products that do not require drastic changes to be accepted. Relatively minor packaging changes, such as size or the language on the package, can be made inexpensively, but more drastic changes should be avoided. If a product must be changed drastically to market it globally, conduct an in-depth cost analysis to determine whether the additional costs will outweigh the anticipated benefits.[72] If a product is a food or a beverage, for example, is the business prepared to make the changes necessary to appeal to widely varying tastes? [73]
Products need to be adapted for many reasons, including the following:
• Different physical or mandated requirements must be met (e.g., electrical goods will need to be rewired for different voltage systems).
• The legal, economic, political, technological, and climatic requirements of the local marketplace vary (e.g., varying laws will set specific packaging sizes and safety and quality standards).
• The product or the company name must translate flawlessly to the new target market so that it does not convey an unintended, perhaps very negative, meaning. One of the most well-known examples of a translation blunder is the Chevy Nova. In Spanish, “nova” means “no go.”
• The package label may need to be changed. Imagine the horror of a well-known baby food producer that introduced small jars of baby food in Africa when it found out that the consumers inferred from the baby picture on the jars that the jars contained ground-up babies. This shows us that even big companies can make big mistakes.
• A change in flavor or fragrance may be necessary to bring a product in line with what is expected in a culture. The pine and hints of ammonia or chlorine scents that are popular in the United States were flops in Japan because many Japanese sleep on the floor on futons. With their heads so close to the floor, a citrus scent is more pleasing.
The less economically developed a market happens to be, the greater may be the need for product adaptation. Research has found that only one in ten products can be marketed in developing countries without some kind of product adaptation.[76]
Cultural Differences
It is important to know that cultural and social differences are intertwined with the perceived value and importance that a market places on a product.[77] “A product is more than a physical item: It is a bundle of satisfactions (or utilities) that the buyer receives. These include its form, taste, color, odor, and texture; how it functions in use; the package; the label; the warranty; the manufacturer’s and retailer’s servicing; the confidence or prestige enjoyed by the brand; the manufacturer’s reputation; the country of origin; and any other symbolic utility received from the possession or use of the goods. In short, the market relates to more than a product’s physical form and primary function.”[78]
The values, customs, rituals, language, and taboos within a culture will determine the acceptability of a product or a service. Cultural sensitivity is particularly important in cyberspace. Website visitors may come from anywhere in the world. Icons and gestures that seem friendly to US visitors may shock people from other cultures. For example, a high-five hand gesture would be insulting to a visitor from Greece.[79] Knives and scissors should not be given as gifts in South America because they symbolize the severing of a friendship. [80]
The psychological attributes of a product (features that have little to do with the primary function of the product but add value to customer satisfaction, e.g., color, size, design, brand name, and price)[81] can also vary across cultures, and the meaning and the value assigned to those attributes can be positive or negative. It may be necessary to adapt the nonphysical features of the product to maximize the positive meanings and eliminate the negative ones.[82] When Coca-Cola, the number one global brand, introduced Diet Coke to Japan, it found that Japanese women do not like to admit to dieting. Further, the idea of diet was associated with medicine and sickness. Coca-Cola ended up changing the name to Coke Light.[83] This happened in Europe as well, so if a product is associated with weight loss, a business must be very careful with its marketing.
The Package
The package for a product includes its design, colors, labeling, trademarks, brand name, size, product information, and the actual packaging materials. There are many reasons why a package may have to be adapted for a particular country. There may be laws that stipulate a specific type of bottle or can, package sizes, measurement units, extraheavy packaging, and the use of particular words on the label.[84] In some cases, the expense of package adaptation may be cost prohibitive for entering a market. Consider the following examples:[85]
• In Japan, a poorly packaged product is seen as an indicator of product quality.
• Prices are required to be printed on the labels in Venezuela, but putting prices on labels or in any way suggesting the retail price in Chile is illegal.
• A soft-drink company from the United States incorporated six-point stars as decoration on its package labels. But it had inadvertently offended some of its Arab customers who interpreted the stars as symbolizing pro-Israeli sentiment.
• Soft drinks are sold in smaller sizes in Japan to accommodate the smaller Japanese hand.
• Descriptive words such as giant or jumbo on a package or a label may be illegal in some countries.
The message here is clear. Before going global with a product, examine the packaging so that each element is in compliance with appropriate laws and regulations so that nothing will offend prospective customers.
Global Packaging
Canada’s oldest candymaker, Ganong Brothers, is located about one mile from Maine. The company chairman, David Ganong, can see the US border from his office window. You would think it would be easy for Ganong Brothers to sell to the US market. Not so. In Canada, nutritional labels read 5 mg, with a space between the number and the unit of measurement. Ganong’s jellybeans cannot get into America unless the label reads 5mg, without the space. This difference, as well as differences in Canada’s nutritional guidelines, means that Ganong must produce and package its US products separately, which reduces its efficiency. Small differences can and do have a significant effect on cross-border trade. This may be the reason why there is not as much trade between the United States and Canada as you would think.[86] This notwithstanding, however, Canada remains the number one exporting destination for US small businesses.[87]
The Business Website
As part of product preparations, a business will need to make its website ready for international business. Remember that the website is a very cost-effective way to sell a product or a service across borders. Here are four ways to ready the website:[88]
1. Internationalize website content. A business must account for language differences, and cultural differences may require different graphics and different colors. One way to deal with the additional costs is to translate text or provide country-specific sites only for the country or countries where the most products are sold. One organization that provides resources to help businesses localize their products and resources is the Globalization and Localization Association.
2. Calculate the buyer’s costs and estimate shipping. Shipping internationally will take longer, is more complicated, and will be more expensive than shipping domestically. Fortunately, there are shipping management software packages available that will automatically figure the costs and delivery times for overseas orders, giving a close estimate. Large shipping carriers, such as UPS and FedEx, offer such software; other companies include E4X Inc., eCustoms, and Kewill Systems Plc.[89]
3. Optimize site and search marketing for international web visitors. With the increase in cross-border selling, websites can be optimized for visitors from specific countries, and techniques can be used to attract international visitors through search engines and search ads. This is a growing specialty among search marketers. A business should definitely check out the cost of hiring such a marketer as a consultant. It would be well worth the investment.
4. Comply with government export regulations. A business does not need government approval to sell most goods and services across international borders. There are, of course, notable exceptions. For example, the US government restricts defense or military goods, and agricultural, plant, and food items may have restrictions or special labeling requirements. Such restrictions should be addressed on the website. It may be necessary to restrict the sale of certain products to certain countries only.
Video Link 18.5 Finding Your First Customer
To find the first customer, visit the selected country.
www.inc.com/exporting/findingfirst.htm
Translation Blunders in Global Marketing
We often hear it said that something was lost in the translation. Here are some global marketing examples of translation blunders. Something important to note is that most of these blunders were committed by the “big guys,” companies that are extremely marketing-savvy—proof positive that no one is immune from this kind of error.
• When Coca-Cola was first translated phonetically into Chinese, the result was a phrase that meant “bite the wax tadpole.” When Coca-Cola discovered the error, the company was able to find a close phonetic equivalent that could be loosely translated as “happiness in the mouth.”[90]
• When Pope John Paul II visited Miami in 1987, an ambitious entrepreneur wanted to sell t-shirts with the logo, “I saw the Pope” in Spanish. The entrepreneur forgot that the definite article in Spanish has two genders. Instead of printing “El Papa” (“the Pope”), he printed “La Papa” (“the potato”). Needless to say, there was no market for t-shirts that read “I saw the potato.”[91]
• Sunbeam got into trouble when it did not change the name of its Mist-Stick curling iron when marketing it in Germany. As it turned out, “mist” is German slang for manure. Not surprisingly, German women did not want to use a manure stick in their hair.[92]
• A proposed new soap called “Dainty” in English came out as “aloof” in Flemish (Belgium), “dimwitted” in Farsi (Iran), and “crazy person” in Korean. The product was dropped. The company either did not have the resources to research a new name or did not want to take the time and incur the costs to do so.
• Kellogg’s Bran Buds sounded like “burned farmer” in Swedish.[93]
Given that misunderstanding foreign languages can destroy a brand, it is worth the investment to hire someone who is proficient in the native language in the intended market—including the use of slang. This will help a small business avoid a fatal mistake because it does not have the resources of the big companies to fix the mistakes.[94] This concern must be extended to the web presence as well because the website is an integral part of the product.
Price
Pricing for the global market is not an easy thing to do. Many factors must be taken into account, the first of which are traditional price considerations: fixed and variable costs, competition, company objectives, proposed positioning strategies, the target group, and willingness to pay.[95] Add to these factors things such as the additional costs that are incurred due to taxes, tariffs, transportation, retailer margin, and currency fluctuation risks; the nature of the product or industry, the location of production facility, and the distribution system;[98] the psychological effects of price; the rest of the marketing mix; and the price transparency created by the Internet[99] and a business can begin to appreciate the challenges of global price setting. About the only thing that can be seen as a certainty is that a small business should expect the price of its product or service to be different, usually higher, in a foreign market.[100] The specifics of that difference need to be worked out carefully, with thorough analysis.
Setting the right price for a product or a service is critical to success. It will be a challenge to navigate the pricing waters of each different country—to learn why, for example, a product sells for \$16 in the United States but \$23 in Britain.
Place
As challenging as distribution may be for a small business in the domestic market, it is even more so for the global market. No matter the product, it has to go through a distribution process—the physical handling and distribution of goods, the passage of ownership or title, and the buying and selling negotiations between producers and middlemen and middlemen and customers.[101] It would make sense to be able to take advantage of existing transportation systems, retailers, and suppliers to sell goods and provide services. Unfortunately, adequate distribution systems do not exist in all countries, so a business will need to develop ways to get products to customers in as cost-effective a manner as possible.[102]
Video Link 18.6 Getting Your Product from Here to There
Small businesses rely on freight forwarding and shipping experts to move products around the world.
www.inc.com/exporting/heretothere.htm
Before deciding on a channel or channels of distribution, a business needs information. The following are some basic questions as a starting point:
• Is the selected market dominated by major retailers or is the retail sector made up of small independent retailers?[103]
• How many intermediaries will be involved? In Japan, for example, a product must go through approximately five different types of wholesalers before it reaches the final consumer.[104]
• Can we use the manufacturer, wholesaler, retailer, or consumer channel or can we export directly to a retailer?
• Should we work with a foreign partner? Unless a business plans to establish a retail operation on foreign soil, it will need to establish business-to-business (B2B) sales relationships. Then products can be sold directly to foreign retailers or foreign distributors who will sell to those retailers. A foreign partner can provide valuable insights about local import regulations, product marketability, and local customs. The US Department of Commerce website contains directories of foreign buyers.[105] Small businesses excel at forming strategic partnerships.[106]
• Where can we attend a trade show or a trade mission? Going to these events can help a business find distribution channels.
• Is the Internet commonly used to distribute my product?
Video Link 18.7 Understanding Partnerships and Distributors
Partnerships help many thriving US businesses overseas.
www.inc.com/exporting/partnerships.htm
Video Link 18.8 Identifying Marketing Channels/Activities
How research and planning inform business growth.
www.inc.com/exporting/marketingchannels.htm
In the final analysis, the behavior of distribution channel members will be the result of the interaction between cultural, economic, political, legal, and marketing environments. A small business that is looking to go global—or is already there—will encounter channel structures that range from a minimally developed marketing infrastructure, such as in emerging markets, to highly complex, multilayered systems, such as in Japan.[107]
When deciding to enter the global marketplace, a determination must be made as to whether the current channel structure in the selected country (or countries) will meet the business’s needs or whether some additional arrangements will be needed. The means of distribution will necessarily be a country-by-country decision. No matter the arrangement, however, figure on the costs being greater than in the United States.
Promotion
It is understandable that a small business owner may want to use the same integrated marketing communications (IMC) programs used in the home market to inform customers in foreign markets and persuade them to buy. This “one voice” approach offers the advantage of enabling a business or a product to gain broader recognition in the global marketplace; it also helps reduce costs, minimize redundancies in personnel, and maximize the speed of implementation.[108][109] However, things are not that easy. Cultural, social, language, and legal differences from country to country will usually make it necessary to modify IMC messages to not offend current or prospective customers. Modification is more of a challenge for the small business because the resources needed to make the changes are more limited.
A business communicates with its customers through some combination of its website, advertising, publicity, public relations, sales promotion, sales personnel, e-mail, and social media. The actual mix will be a function of the selected country or countries. For example, in some less-developed countries, the major portion of the promotional effort in rural and less-accessible parts of the market is sales promotion; in other markets, product sampling works especially well when the product concept is new or has a very small market share.[110] In Saudi Arabia, there is an appreciation for fancy packaging, and point-of-sale advertising elicits the best reaction.[111] However, the appropriateness of IMC activities for a small business will depend on the product being marketed, the industry in which it is competing, and the country in which it hopes to sell the product.
Of all the four Ps, decisions involving advertising are thought to be those most often affected by cultural differences in foreign markets. Consumers respond in terms of their culture, style, feelings, value systems, attitudes, beliefs, and perceptions. Because advertising’s function is to interpret or translate the qualities of products and services in terms of consumer needs, wants, desires, and aspirations, emotional appeals, symbols, persuasive approaches, and other characteristics in an advertisement must coincide with cultural norms if the ad is to be effective.[112]
Examples abound of international advertising mistakes that have offended different cultures. Three are presented here. Although they are linked to large corporations, there are lessons to be learned by small businesses. No business is immune from making mistakes from time to time.
• Burger King ran in-store ads for three restaurants in Spain that depicted the Hindu goddess Lakshami on top of a ham sandwich. The caption read, “a snack that is sacred.” Many Hindus are vegetarian and were offended by the ad. Burger King pulled it.[113]
• Burger King ran a campaign in Europe for the Texican Whopper that featured a lanky American cowboy; a short, round Mexican draped in a cape resembling Mexico’s flag; and the caption, “the taste of Texas with a little spicy Mexican.” There was an immediate uproar, with the Mexican ambassador to Spain objecting publicly.[114]
• During a time when Fiat was trying to take advantage of auto sales growth in China, it released an ad in Italy in which actor Richard Gere drove a Lancia Delta from Hollywood to Tibet. The ad did not air in China, but it caused an online uproar nonetheless. Richard Gere is hated in China because he is an outspoken supporter of the Dalai Lama. His selection as the Fiat spokesperson was a major faux pas by Fiat.[115]
The reality of international advertising is that its cost and the effort required to prepare and place the ads correctly may be prohibitive for most small businesses, therefore pushing the emphasis on other elements of the IMC mix. However, a business will not know that for sure until it does the proper research before making a decision. Consider the characteristics of the target market, how the market uses media in that country, and which media are actually available. Some countries do not have commercial television, and some do not have advertising in newspapers. There will be newspaper and magazine circulation differences from country to country; in countries with a low literacy rate, radio and television advertising (if available) will be more effective than print media.[116]
Fortunately, small businesses that want to go global can look to social media for assistance. The social web is a low-cost way to catapult a small business brand into the global arena.[117] Facebook, the most popular social networking site in the world, has developed a self-serve advertising tool that has created the greatest interest among small businesses that might not have had the means to launch a global advertising campaign before. This would be a good place to start—along with a map of the world’s most popular media applications country by country and culture by culture, which is available at www.appappeal.com/the-most-popular-app-per-country/social-networking.
No matter the mix of the IMC program, and no matter whether a business is business-to-consumer (B2C) or B2B, the way a business communicates internationally will be a major determinant of success. Each IMC component is a communication channel in its own right. A business must consider the appropriateness of each message in each channel. For example, is the message adequate? Does it contain correct cultural interpretations? Are the colors and graphics right? In the case of advertising, have the media been chosen that match the behavior of the intended audience? Have you correctly assessed the needs and wants or the thinking processes of the target market?[118]
Careful consideration of these and other communication issues will not guarantee success, but it should help reduce the chances of making a major marketing blunder.
Legal and Political Issues
It is impossible for any small business to know all the laws that pertain to exporting from the United States. Thus it is important to consult an attorney who is knowledgeable about the legal implications of globalization: international trade laws, tax laws, local regulations,[119] international border restrictions, customs rules, and duties and taxes.[120]
To varying degrees, each small business must be concerned with the following. However, this list is not exhaustive; it is a sampling only.
• The Foreign Corrupt Practices Act makes it illegal for companies to pay bribes to foreign officials, candidates, or political parties. The challenge for all US businesses is that bribery is a common business practice in many countries, even though it is illegal.[121] Interestingly, private business bribes are tax deductible in Germany as long as the German businessperson discloses both his or her identity and the recipient of the bribe(s). Although it is supposedly rarely used, it is available.[122]
• Specific licenses and permits are required or additional paperwork must be completed if the following specific products are exported or imported: agricultural products, automobiles (not a likely product for a small business), chemicals, defense products, food and beverage products, industrial goods, and pharmaceutical and biotechnology products.[123]
• There is heightened sensitivity since September 11, 2011, about exporting products that could even remotely be used in a military or a terrorist capacity.[124]
• Brand names, trademarks, products, processes, designs, and formulas are among the more valuable assets a small business can possess. These need to be protected—domestically and internationally. US officials estimate that \$300 billion of intellectual property assets are ripped off every year.[125]
• There are commercial laws within countries related to marketing, environmental issues, and antitrust.
Video Link 18.9 Understanding Legal Considerations
Important legal considerations for small businesses that want to go global.
www.inc.com/exporting/legal.htm
In addition to legal considerations, no small business can conduct global business without understanding the influence of the political environments in which it will be operating.[126] Every nation has the sovereign right to grant or withhold permission to do business within its political boundaries and control where its citizens do business, so the political environment of countries is necessarily a critical concern to any small business.[127] Political issues include the stability of government policies (a stable and friendly government being the ideal), the forms of government (with some being more open to foreign commerce than others), political parties and their influence on economic policy, the degree of nationalism (the greater the nationalism, the greater the bias against foreign business and investments may be), fear and/or animosity that is targeted toward a specific country, and trade disputes.[128] One or all these things create political risk that must be assessed. The most severe political risk is confiscation, the seizing of a company’s assets without payment.[129]
Currency Exchange Issues
The exchange rate is the rate at which one country’s currency can be exchanged for the currency of another country.[130] For example, assume that on a particular day, \$1 exchanged for 0.75643 euros and 49.795 Indian rupees.[131][132] These exchange rates then changed the next day, when \$1 exchanged for 0.6891 euros and 49.845 Indian rupees, meaning that the value of the US dollar increased in value with respect to the euro and decreased in value against the Indian rupee. Currency exchange rates change daily, and they are important because currency fluctuations can present additional problems for the small business looking to go global. The appreciation and depreciation of a currency will have an effect on the prices of goods and services. For example, as the dollar declines in value against the euro, the price of goods and services from the European Union for US customers will increase, likely reducing their purchases.[133] The following are other implications of exchange rate fluctuations:
• Inattention to exchange rates in long-term contracts could result in large unintended discounts.
• Rapid and unexpected currency fluctuations can make pricing in local currencies very difficult.
• Shifts in exchange rates can influence the attractiveness of various business decisions, not the least of which is whether doing business in a particular country is worthwhile.
Different strategies may be needed when the dollar is weak versus when it is strong. For example, when the US dollar is weak, a business should stress price benefits. When the dollar is strong, a business can engage in nonprice competition by improving quality, delivery, and after-sale services.[136] To navigate these challenging currency exchange waters, it will be necessary to tap into accounting and finance expertise.
Sources of Financing
How a business finances an export project is often a critical factor in its success. Financing decisions extend to working capital and export transactions. Working capital is needed to finance operations before and after a sale, and money is needed to sustain a business until it is paid for the goods and services that have been provided (export transactions). The International Trade Association in the US Department of Commerce identifies the following factors as important to consider when making financing decisions.[137]
• The need for financing to make the sale. Offering favorable payment terms can make a product more competitive.
• The length of time the product is being financed. The term of the loan required determines how long a business will have to wait before the buyer pays for the product, which will influence the choice of how to finance the transaction.
• The cost of different methods of financing. Interest rates and fees will vary, and a business should probably expect to assume some of the financing costs. Before providing an invoice to the buyer, a business must understand how these costs will affect price and profit.
• The risks associated with financing the transaction. The riskier the transaction, the more difficult and costly it will be for a business to finance it because there will likely be a higher chance for default. The level of risk will be influenced by several things, not the least of which is the political and economic stability of the buyer’s country. In risky situations, the financing provider may require the most secure method of payment—a letter of credit or export credit insurance.
• The need for preshipment financing and postshipment working capital. Working capital could experience unexpected and severe strains with the production of an unusually large order or a surge of orders. Inadequate working capital can limit exporting growth—even during normal periods.
Where to Go
Small businesses have reported that problems with access to financing for their exporting operations are a major barrier to exporting. The difficulties they experience in obtaining both trade finance and working capital often prevent small businesses from financing purchases by foreign buyers. This encourages foreign buyers to choose suppliers that are able to extend credit. Small businesses must also face the perception of lending institutions that they are a higher risk than larger companies coupled with a lack of familiarity with exporting by community banks.[138]
Despite any anticipated difficulties, small businesses need to find export financing. They can look for financing in several places. The first place to look is internally. Does it already have the funds to finance global efforts? If the answer is yes, then all is well. This was the case for Center Rock, the small business featured at the beginning of this chapter. If the answer is no, which will most likely be the case, it will be necessary to look for external financing. A range of options is available for small businesses to consider (see Table 18.3). As you will see, most financing sources are available from the government. A small business must become familiar with the financing, insurance, and grant programs that are available to help it finance transactions and carry out export operations.[139]
Table 18.3 Sources of Export Financing for the Small Business
Source Information
Extending credit to foreign buyers working with commercial banks Liberal financing can enhance export competitiveness, but extending credit must be weighed carefully. Some commercial bank services used to finance domestic business, including revolving lines of credit for working capital, are often needed to finance export sales until payment is received. However, commercial banks prefer to establish an ongoing business relationship instead of financing solely on the basis of an individual order. Most US banks do not lend against export orders, export receivables, or letters of credit.
Export Express 7(a) Loan Programs Offered by the SBA, this streamlined program helps small businesses develop or expand their export markets. A business may be able to obtain SBA-backed financing for loans and lines of credit up to \$500,000.
Export Working Capital Program (EWCP) 7(a) Loan Programs This SBA loan program targets small businesses that are able to generate export sales but need additional working capital to support these sales. The SBA provides lenders guarantees of up to 90 percent on export loans to ensure that qualified exporters do not lose viable export sales due to a lack of working capital.
International Trade Loan Program 7(a) Loan Programs Loans are available for businesses that plan to start or continue exporting or have been adversely affected by competition from imports. The loan proceeds must enable the borrower to be in a better position to compete. The program offers borrowers a maximum SBA-guaranteed portion of \$1.75 million.
Export-Import Bank An independent federal agency that provides working capital loan guarantees, export-credit insurance, and other forms of financing for US exporters of all sizes. The funds are aimed at offsetting the added risks of doing business abroad, from complex trade rules to unpaid bills.
Using export intermediaries Many export intermediaries, for example, trading companies and export management companies, can help finance export sales. The intermediaries may provide short-term financing or may purchase the goods to be exported directly from the manufacturer, thus eliminating any risks to the manufacturer that are associated with the export transaction as well as the need for financing.
Video Link 18.10 Financing
Some of the ways small businesses can finance their exporting projects.
www.inc.com/exporting/financing.htm
Key Takeaways
• Expanding into global markets introduces new complexities into small business operations.
• The decision to go global should be based on an assessment of the ways to export, an analysis of the industry and a particular company, marketing and cultural factors, legal and political conditions, currency exchange rates, and sources of financing.
• There are two basic ways to export: direct or indirect. In direct exporting, a small business exports directly to a customer who is interested in buying the product. Indirect exporting involves using a middleman for marketing and selling the product in the target market.
• Industry analysis involves looking at where an industry currently is and the trends and directions predicted over the next three years so that a business can try to determine how competitive an industry is in the global market.
• It is important to honestly self-evaluate a business to determine whether it is ready to go global or not.
• It will generally be necessary to adapt the marketing mix to the global market in general and different countries in particular.
• Legal issues include international trade laws, tax laws, and local regulations.
• No small business can conduct global business without understanding the influence of the political environments in which it will be operating.
• Currency exchange rates are important because currency fluctuations can present additional problems for a small business that is looking to go global. In particular, the appreciation and depreciation of a currency will have an effect on the prices of goods and services.
• How a business finances an export project is often a critical factor in its success.
• Working capital is needed before and after the sale, and money is needed until the goods and services that have been provided have been paid for.
• Many—perhaps most—of the sources for small business exporting activity are governmental.
Exercises
1. Comment on the following: a small business owner firmly believes that because a product is successful in Chicago, Illinois, it will be successful in Tokyo or Berlin.[143] Be as specific as you can in your comments.
2. There has been tremendous growth in online business, which has introduced new elements to the legal climate of global business. Patents, brand names, copyrights, and trademarks are difficult to monitor because there are no boundaries with the Internet. What steps could a small business take to protect its trademarks and brands in this environment? Prepare at least five suggestions.[144]
3. Find a local small business that exports its products. Talk to the owner about his or her experiences. Ask questions such as the following: What convinced you to export? How did you decide on the product(s) to export? Did you have to adapt your product(s) in any way? What were the greatest barriers you had to face?
Key Management Decisions and Considerations
Learning Objectives
1. Understand the organizational support that will be needed for exporting activities.
2. Understand the need to select the best market to entry.
3. Identify and describe each possible market entry strategy.
4. Learn about the different approaches to getting paid.
5. Appreciate the importance of business etiquette when traveling to visit customers.
6. Understand the importance of an export plan.
After a business decides to jump into the global pond, several key management decisions must be made (Figure 18.3). Among them are organization for the global project, selecting the best market to enter, the level of involvement desired, and how to get paid. There should also be consideration of global etiquette and travel.
Figure 18.3 Management Decisions
Several important questions about the global venture should be answered before making any management decisions or considerations.[145] Less than satisfactory answers to these questions may put the global venture in jeopardy.
1. Do the company’s reasons for pursuing export markets include solid objectives, such as increasing sales volume or developing a broader, more stable customer base, or are the reasons frivolous, such as the owner wants an excuse to travel?
2. How committed is top management to the export effort? Is it viewed as a quick fix for a slump in domestic sales? Will the company neglect its export customers if domestic sales pick up?
3. What are management’s expectations for the export effort? Will they expect export operations to become self-sustaining quickly? If so, how quickly?
4. What level of return on investment is expected from the export project?
Organization for the Global Project
It will be important to have some kind of structure or team within the business to handle the global side of the business. It does not have to be large, but it should be dedicated to ensuring that export sales are adequately serviced, and there should be a clear indication of who will be responsible for the organization and staffing.[146] Having the right resources for the global effort is critical, so a business should make the most of skills already held by staff members, for example, languages or familiarity with a range of foreign currencies. If these and other needed skills are not already available on staff, a small business should seek assistance from external experts.[147]
Other organizational issues that small businesses must address before going abroad include the following:[150]
• Getting internal buy-in. Because going overseas to do business is a larger undertaking than many businesses realize, make sure that senior management and the people who are responsible for implementing and supporting the overseas effort know what the goals are and what is expected of them with respect to oversight and management. Knowing how much senior management time should be and could be allocated is an important part of getting internal buy-in. Look for support from people in all functions of the business.
• Making sure that the full costs of overseas hiring are understood. If people from overseas will be hired, employment regulations and practices are very different. For example, outside the United States, employment benefits often represent a larger percentage of an employee’s salary than in the United States; in the European Union, for example, a full-blown employment contract is needed, not just an offer letter. This tilts the balance of power to the employee at the expense of the company, making termination very difficult. Understanding the full ramifications of hiring people outside the United States has significant implications for a company’s financial success.
• Thinking about how the business will manage overseas employees’ expectations. Different time zones and countries wreak havoc with keeping employees on the same page. Employees hired locally may have very different ideas about what is considered acceptable than a US employee does. Unless expectations and responsibilities are clearly conveyed at the beginning, problems will undoubtedly arise. They may anyway, but perhaps they will not be as serious.
Market Selection
A business must select the best market(s) to enter. The three largest markets for US products are Canada, Japan, and Mexico, but these countries may not be the largest or best markets for a particular product.[151] If a business is not sure where the best place for doing global business is, one good approach is to find out where domestic competitors have been expanding internationally. Although moving into the same market(s) may make good sense, a good strategy might also be to go somewhere else. Three key US government databases that can identify the countries that represent significant export potential for a product are as follows:[152]
1. The SBA’s Automated Trade Locator Assistance System
2. Foreign Trade Report FT925
3. The US Department of Commerce’s National Trade Data Bank
After identifying the country or countries that may offer the best market potential for a product, serious market research should be conducted. A business should look at all the following factors: demographic, geographic, political, economic, social, cultural, market access, distribution, production, and the existence or absence of tariffs and nontariff trade barriers. Tariffs are taxes imposed on imported goods so that the price of imported goods increases to the level of domestic goods. Tariffs can be particularly critical in selecting a particular country because the tariff may make it impossible for a US small business to profitably sell its products in a particular country.
Nontariff trade barriers are laws or regulations enacted by a country to protect its domestic industries against foreign competition.[153] These barriers include such things as import licensing requirements; fees; government procurement policies; border taxes; and packaging, labeling, and marking standards.[154]
Market Entry Strategies
A small business must decide how it wants to enter the selected foreign market(s). Several choices might look attractive for a business (see Figure 18.4). Direct and indirect exporting, strategic alliances, joint ventures, and direct foreign investment are discussed in this section. The benefits and risks associated with each strategy depend on many factors. Among them are the type of product or service being produced; the need for product or service support; and the foreign economic, political, business, and cultural environment to be penetrated. A firm’s level of resources and commitment and the degree of risk it is willing to incur will help determine the strategy that the business thinks will work best.[155]
Figure 18.4 Examples of Export Market Entry Strategies
• Joint venture (JV) is a partnership with a foreign firm formed to achieve a specific goal or operate for a specific period of time. A legal entity is created, with the partners agreeing to share in the management of the JV, and each partner holds an equity position. Each company retains its separate identity. Among the benefits are immediate market knowledge and access, reduced risk, and control over product attributes. On the negative side, JV agreements across national borders can be extremely complex, which requires a very high level of commitment by all parties. Because some countries have restrictions on the foreign ownership of corporations, a JV may be the only way a small business can purchase facilities in another country.[159]
• Strategic alliance is very similar to a JV in that it is a partnership formed to create competitive advantage on a worldwide basis.[160] An agreement is signed between two corporations, but a separate business entity is not created.[161] The business relationship is based on cooperation out of mutual need, and there is shared risk in achieving a common objective. Growing at a rate of about 20 percent per year, strategic alliances are created for many reasons (e.g., opportunities for rapid expansion into new markets, reduced marketing costs, and strategic competitive moves).[162] “Small businesses excel at forming strategic partnerships and alliances which make them look bigger than they are and offer their customers a global reach.[163]
• Direct foreign investment is exactly what it sounds like: investment in a foreign country. If a business is interested in manufacturing locally to take advantage of low-cost labor, gain access to raw materials, reduce the high costs of transportation to market, or gain market entry, direct foreign investment is something to be considered. However, the complicated mix of considerations and risks—for example, the growing complexity and contingencies of contracts and degree of product differentiation—makes decisions about foreign investments increasingly difficult.[164]
Getting Paid
Being paid in full and on time is of obvious importance to a business, so the level of risk that it is willing to assume in extending credit to customers is a major consideration.[165] The credit of a buyer will always be a concern, but potentially more worrisome is the lessened recourse a business will have when it comes to collecting unpaid international debts. Extra caution must be exercised. Both the business owner and the buyer must agree on the terms of the sale in advance.[166]
The primary methods of payment for international transactions are payment in advance (the most secure), letters of credit, documentary collection (drafts), consignment, and open account (the least secure), which are described as follows:
• Cash in advance. This is the ideal method of payment because a company is relieved of collection problems and has immediate use of the money. Unfortunately, it tends to be an option only when the manufacturing process is specialized, lengthy, or capital intensive and requires partial or progress payments. Wire transfers are commonly used, and many exporters accept credit cards.
• Documentary letter of credit. This is an internationally recognized instrument issued by a bank on behalf of its client, the purchaser. A letter of credit represents the bank’s guarantee to pay the seller, provided that the conditions specified in the letter are fulfilled.
• Documentary collection or draft. This involves the use of a draft, drawn by the seller on the buyer. It requires the buyer to pay the face amount either on sight (sight draft) or on a specified date in the future (time draft). The draft is an unconditional order to make payment in accordance with its terms, which specify the documents needed before title to the goods will be passed. All terms of payment should be clearly specified so that confusion and delay are avoided.
• Open account. With an open account, the exporter bills the customer, who is then expected to pay under agreed-on terms at a future date after the goods are manufactured and delivered (usually with fifteen, thirty, or sixty days). This payment method works well if the buyer is well established, has a long and favorable payment record, or has been thoroughly checked for being creditworthy. This approach is considered risky in international business because a business has limited recourse if debts are unpaid. Small businesses considering this option must examine the political, economic, and commercial risks very thoroughly.
• Consignment sales. Goods are shipped to a foreign distributor, which sells them on behalf of the exporter. Title to the goods remains with the exporter until they are sold, at which point payment is sent to the exporter. The exporter has the greatest risk and least control over the goods with this method, and payment may take a while. Risk insurance should be seriously considered with consignment sales.
When buyers default on their payments, it can be time-consuming, difficult, and expensive to obtain payments. A business should contact the buyer and try to negotiate payment. If negotiation fails and the amount of the debt is large enough to make a difference in that business, obtain the assistance and advice of the business’s bank, legal counsel, and the US Commercial Service, an organization that can resolve payment problems informally. If arbitration becomes necessary, the International Chamber of Commerce is the place to go. It handles most international arbitrations and is usually acceptable to foreign companies because it is not affiliated with any single country.[169]
Business Etiquette and Travel
Having a successful global business requires getting to know the history, the culture, and the customs of the country or countries in which a business hopes to expand. Each country is different from another and the United States in some ways. Some of these differences have been discussed earlier in this chapter. Among the cultural differences to be faced are business styles, attitudes toward business relationships and punctuality, negotiating styles, gift-giving customers, greetings, the significance of gestures, the meanings of colors and numbers, and customs regarding titles. For example, engaging in small talk before conducting business is standard practice in Saudi Arabia, and gift giving is an important part of doing business in Japan.[170]
Before traveling to the chosen country or countries, knowing any and all cultural differences is critical. It is also important to educate stateside employees who will be working with international customers.
Being successful in global operations will depend on the relationships that are built. The best way to build them is by traveling to the selected country. Travel there…but do so with the cultural knowledge and understanding that will allow the conduct of business without inadvertently offending a potential customer.
Video Link 18.11 Meet Your Customers: Traveling There
Building relationships for success in exporting businesses.
www.inc.com/exporting/travelingthere.htm
The Export Plan
After deciding to sell products or services abroad, a carefully researched export plan is a source of direction. An export plan helps a business act on—rather than react to—the challenges and risks encountered in global business. The plan will also help a business obtain financial assistance and find investors, strategic partners, and JV partners that may be needed for success.[171]
There are many elements of an export plan, including a description of the company; its market and industry; its objectives; information on its products or services; an analysis of the target market and industry, including trends and forecasts; an examination of competitors and their strengths and weaknesses; international marketing strategies, including customer profiling and the development of sales and distribution channels; employment and training issues; after-sales and customer service, and financial requirements and forecasts.[172] “Many companies launch their export activities haphazardly and are unsuccessful in their early efforts because of poor or no planning, which often leads them to abandon exporting altogether.”[173]
Video Link 18.12 Providing Good Customer Service
Small business owners talk about what they have learned by serving international customers.
www.inc.com/exporting/customerservice.htm
A business’s first export plan should be simple, only a few pages because important market data and planning elements may not be easily available or completely unavailable. The plan should be written and seen as a flexible management document, not a static document that sits on a shelf somewhere gathering dust. Objectives need to be compared against actual results, just as a business would do with its marketing plan and its overall business plan. A business should be open to revising the plan as necessary as new information becomes available and experience is gained.[174]
Video Link 18.13 Creating an Export Business Plan
Small business owners agree that developing a strategic plan is the first step toward exporting success.
www.inc.com/exporting/businessplan.htm
Key Takeaways
• Before taking a business global, desire to pursue export markets for good rather than frivolous reasons.
• Management commitment must be present for successful global operations.
• A business must decide on some kind of structure to handle its global side. It should be dedicated to ensuring that export sales are adequately serviced.
• Getting internal buy-in is critical.
• A business will need to select the best market(s) to enter. Although Canada, Japan, and Mexico are the largest markets for US products, these countries may not be the best markets for specific products or services.
• Tariffs and nontariff trade barriers can pose serious constraints.
• A business must decide how to enter a foreign market. For example, it can choose direct and indirect exporting, strategic alliances, JVs, and direct foreign investment.
• Being paid in full and on time is of obvious importance, especially considering the difficulties a business will encounter in collecting an unpaid international debt. The most secure method of payment is cash in advance. The least secure is an open account.
• Learning and understanding the business etiquette of the country or countries to which a business is exporting is a very important part of building business relationships.
• A carefully researched export plan is a source of direction, and it will help a business act on—rather than react to—the challenges and risks it will encounter in global business.
Exercises
1. Go to the Coca-Cola website (www.coca-cola.com/en/index.html) and select one website from each of the following geographic areas: Latin America, Europe, Eurasia, Africa, and Asia Pacific. Compare the home pages of these sites to the US home page—even though you will not understand the language (unless you are bilingual). Look at the graphics, layout, and uses of color. What are the similarities? What are the differences? To what would you attribute the differences? How would these similarities and differences inform the design of a small business website for conducting global business?
The Three Threads
Learning Objectives
1. Understand how to contribute to customer value in exporting activities.
2. Explain how exporting can impact cash flow.
3. Explain how technology and the e-environment impact exporting.
Customer Value Implications
Always remember that customers make the decision about whether the appropriate value is present, and that value will always be as they perceive it. Carefully adapting a product to the targeted country for an exporting venture is an important first step in providing customer value. This means knowing about the sources of value in a product or a service and then acting on them. It can mean a minor product adaptation—for example, serving beer in McDonald’s in Germany or wine in McDonald’s in France and Italy—or a new twist on distribution—for example, Procter & Gamble selling shampoo in single-use tubes in newsstands in India. Although these are large-company examples, the experiences can be easily translated into small business exporting practice.
Another important source of customer value is the company website. Whether the website is the only selling platform of a business or is part of a brick-and-click exporting business, foreign buyers are much more likely to buy if a business’s website is in their language. Although translation and country-specific sites can be a costly proposition, the text, graphics, and colors of the website can either enhance or detract from an exporting business. A small business owner should find out what organizational services and website designers can provide assistance. It may be possible to link the website to the Google translation tool to get a rough translation in seconds.[175]
Once a sale is made, do not make the mistake of thinking that it is the end of the relationship between the business and an overseas customer. Providing after-sale service must be an integral part of a company’s export strategy from the very beginning.[176] This service should include regular thank-yous for their business; a plan for regular communication; and offering customers 24/7 availability via some combination of fax, Twitter, e-mail alerts, a wiki, a Skype account, and telephone voicemail services where messages can be retrieved around the clock. This level of access will be of great value to foreign customers because it lets them know that you are reliable, dependable, ready to serve, and willing to minimize risk. It is this proper care and feeding of customers that will keep them coming back because the business provides value that makes it worth their while.[177]
There is something else to consider as well. Research has shown that global online shoppers demand live customer service, with this service being more important than price.[178] This has implications not only for how customer service is designed for the targeted country for exports but for buyers from other countries as well.
Cash-Flow Implications
A small business exporter will face the same cash-flow challenges that affect any small business, but being an exporter presents additional cash-flow challenges that are unique to selling products overseas. One of these challenges comes from the value-added tax (VAT) in Europe. Having the proper VAT registration can be key because all non–European Union businesses must collect and remit the VAT on applicable transactions. A business is required to charge the VAT, and compliance requires periodic VAT filings, which means keeping VAT records on file and available for inspection by local tax authorities and anyone else who has reason and authority to inspect them. A failure to comply can result in significant penalties and cash-flow problems.[179]
Shipping costs pose another threat to cash flow. Shipping products overseas is very expensive, with the fees sometimes being as high as the cost of shipping the merchandise itself. Add to that the differences in currencies and taxes, and a business is faced with the possibility of having to pay all or most of the shipping costs up front. While waiting for customers to pay, paying these costs will have a negative impact on cash flow.[180] Fortunately, there are cost-cutting approaches available. For example, Michael Katz, a small business owner who ships portfolio and art cases overseas, was able to reduce the extra expenses by negotiating a discount with UPS, cutting his shipping costs to 50 percent of the list rate.[181]
Implications of Technology and the E-Environment
Inexpensive technology and the Internet have made it possible for small businesses to operate internationally with some of the same efficiencies as larger companies.[182] The global reach of the Internet makes it cost-effective for small businesses to sell products and services overseas. Small businesses can broaden their presence internationally by adopting e-commerce and e-business practices that are user-friendly for non-English-speaking countries.[183]
The small business owner can also look to several other sources of assistance for global endeavors. Consider the following three examples:
1. The self-service advertising product developed by Facebook gives small businesses an opportunity to reach a global audience.[184]
2. Shipping management software packages will automatically figure the costs and the delivery times for overseas orders, giving a close estimate. They also convert the currency for the buyer. Integrating this software into the website of a small business will provide a seamless experience for the customer, making an important contribution to customer value.[185]
3. The Internet and mobile devices lower information and communication costs, providing new channels of distribution and permitting 24/7 global reach through Twitter, wikis, e-mail alerts, and Skype.
Key Takeaways
• A small business can offer customer value in its global activities by carefully adapting its products to the targeted country, having a website that caters to the language and culture of the buyers, and providing excellent after-sale service.
• The small business faces potential cash-flow problems from the VAT and shipping costs.
• Inexpensive technology and the Internet have made it possible for small businesses to operate internationally with some of the same efficiencies as larger companies.
Exercises
1. How can mobile devices be used to help the exporting operations of a small business?
2. How does the advertising product developed by Facebook work? How can it help increase the global reach of a small business? What are the costs for a small business?
Disaster Watch
Michael has been very successful with his exporting business. Instead of choosing Canada, Japan, or Mexico, the top three countries for small business exporting, he decided on Babalacala, a small country in the Middle East that has a history of political stability even though it has been ruled by one man for more than thirty-five years. The risk has been worth it so far. Michael identified the demand for his product, and he was right on target with his marketing research.
Michael has a small manufacturing plant that employs 150 locals and 5 people from the United States. He has successfully adapted his product to the local cultural, legal, and economic environments. His prices and promotion strategy are good fits, and his distribution structure—with some minor tweaking—is proving to be very efficient and effective. Needless to say, Michael and his investors are very happy campers.
But not for much longer.
Michael awakened one morning to a large-scale revolt against the current governor of Babalacala. The streets of the capital city were filled with protestors. Things were peaceful at first, but violence erupted in the afternoon. Many of Michael’s local workers left the factory to protest or because they were afraid. Telecommunications were out, transportation was spotty, and there was only intermittent power. Most of the local stores closed. The word on the street was that the protestors were in for the long haul. They planned to keep protesting until the current governor resigned or left the country.
What should Michael do? He has a lot of money, time, and passion invested in his exporting business, and there are investors to think about. He does not want to leave Babalacala, but this is a serious situation.
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It’s a Small World
Do you wear Nike shoes or Timberland boots? Buy groceries at Tops Friendly Markets, Giant Stores, or Stop & Shop? Listen to Beyonce, Pitbull, Britney Spears, Jennifer Lopez, the Dixie Chicks, Foster the People, or the Dave Matthews Band? If you answered yes to any of these questions, you’re a global business customer. Both Nike and Timberland manufacture most of their products overseas. The Dutch firm Royal Ahold owns all three supermarket chains. Sony Music, the label that records Beyonce, J. Lo, the Dixie Chicks, and the other artists mentioned, belongs to a Japanese company.
Take an imaginary walk down Orchard Road, the most fashionable shopping area in Singapore. You’ll pass department stores such as Tokyo-based Takashimaya and London’s very British Marks & Spencer, both filled with such well-known international labels as Ralph Lauren Polo, Burberry, Chanel, and Nokia. If you need a break, you can also stop for a latte at Seattle-based Starbucks.
When you’re in the Chinese capital of Beijing, don’t miss Tiananmen Square. Parked in front of the Great Hall of the People, the seat of Chinese government, are fleets of black Buicks, cars made by General Motors in Flint, Michigan. If you’re adventurous enough to find yourself in Faisalabad, a medium-size city in Pakistan, you’ll see locals riding donkeys, camels pulling carts piled with agricultural produce, and Hamdard University, located in a refurbished hotel. Step inside its computer labs, and the sensation of being in a faraway place will likely disappear: on the computer screens, you’ll recognize the familiar Microsoft flag—the same one emblazoned on screens in Microsoft’s hometown of Seattle and just about everywhere else on the planet.
The Globalization of Business
Learning Objectives
1. Explain why nations and companies participate in international trade.
2. Describe the concepts of absolute and comparative advantage.
3. Explain how trade between nations is measured.
The globalization of business is bound to affect you. Not only will you buy products manufactured overseas, but it’s highly likely that you’ll meet and work with individuals from various countries and cultures as customers, suppliers, colleagues, employees, or employers. The bottom line is that the globalization of world commerce has an impact on all of us. Therefore, it makes sense to learn more about how globalization works.
World commerce has become increasingly international, so understanding how global business works is key to a successful career.
Never before has business spanned the globe the way it does today. But why is international business important? Why do companies and nations engage in international trade? What strategies do they employ in the global marketplace? What challenges do companies face when they do business overseas? How do governments and international agencies promote and regulate international trade? Is the globalization of business a good thing? What career opportunities are there for you in global business? How should you prepare yourself to take advantage of them? These are the questions that we’ll be addressing in this chapter. Let’s start by looking at the more specific reasons why companies and nations engage in international trade.
Why Do Nations Trade?
Why does the United States import automobiles, steel, digital phones, and apparel from other countries? Why don’t we just make them ourselves? Why do other countries buy wheat, chemicals, machinery, and consulting services from us? Because no national economy produces all the goods and services that its people need. Countries are importers when they buy goods and services from other countries; when they sell products to other nations, they’re exporters. (We’ll discuss importing and exporting in greater detail later in the chapter.) The monetary value of international trade is enormous. In 2010, the total value of worldwide trade in merchandise and commercial services was \$18.5 trillion.[1]
Absolute and Comparative Advantage
To understand why certain countries import or export certain products, you need to realize that every country (or region) can’t produce the same products. The cost of labor, the availability of natural resources, and the level of know-how vary greatly around the world. Most economists use the concepts of absolute advantage and comparative advantage to explain why countries import some products and export others.
Absolute Advantage
A nation has an absolute advantage if (1) it’s the only source of a particular product or (2) it can make more of a product using the same amount of or fewer resources than other countries. Because of climate and soil conditions, for example, France had an absolute advantage in wine making until its dominance of worldwide wine production was challenged by the growing wine industries in Italy, Spain, and the United States. Unless an absolute advantage is based on some limited natural resource, it seldom lasts. That’s why there are few, if any, examples of absolute advantage in the world today.
Comparative Advantage
How can we predict, for any given country, which products will be made and sold at home, which will be imported, and which will be exported? This question can be answered by looking at the concept of comparative advantage, which exists when a country can produce a product at a lower opportunity cost compared to another nation. But what’s an opportunity cost? Opportunity costs are the products that a country must decline to make in order to produce something else. When a country decides to specialize in a particular product, it must sacrifice the production of another product.
Let’s simplify things by imagining a world with only two countries—the Republic of High Tech and the Kingdom of Low Tech. We’ll pretend that each country knows how to make two and only two products: wooden boats and telescopes. Each country spends half its resources (labor and capital) on each good. Figure 19.2 “Comparative Advantage in the Techs” shows the daily output for both countries: High Tech makes three boats and nine telescopes while Low Tech makes two boats and one telescope (They’re not highly productive, as we’ve imagined two very small countries).
First, note that High Tech has an absolute advantage (relative to Low Tech) in both boats and telescopes: it can make more boats (three versus two) and more telescopes (nine versus one) than Low Tech can with the same resources. So, why doesn’t High Tech make all the boats and all the telescopes needed for both countries? Because it lacks sufficient resources to make all the boats and all the telescopes, High Tech must, therefore, decide how much of its resources to devote to each of the two goods. Let’s assume that each country could devote 100 percent of its resources on either of the two goods. We’ll pick boats as a start. If both countries spend all their resources on boats (and make no telescopes), here’s what happens:
• When we assumed that High Tech spent half of its time on boats and half of its time on telescopes, it was able to make nine telescopes (see Figure 19.2 “Comparative Advantage in the Techs”). If it gives up the opportunity to make the nine telescopes, it can use the time gained by not making the telescopes to make three more boats (the number of boats it can make with half of its time). Because High Tech could make three more boats by giving up the opportunity to make the nine telescopes, the opportunity cost of making each boat is three telescopes (9 telescopes ÷ 3 boats = 3 telescopes).
• When we assumed that Low Tech spent half of its time on boats and half of its time on telescopes, it was able to make only one telescope (Figure 19.2 “Comparative Advantage in the Techs”). If it gives up the opportunity to make the telescope, it can use the time gained by not making the telescope to make two more boats. Because Low Tech could make two more boats by giving up the opportunity to make one telescope, the opportunity cost of making each boat is half a telescope (1 telescope ÷ 2 boats = 1/2 of a telescope).
• Low Tech, therefore, enjoys a lower opportunity cost: Because it must give up less to make the extra boats (1/2 telescope vs. 3 telescopes), it has a comparative advantage for boats. And because it’s better—that is, more efficient—at making boats than at making telescopes, it should specialize in boat making.
Now to telescopes. Here’s what happens if each country spends all its time making telescopes and makes no boats:
• When we assumed that High Tech spent half of its time on boats and half of its time on telescopes, it was able to make three boats (Figure 19.2 “Comparative Advantage in the Techs”). If it gives up the opportunity to make the three boats, it can use the time gained by not making the boats to make nine more telescopes. Because High Tech could make nine more telescopes by giving up the opportunity to make three boats, the opportunity cost of making each telescope is one-third of a boat (3 boats ÷ 9 telescopes = 1/3 of a boat).
• When Low Tech spent half of its time on boats and half of its time on telescopes, it was able to make two boats. If it gives up the opportunity to make the two boats, it can use the time to make one more telescope. Thus, if High Tech wants to make only telescopes, it could make one more telescope by giving up the opportunity to make two boats. Thus, the opportunity cost of making each telescope is two boats (2 boats ÷ 1 telescope = 2 boats).
• In this case, High Tech has the lower opportunity cost: Because it had to give up less to make the extra telescopes (1/3 of a boat vs. 2 boats), it enjoys a comparative advantage for telescopes. And because it’s better—more efficient—at making telescopes than at making boats, it should specialize in telescope making.
Each country will specialize in making the good for which it has a comparative advantage—that is, the good that it can make most efficiently, relative to the other country. High Tech will devote its resources to telescopes (which it’s good at making), and Low Tech will put its resources into boat making (which it does well). High Tech will export its excess telescopes to Low Tech, which will pay for the telescopes with the money it earns by selling its excess boats to High Tech. Both countries will be better off.
Things are a lot more complex in the real world, but, generally speaking, nations trade to exploit their advantages. They benefit from specialization, focusing on what they do best, and trading the output to other countries for what they do best. The United States, for instance, is increasingly an exporter of knowledge-based products, such as software, movies, music, and professional services (management consulting, financial services, and so forth). America’s colleges and universities, therefore, are a source of comparative advantage, and students from all over the world come to the United States for the world’s best higher-education system. Many people study in the United States to take advantage of one of the world’s premier education systems.
France and Italy are centers for fashion and luxury goods and are leading exporters of wine, perfume, and designer clothing. Japan’s engineering expertise has given it an edge in such fields as automobiles and consumer electronics. And with large numbers of highly skilled graduates in technology, India has become the world’s leader in low-cost, computer-software engineering.
How Do We Measure Trade between Nations?
To evaluate the nature and consequences of its international trade, a nation looks at two key indicators. We determine a country’s balance of trade by subtracting the value of its imports from the value of its exports. If a country sells more products than it buys, it has a favorable balance, called a trade surplus. If it buys more than it sells, it has an unfavorable balance, or a trade deficit.
For many years, the United States has had a trade deficit: we buy far more goods from the rest of the world than we sell overseas. This fact shouldn’t be surprising. With high income levels, we not only consume a sizable portion of our own domestically produced goods but enthusiastically buy imported goods. Other countries, such as China and Taiwan, which manufacture primarily for export, have large trade surpluses because they sell far more goods overseas than they buy.
Managing the National Credit Card
Are trade deficits a bad thing? Not necessarily. They can be positive if a country’s economy is strong enough both to keep growing and to generate the jobs and incomes that permit its citizens to buy the best the world has to offer. That was certainly the case in the United States in the 1990s. Some experts, however, are alarmed at our rapidly accelerating trade deficit. Investment guru Warren Buffet, for example, cautions that no country can continuously sustain large and burgeoning trade deficits. Why not? Because creditor nations will eventually stop taking IOUs from debtor nations, and when that happens, the national spending spree will have to cease. “Our national credit card,” he warns, “allows us to charge truly breathtaking amounts. But that card’s credit line is not limitless.”[2]
By the same token, trade surpluses aren’t necessarily good for a nation’s consumers. Japan’s export-fueled economy produced high economic growth in the 1970s and 1980s. But most domestically made consumer goods were priced at artificially high levels inside Japan itself—so high, in fact, that many Japanese traveled overseas to buy the electronics and other high-quality goods on which Japanese trade was dependent. CD players and televisions were significantly cheaper in Honolulu or Los Angeles than in Tokyo. How did this situation come about? Though Japan manufactures a variety of goods, many of them are made for export. To secure shares in international markets, Japan prices its exported goods competitively. Inside Japan, because competition is limited, producers can put artificially high prices on Japanese-made goods. Due to a number of factors (high demand for a limited supply of imported goods, high shipping and distribution costs, and other costs incurred by importers in a nation that tends to protect its own industries), imported goods are also expensive.[3]
Balance of Payments
The second key measure of the effectiveness of international trade is balance of payments: the difference, over a period of time, between the total flow of money coming into a country and the total flow of money going out. As in its balance of trade, the biggest factor in a country’s balance of payments is the money that comes in and goes out as a result of imports and exports. But balance of payments includes other cash inflows and outflows, such as cash received from or paid for foreign investment, loans, tourism, military expenditures, and foreign aid. For example, if a U.S. company buys some real estate in a foreign country, that investment counts in the U.S. balance of payments, but not in its balance of trade, which measures only import and export transactions. In the long run, having an unfavorable balance of payments can negatively affect the stability of a country’s currency. Some observers are worried about the U.S. dollar, which has undergone an accelerating pattern of unfavorable balances of payments since the 1970s. For one thing, carrying negative balances has forced the United States to cover its debt by borrowing from other countries. [4][5]Figure 19.4 “U.S. Imports, Exports, and Balance of Payments, 1994–2010” provides a brief historical overview to illustrate the relationship between the United States’ balance of trade and its balance of payments.
Key Takeaways
• Nations trade because they don’t produce all the products that their inhabitants need.
1. They import those that they need but don’t produce and export those that are needed elsewhere.
2. To understand why certain countries import or export certain products, you need to realize that not all countries are good at producing or are able to produce the same products.
3. The cost of labor, the availability of natural resources, and the level of know-how vary greatly around the world.
• To explain how countries decide what products to import and export, economists use the concepts of absolute and comparative advantage.
1. A nation has an absolute advantage if it’s the only source of a particular product or can make more of a product with the same amount of or fewer resources than other countries.
2. A comparative advantage exists when a country can produce a product at a lower opportunity cost than other nations.
• Nations trade to exploit their advantages: they benefit from specialization, focusing on what they do best and trading the output to other countries for what they do best.
• To evaluate the impact of its international trade, a nation looks at two key indicators: balance of trade and balance of payments.
• We determine a country’s balance of trade by subtracting the value of its imports from the value of its exports.
1. If a country sells more products than it buys, it has a favorable balance, called a trade surplus.
2. If it buys more than it sells, it has an unfavorable balance, or a trade deficit.
• The balance of payments is the difference, over a period of time, between the total flow coming into a country and the total flow going out.
1. As in its balance of trade, the biggest factor in a country’s balance of payments is the money that comes in and goes out as a result of exports and imports.
2. But balance of payments includes other cash inflows and outflows, such as cash received from or paid for foreign investment, loans, tourism, military expenditures, and foreign aid.
Exercises
1. (AACSB) Analysis
Consultant Write a report Prepare a presentation
John 80 hours 40 hours
Jennifer 150 hours 60 hours
Using the information contained in the grid above, answer each of the following questions:
2. (AACSB) Analysis
Now let’s change you to the United States. The United States has just run up one of the largest one-year trade deficits in history—for 2010 the trade deficit was almost \$500 billion. Respond to the following items:
Opportunities in International Business
Learning Objectives
1. Define importing and exporting.
2. Explain how companies enter the international market through licensing agreements or franchises.
3. Describe how companies reduce costs through contract manufacturing and outsourcing.
4. Explain the purpose of international strategic alliances and joint ventures.
5. Understand how U.S. companies expand their businesses through foreign direct investments and international subsidiaries.
6. Understand the arguments for and against multinational corporations.
The fact that nations exchange billions of dollars in goods and services each year demonstrates that international trade makes good economic sense. For an American company wishing to expand beyond national borders, there are a variety of ways it can get involved in international business. Let’s take a closer look at the more popular ones.
Importing and Exporting
Importing (buying products overseas and reselling them in one’s own country) and exporting (selling domestic products to foreign customers) are the oldest and most prevalent forms of international trade. For many companies, importing is the primary link to the global market. American food and beverage wholesalers, for instance, import the bottled water Evian from its source in the French Alps for resale in U.S. supermarkets.[6] Other companies get into the global arena by identifying an international market for their products and become exporters. The Chinese, for instance, are increasingly fond of fast foods cooked in soybean oil. Because they also have an increasing appetite for meat, they need high-protein soybeans to raise livestock.[7] As a result, American farmers now export over \$9 billion worth of soybeans to China every year.[8]
Licensing and Franchising
A company that wants to get into an international market quickly while taking only limited financial and legal risks might consider licensing agreements with foreign companies. An international licensing agreement allows a foreign company (the licensee) to sell the products of a producer (the licensor) or to use its intellectual property (such as patents, trademarks, copyrights) in exchange for royalty fees. Here’s how it works: You own a company in the United States that sells coffee-flavored popcorn. You’re sure that your product would be a big hit in Japan, but you don’t have the resources to set up a factory or sales office in that country. You can’t make the popcorn here and ship it to Japan because it would get stale. So you enter into a licensing agreement with a Japanese company that allows your licensee to manufacture coffee-flavored popcorn using your special process and to sell it in Japan under your brand name. In exchange, the Japanese licensee would pay you a royalty fee.
Another popular way to expand overseas is to sell franchises. Under an international franchise agreement, a company (the franchiser) grants a foreign company (the franchisee) the right to use its brand name and to sell its products or services. The franchisee is responsible for all operations but agrees to operate according to a business model established by the franchiser. In turn, the franchiser usually provides advertising, training, and new-product assistance. Franchising is a natural form of global expansion for companies that operate domestically according to a franchise model, including restaurant chains, such as McDonald’s and Kentucky Fried Chicken, and hotel chains, such as Holiday Inn and Best Western.
Contract Manufacturing and Outsourcing
Because of high domestic labor costs, many U.S. companies manufacture their products in countries where labor costs are lower. This arrangement is called international contract manufacturing or outsourcing. A U.S. company might contract with a local company in a foreign country to manufacture one of its products. It will, however, retain control of product design and development and put its own label on the finished product. Contract manufacturing is quite common in the U.S. apparel business, with most American brands being made in a number of Asian countries, including China, Vietnam, Indonesia, and India.[9]
Thanks to twenty-first-century information technology, nonmanufacturing functions can also be outsourced to nations with lower labor costs. U.S. companies increasingly draw on a vast supply of relatively inexpensive skilled labor to perform various business services, such as software development, accounting, and claims processing. For years, American insurance companies have processed much of their claims-related paperwork in Ireland. With a large, well-educated population with English language skills, India has become a center for software development and customer-call centers for American companies. In the case of India, as you can see in Table 19.1 “Selected Hourly Wages, United States and India”, the attraction is not only a large pool of knowledge workers but also significantly lower wages.
Table 19.1 Selected Hourly Wages, United States and India
Occupation U.S. Wage per Hour (per year) Indian Wage per Hour (per year)
Middle-level manager \$29.40 per hour (\$60,000 per year) \$6.30 per hour (\$13,000 per year)
Information technology specialist \$35.10 per hour (\$72,000 per year) \$7.50 per hour (\$15,000 per year)
Manual worker \$13.00 per hour (\$27,000 per year) \$2.20 per hour (\$5,000 per year)
Strategic Alliances and Joint Ventures
What if a company wants to do business in a foreign country but lacks the expertise or resources? Or what if the target nation’s government doesn’t allow foreign companies to operate within its borders unless it has a local partner? In these cases, a firm might enter into a strategic alliance with a local company or even with the government itself. A strategic alliance is an agreement between two companies (or a company and a nation) to pool resources in order to achieve business goals that benefit both partners. For example, Viacom (a leading global media company) has a strategic alliance with Beijing Television to produce Chinese-language music and entertainment programming.[10]
An alliance can serve a number of purposes:
• Enhancing marketing efforts
• Building sales and market share
• Improving products
• Reducing production and distribution costs
• Sharing technology
Alliances range in scope from informal cooperative agreements to joint ventures—alliances in which the partners fund a separate entity (perhaps a partnership or a corporation) to manage their joint operation. Magazine publisher Hearst, for example, has joint ventures with companies in several countries. So, young women in Israel can read Cosmo Israel in Hebrew, and Russian women can pick up a Russian-language version of Cosmo that meets their needs. The U.S. edition serves as a starting point to which nationally appropriate material is added in each different nation. This approach allows Hearst to sell the magazine in more than fifty countries.[11][12][13][14]
Foreign Direct Investment and Subsidiaries
Many of the approaches to global expansion that we’ve discussed so far allow companies to participate in international markets without investing in foreign plants and facilities. As markets expand, however, a firm might decide to enhance its competitive advantage by making a direct investment in operations conducted in another country. Foreign direct investment (FDI) refers to the formal establishment of business operations on foreign soil—the building of factories, sales offices, and distribution networks to serve local markets in a nation other than the company’s home country. On the other hand offshoring occurs when the facilities set up in the foreign country replace U.S. manufacturing facilities and are used to produce goods that will be sent back to the United States for sale. Shifting production to low-wage countries is often criticized as it results in the loss of jobs for U.S. workers.[15]
FDI is generally the most expensive commitment that a firm can make to an overseas market, and it’s typically driven by the size and attractiveness of the target market. For example, German and Japanese automakers, such as BMW, Mercedes, Toyota, and Honda, have made serious commitments to the U.S. market: most of the cars and trucks that they build in plants in the South and Midwest are destined for sale in the United States.
A common form of FDI is the foreign subsidiary: an independent company owned by a foreign firm (called the parent). This approach to going international not only gives the parent company full access to local markets but also exempts it from any laws or regulations that may hamper the activities of foreign firms. The parent company has tight control over the operations of a subsidiary, but while senior managers from the parent company often oversee operations, many managers and employees are citizens of the host country. Not surprisingly, most very large firms have foreign subsidiaries. IBM and Coca-Cola, for example, have both had success in the Japanese market through their foreign subsidiaries (IBM-Japan and Coca-Cola–Japan). FDI goes in the other direction, too, and many companies operating in the United States are in fact subsidiaries of foreign firms. Gerber Products, for example, is a subsidiary of the Swiss company Novartis, while Stop & Shop and Giant Food Stores belong to the Dutch company Royal Ahold.
Where does most FDI capital end up? Figure 19.6 “Where FDI Goes” provides an overview of amounts, destinations (developed or developing countries), and trends.
All these strategies have been successful in the arena of global business. But success in international business involves more than merely finding the best way to reach international markets. Doing global business is a complex, risky endeavor. As many companies have learned the hard way, people and organizations don’t do things the same way abroad as they do at home. What differences make global business so tricky? That’s the question that we’ll turn to next.
Multinational Corporations
A company that operates in many countries is called a multinational corporation (MNC). Fortune magazine’s roster of the top five hundred MNCs in the world speaks for the growth of non-U.S. businesses. Only two of the top ten multinational companies are headquartered in the United States: Wal-Mart (number 1) and Exxon (number 3). Four others are in the second tier (tenth through twentieth): Chevron, General Electric, Bank of America, and ConocoPhillips. The remaining fourteen are non-U.S. firms. Interestingly, of the twenty top companies, nine are energy suppliers, and seven are insurance or financial service firms. Figure 19.7 “The World’s Twenty Largest MNCs” provides a list of these twenty largest MNC’s according to revenues.
Figure 19.7 The World’s Twenty Largest MNCs (Fortune, 2011)
Rank Company Revenues (in \$ millions) Country–Type of business
1 Wal-Mart Stores 408,214 US-retailer
2 Royal Dutch Shell 285,129 Netherlands-energy
3 Exxon Mobil 284,650 US-energy
4 BP 246,138 Britain-energy
5 Toyota Motor 204,106 Japan-automobile manufacturer
6 Japan Post Holdings 202,196 Japan-mail delivery, banking and insurance
7 Sinopec 187,518 China-energy
8 State Grid 184,496 China-power grid building and operator
9 AXA 175,257 France-insurance
10 China National Petroleum 165,496 China-energy
11 Chevron 163,204 US-energy
12 ING Group 163,204 Netherlands-financial services
13 General Electric 156,779 US-industrial conglomerate
14 Total 155,887 France-energy
15 Bank of America Corp. 150,450 US-financial services
16 Volkswagen 146,205 Germany-automobile manufacturer
17 ConocoPhillips 139,515 US-energy
18 BNP Paribas 130,708 France-financial services
19 Assicurazioni Generali 126,012 Italy-insurance company
20 Allianz 125,999 Germany-financial services
MNCs often adopt the approach encapsulated in the motto “Think globally, act locally.” They often adjust their operations, products, marketing, and distribution to mesh with the environments of the countries in which they operate. Because they understand that a “one-size-fits-all” mentality doesn’t make good business sense when they’re trying to sell products in different markets, they’re willing to accommodate cultural and economic differences. Increasingly, MNCs supplement their mainstream product line with products designed for local markets. Coca-Cola, for example, produces coffee and citrus-juice drinks developed specifically for the Japanese market.[16] When such companies as Nokia and Motorola design cell phones, they’re often geared to local tastes in color, size, and other features. For example, Nokia introduced a cell phone for the rural Indian consumer that has a dust-resistant keypad, antislip grip, and a built-in flashlight.[17] McDonald’s provides a vegetarian menu in India, where religious convictions affect the demand for beef and pork.[18] In Germany, McDonald’s caters to local tastes by offering beer in some restaurants.[19] It offers a Maharaja Mac in India, a McItaly Burger in Italy, and a Teriyaki McBurger with Seaweed Shaker Fries in Japan.[20]
Likewise, many MNCs have made themselves more sensitive to local market conditions by decentralizing their decision making. While corporate headquarters still maintain a fair amount of control, home-country managers keep a suitable distance by relying on modern telecommunications. Today, fewer managers are dispatched from headquarters; MNCs depend instead on local talent. Not only does decentralized organization speed up and improve decision making, but it also allows an MNC to project the image of a local company. IBM, for instance, has been quite successful in the Japanese market because local customers and suppliers perceive it as a Japanese company. Crucial to this perception is the fact that the vast majority of IBM’s Tokyo employees, including top leadership, are Japanese nationals.[21]
Criticism of MNC Culture
The global reach of MNCs is a source of criticism, as well as praise. Critics argue that they often destroy the livelihoods of home-country workers by moving jobs to developing countries where workers are willing to labor under poor conditions and for less pay. They also contend that traditional lifestyles and values are being weakened, and even destroyed, as global brands foster a global culture of American movies; fast food; and cheap, mass-produced consumer products. Still others claim that the demand of MNCs for constant economic growth and cheaper access to natural resources do irreversible damage to the physical environment. All these negative consequences, critics maintain, stem from the abuses of international trade—from the policy of placing profits above people, on a global scale. These views surfaced in violent street demonstrations in Seattle in 1999 and Genoa, Italy, in 2000, and since then, meetings of the International Monetary Fund and World Bank have regularly been assailed by large crowds of protestors who have succeeded in catching the attention of the worldwide media.
In Defense of MNC Culture
Meanwhile, supporters of MNCs respond that huge corporations deliver better, cheaper products for customers everywhere; create jobs; and raise the standard of living in developing countries. They also argue that globalization increases cross-cultural understanding. Anne O. Kruger, first deputy managing director of the IMF, says the following:
“The impact of the faster growth on living standards has been phenomenal. We have observed the increased well being of a larger percentage of the world’s population by a greater increment than ever before in history. Growing incomes give people the ability to spend on things other than basic food and shelter, in particular on things such as education and health. This ability, combined with the sharing among nations of medical and scientific advances, has transformed life in many parts of the developing world. Infant mortality has declined from 180 per 1,000 births in 1950 to 60 per 1,000 births. Literacy rates have risen from an average of 40 percent in the 1950s to over 70 percent today. World poverty has declined, despite still-high population growth in the developing world.”[22]
Key Takeaways
• For a company in the United States wishing to expand beyond national borders, there are a variety of ways to get involved in international business.
• Importing involves purchasing products from other countries and reselling them in one’s own.
• Exporting entails selling products to foreign customers.
• Under a franchise agreement, a company grants a foreign company the right to use its brand name and sell its products.
• A licensing agreement allows a foreign company to sell a company’s products or use its intellectual property in exchange for royalty fees.
• Through international contract manufacturing or outsourcing, a company has its products manufactured or services provided in other countries.
• A strategic alliance is an agreement between two companies to pool talent and resources to achieve business goals that benefit both partners.
• A joint venture is a specific type of strategic alliance in which a separate entity funded by the participating companies is formed to manage the alliance.
• Foreign direct investment (FDI) refers to the formal establishment of business operations on foreign soil.
• Offshoring occurs when a company sets up facilities in a foreign country that replaces U.S. manufacturing facilities to produce goods that will be sent back to the United States for sale. Shifting production to low-wage countries is often criticized as it results in the loss of jobs for U.S. workers.
• A common form of FDI is a foreign subsidiary, an independent company owned by a foreign firm.
• A company that operates in many countries is called a multinational corporation (MNC).
Exercises
1. There are four common ways for a firm to expand its operations into overseas markets: importing, exporting, licensing, and franchising. First, explain what each approach entails. Then, select the one that you’d use if you were the CEO of a large company. Why was this approach particularly appealing?
2. (AACSB) Analysis
The Global Business Environment
Learning Objective
1. Appreciate how cultural, economic, legal, and political differences between countries create challenges to successful business dealings.
In the classic movie The Wizard of Oz, a magically misplaced Midwest farm girl takes a moment to survey the bizarre landscape of Oz and then comments to her little dog, “I don’t think we’re in Kansas anymore, Toto.” That sentiment probably echoes the reaction of many businesspeople who find themselves in the midst of international ventures for the first time. The differences between the foreign landscape and the one with which they’re familiar are often huge and multifaceted. Some are quite obvious, such as differences in language, currency, and everyday habits (say, using chopsticks instead of silverware). But others are subtle, complex, and sometimes even hidden. Success in international business means understanding a wide range of cultural, economic, legal, and political differences between countries. Let’s look at some of the more important of these differences.
The Cultural Environment
Even when two people from the same country communicate, there’s always a possibility of misunderstanding. When people from different countries get together, that possibility increases substantially. Differences in communication styles reflect differences in culture: the system of shared beliefs, values, customs, and behaviors that govern the interactions of members of a society. Cultural differences create challenges to successful international business dealings. We explain a few of these challenges in the following sections.
Language
English is the international language of business. The natives of such European countries as France and Spain certainly take pride in their own languages and cultures, but nevertheless English is the business language of the European community. Whereas only a few educated Europeans have studied Italian or Norwegian, most have studied English. Similarly, on the South Asian subcontinent, where hundreds of local languages and dialects are spoken, English is the official language. In most corners of the world, English-only speakers—such as most Americans—have no problem finding competent translators and interpreters. So why is language an issue for English speakers doing business in the global marketplace?
In many countries, only members of the educated classes speak English. The larger population—which is usually the market you want to tap—speaks the local tongue. Advertising messages and sales appeals must take this fact into account. More than one English translation of an advertising slogan has resulted in a humorous (and perhaps serious) blunder. Some classics are listed in Table 19.2 “Lost in Translation”.
Table 19.2 Lost in Translation
In Belgium, the translation of the slogan of an American auto-body company, “Body by Fisher,” came out as “Corpse by Fisher.”
Translated into German, the slogan “Come Alive with Pepsi” became “Come out of the Grave with Pepsi.”
A U.S. computer company in Indonesia translated “software” as “underwear.”
A German chocolate product called “Zit” didn’t sell well in the United States.
An English-speaking car-wash company in Francophone Quebec advertised itself as a “lavement d’auto” (“car enema”) instead of the correct “lavage d’auto.”
A proposed new soap called “Dainty” in English came out as “aloof” in Flemish (Belgium), “dimwitted” in Farsi (Iran), and “crazy person” in Korea; the product was shelved.
One false word in a Mexican commercial for an American shirt maker changed “When I used this shirt, I felt good” to “Until I used this shirt, I felt good.”
In the 1970s, GM’s Chevy Nova didn’t get on the road in Puerto Rico, in part because Nova in Spanish means “It doesn’t go.”
A U.S. appliance ad fizzled in the Middle East because it showed a well-stocked refrigerator featuring a large ham, thus offending the sensibilities of Muslim consumers, who don’t eat pork.
Furthermore, relying on translators and interpreters puts you as an international businessperson at a disadvantage. You’re privy only to interpretations of the messages that you’re getting, and this handicap can result in a real competitive problem. Maybe you’ll misread the subtler intentions of the person with whom you’re trying to conduct business. The best way to combat this problem is to study foreign languages. Most people appreciate some effort to communicate in their local language, even on the most basic level. They even appreciate mistakes you make resulting from a desire to demonstrate your genuine interest in the language of your counterparts in foreign countries. The same principle goes doubly when you’re introducing yourself to non-English speakers in the United States. Few things work faster to encourage a friendly atmosphere than a native speaker’s willingness to greet a foreign guest in the guest’s native language.
Time and Sociability
Americans take for granted many of the cultural aspects of our business practices. Most of our meetings, for instance, focus on business issues, and we tend to start and end our meetings on schedule. These habits stem from a broader cultural preference: we don’t like to waste time. (It was an American, Benjamin Franklin, who coined the phrase “Time is money.”) This preference, however, is by no means universal. The expectation that meetings will start on time and adhere to precise agendas is common in parts of Europe (especially the Germanic countries), as well as in the United States, but elsewhere—say, in Latin America and the Middle East—people are often late to meetings.
High- and Low-Context Cultures
Likewise, don’t expect business people from these regions—or businesspeople from most of Mediterranean Europe, for that matter—to “get down to business” as soon as a meeting has started. They’ll probably ask about your health and that of your family, inquire whether you’re enjoying your visit to their country, suggest local foods, and generally appear to be avoiding serious discussion at all costs. For Americans, such topics are conducive to nothing but idle chitchat, but in certain cultures, getting started this way is a matter of simple politeness and hospitality.
If you ever find yourself in such a situation, the best advice is to go with the flow and be receptive to cultural nuances. In high-context cultures, the numerous interlocking (and often unstated) personal and family connections that hold people together have an effect on almost all interactions. Because people’s personal lives overlap with their business lives (and vice versa), it’s important to get to know your potential business partners as human beings and individuals.
By contrast, in low-context cultures, such as those of the United States, Germany, Switzerland, and the Scandinavian countries, personal and work relationships are more compartmentalized: you don’t necessarily need to know much about the personal context of a person’s life to deal with him or her in the business arena.
Intercultural Communication
Different cultures have different communication styles—a fact that can take some getting used to. For example, degrees of animation in expression can vary from culture to culture. Southern Europeans and Middle Easterners are quite animated, favoring expressive body language along with hand gestures and raised voices. Northern Europeans are far more reserved. The English, for example, are famous for their understated style and the Germans for their formality in most business settings. In addition, the distance at which one feels comfortable when talking with someone varies by culture. People from the Middle East like to converse from a distance of a foot or less, while Americans prefer more personal space.
Finally, while people in some cultures prefer to deliver direct, clear messages, others use language that’s subtler or more indirect. North Americans and most Northern Europeans fall into the former category and many Asians into the latter. But even within these categories, there are differences. Though typically polite, Chinese and Koreans are extremely direct in expression, while Japanese are indirect: They use vague language and avoid saying “no” even if they do not intend to do what you ask. They worry that turning someone down will result in their “losing face,” and so they avoid doing this in public.
This discussion brings up two important points. First, avoid lumping loosely related cultures together. We sometimes talk, for example, about “Asian culture,” but such broad categories as “Asian” are usually oversimplifications. Japanese culture is different from Korean, which is different from Chinese. Second, never assume that two people from the same culture will always act in a similar manner. Not all Latin Americans are casual about meeting times, not all Italians use animated body language, and not all Germans are formal.
In summary, learn about a country’s culture and use your knowledge to help improve the quality of your business dealings. Learn to value the subtle differences among cultures, but don’t allow cultural stereotypes to dictate how you interact with people from any culture. Treat each person as an individual and spend time getting to know what he or she is about.
The Economic Environment
If you plan to do business in a foreign country, you need to know its level of economic development. You also should be aware of factors influencing the value of its currency and the impact that changes in that value will have on your profits.
Economic Development
If you don’t understand a nation’s level of economic development, you’ll have trouble answering some basic questions, such as, Will consumers in this country be able to afford the product I want to sell? How many units can I expect to sell? Will it be possible to make a reasonable profit? A country’s level of economic development can be evaluated by estimating the annual income earned per citizen. The World Bank, which lends money for improvements in underdeveloped nations, divides countries into four income categories:[23]
• High income—\$12,276 or higher (United States, Germany, Japan)
• Upper-middle income—\$3,976 to \$12,275 (China, South Africa, Mexico)
• Lower-middle income—\$1,006 to \$3,975 (Vietnam, Philippines, India)
• Low income—\$1,005 or less (Kenya, Bangladesh, Haiti)
Note that that even though a country has a low annual income per citizen, it can still be an attractive place for doing business. India, for example, is a lower-middle-income country, yet it has a population of a billion, and a segment of that population is well educated—an appealing feature for many business initiatives.
The long-term goal of many countries is to move up the economic development ladder. Some factors conducive to economic growth include a reliable banking system, a strong stock market, and government policies to encourage investment and competition while discouraging corruption. It’s also important that a country have a strong infrastructure—its systems of communications (telephone, Internet, television, newspapers), transportation (roads, railways, airports), energy (gas and electricity, power plants), and social facilities (schools, hospitals). These basic systems will help countries attract foreign investors, which can be crucial to economic development.
Currency Valuations and Exchange Rates
If every nation used the same currency, international trade and travel would be a lot easier. Unfortunately, this is not the case. There are about 175 currencies in the world: Some you’ve heard of, such as the British pound; others are likely unknown to you, such as the manat, the official currency of Azerbaijan, a small nation in Southwest Asia. Let’s pretend you suddenly find yourself in Azerbaijan and all you have with you is a credit card (which none of the restaurants or hotels will take) and U.S. dollars (which no one wants either). How can you get some Azerbaijani manats so you can buy a good meal and check into a hotel? If it’s during the day, you’re in luck. Head to the closest bank and ask someone there who speaks English to exchange your dollars for Azerbaijan manats. If you give the bank clerk \$300 (all of your travel money), don’t expect to get back 300 manats; the two currencies are not equal. To determine how much Azerbaijan money you’ll get in exchange for your \$300, the bank clerk will look up the day’s foreign exchange rate—which tells you how much one currency is worth relative to another currency. If today were August 23, 2011, the clerk would find an exchange rate of 1 U.S. dollar equals .79 manats (which means that you get 79 manats for every dollar you give to the bank clerk). In other words, when you hand the clerk your \$300 you’ll get back only 235 manats (.79 × \$300). Most likely, the deal does not sound good to you, but you have no choice—that’s what the exchange rate is. Plus, you’re lucky that it’s during the day and the banks are open: sleeping outside in Azerbaijan with an empty stomach doesn’t sound like fun, although it would give you time to wonder what would happen if an Azerbaijani traveled to the United States. When the traveler goes to exchange manats for U.S. dollars, he or she will get back \$1.27 for each manat. Exchanging 300 manats for U.S. dollars yields \$381 in U.S. dollars (1.27097 × \$300). Well, this doesn’t sound fair. Why did you receive fewer manats for your U.S. dollars while the Azerbaijan traveler received more dollars for his or her manats? It is because the U.S. dollar is weak relative to the Azerbaijan manat. There are many reasons for the weakness of the U.S. dollar, but one possible culprit is the huge \$14 trillion debt (and rising) carried by the United States. And if you are looking for things to get upset about, your share of this huge U.S. debt is about \$47,000 (and rising).[24]
Now, we’ll look at two business examples. First, let’s say that your business is importing watches from Switzerland. Because the watchmaker will want to be paid in Swiss francs, you have to figure out how many U.S. dollars you’ll need to buy the francs with which to pay the watchmaker. You’d start by finding out the exchange rate between the Swiss franc and the U.S. dollar.
You could simply look in a newspaper or go to any number of Web sites—say, http://www.oanda.com to get the current exchange rate. To keep things simple, let’s assume that the exchange rate is 1 Swiss franc = US\$1.27 (i.e., 1 Swiss franc is worth \$1.27). Let’s also assume that you owe the Swiss watchmaker 1,000 francs. Doing some quick math, you figure that it will take \$1,270 to buy 1,000 francs (1,000 francs × the exchange rate of 1.27 = \$1,270).
Now let’s say that you don’t have the cash flow to pay the watchmaker for two weeks. When you check the exchange rate two weeks later, you find that it has gone up to 1 Swiss franc = \$1.37. Are you better off or worse off? It’s easy to check: 1,000 francs × the new exchange rate of 1.37 = \$1,370. You’ve just learned the hard way that when the value of the franc relative to the dollar goes up, it costs you more to buy something from Switzerland. You probably can’t help but wonder what would have happened if the value of the franc relative to the dollar had gone down—say, to \$1.17 per franc. At this rate, you’d need only \$1,170 to pay the 1,000 francs (1,000 × 1.17). In other words, when the value of the franc relative to the dollar drops, it costs less to buy goods from Switzerland. In sum you’ve learned the following:
• If a foreign currency goes up relative to the U.S. dollar, Americans must pay more for goods and services purchased from sellers in the country issuing the currency (foreign products are more expensive). This is bad for exporters who have to pay more for the foreign-made goods they buy to bring back to the United States to sell.
• If a foreign currency goes down relative to the U.S. dollar, Americans pay less for products from the country issuing the currency (foreign products are cheaper).
In the interest of being thorough, let’s look at this phenomenon from the perspective of an American seller and a Swiss buyer. First, we need to know the exchange rate for the U.S. dollar relative to the franc, which happens to be .79 francs = US\$1. This means that if you want to sell something—let’s say your latest painting—for \$1,000 U.S. to an art lover in Switzerland, the Swiss buyer will need only 790 francs to get the \$1,000 needed to pay you. If the exchange rate went up to .89 francs = US\$1, the cost of the painting would be \$890. If the exchange rate went down to .69 francs = US\$1, the cost of the painting would be \$690. So now you also know the following:
• If the U.S. dollar goes up relative to a foreign currency, foreign buyers must pay more for American goods and services (they become more expensive).
• If the U.S. dollar goes down relative to a foreign currency, foreign buyers pay less for American products (they become cheaper). This is good for importers as their “cheaper” goods are more attractive to customers in the foreign country.
The Legal and Regulatory Environment
One of the more difficult aspects of doing business globally is dealing with vast differences in legal and regulatory environments. The United States, for example, has an established set of laws and regulations that provide direction to businesses operating within its borders. But because there is no global legal system, key areas of business law—for example, contract provisions and copyright protection—can be treated in different ways in different countries. Companies doing international business often face many inconsistent laws and regulations. To navigate this sea of confusion, American businesspeople must know and follow both U.S. laws and regulations and those of nations in which they operate.
Business history is filled with stories about American companies that have stumbled in trying to comply with foreign laws and regulations. Coca-Cola, for example, ran afoul of Italian law when it printed its ingredients list on the bottle cap rather than on the bottle itself. Italian courts ruled that the labeling was inadequate because most people throw the cap away. In another case, 3M applied to the Japanese government to create a joint venture with the Sumitomo Industrial Group to make and distribute magnetic tape products in Japan. 3M spent four years trying to satisfy Japan’s complex regulations, but by the time it got approval, domestic competitors, including Sony, had captured the market. By delaying 3M, Japanese regulators managed, in effect, to stifle foreign competition.[25]
One approach to dealing with local laws and regulations is hiring lawyers from the host country who can provide advice on legal issues. Another is working with local business people who have experience in complying with regulations and overcoming bureaucratic obstacles.
Foreign Corrupt Practices Act
One U.S. law that creates unique challenges for American firms operating overseas is the Foreign Corrupt Practices Act, which prohibits the distribution of bribes and other favors in the conduct of business. Unfortunately, though they’re illegal in this country, such tactics as kickbacks and bribes are business-as-usual in many nations. According to some experts, American businesspeople are at a competitive disadvantage if they’re prohibited from giving bribes or undercover payments to foreign officials or businesspeople who expect them; it’s like asking for good service in a restaurant when the waiter knows you won’t be giving a tip. In theory, because the Foreign Corrupt Practices Act warns foreigners that Americans can’t give bribes, they’ll eventually stop expecting them.
Where are American businesspeople most likely and least likely to encounter bribe requests and related forms of corruption? Transparency International, an independent German-based organization, annually rates nations according to “perceived corruption,” which it defines as “the abuse of public office for private gain.” Table 19.3 “Corruptibility Around the World, 2010” reports a sampling of the 2010 rankings.
Table 19.3 Corruptibility Around the World, 2010
Rank Country CPI Score*
1 Denmark 9.3
1 New Zealand 9.3
1 Singapore 9.3
4 Finland 9.2
4 Sweden 9.2
6 Canada 8.9
15 Germany 7.9
17 Japan 7.8
20 United Kingdom 7.6
22 United States 7.1
98 Mexico 3.1
175 Iraq 1.6
176 Afghanistan 1.4
178 Somalia 1.1
*A score of 10 means that a country is squeaky clean. Anything under 3 means that corruption is rampant.
Key Takeaways
• Success in international business means understanding an assortment of cultural, economic, and legal differences between countries.
• Cultural challenges stem from differences in language, concepts of time and sociability, and communication styles.
• If you do business in a foreign country, you need to know the country’s level of economic development.
• In dealing with countries whose currency is different from yours, you have to be aware of the impact that fluctuations in exchange rates will have on your profits.
• Finally, in doing business globally, you must deal with the challenges that come from the vast differences in legal and regulatory environments.
Exercises
1. (AACSB) Communication
Write a brief report to summarize what you learned about cultural differences between U.S. and Brazilian businesspeople.
2. (AACSB) Ethics
3. (AACSB) Ethics
1. Why have some multinationals decided to help control AIDS in their workforces?
2. Why have others failed to help?
3. From a humanitarian perspective, what’s the right thing to do? From a business perspective?
4. What would you do if you conducted operations in a nation whose government was unwilling or unable to control the spread of AIDS?
Trade Controls
Learning Objective
1. Describe the ways in which governments and international bodies promote and regulate global trade.
The debate about the extent to which countries should control the flow of foreign goods and investments across their borders is as old as international trade itself. Governments continue to control trade. To better understand how and why, let’s examine a hypothetical case. Suppose you’re in charge of a small country in which people do two things—grow food and make clothes. Because the quality of both products is high and the prices are reasonable, your consumers are happy to buy locally made food and clothes. But one day, a farmer from a nearby country crosses your border with several wagonloads of wheat to sell. On the same day, a foreign clothes maker arrives with a large shipment of clothes. These two entrepreneurs want to sell food and clothes in your country at prices below those that local consumers now pay for domestically made food and clothes. At first, this seems like a good deal for your consumers: they won’t have to pay as much for food and clothes. But then you remember all the people in your country who grow food and make clothes. If no one buys their goods (because the imported goods are cheaper), what will happen to their livelihoods? Will everybody be out of work? And if everyone’s unemployed, what will happen to your national economy?
That’s when you decide to protect your farmers and clothes makers by setting up trade rules. Maybe you’ll increase the prices of imported goods by adding a tax to them; you might even make the tax so high that they’re more expensive than your homemade goods. Or perhaps you’ll help your farmers grow food more cheaply by giving them financial help to defray their costs. The government payments that you give to the farmers to help offset some of their costs of production are called subsidies. These subsidies will allow the farmers to lower the price of their goods to a point below that of imported competitors’ goods. What’s even better is that the lower costs will allow the farmers to export their own goods at attractive, competitive prices.
The United States has a long history of subsidizing farmers. Subsidy programs guarantee farmers (including large corporate farms) a certain price for their crops, regardless of the market price. This guarantee ensures stable income in the farming community but can have a negative impact on the world economy. How? Critics argue that in allowing American farmers to export crops at artificially low prices, U.S. agricultural subsidies permit them to compete unfairly with farmers in developing countries. A reverse situation occurs in the steel industry, in which a number of countries—China, Japan, Russia, Germany, and Brazil—subsidize domestic producers. U.S. trade unions charge that this practice gives an unfair advantage to foreign producers and hurts the American steel industry, which can’t compete on price with subsidized imports.
Whether they push up the price of imports or push down the price of local goods, such initiatives will help locally produced goods compete more favorably with foreign goods. Both strategies are forms of trade controls—policies that restrict free trade. Because they protect domestic industries by reducing foreign competition, the use of such controls is often called protectionism. Though there’s considerable debate over the pros and cons of this practice, all countries engage in it to some extent. Before debating the issue, however, let’s learn about the more common types of trade restrictions: tariffs, quotas, and, embargoes.
Tariffs
Tariffs are taxes on imports. Because they raise the price of the foreign-made goods, they make them less competitive. The United States, for example, protects domestic makers of synthetic knitted shirts by imposing a stiff tariff of 32.5 percent on imports.[27] Tariffs are also used to raise revenue for a government. Shoe imports are worth \$2 billion annually to the federal government[28]
Quotas
A quota imposes limits on the quantity of a good that can be imported over a period of time. Quotas are used to protect specific industries, usually new industries or those facing strong competitive pressure from foreign firms. U.S. import quotas take two forms. An absolute quota fixes an upper limit on the amount of a good that can be imported during the given period. A tariff-rate quota permits the import of a specified quantity and then adds a high import tax once the limit is reached.
Sometimes quotas protect one group at the expense of another. To protect sugar beet and sugar cane growers, for instance, the United States imposes a tariff-rate quota on the importation of sugar—a policy that has driven up the cost of sugar to two to three times world prices.[29] These artificially high prices push up costs for American candy makers, some of whom have moved their operations elsewhere, taking high-paying manufacturing jobs with them. Life Savers, for example, were made in the United States for ninety years but are now produced in Canada, where the company saves \$10 million annually on the cost of sugar.[30]
An extreme form of quota is the embargo, which, for economic or political reasons, bans the import or export of certain goods to or from a specific country. The United States, for example, bans nearly every commodity originating in Cuba.
Dumping
A common political rationale for establishing tariffs and quotas is the need to combat dumping: the practice of selling exported goods below the price that producers would normally charge in their home markets (and often below the cost of producing the goods). Usually, nations resort to this practice to gain entry and market share in foreign markets, but it can also be used to sell off surplus or obsolete goods. Dumping creates unfair competition for domestic industries, and governments are justifiably concerned when they suspect foreign countries of dumping products on their markets. They often retaliate by imposing punitive tariffs that drive up the price of the imported goods.
The Pros and Cons of Trade Controls
Opinions vary on government involvement in international trade. Some experts believe that governments should support free trade and refrain from imposing regulations that restrict the free flow of goods and services between nations. Others argue that governments should impose some level of trade regulations on imported goods and services.
Proponents of controls contend that there are a number of legitimate reasons why countries engage in protectionism. Sometimes they restrict trade to protect specific industries and their workers from foreign competition—agriculture, for example, or steel making. At other times, they restrict imports to give new or struggling industries a chance to get established. Finally, some countries use protectionism to shield industries that are vital to their national defense, such as shipbuilding and military hardware.
Despite valid arguments made by supporters of trade controls, most experts believe that such restrictions as tariffs and quotas—as well as practices that don’t promote level playing fields, such as subsidies and dumping—are detrimental to the world economy. Without impediments to trade, countries can compete freely. Each nation can focus on what it does best and bring its goods to a fair and open world market. When this happens, the world will prosper. Or so the argument goes. International trade hasn’t achieved global prosperity, but it’s certainly heading in the direction of unrestricted markets.
Key Takeaways
• Because they protect domestic industries by reducing foreign competition, the use of controls to restrict free trade is often called protectionism.
• Though there’s considerable debate over protectionism, all countries engage in it to some extent.
• Tariffs are taxes on imports. Because they raise the price of the foreign-made goods, they make them less competitive.
• Quotas are restrictions on imports that impose a limit on the quantity of a good that can be imported over a period of time. They’re used to protect specific industries, usually new industries or those facing strong competitive pressure from foreign firms.
• An embargo is a quota that, for economic or political reasons, bans the import or export of certain goods to or from a specific country.
• A common rationale for tariffs and quotas is the need to combat dumping—the practice of selling exported goods below the price that producers would normally charge in their home markets (and often below the costs of producing the goods).
• Some experts believe that governments should support free trade and refrain from imposing regulations that restrict the free flow of products between nations.
• Others argue that governments should impose some level of trade regulations on imported goods and services.
Exercise
(AACSB) Analysis
Because the United States has placed quotas on textile and apparel imports for the last thirty years, certain countries, such as China and India, have been able to export to the United States only as much clothing as their respective quotas permit. One effect of this policy was spreading textile and apparel manufacture around the world and preventing any single nation from dominating the world market. As a result, many developing countries, such as Vietnam, Cambodia, and Honduras, were able to enter the market and provide much-needed jobs for local workers. The rules, however, have changed: as of January 1, 2005, quotas on U.S. textile imports were eliminated, permitting U.S. companies to import textile supplies from any country they choose. In your opinion, what effect will the new U.S. policy have on each of the following groups:
1. Firms that outsource the manufacture of their apparel
2. Textile manufacturers and workers in the following countries:
• China
• Indonesia
• Mexico
• United States
3. American consumers
Reducing International Trade Barriers
Learning Objective
1. Discuss the various initiatives designed to reduce international trade barriers and promote free trade.
A number of organizations work to ease barriers to trade, and more countries are joining together to promote trade and mutual economic benefits. Let’s look at some of these important initiatives.
Trade Agreements and Organizations
Free trade is encouraged by a number of agreements and organizations set up to monitor trade policies. The two most important are the General Agreement on Tariffs and Trade and the World Trade Organization.
General Agreement on Tariffs and Trade
After the Great Depression and World War II, most countries focused on protecting home industries, so international trade was hindered by rigid trade restrictions. To rectify this situation, twenty-three nations joined together in 1947 and signed the General Agreement on Tariffs and Trade (GATT), which encouraged free trade by regulating and reducing tariffs and by providing a forum for resolving trade disputes. The highly successful initiative achieved substantial reductions in tariffs and quotas, and in 1995 its members founded the World Trade Organization to continue the work of GATT in overseeing global trade.
World Trade Organization
Based in Geneva, Switzerland, with nearly 150 members, the World Trade Organization (WTO) encourages global commerce and lower trade barriers, enforces international rules of trade, and provides a forum for resolving disputes. It is empowered, for instance, to determine whether a member nation’s trade policies have violated the organization’s rules, and it can direct “guilty” countries to remove disputed barriers (though it has no legal power to force any country to do anything it doesn’t want to do). If the guilty party refuses to comply, the WTO may authorize the plaintiff nation to erect trade barriers of its own, generally in the form of tariffs.
Affected members aren’t always happy with WTO actions. In 2002, for example, the Bush administration imposed a three-year tariff on imported steel. In ruling against this tariff, the WTO allowed the aggrieved nations to impose counter-tariffs on some politically sensitive American products, such as Florida oranges, Texas grapefruits and computers, and Wisconsin cheese. Reluctantly, the administration lifted its tariff on steel.[31][32]
Financial Support for Troubled Economies
The key to helping developing countries become active participants in the global marketplace is providing financial assistance. Offering monetary assistance to some of the poorest nations in the world is the shared goal of two organizations: the International Monetary Fund and the World Bank. These organizations, to which most countries belong, were established in 1944 to accomplish different but complementary purposes.
The International Monetary Fund
The International Monetary Fund (IMF) loans money to countries with troubled economies, such as Mexico in the 1980s and mid-1990s and Russia and Argentina in the late 1990s. There are, however, strings attached to IMF loans: in exchange for relief in times of financial crisis, borrower countries must institute sometimes painful financial and economic reforms. In the 1980s, for example, Mexico received financial relief from the IMF on the condition that it privatize and deregulate certain industries and liberalize trade policies. The government was also required to cut back expenditures for such services as education, health care, and workers’ benefits.[33]
The World Bank
The World Bank is an important source of economic assistance for poor and developing countries. With backing from wealthy donor countries (such as the United States, Japan, Germany, and United Kingdom), the World Bank has committed almost \$73 billion in loans, grants, and guarantees to some of the world’s poorest nations.[34] Loans are made to help countries improve the lives of the poor through community-support programs designed to provide health, nutrition, education, infrastructure, and other social services.
Criticism of the IMF and the World Bank
In recent years, the International Monetary Fund and the World Bank have faced mounting criticism, though both have their supporters. Some analysts, for example, think that the IMF is often too harsh in its demands for economic reform; others argue that troubled economies can be turned around only with harsh economic measures. Some observers assert that too many World Bank loans go to environmentally harmful projects, such as the construction of roads through fragile rain forests. Others point to the World Bank’s efforts to direct funding away from big construction projects and toward initiatives designed to better the lot of the world’s poor—educating children, fighting AIDS, and improving nutrition and health standards.[35]
Trading Blocs
So far, our discussion has suggested that global trade would be strengthened if there were no restrictions on it—if countries didn’t put up barriers to trade or perform special favors for domestic industries. The complete absence of barriers is an ideal state of affairs that we haven’t yet attained. In the meantime, economists and policymakers tend to focus on a more practical question: Can we achieve the goal of free trade on the regional level? To an extent, the answer is yes. In certain parts of the world, groups of countries have joined together to allow goods and services to flow without restrictions across their mutual borders. Such groups are called trading blocs. Let’s examine two of the most powerful trading blocks—NAFTA and the European Union.
North American Free Trade Association
The North American Free Trade Association (NAFTA) is an agreement among the governments of the United States, Canada, and Mexico to open their borders to unrestricted trade. The effect of this agreement is that three very different economies are combined into one economic zone with almost no trade barriers. From the northern tip of Canada to the southern tip of Mexico, each country benefits from the comparative advantages of its partners: each nation is free to produce what it does best and to trade its goods and services without restrictions.
When the agreement was ratified in 1994, it had no shortage of skeptics. Many people feared, for example, that without tariffs on Mexican goods, more U.S. manufacturing jobs would be lost to Mexico, where labor is cheaper. Almost two decades later, most such fears have not been realized, and, by and large, NAFTA has been a success. Since it went into effect, the value of trade between the United States and Mexico has grown substantially, and Canada and Mexico are now the United States’ top trading partners.
The European Union
The forty-plus countries of Europe have long shown an interest in integrating their economies. The first organized effort to integrate a segment of Europe’s economic entities began in the late 1950s, when six countries joined together to form the European Economic Community (EEC). Over the next four decades, membership grew, and in the late 1990s, the EEC became the European Union. Today, the European Union (EU) is a group of twenty-seven countries that have eliminated trade barriers among themselves (see the map in Figure 19.9 “The Nations of the European Union”).
Figure 19.9 The Nations of the European Union
At first glance, the EU looks similar to NAFTA. Both, for instance, allow unrestricted trade among member nations. But the provisions of the EU go beyond those of NAFTA in several important ways. Most importantly, the EU is more than a trading organization: it also enhances political and social cooperation and binds its members into a single entity with authority to require them to follow common rules and regulations. It is much like a federation of states with a weak central government, with the effect not only of eliminating internal barriers but also of enforcing common tariffs on trade from outside the EU. In addition, while NAFTA allows goods and services as well as capital to pass between borders, the EU also allows people to come and go freely: if you possess an EU passport, you can work in any EU nation.
The Euro
A key step toward unification occurred in 1999, when most (but not all) EU members agreed to abandon their own currencies and adopt a joint currency. The actual conversion occurred in 2002, when a common currency called the euro replaced the separate currencies of participating EU countries. The common currency facilitates trade and finance because exchange-rate differences no longer complicate transactions.[36]
Its proponents argued that the EU would not only unite economically and politically distinct countries but also create an economic power that could compete against the dominant players in the global marketplace. Individually, each European country has limited economic power, but as a group, they could be an economic superpower.[37] But, over time, the value of the euro has been questioned. Just as is true with the United States today, many of the “euro” countries (Spain, Italy, Greece, Portugal, and Ireland in particular) have been financially irresponsible, piling up huge debts and experiencing high unemployment and problems in the housing market. But because these troubled countries share a common currency with the other “euro” countries, they are less able to correct their economic woes.[38] Many economists fear that the financial crisis precipitated by these financially irresponsible countries threaten the very survival of the euro.[39]
Other Trading Blocs
Other countries have also opted for economic integration. Four historical rivals in South America—Argentina, Brazil, Paraguay, and Uruguay—have established MERCOSUR (for Mercado Commun del Sur) to eliminate trade barriers. A number of Asian countries, including Indonesia, Malaysia, the Philippines, Singapore, and Thailand, are cooperating to reduce mutual barriers through ASEAN (the Association of Southeast Asian Nations).
Only time will tell whether the trend toward regional trade agreements is good for the world economy. Clearly, they’re beneficial to their respective participants; for one thing, they get preferential treatment from other members. But certain questions still need to be answered more fully. Are regional agreements, for example, moving the world closer to free trade on a global scale—toward a marketplace in which goods and services can be traded anywhere without barriers?
Key Takeaways
• Free trade is encouraged by a number of agreements and organizations set up to monitor trade policies.
• The General Agreement on Tariffs and Trade (GATT) encourages free trade by regulating and reducing tariffs and by providing a forum for resolving disputes.
• This highly successful initiative achieved substantial reductions in tariffs and quotas, and in 1995, its members founded the World Trade Organization (WTO), which encourages global commerce and lower trade barriers, enforces international rules of trade, and provides a forum for resolving disputes.
• Providing monetary assistance to some of the poorest nations in the world is the shared goal of two organizations: the International Monetary Fund (IMF) and the World Bank. Several initiatives have successfully promoted free trade on a regional level. In certain parts of the world, groups of countries have joined together to allow goods and services to flow without restrictions across their mutual borders. Such groups are called trading blocs.
• The North American Free Trade Association (NAFTA) is an agreement among the governments of the United States, Canada, and Mexico to open their borders to unrestricted trade.
• The effect of this agreement is that three very different economies are combined into one economic zone with almost no trade barriers.
• The European Union (EU) is a group of twenty-seven countries that have eliminated trade barriers among themselves.
Exercises
1. What is NAFTA? Why was it formed? What has it accomplished?
2. What is the European Union? Why was it formed? What has it accomplished? What challenges has it faced?
Preparing for a Career in International Business
Learning Objective
1. Understand how to prepare for a career in international business.
No matter where your career takes you, you won’t be able to avoid the reality and reach of international business. We’re all involved in it. Some readers may want to venture more seriously into this exciting arena. The career opportunities are exciting and challenging, but taking the best advantage of them requires some early planning. Here are some hints.
Plan Your Undergraduate Education
Many colleges and universities offer strong majors in international business, and this course of study can be good preparation for a global career. In planning your education, remember the following:
• Develop real expertise in one of the basic areas of business. Most companies will hire you as much for your skill and knowledge in accounting, finance, information systems, marketing, or management as for your background in the study of international business. Take courses in both areas.
• Develop your knowledge of international politics, economics, and culture. Take liberal arts courses that focus on parts of the world that especially interest you. Courses in history, government, and the social sciences offer a wealth of knowledge about other nations and cultures that’s relevant to success in international business.
• Develop foreign-language skills. If you studied a language in high school, keep up with it. Improve your reading or conversational skills. Or start a new language in college. Recall that your competition in the global marketplace is not just other Americans, but also individuals from countries, such as Belgium, where everyone’s fluent in at least two (and usually three) languages. Lack of foreign-language skills often proves to be a disadvantage for many Americans in international business.
Get Some Direct Experience
Take advantage of study-abroad opportunities, whether offered on your campus or by another college. There are literally hundreds of such opportunities, and your interest in international business will be received much more seriously if you’ve spent some time abroad. (As a bonus, you’ll probably find it an enjoyable, horizon-expanding experience, as well.)
Interact with People from Other Cultures
Finally, whenever you can, learn about the habits and traits of other cultures, and practice interacting with the people to whom they belong. Go to the trouble to meet international students on your campus and get to know them. Learn about their cultures and values, and tell them about yours. You may initially be uncomfortable or confused in such intercultural exchanges, but you’ll find them great learning experiences. By picking up on the details, you’ll avoid embarrassing mistakes later and even earn the approval of acquaintances from abroad.
Whether you’re committed to a career in global business, curious about the international scene, or simply a consumer of worldwide products and services, you can’t avoid the effects of globalization. Granted, the experience can be frustrating, maybe even troubling at times. More often, however, it’s likely to be stimulating and full of opportunities.
Key Takeaway
• To prepare for a global career, you might want to consider doing some of the following while a student:
1. Major in international business.
2. Develop your knowledge of international politics, economics, and culture.
3. Study a foreign language.
4. Take advantage of study-abroad opportunities.
5. Interact with fellow students from other cultures.
Exercise
(AACSB) Analysis
If you had an opportunity to spend a summer working as an intern in a foreign country, which country would you select? Why? In what ways would the internship be valuable to your future career in business? How would you prepare for the internship?
Cases and Problems
Learning on the Web (AACSB)
Keeping Current About Currency
On a day-to-day basis, you probably don’t think about what the U.S. dollar (US\$) is worth relative to other currencies. But there will likely be times when ups and downs in exchange rates will seem extremely important to you in your business career. The following are some hypothetical scenarios that illustrate what these times may be. (Note: To respond to the questions raised in each scenario, search Google for a currency converter.)
Scenario 1: Your Swiss Vacation
Your family came from Switzerland, and you and your parents visited relatives there back in 2007. Now that you’re in college, you want to make the trip on your own during spring break. While you’re there, you also plan to travel around and see a little more of the country. You remember that in 2007, US\$1 bought 1.22 Swiss francs (Frs). You estimate that, at this rate, you can finance your trip (excluding airfare) with the \$1,200 that you earned this summer. You’ve heard, however, that the exchange rate has changed. Given the current exchange rate, about how much do you think your trip would cost you? As a U.S. traveler going abroad, how are you helped by a shift in exchange rates? How are you hurt?
Scenario 2: Your British Friends
A few years ago, you met some British students who were visiting the United States. This year, you’re encouraging them to visit again so that you can show them around New York City. When you and your friends first talked about the cost of the trip back in 2007, the British pound (£) could be converted into US\$1.90. You estimated that each of your British friends would need to save up about £600 to make the trip (again, excluding plane fare). Given today’s exchange rate, how much will each person need to make the trip? Have your plans been helped or hindered by the change in exchange rates? Was the shift a plus for the U.S. travel industry? What sort of exchange-rate shift hurts the industry?
Scenario 3: Your German Soccer Boots
Your father rarely throws anything away, and while cleaning out the attic a few years ago, he came across a pair of vintage Adidas soccer boots made in 1955. Realizing that they’d be extremely valuable to collectors in Adidas’s home country of Germany, he hoped to sell them for US \$5,000 and, to account for the exchange rate at the time, planned to price them at \$7,200 in euros. Somehow, he never got around to selling the boots and has asked if you could sell them for him on eBay. If he still wants to end up with US \$5,000, what price in euros will you now have to set? Would an American company that exports goods to the European Union view the current rate more favorably or less favorably than it did back in 2007?
Career Opportunities (AACSB)
Broadening Your Business Horizons
At some point in your life, you’ll probably meet and work with people from various countries and cultures. Participating in a college study-abroad program can help you prepare to work in the global business environment, and now is as good a time as any to start exploring this option. Here’s one way to go about it:
• Select a study-abroad program that interests you. To do this, you need to decide what country you want to study in and your academic field of interest. Unless you speak the language of your preferred country, you should pick a program offered in English.
• If your school offers study-abroad programs, choose one that has been approved by your institution.
• If your school doesn’t offer study-abroad programs, locate one through a Web search.
• Describe the program, the school that’s offering it, and the country to which it will take you.
• Indicate why you’ve selected this particular program, and explain how it will help you prepare for your future business career.
Ethics Angle (AACSB)
The Right, Wrong, and Wisdom of Dumping and Subsidizing
When companies sell exported goods below the price they’d charge in their home markets (and often below the cost of producing the goods), they’re engaging in dumping. When governments guarantee farmers certain prices for crops regardless of market prices, the beneficiaries are being subsidized. What do you think about these practices? Is dumping an unfair business practice? Why, or why not? Does subsidizing farmers make economic sense for the United States? What are the effects of farm subsidies on the world economy? Are the ethical issues raised by the two practices comparable? Why, or why not?
Team-Building Skills (AACSB)
Three Little Words: The China Price
According to business journalists Pete Engardio and Dexter Roberts, the scariest three words that a U.S. manufacturer can hear these days are the China price. To understand why, go to the Business Week Web site (http://www.businessweek.com/magazine/content/04_49/b3911401.htm) and read its article “The China Price,” which discusses the benefits and costs of China’s business expansion for U.S. companies, workers, and consumers. Once you’ve read the article, each member of the team should be able to explain the paradoxical effect of U.S.–Chinese business relationships—namely, that they can hurt American companies and workers while helping American companies and consumers.
Next, your team should get together and draw up two lists: a list of the top five positive outcomes and a list of the top five negative outcomes of recent Chinese business expansion for U.S. businesses, workers, and consumers. Then, the team should debate the pros and cons of China’s emergence as a global business competitor and, finally, write a group report that answers the following questions:
1. Considered on balance, has China’s business expansion helped or harmed U.S. companies, workers, and consumers? Justify your answers.
2. What will happen to U.S. companies, workers, and consumers in the future if China continues to grow as a global business competitor?
3. How should U.S. companies respond to the threats posed by Chinese competitors in their markets?
4. What can you do as a student to prepare yourself to compete in an ever-changing global business environment?
When you hand in your report, be sure to attach all the following items:
• Members’ individually prepared lists of ways in which business relationships with China both hurt and help U.S. businesses, workers, and consumers
• Your group-prepared list of the top five positive and negative effects of Chinese business expansion on U.S. businesses, workers, and consumers
The Global View (AACSB)
Go East, Young Job Seeker
How brave are you when it comes to employment? Are you bold enough to go halfway around the world to find work? Instead of complaining about U.S. jobs going overseas, you could take the bull by the horns and grab one job back. It’s not that tough to do, and it could be a life-changing experience. U.S. college graduates with business or technical backgrounds are highly sought after by companies that operate in India. If you qualify (and if you’re willing to relocate), you could find yourself working in Bangalore or New Delhi for some multinational company like Intel, Citibank, or GlaxoSmithKline (a pharmaceutical company). In addition, learning how to live and work in a foreign country can build self-confidence and make you more attractive to future employers. To get a glimpse of what it would be like to live and work in India, go to the Web sites of American Way magazine (http://www.americanwaymag.com/jeffrey-vanderwerf-high-tech-outsourcing-boom-bangalore-leela-palace) and CNN and Money (http://money.cnn.com/2004/03/09/pf/workers_to_india), and check out the posted articles: “Passage to India,” and “Needs Job, Moves to India.” Then, go to the Monster Work Abroad Web site (http://jobsearch.monsterindia.com/return2origin/index.html) and find a job in India that you’d like to have, either right after graduation or about five years into your career. (When selecting the job, ignore its actual location and proceed as if it’s in Bangalore.) After you’ve pondered the possibility of living and working in India, answer the following questions:
1. What would your job entail?
2. What would living and working in Bangalore be like? What aspects would you enjoy? Which would you dislike?
3. What challenges would you face as an expatriate (a person who lives outside his or her native country)? What opportunities would you have?
4. How would the experience of working in India help your future career?
5. Would you be willing to take a job in India for a year or two? Why, or why not?
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Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. What are strategic management and strategy?
2. Why does strategic management matter?
3. What elements determine firm performance?
Strategic Management: A Core Concern for Apple
The Opening of the Apple Store
March 2, 2011, was a huge day for Apple. The firm released its much-anticipated iPad2, a thinner and faster version of market-leading Apple’s iPad tablet device. Apple also announced that a leading publisher, Random House, had made all seventeen thousand of its books available through Apple’s iBookstore. Apple had enjoyed tremendous success for quite some time. Approximately fifteen million iPads were sold in 2010, and the price of Apple’s stock had more than tripled from early 2009 to early 2011.
But future success was far from guaranteed. The firm’s visionary founder Steve Jobs was battling serious health problems. Apple’s performance had suffered when an earlier health crisis had forced Jobs to step away from the company. This raised serious questions. Would Jobs have to step away again? If so, how might Apple maintain its excellent performance without its leader?
Meanwhile, the iPad2 faced daunting competition. Samsung, LG, Research in Motion, Dell, and other manufacturers were trying to create tablets that were cheaper, faster, and more versatile than the iPad2. These firms were eager to steal market share by selling their tablets to current and potential Apple customers. Could Apple maintain leadership of the tablet market, or would one or more of its rivals dominate the market in the years ahead? Even worse, might a company create a new type of device that would make Apple’s tablets obsolete?
1.02: Defining Strategic Management and Strategy
Learning Objectives
1. Learn what strategic management is.
2. Understand the key question addressed by strategic management.
3. Understand why it is valuable to consider different definitions of strategy.
4. Learn what is meant by each of the 5 Ps of strategy.
• What Is Strategic Management?
Issues such as those currently faced by Apple are the focus of strategic management because they help answer the key question examined by strategic management—“Why do some firms outperform other firms?” More specifically, strategic management examines how actions and events involving top executives (such as Steve Jobs), firms (Apple), and industries (the tablet market) influence a firm’s success or failure. Formal tools exist for understanding these relationships, and many of these tools are explained and applied in this book. But formal tools are not enough; creativity is just as important to strategic management. Mastering strategy is therefore part art and part science.
This introductory chapter is intended to enable you to understand what strategic management is and why it is important. Because strategy is a complex concept, we begin by explaining five different ways to think about what strategy involves (Table 1.1). Next, we journey across many centuries to examine the evolution of strategy from ancient times until today. We end this chapter by presenting a conceptual model that maps out one way that executives can work toward mastering strategy. The model also provides an overall portrait of this book’s contents by organizing the remaining nine chapters into a coherent whole.
• Defining Strategy: The Five Ps
Defining strategy is not simple. Strategy is a complex concept that involves many different processes and activities within an organization. To capture this complexity, Professor Henry Mintzberg of McGill University in Montreal, Canada, articulated what he labeled as “the 5 Ps of strategy.” According to Mintzberg, understanding how strategy can be viewed as a plan, as a ploy, as a position, as a pattern, and as a perspective is important. Each of these five ways of thinking about strategy is necessary for understanding what strategy is, but none of them alone is sufficient to master the concept (Mintzberg, 1987).
Table 1.1 Defining Strategy: The Five Ps
Plan – a carefully crafted set of steps that a firm intends to follow in order to be successful Virtually every firm creates a strategic plan to guide its future. Plans are important to individuals too. If you are reading this, you probably have a career plan that requires a college degree.
Ploy – a specific move designed to outwit or trick competitors A pizzeria owner in Pennsylvania once tried to sabotage his competitors by placing mice in their shops. Although most strategic ploys are lega, this one was not and the perpetrator was arrested.
Pattern – the degree of consistency in a firm’s strategic actions Apple always responds to competitive challenges by innovating. Some of these innovations are complete busts, but enough are successful that Apple’s overall performance is excellent.
Position – a firm’s place in the industry relative to its competitors Old Navy offers fashionable clothes at competitive prices. Old Navy is owned by the same corporation as the Gap and Banana Republic; each brand is positioned at a different pricing level.
Perspective – how executives interpret the competitive landscape around them In the mid-1990s, the Internet was mainly a communication tool for academics and government. Jeff Bezos viewed the Internet as a sales channel and he began selling books online. Today, the company he created-Amazon.com-is a dominant retailer.
• Strategy as a Plan
Strategic plans are the essence of strategy, according to one classic view of strategy. A strategic plan is a carefully crafted set of steps that a firm intends to follow to be successful. Virtually every organization creates a strategic plan to guide its future. In 1996, Apple’s performance was not strong, and Gilbert F. Amelio was appointed as chief executive officer in the hope of reversing the company’s fortunes. In a speech focused on strategy, Amelio described a plan that centered on leveraging the Internet (which at the time was in its infancy) and developing multimedia products and services. Apple’s subsequent success selling over the Internet via iTunes and with the iPad can be traced back to the plan articulated in 1996 (Markoff, 1996).
A business model should be a central element of a firm’s strategic plan. Simply stated, a business model describes the process through which a firm hopes to earn profits. It probably won’t surprise you to learn that developing a viable business model requires that a firm sell goods or services for more than it costs the firm to create and distribute those goods. A more subtle but equally important aspect of a business model is providing customers with a good or service more cheaply than they can create it themselves.
Consider, for example, large chains of pizza restaurants such as Papa John’s and Domino’s.
Because these firms buy their ingredients in massive quantities, they pay far less for these items than any family could (an advantage called economies of scale). Meanwhile, Papa John’s and Domino’s have developed specialized kitchen equipment that allows them to produce better-tasting pizza than can be created using the basic ovens that most families rely on for cooking. Pizza restaurants thus can make better-tasting pizzas for far less cost than a family can make itself. This business model provides healthy margins and has enabled Papa John’s and Domino’s to become massive firms.
Strategic plans are important to individuals too. Indeed, a well-known proverb states that “he who fails to plan, plans to fail.” In other words, being successful requires a person to lay out a path for the future and then follow that path. If you are reading this, earning a college degree is probably a key step in your strategic plan for your career. Don’t be concerned if your plan is not fully developed, however. Life is full of unexpected twists and turns, so maintaining flexibility is wise for individuals planning their career strategies as well as for firms.
For firms, these unexpected twists and turns place limits on the value of strategic planning. Former heavyweight boxing champion Mike Tyson captured the limitations of strategic plans when he noted, “Everyone has a plan until I punch them in the face.” From that point forward, strategy is less about a plan and more about adjusting to a shifting situation. For firms, changes in the behavior of competitors, customers, suppliers, regulators, and other external groups can all be sources of a metaphorical punch in the face. As events unfold around a firm, its strategic plan may reflect a competitive reality that no longer exists. Because the landscape of business changes rapidly, other ways of thinking about strategy are needed.
• Strategy as a Ploy
A second way to view strategy is in terms of ploys. A strategic ploy is a specific move designed to outwit or trick competitors. Ploys often involve using creativity to enhance success. One such case involves the mighty Mississippi River, which is a main channel for shipping cargo to the central portion of the United States. Ships traveling the river enter it near New Orleans, Louisiana. The next major port upriver is Louisiana’s capital, Baton Rouge. A variety of other important ports exist in states farther upriver.
Many decades ago, the governor of Louisiana was a clever and controversial man named Huey Long. Legend has it that Long ordered that a bridge being constructed over the Mississippi River in Baton Rouge be built intentionally low to the ground. This ploy created a captive market for cargo because very large barges simply could not fit under the bridge. Large barges using the Mississippi River thus needed to unload their cargo in either New Orleans or Baton Rouge. Either way, Louisiana would benefit. Of course, owners of ports located farther up the river were not happy.
Ploys can be especially beneficial in the face of much stronger opponents. Military history offers quite a few illustrative examples. Before the American Revolution, land battles were usually fought by two opposing armies, each of which wore brightly colored clothing, marching toward each other across open fields. George Washington and his officers knew that the United States could not possibly defeat better-trained and better-equipped British forces in a traditional battle. To overcome its weaknesses, the American military relied on ambushes, hit-and-run attacks, and other guerilla moves. It even broke an unwritten rule of war by targeting British officers during skirmishes. This was an effort to reduce the opponent’s effectiveness by removing its leadership.
Centuries earlier, the Carthaginian general Hannibal concocted perhaps the most famous ploy ever.
Carthage was at war with Rome, a scary circumstance for most Carthaginians given their far weaker fighting force. The Alps had never been crossed by an army. In fact, the Alps were considered such a treacherous mountain range that the Romans did not bother monitoring the part of their territory that bordered the Alps. No horse was up to the challenge, but Hannibal cleverly put his soldiers on elephants, and his army was able to make the mountain crossing. The Romans were caught completely unprepared and most of them were frightened by the sight of charging elephants. By using the element of surprise, Hannibal was able to lead his army to victory over a much more powerful enemy.
Ploys continue to be important today. In 2011, a pizzeria owner in Pennsylvania was accused of making a rather unique attempt to outmaneuver two rival pizza shops. According to police, the man tried to sabotage his competitors by placing mice in their pizzerias. If the ploy had not been discovered, the two shops could have suffered bad publicity or even been shut down by authorities because of health concerns. Although most strategic ploys are legal, this one was not, and the perpetrator was arrested (Reuters, 2011).
• Strategy as a Pattern
Strategy as pattern is a third way to view strategy. This view focuses on the extent to which a firm’s actions over time are consistent. A lack of a strategic pattern helps explain why Kmart deteriorated into bankruptcy in 2002. The company was started in the late nineteenth century as a discount department store. By the middle of the twentieth century, consistently working to be good at discount retailing had led Kmart to become a large and prominent chain.
By the 1980s, however, Kmart began straying from its established strategic pattern. Executives shifted the firm’s focus away from discount retailing and toward diversification. Kmart acquired large stakes in chains involved in sporting goods (Sports Authority), building supplies (Builders Square), office supplies (OfficeMax), and books (Borders). In the 1990s, a new team of executives shifted Kmart’s strategy again. Brands other than Kmart were sold off, and Kmart’s strategy was adjusted to emphasize information technology and supply chain management. The next team of executives decided that Kmart’s strategy would be to compete directly with its much-larger rival, Walmart. The resulting price war left Kmart crippled. Indeed, this last shift in strategy was the fatal mistake that drove Kmart into bankruptcy. Today, Kmart is part of Sears Holding Company, and its prospects remain uncertain.
In contrast, Apple is very consistent in its strategic pattern: It always responds to competitive challenges by innovating. Some of these innovations are complete busts. Perhaps the best known was the Newton, a tablet-like device that may have been ahead of its time. Another was the Pippin, a video game system introduced in 1996 to near-universal derision. Apple TV, a 2007 offering intended to link televisions with the Internet, also failed to attract customers. Such failures do not discourage Apple, however, and enough of its innovations are successful that Apple’s overall performance is excellent. However, there are risks to following a pattern too closely. A consistent pattern can make a company predictable, a possibility that Apple must guard against in the years ahead.
• Strategy as a Position
Viewing strategy as a plan, a ploy, and a pattern involve only the actions of a single firm. In contrast, the next P—strategy as position—considers a firm and its competitors. Specifically, strategy as position refers to a firm’s place in the industry relative to its competitors. McDonald’s, for example, has long been and remains the clear leader among fast-food chains. This position offers both good and bad aspects for McDonald’s. One advantage of leading an industry is that many customers are familiar with and loyal to leaders. Being the market leader, however, also makes McDonald’s a target for rivals such as Burger King and Wendy’s. These firms create their strategies with McDonald’s as a primary concern. Old Navy offers another example of strategy as position. Old Navy has been positioned to sell fashionable clothes at competitive prices.
Old Navy is owned by the same corporation (Gap Inc.) as the midlevel brand the Gap and upscale brand Banana Republic. Each of these three brands is positioned at a different pricing level. The firm hopes that as Old Navy’s customers grow older and more affluent, they will shop at the Gap and then eventually at Banana Republic. A similar positioning of different brands is pursued by General Motors through its Chevrolet (entry level), Buick (midlevel), and Cadillac (upscale) divisions.
Firms can carve out a position by performing certain activities in a different manner than their rivals. For example, Southwest Airlines is able to position itself as a lower-cost and more efficient provider by not offering meals that are common among other airlines. In addition, Southwest does not assign specific seats. This allows for faster loading of passengers. Positioning a firm in this manner can only be accomplished when managers make trade-offs that cut off certain possibilities (such as offering meals and assigned seats) to place their firms in a unique strategic space. When firms position themselves through unique goods and services customers value, business often thrives. But when firms try to please everyone, they often find themselves without the competitive positioning needed for long-term success. Thus deciding what a firm is not going to do is just as important to strategy as deciding what it is going to do (Porter, 1996).
To gain competitive advantage and greater success, firms sometimes change positions. But this can be a risky move. Winn-Dixie became a successful grocer by targeting moderate-income customers. When the firm abandoned this established position to compete for wealthier customers and higher margins, the results were disastrous. The firm was forced into bankruptcy and closed many stores. Winn-Dixie eventually exited bankruptcy, but like Kmart, its future prospects are unclear. In contrast to firms such as Winn-Dixie that change positions, Apple has long maintained a position as a leading innovator in various industries. This positioning has served Apple well.
• Strategy as a Perspective
The fifth and final P shifts the focus to inside the minds of the executives running a firm. Strategy as perspective refers to how executives interpret the competitive landscape around them. Because each person is unique, two different executives could look at the same event—such as a new competitor emerging—and attach different meanings to it. One might just see a new threat to his or her firm’s sales; the other might view the newcomer as a potential ally.
An old cliché urges listeners to “make lemons into lemonade.” A good example of applying this idea through strategy as perspective is provided by local government leaders in Sioux City, Iowa. Rather than petition the federal government to change their airport’s unusual call sign—SUX—local leaders decided to leverage the call sign to attract the attention of businesses and tourists to build their city’s economic base. An array of clothing and other goods sporting the SUX name is available at http://www.flysux.com. Some strategists such as these local leaders are willing to take a seemingly sour situation and see the potential sweetness, while other executives remain fixated on the sourness.
Executives who adopt unique and positive perspectives can lead firms to find and exploit opportunities that others simply miss. In the mid-1990s, the Internet was mainly a communication tool for academics and government agencies. Jeff Bezos looked beyond these functions and viewed the Internet as a potential sales channel. After examining a number of different markets that he might enter using the Internet, Bezos saw strong profit potential in the bookselling business, and he began selling books online. Today, the company he created—Amazon—has expanded far beyond its original focus on books to become a dominant retailer in countless different markets. The late Steve Jobs at Apple appeared to take a similar perspective; he saw opportunities where others could not, and his firm has reaped significant benefits as a result.
Key Takeaway
• Strategic management focuses on firms and the different strategies that they use to become and remain successful. Multiple views of strategy exist, and the 5 Ps described by Henry Mintzberg enhance understanding of the various ways in which firms conceptualize strategy.
Exercises
1. Have you developed a strategy to manage your career? Should you make it more detailed? Why or why not?
2. Identify an example of each of the 5 Ps of strategy other than the examples offered in this section.
3. What business that you visit regularly seems to have the most successful business model? What makes the business model work? | textbooks/biz/Management/Mastering_Strategic_Management/01%3A_Mastering_Strategy_-_Art_and_Science/1.01%3A_Prelude_to_Mastering_Strategy.txt |
Learning Objectives
1. Learn what is meant by intended and emergent strategies and the differences between them.
2. Understand realized strategies and how they are influenced by intended, deliberate, and emergent strategies.
A few years ago, a consultant posed a question to thousands of executives: “Is your industry facing overcapacity and fierce price competition?” All but one said “yes.” The only “no” came from the manager of a unique operation—the Panama Canal! This manager was fortunate to be in charge of a venture whose services are desperately needed by shipping companies and that offers the only simple route linking the Atlantic and Pacific Oceans. The canal’s success could be threatened if transoceanic shipping was to cease or if a new canal were built. Both of these possibilities are extremely remote, however, so the Panama Canal appears to be guaranteed to have many customers for as long as anyone can see into the future.
When an organization’s environment is stable and predictable, strategic planning can provide enough of a strategy for the organization to gain and maintain success. The executives leading the organization can simply create a plan and execute it, and they can be confident that their plan will not be undermined by changes over time. But as the consultant’s experience shows, only a few executives—such as the manager of the Panama Canal—enjoy a stable and predictable situation. Because change affects the strategies of almost all organizations, understanding the concepts of intended, emergent, and realized strategies is important (Table 1.2). Also relevant are deliberate and nonrealized strategies. The relationships among these five concepts are presented in Figure 1.3 (Mintzberg & Waters, 1985).
Table 1.2 Strategic Planning and Learning: Intended, Emergent, and Realized Strategies
Intended Strategy Emergent Strategy Realized Strategy
David McConnell aspired to be a writer. When his books weren’t selling he decided to give out perfume as a gimmick. The perfumes McConnell gave out with his books were popular, inspiring the foundation of the California Perfume Company. The company changed its name to Avon in 1939, and its direct marketing system remained popular for decades. Avon is now available online and in retail outlets worldwide.
When father and son team Scott and Don Rasmussen were fired from the New England Whalers, they envisioned a cable television network that focused on sports events in the state of Connecticut. As the network became successful, ESPN has branched out beyond the local softball games and demolition derbies that were first broadcasted. ESPN is now billed as the worldwide leader in sports, owning several ESPN affiliates as well as production of ESPN magazine, ESPN radio, and broadcasting for ABC.
In 1977, a cash-strapped advertiser gave a radio station managed by Lowell Paxson 112 electric can openers to pay off an overdue bill. The can openers were offerend over the air for \$9.95 and quickly sold out. An idea emerged. Soon the radio station featured a regular show called “Suncoast Bargaineers.” In 1982, Paxson and a partner launched the Home Shopping Club on local cable television in Florida. Today the Home Shopping Network has evolved into a retail powerhours. The company sells tens of thousands of products on television channels in several countries and over the internet.
• Intended and Emergent Strategies
Figure 1.3 A Model of Intended, Deliberate, and Realized Strategy
An intended strategy is the strategy that an organization hopes to execute. Intended strategies are usually described in detail within an organization’s strategic plan. When a strategic plan is created for a new venture, it is called a business plan. As an undergraduate student at Yale in 1965, Frederick Smith had to complete a business plan for a proposed company as a class project. His plan described a delivery system that would gain efficiency by routing packages through a central hub and then pass them to their destinations. A few years later, Smith started Federal Express (FedEx), a company whose strategy closely followed the plan laid out in his class project. Today, Frederick Smith’s personal wealth has surpassed \$2 billion, and FedEx ranks eighth among the World’s Most Admired Companies according to Fortune magazine. Certainly, Smith’s intended strategy has worked out far better than even he could have dreamed (Donahoe, 2011; Memphis Business Journal, 2011).
Emergent strategy has also played a role at Federal Express. An emergent strategy is an unplanned strategy that arises in response to unexpected opportunities and challenges. Sometimes emergent strategies result in disasters. In the mid-1980s, FedEx deviated from its intended strategy’s focus on package delivery to capitalize on an emerging technology: facsimile (fax) machines. The firm developed a service called ZapMail that involved documents being sent electronically via fax machines between FedEx offices and then being delivered to customers’ offices. FedEx executives hoped that ZapMail would be a success because it reduced the delivery time of a document from overnight to just a couple of hours. Unfortunately, however, the ZapMail system had many technical problems that frustrated customers. Even worse, FedEx failed to anticipate that many businesses would simply purchase their own fax machines. ZapMail was shut down before long, and FedEx lost hundreds of millions of dollars following its failed emergent strategy. In retrospect, FedEx had made a costly mistake by venturing outside of the domain that was central to its intended strategy: package delivery (Funding Universe).
Emergent strategies can also lead to tremendous success. Southern Bloomer Manufacturing Company was founded to make underwear for use in prisons and mental hospitals. Many managers of such institutions believe that the underwear made for retail markets by companies such as Calvin Klein and Hanes is simply not suitable for the people under their care. Instead, underwear issued to prisoners needs to be sturdy and durable to withstand the rigors of prison activities and laundering. To meet these needs, Southern Bloomers began selling underwear made of heavy cotton fabric.
An unexpected opportunity led Southern Bloomer to go beyond its intended strategy of serving institutional needs for durable underwear. Just a few years after opening, Southern Bloomer’s performance was excellent. It was servicing the needs of about 125 facilities, but unfortunately, this was creating a vast amount of scrap fabric. An attempt to use the scrap as stuffing for pillows had failed, so the scrap was being sent to landfills. This was not only wasteful but also costly.
One day, cofounder Don Sonner visited a gun shop with his son. Sonner had no interest in guns, but he quickly spotted a potential use for his scrap fabric during this visit. The patches that the gun shop sold to clean the inside of gun barrels were of poor quality. According to Sonner, when he “saw one of those flimsy woven patches they sold that unraveled when you touched them, I said, ‘Man, that’s what I can do’” with the scrap fabric. Unlike other gun-cleaning patches, the patches that Southern Bloomer sold did not give off threads or lint, two by-products that hurt guns’ accuracy and reliability. The patches quickly became popular with the military, police departments, and individual gun enthusiasts. Before long, Southern Bloomer was selling thousands of pounds of patches per month. A casual trip to a gun store unexpectedly gave rise to a lucrative emergent strategy (Wells, 2002).
• Realized Strategy
A realized strategy is the strategy that an organization actually follows. Realized strategies are a product of a firm’s intended strategy (i.e., what the firm planned to do), the firm’s deliberate strategy (i.e., the parts of the intended strategy that the firm continues to pursue over time), and its emergent strategy (i.e., what the firm did in reaction to unexpected opportunities and challenges). In the case of FedEx, the intended strategy devised by its founder many years ago—fast package delivery via a centralized hub—remains a primary driver of the firm’s realized strategy. For Southern Bloomers Manufacturing Company, realized strategy has been shaped greatly by both its intended and emergent strategies, which center on underwear and gun-cleaning patches.
In other cases, firms’ original intended strategies are long forgotten. A nonrealized strategy refers to the abandoned parts of the intended strategy. When aspiring author David McConnell was struggling to sell his books, he decided to offer complimentary perfume as a sales gimmick. McConnell’s books never did escape the stench of failure, but his perfumes soon took on the sweet smell of success. The California Perfume Company was formed to market the perfumes; this firm evolved into the personal care products juggernaut known today as Avon. For McConnell, his dream to be a successful writer was a nonrealized strategy, but through Avon, a successful realized strategy was driven almost entirely by opportunistically capitalizing on change through emergent strategy.
Strategy at the Movies
The Social Network
Did Harvard University student Mark Zuckerberg set out to build a billion-dollar company with more than six hundred million active users? Not hardly. As shown in 2010’s The Social Network, Zuckerberg’s original concept in 2003 had a dark nature. After being dumped by his girlfriend, a bitter Zuckerberg created a website called “FaceMash” where the attractiveness of young women could be voted on. This evolved first into an online social network called Thefacebook that was for Harvard students only. When the network became surprisingly popular, it then morphed into Facebook, a website open to everyone. Facebook is so pervasive today that it has changed the way we speak, such as the word friend being used as a verb. Ironically, Facebook’s emphasis on connecting with existing and new friends is about as different as it could be from Zuckerberg’s original mean-spirited concept. Certainly, Zuckerberg’s emergent and realized strategies turned out to be far nobler than the intended strategy that began his adventure in entrepreneurship.
Key Takeaway
• Most organizations create intended strategies that they hope to follow to be successful. Over time, however, changes in an organization’s situation give rise to new opportunities and challenges. Organizations respond to these changes using emergent strategies. Realized strategies are a product of both intended and realized strategies.
Exercises
1. What is the difference between an intended and an emergent strategy?
2. Can you think of a company that seems to have abandoned its intended strategy? Why do you suspect it was abandoned?
3. Would you describe your career strategy in college to be more deliberate or emergent? Why? | textbooks/biz/Management/Mastering_Strategic_Management/01%3A_Mastering_Strategy_-_Art_and_Science/1.03%3A_Intended_Emergent_and_Realized_Strategies.txt |
Learning Objectives
1. Consider how strategy in ancient times and military strategy can provide insights to businesses.
2. Describe how strategic management has evolved into a field of study.
Those who cannot remember the past are condemned to repeat it.
-George Santayana, The Life of Reason
Santayana’s quote has strong implications for strategic management. The history of strategic management can be traced back several thousand years. Great wisdom about strategy can be acquired by understanding the past, but ignoring the lessons of history can lead to costly strategic mistakes that could have been avoided. Certainly, the present offers very important lessons; businesses can gain knowledge about what strategies do and do not work by studying the current actions of other businesses. But this section discusses two less obvious sources of wisdom: (1) strategy in ancient times and (2) military strategy. This section also briefly traces the development of strategic management as a field of study.
Table 1.4 Strategy in Ancient Times
Strategic management borrows many ideas from ancient uses of strategy over time. The following anecdotes provide a few notable examples of historical actions that remain relevant for the study of modern strategy. Indeed, the Greek verb strategos means “army leader” and the idea of stratego (from which we get the word strategy) refers to the idea of destroying one’s enemies through the effective use of resources.
1491 BC: Moses uses hierarchical delegation of authority during the exodus from Egypt. Dividing a large set of people into smaller groups creates a command structure that enables strategies to be implemented.
500 BC: Sun Tzu’s The Art of War provides a classic handbook on military strategy with numerous business applications, such as the idea “to win without fighting is the best.” This type of approach was used by businesses, such as Gap Inc. when they decided to create their own stores rather than competing for shelf space for their clothing within traditional department stores.
70 BC: Roman poet Birgil tells the story of the Trojan horse, a classic strategic ploy where the Greek forces hid a select number of soldiers in a large wooden horse that the Trojan army took into their heavily guarded city gates. Once inside the city, Greek soldiers were able to open the gates and allow in reinforcements which eventually led to the end of the war.
c. 530: King Arthur rules Britain. Legend says he made his famed round table so that no one, including him, would be seen as above the others. His mission to find the Holy Grail serves as an exemplar for the importance of the central ission to guide organizational actions.
• Strategy in Ancient Times
Perhaps the earliest-known discussion of strategy is offered in the Old Testament of the Bible (Bracker, 1980). Approximately 3,500 years ago, Moses faced quite a challenge after leading his fellow Hebrews out of enslavement in Egypt. Moses was overwhelmed as the lone strategist at the helm of a nation that may have exceeded one million people. Based on advice from his father-in-law, Moses began delegating authority to other leaders, each of whom oversaw a group of people. This hierarchical delegation of authority created a command structure that freed Moses to concentrate on the biggest decisions and helped him implement his strategies (Table 1.4). Similarly, the demands of strategic management today are simply too much for a chief executive officer (the top leader of a company) to handle alone. Many important tasks are thus entrusted to vice presidents and other executives.
In ancient China, strategist and philosopher Sun Tzu offered thoughts on strategy that continue to be studied carefully by business and military leaders today. Sun Tzu’s best-known work is The Art of War. As this title implies, Sun Tzu emphasized the creative and deceptive aspects of strategy.
One of Sun Tzu’s ideas that has numerous business applications is that winning a battle without fighting is the best way to win. Apple’s behavior in the personal computer business offers a good example of this idea in action. Many computer makers such as Toshiba, Acer, and Lenovo compete with one another based primarily on price. This leads to price wars that undermine the computer makers’ profits. In contrast, Apple prefers to develop unique features for its computers, features that have created a fiercely loyal set of customers. Apple boldly charges far more for its computers than its rivals charge for theirs. Apple does not even worry much about whether its computers’ software is compatible with the software used by most other computers. Rather than fighting a battle with other firms, Apple wins within the computer business by creating its own unique market and by attracting a set of loyal customers. Sun Tzu would probably admire Apple’s approach.
Perhaps the most famous example of strategy in ancient times revolves around the Trojan horse. According to legend, Greek soldiers wanted to find a way to enter the gates of Troy and attack the city from the inside. They devised a ploy that involved creating a giant wooden horse, hiding soldiers inside the horse, and offering the horse to the Trojans as a gift. The Trojans were fooled and brought the horse inside their city. When night arrived, the hidden Greek soldiers opened the gates for their army, leading to a Greek victory. In modern times, the term Trojan horse refers to gestures that appear on the surface to be beneficial to the recipient but that mask a sinister intent. Computer viruses also are sometimes referred to as Trojan horses.
A far more noble approach to strategy than the Greeks’ is attributed to King Arthur of Britain. Unlike the hierarchical approach to organizing Moses used, Arthur allegedly considered himself and each of his knights to have an equal say in plotting the group’s strategy. Indeed, the group is thought to have held its meetings at a round table so that no voice, including Arthur’s, would be seen as more important than the others. The choice of furniture in modern executive suites is perhaps revealing. Most feature rectangular meeting tables, perhaps signaling that one person—the chief executive officer—is in charge.
Another implication for strategic management offered by King Arthur and his Knights of the Round Table involves the concept of mission. Their vigorous search to find the Holy Grail (the legendary cup used by Jesus and his disciples at the Last Supper) serves as an exemplar for the importance of a central mission to guide organizational strategy and actions.
• Lessons Offered by Military Strategy
Key military conflicts and events have shaped the understanding of strategic management (Table 1.5). Indeed, the word strategy has its roots in warfare. The Greek verb strategos means “army leader” and the idea of stratego (from which we get the word strategy) refers to defeating an enemy by effectively using resources (Bracker, 1980).
A book written nearly five hundred years ago is still regarded by many as an insightful guide for conquering and ruling territories. Niccolò Machiavelli’s 1532 book The Prince offers clever recipes for success to government leaders. Some of the book’s suggestions are quite devious, and the word Machiavellian is used today to refer to acts of deceit and manipulation.
Two wars fought on American soil provide important lessons about strategic management. In the late 1700s, the American Revolution pitted the American colonies against mighty Great Britain. The Americans relied on nontraditional tactics, such as guerilla warfare and the strategic targeting of British officers. Although these tactics were considered by Great Britain to be barbaric, they later became widely used approaches to warfare. The Americans owed their success in part to help from the French navy, illustrating the potential value of strategic alliances.
Nearly a century later, Americans turned on one another during the Civil War. After four years of hostilities, the Confederate states were forced to surrender. Historians consider the Confederacy to have had better generals, but the Union possessed greater resources, such as factories and railroad lines. As many modern companies have discovered, sometimes good strategies simply cannot overcome a stronger adversary.
Two wars fought on Russian soil also offer insights. In the 1800s, a powerful French invasion force was defeated in part by the brutal nature of Russian winters. In the 1940s, a similar fate befell German forces during World War II. Against the advice of some of his leading generals, Adolf Hitler ordered his army to conquer Russia. Like the French before them, the Germans were able to penetrate deep into Russian territory. As George Santayana had warned, however, the forgotten past was about to repeat itself. Horrific cold stopped the German advance. Russian forces eventually took control of the combat, and Hitler committed suicide as the Russians approached the German capital, Berlin.
Five years earlier, Germany ironically had benefited from an opponent ignoring the strategic management lessons of the past. In ancient times, the Romans had assumed that no army could cross a mountain range known as the Alps. An enemy general named Hannibal put his men on elephants, crossed the mountains, and caught Roman forces unprepared. French commanders made a similar bad assumption in 1940. When Germany invaded Belgium (and then France) in 1940, its strategy caught French forces by surprise.
The top French commanders assumed that German tanks simply could not make it through a thickly wooded region known as the Ardennes Forest. As a result, French forces did not bother preparing a strong defense in that area. Most of the French army and their British allies instead protected against a small, diversionary force that the Germans had sent as a deception to the north of the forest. German forces made it through the forest, encircled the allied forces, and started driving them toward the ocean. Many thousands of French and British soldiers were killed or captured. In retrospect, the French generals had ignored an important lesson of history: Do not make assumptions about what your adversary can and cannot do. Executives who make similar assumptions about their competitors put their organizations’ performance in jeopardy.
Table 1.5 Classic Military Strategy
Strategic management often borrows lessons as well as metaphors from classic military strategy. For example, major business decisions are often categorized as “strategic” while more minor decisions (such as small changes in price or the opening of a new location) are referred to as “tactical” decisions. Here are a few select examples of classic military strategies that hold insights for strategic decisions today.
1532: Machiavelli’s book The Prince offers clever recipes for success to government leaders. Some of the book’s suggestions are quite devious, and the word Machiavellian comes to refer to acts of deceit and manipulation.
1775: The American Revolutionary War between the United States and Great Britain begins. Weaker American forces win the war in part by relying on nontraditional tactics such as guerilla warfare and the strategic targeting of British officers. They also depend on help from the French navy, illustrating the potential value of strategic alliances.
1815: Napolean’s defeat at Waterloo demonstrates how spreading resources too thin can result in defeat of even one of the most famed militaries of all time.
1865: The American Civil War ends. Historians consider the Confederacy to have had better generals, but the Union possessed greater resources. Sometimes good strategies simply cannot overcome a stronger adversary.
1944: Following a series of deceptions designed to confuse and food German forces, the Allies launch the D-Day invasion in an effort to liberate Europe from Nazi control.
• Strategic Management as a Field of Study
Universities contain many different fields of study, including physics, literature, chemistry, computer science, and engineering. Some fields of study date back many centuries (e.g., literature), while others (such as computer science) have emerged only in recent years. Strategic management has been important throughout history, but the evolution of strategic management into a field of study has mostly taken place over the past century. A few of the key business and academic events that have helped the field develop are discussed next .
The ancient Chinese strategist Sun Tzu made it clear that strategic management is part art. But it is also part science. Major steps toward developing the scientific aspect of strategic management were taken in the early twentieth century by Frederick W. Taylor. In 1911, Taylor published The Principles of Scientific Management. The book was a response to Taylor’s observation that most tasks within organizations were organized haphazardly. Taylor believed that businesses would be much more efficient if management principles were derived through scientific investigation. In The Principles of Scientific Management, Taylor stressed how organizations could become more efficient through identifying the “one best way” of performing important tasks. Implementing Taylor’s principles was thought to have saved railroad companies hundreds of millions of dollars. Although many later works disputed the merits of trying to find the “one best way,” Taylor’s emphasis on maximizing organizational performance became the core concern of strategic management as the field developed.
Also in the early twentieth century, automobile maker Henry Ford emerged as one of the pioneers of strategic management among industrial leaders. At the time, cars seemed to be a luxury item for wealthy people. Ford adopted a unique strategic perspective, however, and boldly offered the vision that he would make cars the average family could afford. Building on ideas about efficiency from Taylor and others, Ford organized assembly lines for creating automobiles that lowered costs dramatically. Despite his wisdom, Ford also made mistakes. Regarding his company’s flagship product, the Model T, Ford famously stated, “Any customer can have a car painted any color that he wants so long as it is black.” When rival automakers provided customers with a variety of color choices, Ford had no choice but to do the same.
In 1912, Harvard University became the first higher education institution to offer a course focused on how business executives could lead their organizations to greater success. The approach to maximizing performance within this “business policy” course was consistent with Taylor’s ideas. Specifically, the goal of the business policy course was to identify the one best response to any given problem that an organization confronted. By finding and pursuing this ideal solution, the organization would have the best chance of enjoying success.
In the 1920s, A&W Root Beer became the first franchised restaurant chain. Franchising involves an organization (called a franchisor) granting the right to use its brand name, products, and processes to other organizations (known as franchisees) in exchange for an up-front payment (a franchise fee) and a percentage of franchisees’ revenues (a royalty fee). This simple yet powerful business model allows franchisors to grow their brands rapidly and provides franchisees with the safety of a proven business format. Within a few decades, the franchising business model would fuel incredible successes for many franchisors and franchisees across a variety of industries. Today, for example, both Subway and McDonald’s have more than thirty thousand restaurants carrying their brand names.
The acceptance of strategic management as a necessary element of business school programs took a major step forward in 1959. A widely circulated report created by the Ford Foundation recommended that all business schools offer a “capstone” course. The goal of this course would be to integrate knowledge across different business fields such as marketing, finance, and accounting to help students devise better ideas for addressing complex business problems. Rather than seeking a “one best way” solution, as advocated by Taylor and Harvard’s business policy course, this capstone course would emphasize students’ critical thinking skills in general and the notion that multiple ways of addressing a problem could be equally successful in particular. The Ford Foundation report was a key motivator that led US universities to create strategic management courses in their undergraduate and master of business administration programs.
In 1962, business and academic events occurred that seemed minor at the time but that would later give rise to huge changes. Building on the business savvy that he had gained as a franchisee, Sam Walton opened the first Walmart in Rogers, Arkansas. Relying on a strategy that emphasized low prices and high levels of customer service, Walmart grew to 882 stores with a combined \$8.4 billion dollars in annual sales by 1985. A decade later, sales reached \$93.6 billion across nearly 3,000 stores. In 2010, Walmart was the largest company in the world. In recent years, Walmart has arguably downplayed customer service in favor of cutting costs. Time will tell whether deviating from Sam Walton’s original strategic positioning will hurt the company.
Also in 1962, Harvard professor Alfred Chandler published Strategy and Structure: Chapters in the History of the Industrial Enterprise. This book describes how strategy and organizational structure need to be consistent with each other to ensure strong firm performance, a lesson that Moses seems to have mastered during the Hebrews’ exodus from Egypt. Many people working in the field of strategic management consider Chandler’s book to be the first work of strategic management research.
Two pivotal events that firmly established strategic management as a field of study took place in 1980. One was the creation of the Strategic Management Journal. The introduction of the journal offered a forum for researchers interested in building knowledge about strategic management. Much like important new medical findings appear in the Journal of the American Medical Association and the New England Journal of Medicine, the Strategic Management Journal publishes pathbreaking insights about strategic management.
The second pivotal event in 1980 was the publication of Competitive Strategy: Techniques for Analyzing Industries and Competitors by Harvard professor Michael Porter. This book offers concepts such as five forces analysis and generic strategies that continue to strongly influence how executives choose strategies more than thirty years after the book’s publication. Given the importance of these concepts, both five forces analysis and generic strategies are discussed in detail in Chapter 3 “Evaluating the External Environment” and Chapter 5 “Selecting Business-Level Strategies”, respectively.
• Intended and Emergent Strategies
Figure 1.3 A Model of Intended, Deliberate, and Realized Strategy
Table 1.6 The Modern History of Strategic Management
Although strategy has been important throughout history, strategic management as a field of study has largely developed over the past century. Below are a few key business and academic events that have helped the field evolve.
Year Notable event
1909 Ford first produces its classic Model T.
1911 Frederick W. Taylor publishes The Principles of Scientific Management.
1912 The precursor to the modern strategic management course was created at Harvard Business School under the title of “business policy.”
1925 A&W Root Beer becomes America’s first franchised restaurant chain.
1959 The Ford Foundation recommends that business school curricula include a ‘capstone’ course that integrates knowledge across business fields in order to help solve complex business problems.
1962 Alfred Chandler published Strategy and Structure: Chapters in the History of the Industrial Enterprise.
1962 Sam Walton opens the first Wal-Mart in Arkansas. Relying on a strategy that emphasized low prices and high levels of customer service.
1980 The Strategic Management Journal is created.
1995 The launch of Amazon.com by founder Jeff Bezos is perhaps the pivotal event in creating Internet-based commerce.
2001 Enron Corporation declares bankruptcy after a series of disclosures reveal that the firm’s stellar performance had been a product of fraud and corruption.
2005 Thomas Friedman’s book The World is Flat: A Brief History of the Twenty-First Century suggests that many advantages that firms in developed countries like the United States take for granted are disappearing.
2010
Wal-Mart becomes the largest company in the world.
Many consumers today take web-based shopping for granted, but this channel for commerce was created less than two decades ago. The 1995 launch of Amazon by founder Jeff Bezos was perhaps the pivotal event in creating Internet-based commerce. In pursuit of its vision “to be earth’s most customer-centric company,” Amazon has diversified far beyond its original focus on selling books and has evolved into a dominant retailer. Powerful giants have stumbled badly in Amazon’s wake. Sears had sold great varieties of goods (even including entire houses) through catalogs for many decades, as had JCPenney. Neither firm created a strong online sales presence to keep pace with Amazon, and both eventually dropped their catalog businesses. As often happens with old and large firms, Sears and JCPenney were outmaneuvered by a creative and versatile upstart.
Ethics have long been an important issue within the strategic management field. Attention to the need for executives to act ethically when creating strategies increased dramatically in the early 2000s when a series of companies such as Enron Corporation, WorldCom, Tyco, Qwest, and Global Crossing were found to have grossly exaggerated the strength of their performance. After a series of revelations about fraud and corruption, investors in these firms and others lost billions of dollars, tens of thousands of jobs were lost, and some executives were sent to prison.
Like ethics, the implications of international competition are of central interest to strategic management. Provocative new thoughts on the nature of the international arena were offered in 2005 by Thomas L. Friedman. In his book The World Is Flat: A Brief History of the Twenty-First Century, Friedman argues that many of the advantages that firms in developed countries such as the United States, Japan, and Great Britain take for granted are disappearing. One implication is that these firms will need to improve their strategies if they are to remain successful.
Looking to the future, it appears likely that strategic management will prove to be more important than ever. In response, researchers who are interested in strategic management will work to build additional knowledge about how organizations can maximize their performance. Executives will need to keep track of the latest scientific findings. Meanwhile, they also must leverage the insights that history offers on how to be successful while trying to avoid history’s mistakes.
Key Takeaway
• Although strategic management as a field of study has developed mostly over the last century, the concept of strategy is much older. Understanding strategic management can benefit greatly by learning the lessons that ancient history and military strategy provide.
Exercises
1. What do you think was the most important event related to strategy in ancient times?
2. In what ways are the strategic management of business and military strategy alike? In what ways are they different?
3. Do you think executives are more ethical today as a result of the scandals in the early 2000s? Why or why not? | textbooks/biz/Management/Mastering_Strategic_Management/01%3A_Mastering_Strategy_-_Art_and_Science/1.04%3A_The_History_of_Strategic_Management.txt |
Learning Objectives
1. Learn the strategic management process.
2. Understand the four steps in the strategic management process.
• Modeling the Strategy Process
Strategic management is a process that involves building a careful understanding of how the world is changing, as well as a knowledge of how those changes might affect a particular firm. CEOs, such as late Apple-founder Steve Jobs, must be able to carefully manage the possible actions that their firms might take to deal with changes that occur in their environment. We present a model of the strategic management process in Figure 1.7. This model also guides our presentation of the chapters contained in this book.
Figure 1.7 Overall Model of the Strategic Management Process
The strategic management process begins with an understanding of strategy and performance. As we have noted in this introductory chapter, strategic management is both an art and a science, and it involves multiple conceptualizations of the notion of strategy drawn from recent and ancient history. In Chapter 2 “Leading
Strategically”, we focus on how leading strategically is needed if the firm is to achieve the long-term strong performance companies such as Apple have attained. Consequently, how managers understand and interpret the performance of their firms is often central to understanding strategy.
Environmental and internal scanning is the next stage in the process. Managers must constantly scan the external environment for trends and events that affect the overall economy, and they must monitor changes in the particular industry in which the firm operates. For example, Apple’s decision to create the iPhone demonstrates its ability to interpret that traditional industry boundaries that distinguished the cellular phone industry and the computer industry were beginning to blur. At the same time, firms must evaluate their own resources to understand how they might react to changes in the environment. For example, intellectual property is a vital resource for Apple. Between 2008 and 2010, Apple filed more than 350 cases with the US Patent and Trademark Office to protect its use of such terms as apple, pod, and safari (Apple Inc.).
A classic management tool that incorporates the idea of scanning elements both external and internal to the firm is SWOT (strengths, weaknesses, opportunities, and threats) analysis. Strengths and weaknesses are assessed by examining the firm’s resources, while opportunities and threats refer to external events and trends. The value of SWOT analysis parallels ideas from classic military strategists such as Sun Tzu, who noted the value of knowing yourself as well as your opponent. Chapter 3 “Evaluating the External Environment” examines the topic of evaluating the external environment in detail, and Chapter 4 “Managing Firm
Resources” presents concepts and tools for managing firm resources.
The importance of knowing yourself and your opponent is applicable to the knowledge of strategic management for business, military strategy, and classic strategy games such as chess.
Mamooli – Chess – CC BY-NC 2.0.
Strategy formulation is the next step in the strategic management process. This involves developing specific strategies and actions. Certainly, part of Apple’s success is due to the unique products it offers the market, as well as how these products complement one another. A customer can buy an iPod that plays music from iTunes—all of which can be stored in Apple’s Mac computer (Inside CRM Editors). In Chapter 5 “Selecting Business-Level Strategies”, we discuss how selecting business-level strategies helps to provide firms with a recipe that can be followed that will increase the likelihood that their strategies will be successful. In Chapter 6 “Supporting the Business-Level Strategy: Competitive and Cooperative Moves”, we present insights on how firms can support the business-level strategy through competitive and cooperative moves. Chapter 7 “Competing in International Markets” presents possibilities for firms competing in international markets, and Chapter 8 “Selecting Corporate-Level Strategies” focuses on selecting corporate-level strategies.
Strategy implementation is the final stage of the process. One important element of strategy implementation entails crafting an effective organizational structure and corporate culture. For example, part of Apple’s success is due to its consistent focus on innovation and creativity that Steve Jobs described as similar to that of a start-up. Chapter 9 “Executing Strategy through Organizational Design” offers ideas on how to manage these elements of implementation. The final chapter explores how to lead an ethical organization through corporate governance, social responsibility, and sustainability.
Key Takeaway
• Strategic management is a process that requires the ability to manage change. Consequently, executives must be careful to monitor and to interpret the events in their environment, to take appropriate actions when change is needed, and to monitor their performance to ensure that their firms are able to survive and, it is hoped, thrive over time.
Exercises
1. Who makes the strategic decisions for most organizations?
2. Why is it important to view strategic management as a process?
3. What are the four steps of the strategic management process?
4. How is chess relevant to the study of strategic management? What other games might help teach strategic thinking?
1.06: Conclusion
This chapter provides an overview of strategic management and strategy. Ideas about strategy span many centuries, and modern understanding of strategy borrows from ancient strategies as well as classic militaries strategies. You should now understand that there are numerous ways to conceptualize the idea of strategy and that effective strategic management is needed to ensure the long-term success of firms. The study of strategic management provides tools to effectively manage organizations, but it also involves the art of knowing how and when to apply creative thinking. Knowledge of both the art and the science of strategic management is needed to help guide organizations as their strategies emerge and evolve over time. Such tools will also help you effectively chart a course for your career as well as to understand the effective strategic management of the organizations for which you will work.
Exercises
1. Think about the best and worst companies you know. What is extraordinary (or extraordinarily bad) about these firms? Are their strategies clear and focused or difficult to define?
2. If you were to write a “key takeaway” section for this chapter, what would you include as the material you found most interesting? | textbooks/biz/Management/Mastering_Strategic_Management/01%3A_Mastering_Strategy_-_Art_and_Science/1.05%3A_Understanding_the_Strategic_Management_Process.txt |
Learning Objectives
After reading this chapter, you should be
able to understand and articulate answers to the following questions:
1. What are vision, mission, and goals, and why are they
important to organizations?
2. How should executives analyze the
performance of their organizations?
3. In what ways can having a
celebrity CEO and a strong entrepreneurial orientation help or harm an
organization?
Questions Are Brewing at Starbucks
Starbucks’s global empire includes this store in Seoul, South
Korea.
March 30, 2011, marked the fortieth anniversary of Starbucks first store opening for business in Seattle, Washington. From its humble beginnings, Starbucks grew to become the largest coffeehouse company in the world while stressing the importance of both financial and social goals. As it created thousands of stores across dozens of countries, the company navigated many interesting periods. The last few years were a particularly fascinating era.
In early 2007, Starbucks appeared to be very successful, and its stock was worth more than \$35 per share. By 2008, however, the economy was slowing, competition in the coffee business was heating up, and Starbucks’s performance had become disappointing. In a stunning reversal of fortune, the firm’s stock was worth less than \$10 per share by the end of the year. Anxious stockholders wondered whether Starbucks’s decline would continue or whether the once high-flying company would return to its winning ways.
Riding to the rescue was Howard Schultz, the charismatic and visionary founder of Starbucks who had stepped down as chief executive officer eight years earlier. Schultz again took the helm and worked to turn the company around by emphasizing its mission statement: “to inspire and nurture the human spirit—one person, one cup and one neighborhood at a time (Starbucks).” About a thousand underperforming stores were shut down permanently. Thousands of other stores closed for a few hours so that baristas could be retrained to make inspiring drinks. Food offerings were revamped to ensure that coffee—not breakfast sandwiches—were the primary aroma that tantalized customers within Starbucks’s outlets.
By the time Starbucks’s fortieth anniversary arrived, Schultz had led his company to regain excellence, and its stock price was back above \$35 per share. In March 2011, Schultz summarized the situation by noting that “over the last three years, we’ve completely transformed the company, and the health of Starbucks is quite good. But I don’t think this is a time to celebrate or run some victory lap. We’ve got a lot of work to do (Starbucks, 2011).” Indeed, important questions loomed. Could performance improve further? How long would Schultz remain with the company? Could Schultz’s eventual successor maintain Schultz’s entrepreneurial approach as well as keep Starbucks focused on its mission?
2.02: Vision Mission and Goals
Learning Objectives
1. Define vision and mission and distinguish between them.
2. Know what the acronym SMART represents.
3. Be able to write a SMART goal.
• The Importance of Vision
“Good business leaders create a vision, articulate the vision, passionately own the vision, and relentlessly drive it to completion.”
–Jack Welch, former CEO of General Electric
Many skills and abilities separate effective strategic leaders like Howard Schultz from poor strategic leaders. One of them is the ability to inspire employees to work hard to improve their organization’s performance. Effective strategic leaders are able to convince employees to embrace lofty ambitions and move the organization forward. In contrast, poor strategic leaders struggle to rally their people and channel their collective energy in a positive direction.
As the quote from Jack Welch suggests, a vision is one key tool available to executives to inspire the people in an organization (Table 2.1). An organization’s vision describes what the organization hopes to become in the future. Well-constructed visions clearly articulate an organization’s aspirations. Avon’s vision is “to be the company that best understands and satisfies the product, service, and self-fulfillment needs of women—globally.” This brief but powerful statement emphasizes several aims that are important to Avon, including excellence in customer service, empowering women, and the intent to be a worldwide player. Like all good visions, Avon sets a high standard for employees to work collectively toward. Perhaps no vision captures high standards better than that of aluminum maker Alcoa. This firm’s very ambitious vision is “to be the best company in the world—in the eyes of our customers, shareholders, communities and people.” By making clear their aspirations, Alcoa’s executives hope to inspire employees to act in ways that help the firm become the best in the world.
The results of a survey of one thousand five hundred executives illustrate how the need to create an inspiring vision creates a tremendous challenge for executives. When asked to identify the most important characteristics of effective strategic leaders, 98 percent of the executives listed “a strong sense of vision” first. Meanwhile, 90 percent of the executives expressed serious doubts about their own ability to create a vision (Quigley, 1994). Not surprisingly, many organizations do not have formal visions. Many organizations that do have visions find that employees do not embrace and pursue the visions. Having a well-formulated vision employees embrace can therefore give an organization an edge over its rivals.
Table 2.1 The Big Picture: Organizational Vision
An organization’s vision describes what the organization hopes to become in the future. Visions highlight the values and aspirations that lay at the heart of the organization. Although visions statements have the potential to inspire employees, customers, and other stakeholders, vision statements are relatively rare and good visions are even rarer. Some of the visions being pursued by businesses today are offered below.
Company Vision
Alcoa To be the best company in the world–in the eyes of our customers, shareholders, communities and people.
Avon To be the company that best understands and satisfies the product, service and self-fulfillment needs women–globally.
Chevron To be the global energy company most admired for its people, partnership and performance.
Google To develop a perfect search engine.
Kraft Foods Helping people around the world eat and live better.
Proctor and Gamble Be, and be recognized as, the best consumer products and services company in the world.
• Mission Statements
In working to turnaround Starbucks, Howard Schultz sought to renew Starbucks’s commitment to its mission statement: “to inspire and nurture the human spirit—one person, one cup and one neighborhood at a time.” A mission such as Starbucks’s states the reasons for an organization’s existence. Well-written mission statements effectively capture an organization’s identity and provide answers to the fundamental question “Who are we?” While a vision looks to the future, a mission captures the key elements of the organization’s past and present (Table 2.2).
Table 2.2 Missions
While a vision describes what an organization desires to become in the future, an organization’s mission is grounded in the past and present. A mission outlines the reasons for the organization’s existence and explains what role it plays in society. A well-written mission statement captures the organization’s identity and helps to answer the fundamental question of “Who are we?” As a practical matter, a mission statement explains to key stakeholders why they should support the organization. The following examples illustrate the connections between organizations and the needs of their key stakeholders.
Company Mission Statement
Harley Davidson We ride with our customers and apply this deep connection in every market we serve to create superior value for all of our stakeholders.
Internal Revenue Service Provide America’s taxpayers top-quality srevice by helping them understand and meet their tax responsibilities and enforce the law with integrity and fairness to all.
Starbucks To inspire and nurture the human spirit – one person, one cup and one neighborhood at a time.
The Estée Lauder Company Bringing the best to everyone we touch and being the best in everything we do.
Limited Brands Limited Brands is committed to building a family of the world’s best fashion brands offering captivating customer experiences that drive long-term loyalty and deliver sustained growth for our shareholders.
Fender Musical Instruments We will exceed the expectations of music enthusiasts worldwide and create a community for individual expression by focusing on our people, products, and business excellence.
Organizations need support from their key stakeholders, such as employees, owners, suppliers, and customers, if they are to prosper. A mission statement should explain to stakeholders why they should support the organization by making clear what important role or purpose the organization plays in society. Google’s mission, for example, is “to organize the world’s information and make it universally accessible and useful.” Google pursued this mission in its early days by developing a very popular Internet search engine. The firm continues to serve its mission through various strategic actions, including offering its Internet browser Google Chrome to the online community, providing free e-mail via its Gmail service, and making books available online for browsing.
Many consider Abraham Lincoln to have been one of the greatest strategic leaders in modern history.
One of Abraham Lincoln’s best-known statements is that “a house divided against itself cannot stand.” This provides a helpful way of thinking about the relationship between vision and mission. Executives ask for trouble if their organization’s vision and mission are divided by emphasizing different domains. Some universities have fallen into this trap. Many large public universities were established in the late 1800s with missions that centered on educating citizens. As the twentieth century unfolded, however, creating scientific knowledge through research became increasingly important to these universities. Many university presidents responded by creating visions centered on building the scientific prestige of their schools. This created a dilemma for professors: Should they devote most of their time and energy to teaching students (as the mission required) or on their research studies (as ambitious presidents demanded via their visions)? Some universities continue to struggle with this trade-off today and remain houses divided against themselves. In sum, an organization is more effective to the extent that its vision and its mission target employees’ effort in the same direction.
• Pursuing the Vision and Mission through SMART Goals
An organization’s vision and mission offer a broad, overall sense of the organization’s direction. To work toward achieving these overall aspirations, organizations also need to create goals—narrower aims that should provide clear and tangible guidance to employees as they perform their work on a daily basis. The most effective goals are those that are specific, measurable, aggressive, realistic, and time-bound. An easy way to remember these dimensions is to combine the first letter of each into one word: SMART (Table 2.3). Employees are put in a good position to succeed to the extent that an organization’s goals are SMART.
Table 2.3 Creating SMART Goals
While missions and visions provide an overall sense of the organization’s direction, goals are narrower aims that should provide clear and tangible guidance to employees. The most effective goals are those that are SMART (specific, measurable, aggressive, realistic, and time-bound). SMART goals help provide clarity, transparency, and accountability. As detailed below, one SMART goal is Coca-Cola’s aim to “by 2012, improve our water efficiency by 20%, compared with a 2004 baseline.”
Specific Coca-Cola is seeking to improve its water efficiency by a specific amount–20%. In contrast, goals such as “do your best” are vague, making it difficult to decide if a goal is actually reached.
Measurable Water efficiency can be calculated, so Coca-Cola is able to track its progress relative to its 20% target. If progress is slow, more resources can be devoted to achieving the goal.
Aggressive A series of research studies have established that performance is strongest when goals are challenging but attainable. Reaching a 20% improvement will requires aggressive work by Coke, but the goal can be reached.
Realistic If Coca Cola’s water efficiency goal was 95% improvement, Coca Cola’s employees would probably react with surprise. Reaching a goal must be feasible in order for employees to embrace it. Unrealistic goals make most people give up. And basing goals on impossible clichés, such as “give 110%” creates confusion.
Time-bound Coca Cola is seeking to achieve its 20% improvement by 2012. Some universities, such as Texas Tech University, provide incentives, including preferred scheduling for students who sign contracts agreeing to graduate on a four-year schedule. Deadlines such as these are motivating and they create accountability.
A goal is specific if it is explicit rather than vague. In May 1961, President John F. Kennedy proposed a specific goal in a speech to the US Congress: “I believe that this nation should commit itself to achieving the goal, before this decade is out, of landing a man on the moon and returning him safely to the earth (National Aeronautics and Space Administration).” Explicitness such as was offered in this goal is helpful because it targets people’s energy. A few moments later, Kennedy made it clear that such targeting would be needed if this goal was to be reached. Going to the moon, he noted, would require “a major national commitment of scientific and technical manpower, materiel and facilities, and the possibility of their diversion from other important activities where they are already thinly spread.” While specific goals make it clear how efforts should be directed, vague goals such as “do your best” leave individuals unsure of how to proceed.
A goal is measurable to the extent that whether the goal is achieved can be quantified. President Kennedy’s goal of reaching the moon by the end of the 1960s offered very simple and clear measurability: Either Americans would step on the moon by the end of 1969 or they would not. One of Coca-Cola’s current goals is a 20 percent improvement to its water efficiency by 2012 relative to 2004 water usage. Because water efficiency is easily calculated, the company can chart its progress relative to the 20 percent target and devote more resources to reaching the goal if progress is slower than planned.
A goal is aggressive if achieving it presents a significant challenge to the organization. A series of research studies have demonstrated that performance is strongest when goals are challenging but attainable. Such goals force people to test and extend the limits of their abilities. This can result in reaching surprising heights. President Kennedy captured this theme in a speech in September 1962: “We choose to go to the moon. We choose to go to the moon in this decade…not because [it is] easy, but because [it is] hard, because that goal will serve to organize and measure the best of our energies and skills.”
In the case of Coca-Cola, reaching a 20 percent improvement will require a concerted effort, but the goal can be achieved. Meanwhile, easily achievable goals tend to undermine motivation and effort. Consider a situation in which you have done so well in a course that you only need a score of 60 percent on the final exam to earn an A for the course. Understandably, few students would study hard enough to score 90 percent or 100 percent on the final exam under these circumstances. Similarly, setting organizational goals that are easy to reach encourages employees to work just hard enough to reach the goals.
It is tempting to extend this thinking to conclude that setting nearly impossible goals would encourage even stronger effort and performance than does setting aggressive goals. People tend to get discouraged and give up, however, when faced with goals that have little chance of being reached. If, for example, President Kennedy had set a time frame of one year to reach the moon, his goal would have attracted scorn. The country simply did not have the technology in place to reach such a goal. Indeed, Americans did not even orbit the moon until seven years after Kennedy’s 1961 speech. Similarly, if Coca-Cola’s water efficiency goal was 95 percent improvement, Coca-Cola’s employees would probably not embrace it. Thus goals must also be realistic, meaning that their achievement is feasible.
You have probably found that deadlines are motivating and that they help you structure your work time. The same is true for organizations, leading to the conclusion that goals should be time-bound through the creation of deadlines. Coca-Cola has set a deadline of 2012 for its water efficiency goal, for example. The deadline for President Kennedy’s goal was the end of 1969. The goal was actually reached a few months early. On July 20, 1969, Neil Armstrong became the first human to step foot on the moon. Incredibly, the pursuit of a well-constructed goal had helped people reach the moon in just eight years.
Americans landed on the moon eight years after President Kennedy set a moon landing as a key goal for the United States.
The period after an important goal is reached is often overlooked but is critical. Will an organization rest on its laurels or will it take on new challenges? The US space program again provides an illustrative example. At the time of the first moon landing, Time magazine asked the leader of the team that built the moon rockets about the future of space exploration. “Given the same energy and dedication that took them to the moon,” said Wernher von Braun, “Americans could land on Mars as early as 1982 (Time, 1969).” No new goal involving human visits to Mars was embraced, however, and human exploration of space was de-emphasized in favor of robotic adventurers. Nearly three decades after von Braun’s proposed timeline for reaching Mars expired, President Barack Obama set in 2010 a goal of creating by 2025 a new space vehicle capable of taking humans beyond the moon and into deep space. This would be followed in the mid-2030s by a flight to orbit Mars as a prelude to landing on Mars (Amos, 2010). Time will tell whether these goals inspire the scientific community and the country in general (Table 2.4).
Table 2.4 Be SMART: Vision, Mission, Goals, and You
Many of the principles for effective organizational vision, missions, and goals apply to individuals too. Here are some ideas that might help you think differently about your own aspirations and how you are working to reach them.
Vision Young children often have grandiose visions, such as “I want to be the president of the United States.” Now that you are in college, what do you aspire to become? Is your education setting the stage for you to reach this vision?
Mission Is your mission in life simply to accumulate as much wealth as you can? Or do you also place value on your role in a family and as a member of society?
Specific Do you create explicit rather than vague goals for yourself? This can help you to target your energy toward what is important.
Measurable Quantifying your goals allows you to track your accomplishments over time and can help reduce stress. For example, meeting a goal of “write a page every day” might prevent panic the night before an important project is due.
Aggressive Creating aggressive educational goals (e.g. maintain a 3.5 GPA) is likely to lead to higher performance than minimal goals (e.g., pass all my classes).
Realistic To better understand your prospects in the job market, consider researching what kinds of jobs are common for your major and experience level.
Time-Bound Time management is a challenge in today’s world. If you tend to procrastinate, setting interim deadlines for yourself might help you to stay on schedule.
Key Takeaway
• Strategic leaders need to ensure that their organizations have three types of aims. A vision states what the organization aspires to become in the future. A mission reflects the organization’s past and present by stating why the organization exists and what role it plays in society. Goals are the more specific aims that organizations pursue to reach their visions and missions. The best goals are SMART: specific, measurable, aggressive, realistic, and time-bound.
Exercises
1. Take a look at the website of your college or university. What is the organization’s vision and mission? Were they easy or hard to find?
2. As a member of the student body, do you find the vision and mission of your college or university to be motivating and inspirational? Why or why not?
3. What is an important goal that you have established for your career? Could this goal be improved by applying the SMART goal concept? | textbooks/biz/Management/Mastering_Strategic_Management/02%3A_Leading_Strategically/2.01%3A_Leading_Strategically.txt |
Learning Objectives
1. Understand the complexities associated with assessing organizational performance.
2. Learn each of the dimensions of the balanced scorecard framework.
3. Learn what is meant by a “triple bottom line.”
• Organizational Performance: A Complex Concept
Organizational performance refers to how well an organization is doing to reach its vision, mission, and goals. Assessing organizational performance is a vital aspect of strategic management. Executives must know how well their organizations are performing to figure out what strategic changes, if any, to make. Performance is a very complex concept, however, and a lot of attention needs to be paid to how it is assessed.
Two important considerations are (1) performance measures and (2) performance referents (Figure 2.5). A performance measure is a metric along which organizations can be gauged. Most executives examine measures such as profits, stock price, and sales in an attempt to better understand how well their organizations are competing in the market. But these measures provide just a glimpse of organizational performance. Performance referents are also needed to assess whether an organization is doing well. A performance referent is a benchmark used to make sense of an organization’s standing along a performance measure. Suppose, for example, that a firm has a profit margin of 20 percent in 2011. This sounds great on the surface. But suppose that the firm’s profit margin in 2010 was 35 percent and that the average profit margin across all firms in the industry for 2011 was 40 percent. Viewed relative to these two referents, the firm’s 2011 performance is cause for concern.
Using a variety of performance measures and referents is valuable because different measures and referents provide different information about an organization’s functioning. The parable of the blind men and the elephant—popularized in Western cultures through a poem by John Godfrey Saxe in the nineteenth century—is useful for understanding the complexity associated with measuring organizational performance. As the story goes, six blind men set out to “see” what an elephant was like. The first man touched the elephant’s side and believed the beast to be like a great wall. The second felt the tusks and thought elephants must be like spears. Feeling the trunk, the third man thought it was a type of snake. Feeling a limb, the fourth man thought it was like a tree trunk. The fifth, examining an ear, thought it was like a fan. The sixth, touching the tail, thought it was like a rope. If the men failed to communicate their different impressions they would have all been partially right but wrong about what ultimately mattered.
Figure 2.5 How Organizations and Individuals Can Use Financial Performance Measures and Referents
This story parallels the challenge involved in understanding the multidimensional nature of organization performance because different measures and referents may tell a different story about the organization’s performance. For example, the Fortune 500 lists the largest US firms in terms of sales. These firms are generally not the strongest performers in terms of growth in stock price, however, in part because they are so big that making major improvements is difficult. During the late 1990s, a number of Internet-centered businesses enjoyed exceptional growth in sales and stock price but reported losses rather than profits. Many investors in these firms who simply fixated on a single performance measure—sales growth—absorbed heavy losses when the stock market’s attention turned to profits and the stock prices of these firms plummeted.
The story of the blind men and the elephant provides a metaphor for understanding the complexities of measuring organizational performance.
The number of performance measures and referents that are relevant for understanding an organization’s performance can be overwhelming, however. For example, a study of what performance metrics were used within restaurant organizations’ annual reports found that 788 different combinations of measures and referents were used within this one industry in a single year (Short & Palmer, 2003). Thus executives need to choose a rich yet limited set of performance measures and referents to focus on.
• The Balanced Scorecard
To organize an organization’s performance measures, Professor Robert Kaplan and Professor David Norton of Harvard University developed a tool called the balanced scorecard. Using the scorecard helps managers resist the temptation to fixate on financial measures and instead monitor a diverse set of important measures (Table 2.6). Indeed, the idea behind the framework is to provide a “balance” between financial measures and other measures that are important for understanding organizational activities that lead to sustained, long-term performance. The balanced scorecard recommends that managers gain an overview of the organization’s performance by tracking a small number of key measures that collectively reflect four dimensions: (1) financial, (2) customer, (3) internal business process, and (4) learning and growth (Kaplan & Norton, 1992).
Table 2.6 Beyond Profits: Measuring Performance Using the Balanced Scorecard
Because the concept of organizational performance is multidimensional, wise managers realize that understanding organizational performance is like flying a plane pilots must be on track in terms of altitude, air speed, and oil pressure and make sure they have enough gas to finish their flight plan. For tracking organizational performance, assessing how the organization is doing financially is just a starting point. The “balanced scorecard” encourages managers to also monitor how well the organization is serving customers, managing internal activities, and setting the stage for future improvements. This provides a fast but comprehensive view of the organization. As shown below, monitoring these four dimensions also can help individuals assess themselves.
Scorecard Point Definition You could ask yourself…
Financial measures such as return on assets and stock price–relate to effectiveness and profits. How can I improve my personal wealth? Measures might include cash, savings account, and retirement.
Customer measures such as number of new or repeat customers and percentage of repeat customers–relate to customer attraction and satisfaction. How strong is my social network? The number of new contacts you make over time might reflect this dimension.
Internal business process measures such as speed at serving a customer and time it takes to create a new product and get it to market–relate to organizational efficiency. Am I getting better at my current job? Tracking improvements in personal efficiency such as the time needed to complete a task can be helpful.
Learning and growth measures such as the average number of new skills learned by each employee every year–relate to the future and emphasize that employee learning is often more important than formal training. What skills should I develop now for the future? Although the acquisition of new skills is hard to measure, the attainment of specialized licenses or earning of a graduate degree are tangible benchmarks.
• Financial Measures
Financial measures of performance relate to organizational effectiveness and profits. Examples include financial ratios such as return on assets, return on equity, and return on investment. Other common financial measures include profits and stock price. Such measures help answer the key question “How do we look to shareholders?”
Financial performance measures are commonly articulated and emphasized within an organization’s annual report to shareholders. To provide context, such measures should be objective and be coupled with meaningful referents, such as the firm’s past performance. For example, Starbucks’s 2009 annual report highlights the firm’s performance in terms of net revenue, operating income, and cash flow over a five-year period.
• Customer Measures
Customer measures of performance relate to customer attraction, satisfaction, and retention. These measures provide insight to the key question “How do customers see us?” Examples might include the number of new customers and the percentage of repeat customers.
Starbucks realizes the importance of repeat customers and has taken a number of steps to satisfy and to attract regular visitors to their stores. For example, Starbucks rewards regular customers with free drinks and offers all customers free Wi-Fi access (Miller, 2010). Starbucks also encourages repeat visits by providing cards with codes for free iTunes downloads. The featured songs change regularly, encouraging frequent repeat visits.
• Internal Business Process Measures
Internal business process measures of performance relate to organizational efficiency. These measures help answer the key question “What must we excel at?” Examples include the time it takes to manufacture the organization’s good or deliver a service. The time it takes to create a new product and bring it to market is another example of this type of measure.
Organizations such as Starbucks realize the importance of such efficiency measures for the long-term success of its organization, and Starbucks carefully examines its processes with the goal of decreasing order fulfillment time. In one recent example, Starbucks efficiency experts challenged their employees to assemble a Mr. Potato Head to understand how work could be done more quickly (Jargon, 2009). The aim of this exercise was to help Starbucks employees in general match the speed of the firm’s high performers, who boast an average time per order of twenty-five seconds.
• Learning and Growth Measures
Learning and growth measures of performance relate to the future. Such measures provide insight to tell the organization, “Can we continue to improve and create value?” Learning and growth measures focus on innovation and proceed with an understanding that strategies change over time. Consequently, developing new ways to add value will be needed as the organization continues to adapt to an evolving environment. An example of a learning and growth measure is the number of new skills learned by employees every year.
One way Starbucks encourages its employees to learn skills that may benefit both the firm and individuals in the future is through its tuition reimbursement program. Employees who have worked with Starbucks for more than a year are eligible. Starbucks hopes that the knowledge acquired while earning a college degree might provide employees with the skills needed to develop innovations that will benefit the company in the future. Another benefit of this program is that it helps Starbucks reward and retain high-achieving employees.
• Measuring Performance Using the Triple Bottom Line
Ralph Waldo Emerson once noted, “Doing well is the result of doing good. That’s what capitalism is all about.” While the balanced scorecard provides a popular framework to help executives understand an organization’s performance, other frameworks highlight areas such as social responsibility. One such framework, the triple bottom line, emphasizes the three Ps of people (making sure that the actions of the organization are socially responsible), the planet (making sure organizations act in a way that promotes environmental sustainability), and traditional organization profits. This notion was introduced in the early 1980s but did not attract much attention until the late 1990s.
The triple bottom line emphasizes the three Ps of people (social concerns), planet (environmental concerns), and profits (economic concerns).
In the case of Starbucks, the firm has made clear the importance it attaches to the planet by creating an environmental mission statement (“Starbucks is committed to a role of environmental leadership in all facets of our business”) in addition to its overall mission (Starbucks, 2011). In terms of the “people” dimension of the triple bottom line, Starbucks strives to purchase coffee beans harvested by farmers who work under humane conditions and are paid reasonable wages. The firm works to be profitable as well, of course.
Key Takeaway
• Organizational performance is a multidimensional concept, and wise managers rely on multiple measures of performance when gauging the success or failure of their organizations. The balanced scorecard provides a tool to help executives gain a general understanding of their organization’s current level of achievement across a set of four important dimensions. The triple bottom line provides another tool to help executives focus on performance targets beyond profits alone; this approach stresses the importance of social and environmental outcomes.
Exercises
1. How might you apply the balanced scorecard framework to measure performance of your college or university?
2. Identify a measurable example of each of the balanced scorecard dimensions other than the examples offered in this section.
3. Identify a mission statement from an organization that emphasizes each of the elements of the triple bottom line. | textbooks/biz/Management/Mastering_Strategic_Management/02%3A_Leading_Strategically/2.03%3A_Assessing_Organizational_Performance.txt |
Learning Objectives
1. Understand the benefits and costs of CEO celebrity status.
2. List and define the four types of CEOs based on differences in fame and reputation.
3. Be able to offer an example of each of the four types of CEOs
Table 2.7 CEO
At the top of every organization sits a chief executive office (CEO) who serves as the main architect of its strategy and, in many cases, as the face of the organization. Some CEOs such as Steve Jobs, Mark Zuckerberg, Richard Branson, and Oprah Winfrey have enough personality and influence in business and society that they become celebrities, much like sports and movie stars. Celebrity status can provide great visibility for an organization, but it can also cause harm if a CEO makes major mistakes. Meanwhile, other CEOs toil away in relative obscurity. Some produce good results that escape public attention, while others should be thankful that their poor work goes unnoticed. Considering CEOs’ relative fame and reputation together allows us to identify four types of CEOs.
CEO Reputation
Low CEO Reputation High CEO Reputation
High CEO Fame Scoundrels–In the early 2000s, several high profile CEOs played central roles in ethical scandals. One was Enron CEO Kenneth Lay, who in 2006 was convicted of crimes related corporate abuse and accounting fraud. He later committed suicide. Icons–A rare combination of style and substance leads these CEOs to become household names. The “Oracle of Omaha” Warren Buffett has advised presidents, and the yearly letters he writes to his shareholders are as influential as any report created by the Federal Reserve and other financial institutions.
Low CEO Fame Silent Killers–These unknown CEOs can be just as harmful to their firms as celebrity scoundrels. Harding Lawrence, former CEO of now defunct airline Braniff International, made a major blunder by expanding the airline too quickly. Lawrence was fired before the firm plunged into bankruptcy. By the time Braniff disappeared into history, Lawrence’s poor decisions were largely forgotten. Hidden Gems–These CEOs perform their jobs admirably, but they lack fame. Many prefer to avoid the spotlight, but they are known all too well by their wary competitors. Anne Mulcahy, CEO of Xerox, is a hidden gem whose avoidance of media attention may stem from her humble roots as a copier salesperson.
• Benefits and Costs of CEO Celebrity
The nice thing about being a celebrity is that when you bore people, they think it’s their fault. -
-Henry Kissinger, former US Secretary of State
The word celebrity quickly brings to mind actors, sports stars, and musicians. Some CEOs, such as Bill Gates, Oprah Winfrey, Martha Stewart, and Donald Trump, also achieve celebrity status. Celebrity CEOs are not a new phenomenon. In the early twentieth century, industrial barons such as Henry Ford, John D. Rockefeller, and Cornelius Vanderbilt were household names. However, in the current era of mass and instant media, celebrity CEOs have become more prevalent and visible (Table 2.7) (Ketchen, et. al., 2008).
Both benefits and costs are associated with CEO celebrity. As the quote from Henry Kissinger suggests, celebrity confers a mystique and reverence that can be leveraged in a variety of ways. CEO celebrity can serve as an intangible asset for the CEO’s firm and may increase opportunities available to the firm. Hiring or developing a celebrity CEO may increase stock price, enhance a firm’s image, and improve the morale of employees and other stakeholders. However, employing a celebrity CEO also entails risks for an organization. Increased attention to the firm via the celebrity CEO means any gaps between actual and expected firm performance are magnified. Further, if a celebrity CEO acts in an unethical or illegal manner, chances are that the CEO’s firm will receive much more media attention than will other firms with similar problems (Ranft, et. al., 2006).
There are also personal benefits and risks associated with celebrity for the CEO. Celebrity CEOs tend to receive higher compensation and job perks than their colleagues. Celebrity CEOs are likely to enjoy increased prestige power, which facilitates invitations to serve on the boards of directors of other firms and creates opportunities to network with other “managerial elites.” Celebrity also can provide CEOs with a “benefit of the doubt” effect that protects against quick sanctions for downturns in firm performance and stock price. However, celebrity also creates potential costs for individuals. Celebrity CEOs face larger and more lasting reputation erosion if their job performance and behavior is inconsistent with their celebrity image. Celebrity CEOs face increased personal media scrutiny, and their friends and family must often endure increased attention into their personal and public lives. Accordingly, wise CEOs will attempt to understand and manage their celebrity status (Wade, et. al., 2008).
• Types of CEOs
Icons are CEOs possessing both fame and strong reputations. The icon CEO combines style and substance in the execution of his or her job responsibilities. Mary Kay Ash, Richard Branson, Bill Gates, and Warren Buffett are good examples of icons. The late Mary Kay Ash founded Mary Kay Cosmetics Corporation. The firm’s great success and Ash’s unconventional motivational methods, such as rewarding sales representatives with pink Cadillacs, made her famous. Partly because she emphasized helping other women succeed and ethical business practices, Mary Kay Ash also had a very positive reputation. Richard Branson has created an empire with more than four hundred companies, including Virgin Atlantic Airways and Virgin Records. Branson’s celebrity status led him to star in his own reality-based show. He has also appeared on television series such as Baywatch and Friends, in addition to several cameo appearances in major motion pictures. Bill Gates, founder and former CEO of Microsoft, also has fame and a largely positive reputation. Gates is a proverbial “household name” in the tradition of Ford, Rockefeller, and Vanderbilt. He also is routinely listed among Time magazine’s “100 Most Influential People” and has received “rock star” receptions in India and Vietnam in recent years.
Warren Buffett is perhaps the best-known executive in the United States. As CEO of Berkshire Hathaway, he has accumulated wealth estimated at \$62 billion and was the richest person in the world as of March 2008. Buffett’s business insights command a level of respect that is perhaps unrivaled. Many in the investment and policymaking communities pay careful attention to his investment choices and his commentary on economic conditions. Despite Buffett’s immense wealth and success, his reputation centers on humility and generosity. Buffett avoids the glitz of Wall Street and has lived for fifty years in a house he bought in Omaha, Nebraska, for \$31,000. Meanwhile, his 2006 donation of approximately \$30 billion to the Bill and Melinda Gates Foundation was the largest charitable gift in history.
CEOs who display high levels of relative fame but low levels of reputation are in the group called scoundrels. These CEOs are well known but vilified. The late Leona Helmsley was a prototypical scoundrel. Leona Helmsley’s life was a classic rags-to-riches story. Born to immigrant parents, Helmsley became a billionaire through her work as the head of an extensive hotel and real estate empire. While certainly famous, her reputation was anything but positive, as reflected by her nickname: the Queen of Mean. During Helmsley’s trial for tax fraud, her housekeeper quoted her as proclaiming, “We don’t pay taxes. Only the little people pay taxes.” Following twenty-one months in jail, Helmsley was required to perform 750 hours of community service. One hundred fifty hours were added to this sentence after it was discovered that employees had performed some of her service hours. Helmsley’s apparent arrogance, combined with her cruelty to employees and her reputation as the ultimate workplace bully, cemented her position as a scoundrel.
The corporate governance scandals of the early 2000s revealed several CEOs as scoundrels. Perhaps the best known were Kenneth Lay and Dennis Kozlowski. Both men rose to prominence as their firms’ success and stock prices soared but were undone by dubious activities. Lay was once revered as the son of a poor minister who founded Enron and built it into a giant in the energy business. In 2001, however, he became the face of corporate abuses in the United States after Enron’s collapse led to scenes, captured on television, of employees left jobless and with retirement accounts full of worthless Enron stock. Lay was convicted of fraud in 2006 but died before sentencing.
Also born to a poor family, Kozlowski started at Tyco as an accountant and worked his way up to the executive suite. In May 2001, a BusinessWeek cover story lauded Kozlowski as “the most aggressive CEO” in the country and detailed his strategy for building Tyco into the next General Electric by using acquisitions to gain the first or second position in all the industries in which it competed. By 2002, Kozlowski’s reputation was in jeopardy. He was indicted for avoiding more than \$1 million in sales taxes on art purchases. Media stories described in detail a \$2 million birthday party Kozlowski threw for his wife (billing half of it to Tyco as a company function), a \$19 million apartment Tyco purchased for him, and \$11 million worth of furnishings for the apartment (including an infamous \$6,000 shower curtain). Accusations that Kozlowski and another Tyco executive stole hundreds of millions of dollars from the firm ultimately led to a prison sentence of eight to twenty-five years.
Hidden gems are CEOs who lack fame but possess positive reputations. These CEOs toil in relative obscurity while leading their firms to success. Their skill as executives is known mainly by those in their own firm and by their competitors. In many cases, the firm has some renown due to its success, but the CEO stays unknown. For example, consider the case of Anne Mulcahy. Mulcahy, CEO of Xerox, started her career at Xerox as a copier salesperson. Despite building an excellent reputation by rescuing Xerox from near bankruptcy, Mulcahy eschews fame and publicity. While being known for successfully leading Xerox by example and being willing to fly anywhere to meet a customer, she avoids stock analysts and reporters.
Silent killers are the fourth and final group of CEOs. These CEOs are overlooked and ignored sources of harm to their firms. While scoundrels are closely monitored and scrutinized by the media, it may be too late before the poor ethics or incompetence of the silent killers is detected. In this sense, silent killers are sometimes worse than scoundrels. One example of a silent killer is Harding Lawrence, former CEO of defunct Braniff International. Lawrence initiated a massive expansion of the airline following industry deregulation in the late 1970s. The result was a bloated firm, ill-equipped to survive the extremely competitive setting that evolved in the early 1980s. Howard Putnam, the CEO of a small regional carrier named Southwest Airlines, was hired in a failed effort to save the company. By the time Braniff went bankrupt, Putnam was left to explain its demise, and the name of the main culprit was all but forgotten. Ironically, had Putnam declined the opportunity to try to save Braniff, perhaps he and not Herb Kelleher would have become an icon at the helm of Southwest.
Strategy at the Movies
Iron Man
Has Tony Stark gone crazy? This was the question that many stakeholders of Stark Industries were asking themselves in the 2008 blockbuster Iron Man. Tony Stark, CEO of Stark Industries, stunned his shareholders, employees, and the world when he announced that he was changing Stark Industries’ mission from being one of the world’s leading weapons manufacturers to being a socially responsible, clean energy producer. Following his announcement, Stark faced fierce opposition from his board of directors, employees, the media, and clients such as the US military. The changes at Stark Industries attracted tremendous attention in part because of the glamorous Stark’s status as a celebrity CEO. Initially, Stark is seen by the public as a scoundrel that pays little attention to the social impact his company makes. After shifting the direction of Stark Industries, however, Stark is viewed as an icon that is just as attentive to the social performance of the company as he is to its financial performance. Iron Man illustrates that while changing elements such as firm mission and CEO status is difficult, it is not impossible.
• Celebrity Rehabilitation
Anything I say or do is now at risk of showing up on the front page of a national daily newspaper and therefore, I need to be much more conscious about the implications of everything that I say or do in all situations.
John Mackey, CEO of Whole Foods Market
Achieving the level of success that brings about celebrity is seldom a completely smooth process. Even well-regarded celebrity CEOs seldom have totally untarnished reputations. Bill Gates has been portrayed as a ruthless and devious genius, for example, while General Electric CEO Jack Welch was attacked in media outlets for an extramarital affair.
One of the more interesting recent cases of a tarnished reputation centers on John Mackey, founder and CEO of Whole Foods Market. His strategy of offering organic food and high levels of service allowed Whole Foods to carve out a profitable and growing niche in an industry whose overall margins have been squeezed as Walmart’s Supercenters have gained market share. Under Mackey’s leadership, Whole Food’s stock price tripled from 2001 to 2006. Mackey’s efforts to make food supplies healthier and his teamwork-centered management approach attracted publicity, and he appeared headed for icon status.
But in 2007 Mackey and Whole Foods were embarrassed by the revelation that Mackey had been anonymously posting negative information about a rival, Wild Oats, online. Through his online persona “rahodeb” (a scrambling of his wife’s name), Mackey asserted that Wild Oats’ stock was overpriced and that the firm was headed toward bankruptcy. This was viewed by some observers as a possible effort to manipulate Wild Oats’ stock price prior to a proposed acquisition by Whole Foods. Meanwhile, in e-mails to other Whole Foods executives, Mackey noted that the acquisition of Wild Oats could allow them to avoid “nasty price wars.” This caught the eye of Federal Trade Commission (FTC) regulators who were concerned about the antitrust implications of the acquisition.
What should a CEO do when his or her reputation takes a hit? As the old saying goes, honesty is the best policy. An example is offered by David Neeleman, founder and CEO of JetBlue. The reputations of JetBlue and Neeleman took a severe blow after a widely reported February 2007 debacle in which travelers were stranded in airplanes for excessive periods of time during a busy holiday weekend. Neeleman took a giant step toward restoring both his and JetBlue’s reputation by issuing a public, heartfelt apology. He not only issued a written apology to customers but also bought full-page advertisements in newspapers, posted a video apology online, and created a new “bill of rights” for JetBlue customers.
Mackey apologized for his actions via his blog in 2008. As part of this apology, Mackey acknowledged that he had failed to recognize how expectations change when one becomes a celebrity. Mackey noted that when Whole Foods was a smaller company, “I was seldom interviewed and few people knew or cared who I was. I wasn’t a public figure and had no desire to become one.” As his company grew, however, Mackey became subject to more scrutiny. As Mackey put it, “At some point in the past 10 years I went from being a relatively unknown person to becoming a public figure. I regret not having the wisdom to recognize this fact until very recently (Mackey, 2008).” A big part of managing celebrity status is realizing that one is in fact a celebrity.
Key Takeaway
• The media exposure common to modern CEOs provides the opportunity for such top executives to reach celebrity status. While this status can provide positive benefits to their firms such as increased performance, CEOs should be aware of and manage the potential for increased scrutiny associated with this status.
Exercises
1. Can you identify another example of a celebrity CEO, such as Cornelius Vanderbilt, that existed prior to the 1900s?
2. Identify examples of icons, scoundrels, hidden gems, and silent killers other than the examples offered in this section.
3. Would you enjoy the media attention associated with CEO celebrity, or would you prefer to hide from the limelight? Does your answer have implications for your future career choices? | textbooks/biz/Management/Mastering_Strategic_Management/02%3A_Leading_Strategically/2.04%3A_The_CEO_as_Celebrity.txt |
Table 2.8 Understanding Entrepreneurial Orientation
A famous Nike slogan encourages people to “just do it!” For people and organizations that have developed an entrepreneurial orientation, “just do it!” is a way of life. While often associated with starting new ventures, an entrepreneurial orientation can be very valuable to established organizations too. Below we describe each of the five characteristics associated with an entrepreneurial orientation: autonomy, competitive aggressiveness, innovativeness, proactiveness, and risk-taking.
Autonomy – The tendency to bring forth ideas and see them through to completion. Microsoft’s values statement notes, “We take on big challenges, and pride ourselves on seeing them through.” For example, Microsoft embraced a huge challenge when developing and launching its Xbox gaming system to compete with market leaders Nintendo and Sony.
Competitive Aggressiveness – The tendency to intensely and directly challenge rivals rather than trying to avoid competition. One of Nike’s past mission statements — “To experience the emotion of competition, winning, and crushing competitors” — highlights its aggressiveness.
Innovativeness – The tendency to pursue novel ideas, creative processes, and experimentation. 3M has built its business around its mission statement: to solve unsolved problems innovatively. 3M employs over 7,000 researchers and it was awarded nearly 600 patents in 2010. 3M’s innovativeness has led it to develop thousands of products (such as Post-it notes and Scotch tape) that are sold in almost 200 countries.
Proactiveness – The tendency to anticipate and act on future opportunities rather than rely solely on existing products and services. Proactive Communications Inc. lives up to its name by focusing on emerging and unusual opportunities. The firm embraces contracts in war zones and natural disaster areas that are often avoided by other telecommunications firms.
Risk Taking – The tendency to take bold actions rather than being cautious. Richard Brandson’s launching of Virgin Galactic — a company that plans to offer suborbital spaceflights to commercial passengers — reflects his love of high-risk, high-reward ventures.
Learning Objectives
1. Understand how thinking and acting entrepreneurially can help organizations and individuals.
2. List and define the five dimensions of an entrepreneurial orientation.
• The Value of Thinking and Acting Entrepreneurially
When asked to think of an entrepreneur, people typically offer examples such as Howard Schultz, Estée Lauder, and Michael Dell—individuals who have started their own successful businesses from the bottom up that generated a lasting impact on society. But entrepreneurial thinking and doing are not limited to those who begin in their garage with a new idea, financed by family members or personal savings. Some people in large organizations are filled with passion for a new idea, spend their time championing a new product or service, work with key players in the organization to build a constituency, and then find ways to acquire the needed resources to bring the idea to fruition. Thinking and behaving entrepreneurially can help a person’s career too. Some enterprising individuals successfully navigate through the environments of their respective organizations and maximize their own career prospects by identifying and seizing new opportunities (Table 2.8) (Certo, et. al., 2009).
As a college student, Michael Dell demonstrated an entrepreneurial orientation by starting a computer-upgrading business in his dorm room. He later founded Dell Inc.
In the 1730s, Richard Cantillon used the French term entrepreneur, or literally “undertaker,” to refer to those who undertake self-employment while also accepting an uncertain return. In subsequent years, entrepreneurs have also been referred to as innovators of new ideas (Thomas Edison), individuals who find and promote new combinations of factors of production (Bill Gates’ bundling of Microsoft’s products), and those who exploit opportunistic ideas to expand small enterprises (Mark Zuckerberg at Facebook). The common elements of these conceptions of entrepreneurs are that they do something new and that some individuals can make something out of opportunities that others cannot.
Entrepreneurial orientation (EO) is a key concept when executives are crafting strategies in the hopes of doing something new and exploiting opportunities that other organizations cannot exploit. EO refers to the processes, practices, and decision-making styles of organizations that act entrepreneurially (Lumpkin & Dess, 1996). Any organization’s level of EO can be understood by examining how it stacks up relative to five dimensions: (1) autonomy, (2) competitive aggressiveness, (3) innovativeness, (4) proactiveness, (5) and risk taking. These dimensions are also relevant to individuals.
• Autonomy
Autonomy refers to whether an individual or team of individuals within an organization has the freedom to develop an entrepreneurial idea and then see it through to completion. In an organization that offers high autonomy, people are offered the independence required to bring a new idea to fruition, unfettered by the shackles of corporate bureaucracy. When individuals and teams are unhindered by organizational traditions and norms, they are able to more effectively investigate and champion new ideas.
Some large organizations promote autonomy by empowering a division to make its own decisions, set its own objectives, and manage its own budgets. One example is Sony’s PlayStation group, which was created by chief operating officer (COO) Ken Kutaragi, largely independent of the Sony bureaucracy. In time, the PlayStation business was responsible for nearly all Sony’s net profit. Because of the success generated by the autonomous PlayStation group, Kutaragi later was tapped to transform Sony’s core consumer electronics business into a PlayStation clone. In some cases, an autonomous unit eventually becomes completely distinct from the parent company, such as when Motorola spun off its successful semiconductor business to create Freescale.
• Competitive Aggressiveness
Competitive aggressiveness is the tendency to intensely and directly challenge competitors rather than trying to avoid them. Aggressive moves can include price-cutting and increasing spending on marketing, quality, and production capacity. An example of competitive aggressiveness can be found in Ben & Jerry’s marketing campaigns in the mid-1980s, when Pillsbury’s Häagen-Dazs attempted to limit distribution of Ben & Jerry’s products. In response, Ben & Jerry’s launched their “What’s the Doughboy Afraid Of?” advertising campaign to challenge Pillsbury’s actions. This marketing action was coupled with a series of lawsuits—Ben & Jerry’s was competitively aggressive in both the marketplace and the courtroom.
Although aggressive moves helped Ben & Jerry’s, too much aggressiveness can undermine an organization’s success. A small firm that attacks larger rivals, for example, may find itself on the losing end of a price war. Establishing a reputation for competitive aggressiveness can damage a firm’s chances of being invited to join collaborative efforts such as joint ventures and alliances. In some industries, such as the biotech industry, collaboration is vital because no single firm has the knowledge and resources needed to develop and deliver new products. Executives thus must be wary of taking competitive actions that destroy opportunities for future collaborating.
• Innovativeness
Innovativeness is the tendency to pursue creativity and experimentation. Some innovations build on existing skills to create incremental improvements, while more radical innovations require brand-new skills and may make existing skills obsolete. Either way, innovativeness is aimed at developing new products, services, and processes. Those organizations that are successful in their innovation efforts tend to enjoy stronger performance than those that do not.
Known for efficient service, FedEx has introduced its Smart Package, which allows both shippers and recipients to monitor package location, temperature, and humidity. This type of innovation is a welcome addition to FedEx’s lineup for those in the business of shipping delicate goods, such as human organs. How do firms generate these types of new ideas that meet customers’ complex needs? Perennial innovators 3M and Google have found a few possible answers. 3M sends nine thousand of its technical personnel in thirty-four countries into customers’ workplaces to experience firsthand the kinds of problems customers encounter each day. Google’s two most popular features of its Gmail, thread sorting and unlimited e-mail archiving, were first suggested by an engineer who was fed up with his own e-mail woes. Both firms allow employees to use a portion of their work time on projects of their own choosing with the goal of creating new innovations for the company. This latter example illustrates how multiple EO dimensions—in this case, autonomy and innovativeness—can reinforce one another.
Ben & Jerry’s displays innovativeness by developing a series of offbeat and creative flavors over time.
• Proactiveness
Proactiveness is the tendency to anticipate and act on future needs rather than reacting to events after they unfold. A proactive organization is one that adopts an opportunity-seeking perspective. Such organizations act in advance of shifting market demand and are often either the first to enter new markets or “fast followers” that improve on the initial efforts of first movers.
Consider Proactive Communications, an aptly named small firm in Killeen, Texas. From its beginnings in 2001, this firm has provided communications in hostile environments, such as Iraq and areas impacted by Hurricane Katrina. Being proactive in this case means being willing to don a military helmet or sleep outdoors—activities often avoided by other telecommunications firms. By embracing opportunities that others fear, Proactive’s executives have carved out a lucrative niche in a world that is technologically, environmentally, and politically turbulent (Choi, 2008).
• Risk Taking
Risk taking refers to the tendency to engage in bold rather than cautious actions. Starbucks, for example, made a risky move in 2009 when it introduced a new instant coffee called VIA Ready Brew. Instant coffee has long been viewed by many coffee drinkers as a bland drink, but Starbucks decided that the opportunity to distribute its product in a different format was worth the risk of associating its brand name with instant coffee.
Although a common belief about entrepreneurs is that they are chronic risk takers, research suggests that entrepreneurs do not perceive their actions as risky, and most take action only after using planning and forecasting to reduce uncertainty (Simon, et. al., 2000). But uncertainty seldom can be fully eliminated. A few years ago, Jeroen van der Veer, CEO of Royal Dutch Shell PLC, entered a risky energy deal in Russia’s Far East. At the time, van der Veer conceded that it was too early to know whether the move would be successful (Certo, et. al., 2008). Just six months later, however, customers in Japan, Korea, and the United States had purchased all the natural gas expected to be produced there for the next twenty years. If political instabilities in Russia and challenges in pipeline construction do not dampen returns, Shell stands to post a hefty profit from its 27.5 percent stake in the venture.
• Building an Entrepreneurial Orientation
Steps can be taken by executives to develop a stronger entrepreneurial orientation throughout an organization and by individuals to become more entrepreneurial themselves. For executives, it is important to design organizational systems and policies to reflect the five dimensions of EO. As an example, how an organization’s compensation systems encourage or discourage these dimensions should be considered. Is taking sensible risks rewarded through raises and bonuses, regardless of whether the risks pay off, for example, or does the compensation system penalize risk taking? Other organizational characteristics such as corporate debt level may influence EO. Do corporate debt levels help or impede innovativeness? Is debt structured in such a way as to encourage risk taking? These are key questions for executives to consider.
Examination of some performance measures can assist executives in assessing EO within their organizations. To understand how the organization develops and reinforces autonomy, for example, top executives can administer employee satisfaction surveys and monitor employee turnover rates. Organizations that effectively develop autonomy should foster a work environment with high levels of employee satisfaction and low levels of turnover. Innovativeness can be gauged by considering how many new products or services the organization has developed in the last year and how many patents the firm has obtained.
Similarly, individuals should consider whether their attitudes and behaviors are consistent with the five dimensions of EO. Is an employee making decisions that focus on competitors? Does the employee provide executives with new ideas for products or processes that might create value for the organization? Is the employee making proactive as opposed to reactive decisions? Each of these questions will aid employees in understanding how they can help to support EO within their organizations.
Key Takeaway
• Building an entrepreneurial orientation can be valuable to organizations and individuals alike in identifying and seizing new opportunities. Entrepreneurial orientation consists of five dimensions: (1) autonomy, (2) competitive aggressiveness, (3) innovativeness, (4) proactiveness, and (5) risk taking.
Exercises
1. Can you name three firms that have suffered because of lack of an entrepreneurial orientation?
2. Identify examples of each dimension of entrepreneurial orientation other than the examples offered in this section.
3. How does developing an entrepreneurial orientation have implications for your future career choices?
4. How could you apply the dimensions of entrepreneurial orientation to a job search?
2.06: Conclusion
This chapter explains several challenges that executives face in attempting to lead their organizations strategically. Executives must ensure that their organizations have visions, missions, and goals in place that help move these organizations forward. Measures and referents for assessing performance must be thoughtfully chosen. Some executives become celebrities, thereby creating certain advantages and disadvantages for themselves and for their firms. Finally, executives must monitor the degree of entrepreneurial orientation present within their organizations and make adjustments when necessary. When executives succeed at leading strategically, an organization has an excellent chance of success.
Exercises
1. Divide your class into four or eight groups, depending on the size of the class. Assign each group to develop arguments that one of the key issues discussed in this chapter (vision, mission, goals; assessing organizational performance; CEO celebrity; entrepreneurial orientation) is the most important within organizations. Have each group present their case, and then have the class vote individually for the winner. Which issue won and why?
2. This chapter discussed Howard Schultz and Starbucks on several occasions. Based on your reading of the chapter, how well has Schultz done in dealing with setting a vision, mission, and goals, assessing organizational performance, CEO celebrity, and entrepreneurial orientation?
3. Write a vision and mission for an organization or firm that you are currently associated with. How could you use the balanced scorecard to assess how well that organization is fulfilling the mission you wrote? | textbooks/biz/Management/Mastering_Strategic_Management/02%3A_Leading_Strategically/2.05%3A_Entrepreneurial_Orientation.txt |
Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. What is the general environment and why is it important to organizations?
2. What are the features of Porter’s five forces industry analysis?
3. What are strategic groups and how are they useful to evaluating the environment?
Subway Is on a Roll
Many observers were stunned in March 2011 when news broke that Subway had surpassed McDonald’s as the biggest restaurant chain in the world. At the time of the announcement, Subway had 33,749 units under its banner while McDonald’s had 32,737 (Kingsley, 2011). Despite its meteoric growth, many opportunities remained. In China, for example, Subway had fewer than two hundred stores. In contrast, China hosts more than 3,200 Kentucky Fried Chicken stores. Overall, Subway was on a roll, and this success seemed likely to continue.
How had Subway surpassed a global icon like McDonald’s? One key factor was Subway’s efforts to provide and promote healthy eating options. This emphasis took hold in the late 1990s when the American public became captivated by college student Jared Fogle. As a freshman at Indiana University in 1998, the 425 pound Fogle decided to try to lose weight by walking regularly and eating a diet consisting of Subway subs. Amazingly, Fogle dropped 245 pounds by February of 1999.
Subway executives knew that a great story had fallen into their laps. They decided to feature Fogle in Subway’s advertising and soon he was a well-known celebrity. In 2007, Fogle met with President Bush about nutrition and testified before the US Congress about the need for healthier snack options in schools. Today, Fogle is the face of Subway and one of the few celebrities that are instantly recognizable based on his first name alone. Much like Beyoncé and Oprah, you can mention “Jared” to almost anyone in America and that person will know exactly of whom you are speaking. Subway’s line of Fresh Fit sandwiches is targeted at prospective Jareds who want to improve their diets.
Because American diets contain too much salt, which can cause high blood pressure, salt levels in restaurant food are attracting increased scrutiny. Subway responded to this issue in April 2011 when its outlets in the United States reduced the amount of salt in all its sandwiches by at least 15 percent without any alteration in taste. The Fresh Fit line of sandwiches received a more dramatic 28 percent reduction in salt. These changes were enacted after customers of Subway’s outlets in New Zealand and Australia embraced similar adjustments. Although the new sandwich recipes cost slightly more than the old ones, Subway plans to absorb these costs rather than raising their prices (Riley, 2011). This may be a wise strategy for retaining customers, who have become very price sensitive because of the ongoing uncertainty surrounding the American economy and the high unemployment.
3.02: The Relationship between an Organization and Its Environment
Learning Objectives
1. Define the environment in the context of business.
2. Understand how an organization and its environment affect each other.
3. Learn the difference between the general environment and the industry.
• What Is the Environment?
For any organization, the environment consists of the set of external conditions and forces that have the potential to influence the organization. In the case of Subway, for example, the environment contains its customers, its rivals such as McDonald’s and Kentucky Fried Chicken, social trends such as the shift in society toward healthier eating, political entities such as the US Congress, and many additional conditions and forces.
It is useful to break the concept of the environment down into two components. The general environment (or macroenvironment) includes overall trends and events in society such as social trends, technological trends, demographics, and economic conditions. The industry (or competitive environment) consists of multiple organizations that collectively compete with one another by providing similar goods, services, or both.
Every action that an organization takes, such as raising its prices or launching an advertising campaign, creates some degree of changes in the world around it. Most organizations are limited to influencing their industry. Subway’s move to cut salt in its sandwiches, for example, may lead other fast-food firms to revisit the amount of salt contained in their products. A few organizations wield such power and influence that they can shape some elements of the general environment. While most organizations simply react to major technological trends, for example, the actions of firms such as Intel, Microsoft, and Apple help create these trends. Some aspects of the general environment, such as demographics, simply must be taken as a given by all organizations. Overall, the environment has a far greater influence on most organizations than most organizations have on the environment.
• Why Does the Environment Matter?
Understanding the environment that surrounds an organization is important to the executives in charge of the organizations. There are several reasons for this. First, the environment provides resources that an organization needs in order to create goods and services. In the seventeenth century, British poet John Donne famously noted that “no man is an island.” Similarly, it is accurate to say that no organization is self-sufficient. As the human body must consume oxygen, food, and water, an organization needs to take in resources such as labor, money, and raw materials from outside its boundaries. Subway, for example, simply would cease to exist without the contributions of the franchisees that operate its stores, the suppliers that provide food and other necessary inputs, and the customers who provide Subway with money through purchasing its products. An organization cannot survive without the support of its environment.
Second, the environment is a source of opportunities and threats for an organization. Opportunities are events and trends that create chances to improve an organization’s performance level. In the late 1990s, for example, Jared Fogle’s growing fame created an opportunity for Subway to position itself as a healthy alternative to traditional fast-food restaurants. Threats are events and trends that may undermine an organization’s performance. Subway faces a threat from some upstart restaurant chains. Saladworks, for example, offers a variety of salads that contain fewer than five hundred calories. Noodles and Company offers a variety of sandwiches, pasta dishes, and salads that contain fewer than four hundred calories. These two firms are much smaller than Subway, but they could grow to become substantial threats to Subway’s positioning as a healthy eatery.
Executives must also realize that virtually any environmental trend or event is likely to create opportunities for some organizations and threats for others. This is true even in extreme cases. In addition to horrible human death and suffering, the March 2011 earthquake and tsunami in Japan devastated many organizations, ranging from small businesses that were simply wiped out to corporate giants such as Toyota whose manufacturing capabilities were undermined. As odd as it may seem, however, these tragic events also opened up significant opportunities for other organizations. The rebuilding of infrastructure and dwellings requires concrete, steel, and other materials. Japanese concrete manufacturers, steelmakers, and construction companies are likely to be very busy in the years ahead.
Natural disasters devastate many organizations.
Third, the environment shapes the various strategic decisions that executives make as they attempt to lead their organizations to success. The environment often places important constraints on an organization’s goals, for example. A firm that sets a goal of increasing annual sales by 50 percent might struggle to achieve this goal during an economic recession or if several new competitors enter its business. Environmental conditions also need to be taken into account when examining whether to start doing business in a new country, whether to acquire another company, and whether to launch an innovative product, to name just a few.
Key Takeaway
• An organization’s environment is a major consideration. The environment is the source of resources that the organizations needs. It provides opportunities and threats, and it influences the various strategic decisions that executives must make.
Exercises
1. What are the three reasons that the environment matters?
2. Which of these three reasons is most important? Why?
3. Can you identify an environmental trend that no organizations can influence? | textbooks/biz/Management/Mastering_Strategic_Management/03%3A_Evaluating_the_External_Environment/3.01%3A_Evaluating_the_External_Environment.txt |
Learning Objectives
1. Explain how PESTEL analysis is useful to organizations.
2. Be able to offer an example of each of the elements of the general environment.
• The Elements of the General Environment: PESTEL Analysis
An organization’s environment includes factors that it can readily affect as well as factors that largely lay beyond its influence. The latter set of factors are said to exist within the general environment. Because the general environment often has a substantial influence on an organization’s level of success, executives must track trends and events as they evolve and try to anticipate the implications of these trends and events.
PESTEL analysis is one important tool that executives can rely on to organize factors within the general environment and to identify how these factors influence industries and the firms within them. PESTEL is an anagram, meaning it is a word that created by using parts of other words. In particular, PESTEL reflects the names of the six segments of the general environment: (1) political, (2) economic, (3) social, (4) technological, (5) environmental, and (6) legal. Wise executives carefully examine each of these six segments to identify major opportunities and threats and then adjust their firms’ strategies accordingly (Table 3.1).
Table 3.1 PESTEL
Examining the general enviornment involves gaining an understanding of key factors and trends in broader society. PESTEL analysis is a popular framework for organizing these factors and trends and isolating how they influence industries and the firms within them. Below we describe each of the six dimensions associated with PESTEL analysis: political, economic, social, technological, environmental, and legal.
P
Political factors include elements such as tax policies, changes in trade restrictions and tariffs, and the stability of governments.
E
Economic factors include elements such as interest rates, inflation rates, gross domestic product, unemployment rates, levels of disposable income, and the general growth or decline of the economy.
S
Social factors include trends in demographics such as population size, age, and ethnic mix, as well as cultural trends such as attitudes toward obesity and consumer activism.
T
Technological factors include, for example, changes in the rate of new product development, increases in automation, and advancements in service industry delivery.
E
Environmental factors include, for example, natural disasters and weather patterns.
L
Legal factors include laws involving issues such as employment, health and safety, discrimination, and antitrust.
• P Is for “Political”
The political segment centers on the role of governments in shaping business. This segment includes elements such as tax policies, changes in trade restrictions and tariffs, and the stability of governments (Table 3.2). Immigration policy is an aspect of the political segment of the general environment that offers important implications for many different organizations. What approach to take to illegal immigration into the United States from Mexico has been a hotly debated dilemma. Some hospital executives have noted that illegal immigrants put a strain on the health care system because immigrants seldom can pay for medical services and hospitals cannot by law turn them away from emergency rooms.
Table 3.2 Political Factors
Examples of several key trends representing political factors in the general environment are illustrated below.
The extent to which companies developing clean energy sources should be subsidized by the government versus being left on their own to compete with providers of traditional energy sources is currently a hotly contested political issue.
The use of child labor was once commonplace in the United States now firms face political scrutiny when using overseas suppliers that employ child labor.
The word tariff derived from an Arabic word meaning “fees to be paid.” By levying tariffs and implementing other trade restrictions, governments can — to some extent — protect domestic firms from international competition.
The stability of the US government provides a source of confidence for foreign firms who want to do business in the United States. Countries that face frequent regime change and political turmoil have a harder time attracting foreign investments.
One of the most important duties of elected officials in the United States is to debate and set new tax policies.
Proposals to provide support to businesses are often featured within political campaigns.
Meanwhile, farmers argue that a tightening of immigration policy would be harmful because farmers rely heavily on cheap labor provided by illegal immigrants. In particular, if farmers were forced to employ only legal workers, this would substantially increase the cost of vegetables. Restaurant chains such as Subway would then pay higher prices for lettuce, tomatoes, and other perishables. Subway would then have to decide whether to absorb these costs or pass them along to customers by charging more for subs. Overall, any changes in immigration policy will have implications for hospitals, farmers, restaurants, and many other organizations.
• E Is for “Economic”
The economic segment centers on the economic conditions within which organizations operate. It includes elements such as interest rates, inflation rates, gross domestic product, unemployment rates, levels of disposable income, and the general growth or decline of the economy (Table 3.3). The economic crisis of the late 2000s has had a tremendous negative effect on a vast array of organizations. Rising unemployment discouraged consumers from purchasing expensive, nonessential goods such as automobiles and television sets. Bank failures during the economic crisis led to a dramatic tightening of credit markets. This dealt a huge blow to home builders, for example, who saw demand for new houses plummet because mortgages were extremely difficult to obtain.
Table 3.3 Economic Factors
Examples of several key trends representing economic factors in the general environment are illustrated below.
The unemployment rate is the percentage of the labor force actively lookin for employment within the last four weeks. During the Great Depression of the 1930s, the United States suffered through an unemployment rate of approximately 25%.
Housing starts in an economic indicator that measures the number of houses, apartments, and condos on which new construction has been started. Because construction involves a wide array of industries–concrete, steel, wood, drywall, plumbing, banks, and many others–housing starts are a carefully watched measure of economic conditions.
Gross domestic product (GDP) refers to the market value of goods and services within a country produced in a given time period and serves as a rough indicator of a country’s standard of living. The United States has a much larger GDP than China, but China has enjoyed a much higher rate of GDP growth in recent years.
The Federal Reserve System (commonly referred to as “The Fed”) is the United States’ central banking system. The Fed attempts to strengthen the economy through its decisions, such as setting short-term interest rates.
Discretionary income refers to the amount of money individuals have to spend after all necessary bills are paid. As discretionary income increases, firms such as boutique clothing retailers that sell nonessential goods and services are more likely to prosper.
Some businesses, however, actually prospered during the crisis. Retailers that offer deep discounts, such as Dollar General and Walmart, enjoyed an increase in their customer base as consumers sought to find ways to economize. Similarly, restaurants such as Subway that charge relatively low prices gained customers, while high-end restaurants such as Ruth’s Chris Steak House worked hard to retain their clientele.
Decisions about interest rates made by the Federal Reserve create opportunities for some organizations and threats for others.
• S Is for “Social”
A generation ago, ketchup was an essential element of every American pantry and salsa was a relatively unknown product. Today, however, food manufacturers sell more salsa than ketchup in the United States. This change reflects the social segment of the general environment. Social factors include trends in demographics such as population size, age, and ethnic mix, as well as cultural trends such as attitudes toward obesity and consumer activism (Table 3.4). The exploding popularity of salsa reflects the increasing number of Latinos in the United States over time, as well as the growing acceptance of Latino food by other ethnic groups.
Table 3.4 Social Factors
Examples of several key trends representing social factors in the general environment are illustrated below.
The rise of upscale cupcake outlets reflects a current trend in American eateries: pricey specialty stores are very popular among some consumers.
Hunters remain a powerful force in American society, but their ranks shrunk by 10% between 1996 and 2006. Wildlife agencies worry about the loss of license-fee revenue will affect their ability to manage land and water resources, and lower levels of demand for their products threaten the success of gun makers.
In the 1800s, most American couples raised many children. Farmers, for example, took this approach because it supplied labor that small farms needed in order to operate. Today, most families are smaller.
One in three Americans is obese, due in part to the increasing prevalence of fast-good restaurants and the popularity of sedentary activities such as playing video games.
Hemline theory contends that women’s skirt lengths predict stock market increases and declines. The idea was born in the 1920s when economist George Taylor noticed that many women raised their skirts to reveal their silk stockings when times were good, but lowered their skirts to hide the fact that they weren’t wearing stockings when times were tough.
The tendency to collect material items while being reluctant to throw them away has led to a rise in self-storage outlets as well as awareness of a hoarding epidemic.
Sometimes changes in the social segment arise from unexpected sources. Before World War II, the American workforce was overwhelmingly male. When millions of men were sent to Europe and Asia to fight in the war, however, organizations had no choice but to rely heavily on female employees. At the time, the attitudes of many executives toward women were appalling. Consider, for example, some of the advice provided to male supervisors of female workers in the July 1943 issue of Transportation Magazine:1
• Older women who have never contacted the public have a hard time adapting themselves and are inclined to be cantankerous and fussy. It’s always well to impress upon older women the importance of friendliness and courtesy.
• General experience indicates that “husky” girls—those who are just a little on the heavy side—are more even tempered and efficient than their underweight sisters.
• Give every girl an adequate number of rest periods during the day. You have to make some allowances for feminine psychology. A girl has more confidence and is more efficient if she can keep her hair tidied, apply fresh lipstick and wash her hands several times a day.
The tremendous contributions of female workers during the war contradicted these awful stereotypes. The main role of women who assembled airplanes, ships, and other war materials was to support the military, of course, but their efforts also changed a lot of male executives’ minds about what females could accomplish within organizations if provided with opportunities. Inequities in the workplace still exist today, but modern attitudes among men toward women in the workplace are much more enlightened than they were in 1943.
Women’s immense contributions to the war effort during World War II helped create positive social changes in the ensuing decades.
Beyond being a positive social change, the widespread acceptance of women into the workforce has created important opportunities for certain organizations. Retailers such as Talbot’s and Dillard’s sell business attire to women. Subway and other restaurants benefit when the scarceness of time lead dual income families to purchase take-out meals rather than cook at home.
A surprising demographic trend is that both China and India have more than twice as many English-speaking college graduates each year than does the United States.
• T Is for “Technological”
The technological segment centers on improvements in products and services that are provided by science. Relevant factors include, for example, changes in the rate of new product development, increases in automation, and advancements in service industry delivery (Table 3.5). One key feature of the modern era is the ever-increasing pace of technological innovation. In 1965, Intel cofounder Gordon E. Moore offered an idea that has come to be known as Moore’s law. Moore’s law suggests that the performance of microcircuit technology roughly doubles every two years. This law has been very accurate in the decades since it was offered.
Table 3.5 Technological Factors
Examples of several key trends representing technological factors in the general environment are illustrated below.
Unsuccessful technological innovations such a Smell-O-Vision (a system that would release different odors that matched the events shown on screen) highlight the risk associated with the technology sector. Image watching a show on horse stables!
The adoption rate of new technology is closely monitored by market research firms. The Internet reached 50 million users in 4 years. To reach the same number of users took 13 years for TV and 38 years for radio.
The dramatic changes in the video game industry over the past 25 years highlight the need to constantly adapt to technological factors to maintain market leadership. Once-mighty Atari has given way to current leaders Sony, Nintendo, and Microsoft.
Moore’s law suggests that the performance of microcircuit technology roughly doubles every two years.
The amount of government spending for research and development affects numerous industries. The government’s decision to dramatically scale back moon-based space programs may reduce the pace of scientific breakthroughs.
One implication of Moore’s law is that over time electronic devices can become smaller but also more powerful. This creates important opportunities and threats in a variety of settings. Consider, for example, photography. Just a decade ago, digital cameras were relatively large and they produced mediocre images. With each passing year, however, digital cameras have become smaller, lighter, and better. Today, digital cameras are, in essence, minicomputers, and electronics firms such as Panasonic have been able to establish strong positions in the market. Meanwhile, film photography icon Kodak has been forced to abandon products that had been successful for decades. In 2005, the firm announced that it would stop producing black-and-white photographic paper. Four years later, Kodachrome color film was phased out.
Successful technologies are also being embraced at a much faster rate than in earlier generations. The Internet reached fifty million users in only four years. In contrast, television reached the same number of users in thirteen years while it took radio thirty-eight years. This trend creates great opportunities for organizations that depend on emerging technologies. Writers of applications for Apple’s iPad and other tablet devices, for example, are able to target a fast-growing population of users. At the same time, organizations that depend on technologies that are being displaced must be aware that consumers could abandon them at a very rapid pace. As more and more Internet users rely on Wi-Fi service, for example, demand for cable modems may plummet.
Moore’s law explains how today’s iPhone can be one hundred times faster, one hundred times lighter, and ten times less expensive than a “portable” computer built in the 1980s.
Although the influence of the technological segment on technology-based companies such as Panasonic and Apple is readily apparent, technological trends and events help to shape low-tech businesses too. In 2009, Subway started a service called Subway Now. This service allows customers to place their orders in advance using text messages and avoid standing in line at the store. By offering customers this service, Subway is also responding to a trend in the general environment’s social segment: the need to save time in today’s fast-paced society.
• E Is for “Environmental”
The environmental segment involves the physical conditions within which organizations operate. It includes factors such as natural disasters, pollution levels, and weather patterns (Table 3.6). The threat of pollution, for example, has forced municipalities to treat water supplies with chemicals. These chemicals increase the safety of the water but detract from its taste. This has created opportunities for businesses that provide better-tasting water. Rather than consume cheap but bad-tasting tap water, many consumers purchase bottled water. Indeed, according to the Beverage Marketing Corporation, the amount of bottled water consumed by the average American increased from 1.6 gallons in 1976 to 28.3 gallons in 2006 (Earth911). At present, roughly one-third of Americans drink bottled water regularly.
Table 3.6 Environmental Factors
Examples of several key trends representing enviornmental factors in the general environment are illustrated below.
The Subaru automotive plant in Lafayette, Indiana, was the first auto manufacturing facility to achieve zero landfill status.
Debate has raged over climate change in recent years. To the extend that more policy markers and consumers believe that human activity is increasing temperatures on the Earth, opportunities could increase for solar energy companies.
Individuals embracing the three Rs of green living–reduce, reuse, recycle–has fueled new business concepts such as Recycle Match, a firm that brings together waste products with businesses that need those materials.
Concern about the environmental effects of burning fossil fuels has contributed to the growing popularity of scooters.
The increase in the number of food cooperatives reflects growing interest in sustainable, natural foods that are produced with a high degree of social responsibility.
As is the case for many companies, bottled water producers not only have benefited from the general environment but also have been threatened by it. Some estimates are that 80 percent of plastic bottles end up in landfills. This has led some socially conscious consumers to become hostile to bottled water. Meanwhile, water filtration systems offered by Brita and other companies are a cheaper way to obtain clean and tasty water. Such systems also hold considerable appeal for individuals who feel the need to cut personal expenses due to economic conditions. In sum, bottled water producers have been provided opportunities by the environmental segment of the general environment (specifically, the spread of poor-tasting water to combat pollution) but are faced with threats from the social segment (the social conscience of some consumers) and the economic segment (the financial concerns of other consumers).
A key trend within the environmental segment is an increasing emphasis on conserving fossil fuels.
• L Is for “Legal”
The legal segment centers on how the courts influence business activity. Examples of important legal factors include employment laws, health and safety regulations, discrimination laws, and antitrust laws (Table 3.7).
Intellectual property rights are a particularly daunting aspect of the legal segment for many organizations. When a studio such as Pixar produces a movie, a software firm such as Adobe revises a program, or a video game company such as Activision devises a new game, these firms are creating intellectual property. Such firms attempt to make profits by selling copies of their movies, programs, and games to individuals. Piracy of intellectual property—a process wherein illegal copies are made and sold by others—poses a serious threat to such profits. Law enforcement agencies and courts in many countries, including the United States, provide organizations with the necessary legal mechanisms to protect their intellectual property from piracy.
Table 3.7 Legal Factors
Examples of several key trends representing legal factors in the general environment are illustrated below.
Electronic recycling laws are creating opportunities for “green collar jobs.” A recent Missouri law, for example, requires computer electronic equipment manufacturers to develop and implement recycling plans.
The Sherman Antitrust Act of 1890 limits cartels and monopolies in the United States. Senator John Sherman was the principal author of this legislation.
In the United States, it is illegal to discriminate against anyone based on age, race, religion, gender or disability.
The role of the Occupational Safety and Health Administration (OSHA) is to prevent work-related injuries, diseases, and fatalities by enforcing standards for workplace safety and health.
Laws requiring that nutrition information must appear on the packaging of most food products are intended to protect consumers and help them make informed choices.
In other countries, such as China, piracy of intellectual property is quite common. Three other general environment segments play a role in making piracy a major concern. First, in terms of the social segment, China is the most populous country in the world. Second, in terms of the economic segment, China’s affluence is growing rapidly. Third, in terms of the technological segment, rapid advances in computers and communication have made piracy easier over time. Taken together, these various general environment trends lead piracy to be a major source of angst for firms that rely on intellectual property to deliver profits.
A key legal trend in recent years is forcing executives to have greater accountability for corporate misdeeds via laws such as the 2002 Sarbanes-Oxley Act.
Key Takeaway
• To transform an avocado into guacamole, a chef may choose to use a mortar and pestle. A mortar is a mashing device that is shaped liked a baseball bat, while a pestle is a sturdy bowl within which the mashing takes place. Similarly, PESTEL reflects the general environment factors—political, economic, social, technological, environmental, and legal—that can crush an organization. In many cases, executives can prevent such outcomes by performing a PESTEL analysis to diagnose where in the general environment important opportunities and threats arise.
SONY DSC
Just as a mortar and pestle are used to crush food, PESTEL can crush an organization.
Exercises
1. What does each letter of PESTEL mean?
2. Using a recent news article, identify a trend that has a positive and negative implication for a particular industry.
3. Can you identify a general environment trend that has positive implications for nursing homes but negative implications for diaper makers?
4. Are all six elements of PESTEL important to every organization? Why or why not?
5. What is a key trend for each letter of PESTEL and one industry or firm that would be affected by that trend?
11943 guide to hiring women. 2007, September–October. Savvy & Sage, p. 16. | textbooks/biz/Management/Mastering_Strategic_Management/03%3A_Evaluating_the_External_Environment/3.03%3A_Evaluating_the_General_Environment.txt |
Learning Objectives
1. Explain how five forces analysis is useful to organizations.
2. Be able to offer an example of each of the five forces.
Table 3.8 Industry Analysis
Understanding the dynamics that shape how much profit potential exists within an industry is key to knowing how likely a particular firm is to succeed within the industry. There are five key forces that determine the profitability of a particular industry.
POTENTIAL ENTRANTS are firms that are not currently considered viable competitors in the industry but that may become viable competitors in the future. For example, Tesla Motors’ production of electric vehicles poses a threat to displace the traditional powers in the auto industry, and Chinese auto makers are rumored to be eyeing the US market.
SUPPLIERS to the auto industry include firms such as Lear Corporation who produces auto interior systems.
INDUSTRY COMPETITORS in the auto industry include firms such as Ford, Chrysler, and GM.
BUYERS are those firms that buy directly from the industry such as automobile dealerships. Automakers also have to pay careful attention to end users, of course, such as individual drivers and rental car agencies.
SUBSTITUTES for the auto industry’s products include bicycles and mass transit. Luckily for automakers competing in the US market, Americans are notoriously reluctant to embrace these substitutes.
• The Purpose of Five Forces Analysis
Visit the executive suite of any company and the chances are very high that the chief executive officer and her vice presidents are relying on five forces analysis to understand their industry. Introduced more than thirty years ago by Professor Michael Porter of the Harvard Business School, five forces analysis has long been and remains perhaps the most popular analytical tool in the business world (Table 3.8).
Porter’s Five Forces
The purpose of five forces analysis is to identify how much profit potential exists in an industry. To do so, five forces analysis considers the interactions among the competitors in an industry, potential new entrants to the industry, substitutes for the industry’s offerings, suppliers to the industry, and the industry’s buyers (Porter, 1979). If none of these five forces works to undermine profits in the industry, then the profit potential is very strong. If all the forces work to undermine profits, then the profit potential is very weak. Most industries lie somewhere in between these extremes. This could involve, for example, all five forces providing firms with modest help or two forces encouraging profits while the other three undermine profits. Once executives determine how much profit potential exists in an industry, they can then decide what strategic moves to make to be successful. If the situation looks bleak, for example, one possible move is to exit the industry.
• The Rivalry among Competitors in an Industry
The competitors in an industry are firms that produce similar products or services. Competitors use a variety of moves such as advertising, new offerings, and price cuts to try to outmaneuver one another to retain existing buyers and to attract new ones. Because competitors seek to serve the same general set of buyers, rivalry can become intense (Table 3.9). Subway faces fierce competition within the restaurant business, for example. This is illustrated by a quote from the man who built McDonald’s into a worldwide icon. Former CEO Ray Kroc allegedly once claimed that “if any of my competitors were drowning, I’d stick a hose in their mouth.” While this sentiment was (hopefully) just a figure of speech, the announcement in March 2011 that Subway had surpassed McDonald’s in terms of numbers of stores might lead the hostility of McDonald’s toward its rival to rise.
Table 3.9 Rivalry
High levels of rivalry tend to reduce the profit potential of an industry. A number of characteristics that affect the intensity of the rivalry among competitors are illustrated below.
Rivalry among existing competitors tends to be high to the extent that…
Competitors are numerous or are roughly equal in size and power. No one firm rules the industry, and cutthroat moves are likely as firms jockey for position.
The growth rate of the industry is slow. A shortage of new customers leads firms to steal each other’s customers.
Competitors are not differentiated from each other. This forces firms to compete based on price rather than based on the uniqueness of their offerings.
Fixed costs in the industry are high. These costs must be covered, even if it means slashing prices in order to do so.
Exit barriers are high. Firms must stay and fight rather than leaving the industry gracefully.
Excess capacity exists in the industry. When too much of a product is available, firms must work hard to earn sales.
Capacity must be expanded in large increments to be efficient. The high costs of adding these increments needs to be covered.
The product is perishable Firms need to sell their wares before they spoil and become worthless.
Understanding the intensity of rivalry among an industry’s competitors is important because the degree of intensity helps shape the industry’s profit potential. Of particular concern is whether firms in an industry compete based on price. When competition is bitter and cutthroat, the prices competitors charge—and their profit margins—tend to go down. If, on the other hand, competitors avoid bitter rivalry, then price wars can be avoided and profit potential increases.
Every industry is unique to some degree, but there are some general characteristics that help to predict the likelihood that fierce rivalry will erupt. Rivalry tends to be fierce, for example, to the extent that the growth rate of demand for the industry’s offerings is low (because a lack of new customers forces firms to compete more for existing customers), fixed costs in the industry are high (because firms will fight to have enough customers to cover these costs), competitors are not differentiated from one another (because this forces firms to compete based on price rather than based on the uniqueness of their offerings), and exit barriers in the industry are high (because firms do not have the option of leaving the industry gracefully). Exit barriers can include emotional barriers, such as the bad publicity associated with massive layoffs, or more objective reasons to stay in an industry, such as a desire to recoup considerable costs that might have been previously spent to enter and compete.
Table 3.10 Industry Concentration
Industry concentration refers to the extent to which large firms dominate an industry. Buyers and suppliers generally have more bargaining power when they are from concentrated industries. This is because the firms that do business with them have fewer options when seeking buyers and suppliers. One popular way to measure industry concentration is via the percentage of total industry output that is produced by the four biggest competitors. Below are examples of industries that have high (80%-100%), medium (50%-79%), and low (below 50%) levels of concentration.
High-Concentration Industries
Circuses (89%) and Breakfast cereal manufacturing (85%)
Medium-Concentration Industries
Flight training (52%) and Sugar manufacturing (60%)
Low-Concentration (or “Fragmented”) Industries
Full-service restaurants (9%), Legal services (3%), Truck driving schools (27%), and Telephone call centers (22%)
Industry concentration is an important aspect of competition in many industries. Industry concentration is the extent to which a small number of firms dominate an industry (Table 3.10). Among circuses, for example, the four largest companies collectively own 89 percent of the market. Meanwhile, these companies tend to keep their competition rather polite. Their advertising does not lampoon one another, and they do not put on shows in the same city at the same time. This does not guarantee that the circus industry will be profitable; there are four other forces to consider as well as the quality of each firm’s strategy. But low levels of rivalry certainly help build the profit potential of the industry.
In contrast, the restaurant industry is fragmented, meaning that the largest rivals control just a small fraction of the business and that a large number of firms are important participants. Rivalry in fragmented industries tends to become bitter and fierce. Quiznos, a chain of sub shops that is roughly 15 percent the size of Subway, has directed some of its advertising campaigns directly at Subway, including one depicting a fictional sub shop called “Wrong Way” that bore a strong resemblance to Subway.
Within fragmented industries, it is almost inevitable that over time some firms will try to steal customers from other firms, such as by lowering prices, and that any competitive move by one firm will be matched by others. In the wake of Subway’s success in offering foot-long subs for \$5, for example, Quiznos has matched Subway’s price. Such price jockeying is delightful to customers, of course, but it tends to reduce prices (and profit margins) within an industry. Indeed, Quiznos later escalated its attempt to attract budget-minded consumers by introducing a flatbread sandwich that cost only \$2. Overall, when choosing strategic moves, Subway’s presence in a fragmented industry forces the firm to try to anticipate not only how fellow restaurant giants such as McDonald’s and Burger King will react but also how smaller sub shop chains like Quiznos and various regional and local players will respond.
Table 3.11 New Entrants
The Great Wall of China effectively protected China against potential raiders for centuries. The metaphor of a high wall as a defense against potential entrants is a key element in Porter’s five forces model. Industries with higher barriers to entry are in a safer defensive position that industries with lower barriers. Below we describe several factors that make it difficult for would-be invaders to enter an industry.
Economies of scale – As the number of customers a firm seves increases, the cost of serving each customer tends to decrease. This is because fixed costs–the expenses the firm must pay, such as the loan payments on an automobile factory–are allocated across a larger number of sales. When the firms in an industry enjoy significant economies of scale, new firms struggle to be able to sell their wares at competitive prices.
Capital requirements – The more expensive it is to enter a business, the less likely a new firm is to attempt to enter it. When these capital requirements are substantial (as in the automobile and many other manufacturing industries), existing competitors have less fear of new firms entering their market. It is simply very difficult to gather up enough cash to enter certain businesses.
Access to distribution channels – The ability to get goods and services to customers can pose a significant challenge to would-be newcomers. In the auto industry, for example, a new firm would struggle to match the network of dealerships enjoyed by Ford, GM, and other auto makers.
Government policy – Decisions made by governments can deter or encourage potential new entrants. In 2009, the U.S. government kept GM afloat via a massive infusion of cash. Had GM been left to die instead, this could have opened the door for a new company to enter the industry, perhaps by buying some of GM’s factories.
Differentiation – Auto makers spend millions of dollars each year on advertising in order to highlight the unique features of their cars. A new entrant would struggle to match the differentiation that years of advertising have created for various brands.
Switching costs – Switching costs endured by consumers are one of the challenges facing the makers of alternative fuel vehicles. A massive number of gas stations and repair shops are in place to support gasoline-powered cars, but few facilities can recharge or fix electric cars. At present, few consumers are willing to live with the significant hassles and inconvenience that arise when purchasing an alternative fuel vehicle.
Expected retaliation – New firms must be concerned about whether current industry members will aggressively respond to them entering the market. If a firm succeeded in entering the automobile business, for example, existing companies might slash their prices in order to keep their market share intact.
Cost advantages independent of size – Proprietary technology, access to raw materials, and desirable geographic location are all examples of cost advantages not directly associated with size (and economies of scale). In the auto industry, the decades of engineering experience possessed by the major auto markers is an example of such an advantage. A new entrant would struggle to duplicate this know-how at any price.
• The Threat of Potential New Entrants to an Industry
Competing within a highly profitable industry is desirable, but it can also attract unwanted attention from outside the industry. Potential new entrants to an industry are firms that do not currently compete in the industry but may in the future (Table 3.11). New entrants tend to reduce the profit potential of an industry by increasing its competitiveness. If, for example, an industry consisting of five firms is entered by two new firms, this means that seven rather than five firms are now trying to attract the same general pool of customers. Thus executives need to analyze how likely it is that one or more new entrants will enter their industry as part of their effort to understand the profit potential that their industry offers.
New entrants can join the fray within an industry in several different ways. New entrants can be start-up companies created by entrepreneurs, foreign firms that decide to enter a new geographic area, supplier firms that choose to enter their customers’ business, or buyer firms that choose to enter their suppliers’ business. The likelihood of these four paths being taken varies across industries. Restaurant firms such as Subway, for example, do not need to worry about their buyers entering the industry because they sell directly to individuals, not to firms. It is also unlikely that Subway’s suppliers, such as farmers, will make a big splash in the restaurant industry.
The entry of chicken burger restaurant Oporto into the United States might hurt hamburger restaurants more than it hurts Subway and other sandwich makers.
On the other hand, entrepreneurs launch new restaurant concepts every year, and one or more of these concepts may evolve into a fearsome competitor. Also, competitors based overseas sometimes enter Subway’s core US market. In February 2011, Australia-based Oporto opened its first US store in California (Odell, 2011). Oporto operates more than 130 chicken burger restaurants in its home country. Time will tell whether this new entrant has a significant effect on Subway and other restaurant firms. Because a chicken burger closely resembles a hamburger, McDonald’s and Burger King may have more to fear from Oporto than does Subway.
Every industry is unique to some degree, but some general characteristics help to predict the likelihood that new entrants will join an industry. New entry is less likely, for example, to the extent that existing competitors enjoy economies of scale (because new entrants struggle to match incumbents’ prices), capital requirements to enter the industry are high (because new entrants struggle to gather enough cash to get started), access to distribution channels is limited (because new entrants struggle to get their offerings to customers), governmental policy discourages new entry, differentiation among existing competitors is high (because each incumbent has a group of loyal customers that enjoy its unique features), switching costs are high (because this discourages customers from buying a new entrant’s offerings), expected retaliation from existing competitors is high, and cost advantages independent of size exist.
Table 3.12 Substitutes
A substitute teacher is a person who fills in for a teacher. Some substitute teachers are almost as good as the “real” teacher while others are woefully inadequate. In business, the competitors in an industry not only must watch each other, they must keep an eye on firms in other industries whose products or services can serve as effective substitutes for their offerings. In some cases, substitutes are so effective that they are said to “disrupt” the industry, meaning they kill most or all industry demand. Below we note a number of effective substitutes for particular industries.
Cooking at home can be an effective substitute for eating at restaurants, especially in challenging economic times.
E-mails and faxes are less expensive substitutes for some of the US Postal Service’s offerings. Meanwhile, text messages can serve as substitutes for many e-mails.
Typewriting classes were once common in schools. But once personal computers and printers became widely accepted, the typewriter industry declined dramatically.
Railroads once held almost a monopoly position on freight transportation. However, the rise of the trucking industry reduced demand for the railroad industry’s services.
DIRECTV’s commercials compare the firm’s offerings not only to what its fellow satellite television provider DISH Network provides but also to the offerings of a close substitute–cable television companies.
• The Threat of Substitutes for an Industry’s Offerings
Executives need to take stock not only of their direct competition but also of players in other industries that can steal their customers. Substitutes are offerings that differ from the goods and services provided by the competitors in an industry but that fill similar needs to what the industry offers (Table 3.12). How strong of a threat substitutes are depends on how effective substitutes are in serving an industry’s customers.
At first glance, it could appear that the satellite television business is a tranquil one because there are only two significant competitors—DIRECTV and DISH Network. These two industry giants, however, face a daunting challenge from substitutes. The closest substitute for satellite television is provided by cable television firms, such as Comcast and Charter Communications. DIRECTV and DISH Network also need to be wary of streaming video services, such as Netflix, and video rental services, such as Redbox. The availability of viable substitutes places stringent limits on what DIRECTV and DISH Network can charge for their services. If the satellite television firms raise their prices, customers will be tempted to obtain video programs from alternative sources. This limits the profit potential of the satellite television business.
In other settings, viable substitutes are not available, and this helps an industry’s competitors enjoy profits. Like lightbulbs, candles can provide lighting within a home. Few consumers, however, would be willing to use candles instead of lightbulbs. Candles simply do not provide as much light as lightbulbs. Also, the risk of starting a fire when using candles is far greater than the fire risk of using lightbulbs. Because candles are a poor substitute, lightbulb makers such as General Electric and Siemens do not need to fear candle makers stealing their customers and undermining their profits.
Few consumers would be willing to substitute candles for lightbulbs.
The dividing line between which firms are competitors and which firms offer substitutes is a challenging issue for executives. Most observers would agree that, from Subway’s perspective, sandwich maker Quiznos should be considered a competitor and that grocery stores such as Kroger offer a substitute for Subway’s offerings. But what about full-service restaurants, such as Ruth’s Chris Steak House, and “fast causal” outlets, such as Panera Bread? Whether firms such as these are considered competitors or substitutes depends on how the industry is defined. Under a broad definition—Subway competes in the restaurant business—Ruth’s Chris and Panera should be considered competitors. Under a narrower definition—Subway competes in the sandwich business—Panera is a competitor and Ruth’s Chris is a substitute. Under a very narrow definition—Subway competes in the sub sandwich business—both Ruth’s Chris and Panera provide substitute offerings. Thus clearly defining a firm’s industry is an important step for executives who are performing a five forces analysis.
Table 3.13 Suppliers
A number of characteristics that impact the power of suppliers to a given industry are illustrated below.
A supplier group is powerful if it is dominated by a few companies or is more concentrated than the industry that it supplies. The DeBeers Company of South Africa owns the vast majority of diamond mines in the world. This gives the firm great leverage when negotiating with various jewelry produces.
A supplier group is powerful if there is no substitute for what the supplier group provides. Although artificial diamonds are fine for industrial applications, real diamonds are necessary for jewelry. Any groom who thinks otherwise is playing a risky game indeed.
A supplier group is powerful if industry members rely heavily on suppliers to be profitable. Computer, cellular phone, and digital appliance manufacturers all rely heavily on suppliers in the microchip manufacturing industry.
A supplier group is powerful if industry members face high costs when changing suppliers. Most computers installed in university classrooms are PCs. A university that wants to switch to using Apple computers would endure enormous costs in money and labor. This strengthens the position of PC makers a bit when they deal with universities.
A supplier group is powerful if their products are differentiated. Dolby Laboratories offers top-quality audio systems that are backed by a superb reputation. Firms that make home theater equipment and car stereos have little choice but to buy from Dolby because many consumers simply expect to enjoy Dolby’s technology.
A supplier group is powerful if it can credibly threaten to compete (integrate forward) in the industry if motivated. Before a rental car company drives too hard of a bargain when buying cars from an auto maker, it should remember that Ford used to own Hertz.
• The Power of Suppliers to an Industry
Suppliers provide inputs that the firms in an industry need to create the goods and services that they in turn sell to their buyers. A variety of supplies are important to companies, including raw materials, financial resources, and labor (Table 3.13). For restaurant firms such as Subway, key suppliers include such firms as Sysco that bring various foods to their doors, restaurant supply stores that sell kitchen equipment, and employees that provide labor.
The relative bargaining power between an industry’s competitors and its suppliers helps shape the profit potential of the industry. If suppliers have greater leverage over the competitors than the competitors have over the suppliers, then suppliers can increase their prices over time. This cuts into competitors’ profit margins and makes them less likely to be prosperous. On the other hand, if suppliers have less leverage over the competitors than the competitors have over the suppliers, then suppliers may be forced to lower their prices over time. This strengthens competitors’ profit margins and makes them more likely to be prosperous. Thus when analyzing the profit potential of their industry, executives must carefully consider whether suppliers have the ability to demand higher prices.
Every industry is unique to some degree, but some general characteristics help to predict the likelihood that suppliers will be powerful relative to the firms to which they sell their goods and services. Suppliers tend to be powerful, for example, to the extent that the suppliers’ industry is dominated by a few companies, if it is more concentrated than the industry that it supplies and/or if there is no effective substitute for what the supplier group provides. These circumstances restrict industry competitors’ ability to shop around for better prices and put suppliers in a position of strength.
Supplier power is also stronger to the extent that industry members rely heavily on suppliers to be profitable, industry members face high costs when changing suppliers, and suppliers’ products are differentiated. Finally, suppliers possess power to the extent that they have the ability to become a new entrant to the industry if they wish. This is a strategy called forward vertical integration. Ford, for example, used a forward vertical integration strategy when it purchased rental car company (and Ford customer) Hertz. A difficult financial situation forced Ford to sell Hertz for \$5.6 billion in 2005. But before rental car companies such as Avis and Thrifty drive too hard of a bargain when buying cars from an automaker, their executives should remember that automakers are much bigger firms than are rental car companies. The executives running the automaker might simply decide that they want to enjoy the rental car company’s profits themselves and acquire the firm.
Strategy at the Movies
Flash of Genius
When dealing with a large company, a small supplier can get squashed like a bug on a windshield. That is what college professor and inventor Dr. Robert Kearns found out when he invented intermittent windshield wipers in the 1960s and attempted to supply them to Ford Motor Company. As depicted in the 2008 movie Flash of Genius, Kearns dreamed of manufacturing the wipers and selling them to Detroit automakers. Rather than buy the wipers from Kearns, Ford replicated the design. An angry Kearns then spent many years trying to hold the firm accountable for infringing on his patent. Kearns eventually won in court, but he paid a terrible personal price along the way, including a nervous breakdown and estrangement from his family. Kearns’s lengthy battle with Ford illustrates the concept of bargaining power that is central to Porter’s five forces model. Even though Kearns created an exceptional new product, he had little leverage when dealing with a massive, well-financed automobile manufacturer.
Table 3.14 Buyers
A number of characteristics that impact the power of buyers to a given industry are illustrated below.
A buyer group is powerful when there are relatively few buyers compared to the number of firms supplying the industry. Buyers that purchase a large percentage of the seller’s goods and services are more powerful, as Walmart has demonstrated by aggressively negotiating with suppliers over the years.
A buyer group is powerful when the industry’s goods or services are standardized or undifferentiated. Subway can drive a hard bargain when purchasing commodities such as wheat and yeast is typically identical to another vendor’s.
A buyer group is powerful when they face little or no switching costs in changing vendors. Circuses can find elephants, clowns, and trapeze artists from any source possible. This allows circus managers to shop around for the best prices.
A buyer group is powerful when the good or service purchased by the buyers represents a high percentage of the buyer’s costs, encouraging ongoing searches for lower-priced suppliers. Most consumers pay little attention to prices when buying toothpaste, but may spend hours exhaustively searching the Internet for information on automobile prices.
A buyer group is powerful if it can credibly threaten to compete (integrate backward) in the industry if motivated. For and General Motors are well known for threatening to self-manufacture auto parts if suppliers do not provide goods and services at acceptable prices.
A buyer group is powerful when the good or service purchased by buyer groups is of limited importance to the quality or price of the buyer’s offerings. While stereo systems and tires are components that car buyers may be sensitive to when making a purchase decision, auto manufacturers can purchase glass and spark plugs from any vendor as long as it meets quality standards. This gives automakers leverage when negotiating with glass and spark plugs companies.
• The Power of an Industry’s Buyers
Buyers purchase the goods and services that the firms in an industry produce (Table 3.14). For Subway and other restaurants, buyers are individual people. In contrast, the buyers for some firms are other firms rather than end users. For Procter & Gamble, for example, buyers are retailers such as Walmart and Target who stock Procter & Gamble’s pharmaceuticals, hair care products, pet supplies, cleaning products, and other household goods on their shelves.
The relative bargaining power between an industry’s competitors and its buyers helps shape the profit potential of the industry. If buyers have greater leverage over the competitors than the competitors have over the buyers, then the competitors may be forced to lower their prices over time. This weakens competitors’ profit margins and makes them less likely to be prosperous. Walmart furnishes a good example. The mammoth retailer is notorious among manufacturers of goods for demanding lower and lower prices over time (Bianco & Zellner, 2003). In 2008, for example, the firm threatened to stop selling compact discs if record companies did not lower their prices. Walmart has the power to insist on price concessions because its sales volume is huge. Compact discs make up a small portion of Walmart’s overall sales, so exiting the market would not hurt Walmart. From the perspective of record companies, however, Walmart is their biggest buyer. If the record companies were to refuse to do business with Walmart, they would miss out on access to a large portion of consumers.
On the other hand, if buyers have less leverage over the competitors than the competitors have over the buyers, then competitors can raise their prices and enjoy greater profits. This description fits the textbook industry quite well. College students are often dismayed to learn that an assigned textbook costs \$150 or more. Historically, textbook publishers have been able to charge high prices because buyers had no leverage. A student enrolled in a class must purchase the specific book that the professor has selected. Used copies are sometimes a lower-cost option, but textbook publishers have cleverly worked to undermine the used textbook market by releasing new editions after very short periods of time.
Of course, the presence of a very high profit industry is attractive to potential new entrants. Firms such as, the publisher of this book, have entered the textbook market with lower-priced offerings. Time will tell whether such offerings bring down textbook prices. Like any new entrant, upstarts in the textbook business must prove that they can execute their strategies before they can gain widespread acceptance. Overall, when analyzing the profit potential of their industry, executives must carefully consider whether buyers have the ability to demand lower prices. In the textbook market, buyers do not.
College students’ lack of buyer power in the textbook industry has kept prices high for decades and created frustration for students.
• Every industry is unique to some degree, but some general characteristics help to predict the likelihood that buyers will be powerful relative to the firms from which they purchases goods and services. Buyers tend to be powerful, for example, to the extent that there are relatively few buyers compared with the number of firms that supply the industry, the industry’s goods or services are standardized or undifferentiated, buyers face little or no switching costs in changing vendors, the good or service purchased by the buyers represents a high percentage of the buyer’s costs, and the good or service is of limited importance to the quality or price of the buyer’s offerings.
Finally, buyers possess power to the extent that they have the ability to become a new entrant to the industry if they wish. This strategy is called backward vertical integration. DIRECTV used to be an important customer of TiVo, the pioneer of digital video recorders. This situation changed, however, when executives at DIRECTV grew weary of their relationship with TiVo. DIRECTV then used a backward vertical integration strategy and started offering DIRECTV-branded digital video recorders. Profits that used to be enjoyed by TiVo were transferred at that point to DIRECTV.
• The Limitations of Five Forces Analysis
Five forces analysis is useful, but it has some limitations too. The description of five forces analysis provided by its creator, Michael Porter, seems to assume that competition is a zero-sum game, meaning that the amount of profit potential in an industry is fixed. One implication is that, if a firm is to make more profit, it must take that profit from a rival, a supplier, or a buyer. In some settings, however, collaboration can create a larger pool of profit that benefits everyone involved in the collaboration. In general, collaboration is a possibility that five forces analysis tends to downplay. The relationships among the rivals in an industry, for example, are depicted as adversarial. In reality, these relationships are sometimes adversarial and sometimes collaborative. General Motors and Toyota compete fiercely all around the world, for example, but they also have worked together in joint ventures. Similarly, five forces analysis tends to portray a firm’s relationships with its suppliers and buyers as adversarial, but many firms find ways to collaborate with these parties for mutual benefit. Indeed, concepts such as just-in-time inventory systems depend heavily on a firm working as a partner with its suppliers and buyers.
Key Takeaway
• “How much profit potential exists in our industry?” is a key question for executives. Five forces analysis provides an answer to this question. It does this by considering the interactions among the competitors in an industry, potential new entrants to the industry, substitutes for the industry’s offerings, suppliers to the industry, and the industry’s buyers.
Exercises
1. What are the five forces?
2. Is there an aspect of industry activity that the five forces seems to leave out?
3. Imagine you are the president of your college or university. Which of the five forces would be most important to you? Why? | textbooks/biz/Management/Mastering_Strategic_Management/03%3A_Evaluating_the_External_Environment/3.04%3A_Evaluating_the_Industry.txt |
Learning Objectives
1. Understand what strategic groups are.
2. Learn three ways that analyzing strategic groups is useful to organizations.
Table 3.15 Strategic Groups
Strategic groups are sets of firms that follow similar strategies. Understanding the nature of strategic groups within an industry is important in part because the members of a firm’s group are usually that firm’s closest rivals. Below we illustrate several strategic groups in the restaurant industry.
The analysis of the strategic groups in an industry can offer important insights to executives. Strategic groups are sets of firms that follow similar strategies to one another (Hunt, 1972; Short, et. al., 2007). More specifically, a strategic group consists of a set of industry competitors that have similar characteristics to one another but differ in important ways from the members of other groups (Table 3.15).
Understanding the nature of strategic groups within an industry is important for at least three reasons. First, emphasizing the members of a firm’s group is helpful because these firms are usually its closest rivals. When assessing their firm’s performance and considering strategic moves, the other members of a group are often the best referents for executives to consider. In some cases, one or more strategic groups in the industry are irrelevant. Subway, for example, does not need to worry about competing for customers with the likes of Ruth’s Chris Steak House and P. F. Chang’s. This is partly because firms confront mobility barriers that make it difficult or illogical for a particular firm to change groups over time. Because Subway is unlikely to offer a gourmet steak as well as the experience offered by fine-dining outlets, they can largely ignore the actions taken by firms in that restaurant industry strategic group.
Second, the strategies pursued by firms within other strategic groups highlight alternative paths to success. A firm may be able to borrow an idea from another strategic group and use this idea to improve its situation. During the recession of the late 2000s, midquality restaurant chains such as Applebee’s and Chili’s used a variety of promotions such as coupons and meal combinations to try to attract budget-conscious consumers. Firms such as Subway and Quiznos that already offered low-priced meals still had an inherent price advantage over Applebee’s and Chili’s, however: There is no tipping expected at the former restaurants, but there is at the latter. It must have been tempting to executives at Applebee’s and Chili’s to try to expand their appeal to budget-conscious consumers by experimenting with operating formats that do not involve tipping.
Midquality restaurants do not compete directly with pricey steakhouses, but they might be able to borrow ideas from such venues.
Third, the analysis of strategic groups can reveal gaps in the industry that represent untapped opportunities. Within the restaurant business, for example, it appears that no national chain offers both very high-quality meals and a very diverse menu. Perhaps the firm that comes the closest to filling this niche is the Cheesecake Factory, a chain of approximately 150 outlets whose menu includes more than 200 lunch, dinner, and dessert items. Ruth’s Chris Steak House already offers very high quality food; its executives could consider moving the firm toward offering a very diverse menu as well. This would involve considerable risk, however. Perhaps no national chain offers both very high quality meals and a very diverse menu because doing so is extremely difficult. Nevertheless, examining the strategic groups in an industry with an eye toward untapped opportunities offers executives a chance to consider novel ideas.
Key Takeaway
• Examination of the strategic groups in an industry provides a firm’s executives with a better understanding of their closest rivals, reveals alternative paths to success, and highlights untapped opportunities.
Exercises
1. What other colleges and universities are probably in your school’s strategic group?
2. From what other groups of colleges and universities could your school learn? What specific ideas could be borrowed from these groups?
3.06: Conclusion
This chapter explains several considerations for examining the external environment that executives must monitor to lead their organizations strategically. Executives must be aware of trends and changes in the general environment, as well as the condition of their specific industry, as elements of both have the potential to change considerably over time. While PESTEL analysis provides a useful framework to understand the general environment, Porter’s five forces is helpful to make sense of an industry’s profit potential. Strategic groups are valuable for understanding close competitors that affect a firm more than other industry members. When executives carefully monitor their organization’s environment using these tools, they greatly increase the chances of their organization being successful.
Exercises
1. In groups of four or five, use the PESTEL framework to identify elements from each factor of the general environment that could have a large effect on your future career.
2. Use Porter’s five forces analysis to analyze an industry in which you might like to work in the future. Discuss the implications your results may have on the salary potential of jobs in that industry and how that could impact your career plans. | textbooks/biz/Management/Mastering_Strategic_Management/03%3A_Evaluating_the_External_Environment/3.05%3A_Mapping_Strategic_Groups.txt |
Learning Objectives
After reading this chapter, you should be
able to understand and articulate answers to the following questions:
1. What is resource-based theory, and why is it
important to organizations?
2. In what ways can intellectual property
serve as a value-added resource for organizations?
3. How should
executives use the value chain to maximize the performance of their
organizations?
4. What is SWOT analysis and how can it help an
organization?
Southwest Airlines: Let Your LUV Flow
Southwest Airlines’ acquisition of AirTran in 2011 may lead the
firm into stormy skies.
In 1971, an upstart firm named Southwest Airlines opened for business by offering flights between Houston, San Antonio, and its headquarters at Love Field in Dallas. From its initial fleet of three airplanes and three destinations, Southwest has grown to operate hundreds of airplanes in scores of cities. Despite competing in an industry that is infamous for bankruptcies and massive financial losses, Southwest marked its thirty-eighth profitable year in a row in 2010.
Why has Southwest succeeded while many other airlines have failed? Historically, the firm has differed from its competitors in a variety of
important ways. Most large airlines use a “hub and spoke” system. This type of system routes travelers through a large hub airport on their way from one city to another. Many Delta passengers, for example, end a flight in Atlanta and then take a connecting flight to their actual destination. The inability to travel directly between most pairs of cities adds hours to a traveler’s itinerary and increases the chances of luggage being lost. In contrast, Southwest does not have a hub airport; preferring instead to connect cities directly. This helps make flying on Southwest attractive to many travelers.
Southwest has also been more efficient than its rivals. While most airlines use a variety of different airplanes, Southwest operates only one type of jet: the Boeing 737. This means that Southwest can service its fleet much more efficiently than can other airlines. Southwest mechanics need only the know-how to fix one type of airplane, for example, while their counterparts with other firms need a working knowledge of multiple planes. Southwest also gains efficiency by not offering seat assignments in advance, unlike its competitors. This makes the boarding process move more quickly, meaning that Southwest’s jets spend more time in the air transporting customers (and making money) and less time at the gate relative to its rivals’ planes.
Organizational culture is the dimension along which Southwest perhaps has differed most from its rivals. The airline industry as a whole suffers from a reputation for mediocre (or worse) service and indifferent (sometimes even surly) employees. In contrast, Southwest enjoys strong loyalty and a sense of teamwork among its employees.
One tangible indicator of this culture is Southwest’s stock ticker symbol. Most companies choose stock ticker symbols that evoke their names. Ford’s ticker symbol is F, for example, and Walmart’s symbol is WMT. When Southwest became a publicly traded company in 1977, executives chose LUV as its ticker symbol. LUV pays a bit of homage to the firm’s humble beginnings at Love Field. More important, however, LUV represents the love that executives have created among employees, between employees and the company, and between customers and the company. This “LUV affair” has long been and remains a huge success. As recently as March 2011, for example, Southwest was ranked fourth on Fortune magazine’s World’s Most Admired Company list.
In September 2010, Southwest surprised many observers when it announced that it was acquiring AirTran Airways for \$1.4 billion. Southwest and AirTran both emphasized low fares, but they differed in many ways. AirTran routed most of its passengers through a hub-and-spoke system, and it relied on a different plane than Southwest, the Boeing 717. The acquisition of AirTran thus raised important questions about Southwest’s future (Schlangenstein & Hughes, 2010). How would AirTran’s hub-and-spoke system be integrated with Southwest’s nonhub approach? Could the airlines’ respective fleets of 737s and 717s be joined without losing efficiency? Perhaps most important, could Southwest maintain its legendary organizational culture while taking over a sizable rival and integrating AirTran’s thousands of employees? When the acquisition was finalized on May 2, 2011, it remained unclear whether Southwest was flying off course or whether Southwest’s “LUV story” would continue for many years. | textbooks/biz/Management/Mastering_Strategic_Management/04%3A_Managing_Firm_Resources/4.01%3A_Managing_Firm_Resources.txt |
Learning Objectives
1. Define the four characteristics of resources that lead to sustained competitive advantage as articulated by the resource-based theory of the firm.
2. Understand the difference between resources and capabilities.
3. Be able to explain the difference between tangible and intangible resources.
4. Know the elements of the marketing mix.
Table 4.1 Resource-Based Theory: The Basics
According to resource-based theory, organizations that own “strategic resources” have important competitive advantages over organizations that do not. Some resources, such as cash and trucks, arenot considered to be strategic resources because an organization’s competitors can readily acquire them. Instead, a resource is strategic to the extent that it is valuable, rare, difficult to imitate, and nonsubstitutable.
Strategic Resources Expansion
VALUABLE resources aid in improving the organization’s effectiveness and efficiency while neutralizing the opportunities and threats of competitors. Although the airline industry is extremely competitive, Southwest Airlines’ turns a profit virtually every year. One key reason why is a legendary organizational culture that inspires employees to do their very best.
RARE resources are those held by few or no other competitors. Southwest Airlines’ culture provides the firm with uniquely strong employee relations in an industry where strikes, layoffs, and poor morale are common.
DIFFICULT-TO-IMITATE resources often involve legally protected intellectual property such as trademarks, patents, or copyrights. Other difficult-to-imitate resources, such as brand names, usually need time to develop fully. Southwest’s culture arose from its very humble beginnings and has evolved across hour decades. Because of this unusual history, other airlines could not replicate Southwest’s culture, regardless of how hard they might try.
NONSUBSTITUTABLE resources exist when the resource combinations of other firms cannot duplicate the strategy provided by the resource bundle of a particular firm. The influence of Southwest’s organizational culture extends to how customers are treated by employees. Executives at other airlines would love to attract the customer loyalty that Southwest enjoys, but they have yet to find ways to inspire the kind of customer service that the Southwest culture encourages.
Important Points to Remember:
1. Resources such as Southwest’s culture that reflect all four qualities–valuable, rare, difficult to imitate, and nonsubstitutable–are ideal because they can create sustained competitive advantages. A resource that has three or less of the qualities can provide an edge in the short term, but competitors can overcome such an advantage eventually.
2. Firms often bundle together multiple resources and strategies (that may not be unique in and of themselves) to create uniquely powerful combinations. Southwest’s culture is complemented by approaches that individually could be copied–the airline’s emphasis on direct flights, its reliance on one type of plane, and its unique system for passenger boarding–in order to create a unique business model in which effectiveness and efficiency is the envy of competitors.
3. Satisfying only one or two of the valuable, rare, difficult to imitate, nonsubstitutable criteria will likely only lead to competitive parity or a temporary advantage.
• Four Characteristics of Strategic Resources
Southwest Airlines provides an illustration of resource-based theory in action. Resource-based theory contends that the possession of strategic resources provides an organization with a golden opportunity to develop competitive advantages over its rivals (Table 4.1). These competitive advantages in turn can help the organization enjoy strong profits (Barney, 1991; Wernerfelt, 1981).
A strategic resource is an asset that is valuable, rare, difficult to imitate, and nonsubstitutable (Barney, 1991; Chi, 1994). A resource is valuable to the extent that it helps a firm create strategies that capitalize on opportunities and ward off threats. Southwest Airlines’ culture fits this standard well. Most airlines struggle to be profitable, but Southwest makes money virtually every year. One key reason is a legendary organizational culture that inspires employees to do their very best. This culture is also rare in that strikes, layoffs, and poor morale are common within the airline industry.
Competitors have a hard time duplicating resources that are difficult to imitate. Some difficult to imitate resources are protected by various legal means, including trademarks, patents, and copyrights. Other resources are hard to copy because they evolve over time and they reflect unique aspects of the firm. Southwest’s culture arose from its very humble beginnings. The airline had so little money that at times it had to temporarily “borrow” luggage carts from other airlines and put magnets with the Southwest logo on top of the rivals’ logo. Southwest is a “rags to riches” story that has evolved across several decades. Other airlines could not replicate Southwest’s culture, regardless of how hard they might try, because of Southwest’s unusual history.
A resource is nonsubstitutable when competitors cannot find alternative ways to gain the benefits that a resource provides. A key benefit of Southwest’s culture is that it leads employees to treat customers well, which in turn creates loyalty to Southwest among passengers. Executives at other airlines would love to attract the customer loyalty that Southwest enjoys, but they have yet to find ways to inspire the kind of customer service that the Southwest culture encourages.
Southwest Airlines’ unique culture is reflected in the customization of their aircraft over the years, such as the “Lone Star One” design.
Ideally, a firm will have a culture, like Southwesta firm will own resources like Southwest’s culture#8217;s, that embraces the four qualities shown in Table 4.1. that have all four of these qualities. If so, these resources can provide not only a competitive advantage but also a sustained competitive advantage—one that will endure over time and help the firm stay successful far into the future. Resources that do not have all four qualities can still be very useful, but they are unlikely to provide long-term advantages. A resource that is valuable and rare but that can be imitated, for example, might provide an edge in the short term, but competitors can overcome such an advantage eventually.
Resource-based theory also stresses the merit of an old saying: the whole is greater than the sum of its parts. Specifically, it is also important to recognize that strategic resources can be created by taking several strategies and resources that each could be copied and bundling them together in a way that cannot be copied. For example, Southwest’s culture is complemented by approaches that individually could be copied—the airline’s emphasis on direct flights, its reliance on one type of plane, and its unique system for passenger boarding—to create a unique business model whose performance is without peer in the industry.
Resource-based theory can be confusing because the term resources is used in many different ways within everyday common language. It is important to distinguish strategic resources from other resources. To most individuals, cash is an important resource. Tangible goods such as one’s car and home are also vital resources. When analyzing organizations, however, common resources such as cash and vehicles are not considered to be strategic resources. Resources such as cash and vehicles are valuable, of course, but an organization’s competitors can readily acquire them. Thus an organization cannot hope to create an enduring competitive advantage around common resources.
On occasion, events in the environment can turn a common resource into a strategic resource. Consider, for example, a very generic commodity: water. Humans simply cannot live without water, so water has inherent value. Also, water cannot be imitated (at least not on a large scale), and no other substance can substitute for the life-sustaining properties of water. Despite having three of the four properties of strategic resources, water in the United States has remained cheap. Yet this may be changing. Major cities in hot climates such as Las Vegas, Los Angeles, and Atlanta are confronted by dramatically shrinking water supplies. As water becomes more and more rare, landowners in Maine stand to benefit. Maine has been described as “the Saudi Arabia of water” because its borders contain so much drinkable water. It is not hard to imagine a day when companies in Maine make huge profits by sending giant trucks filled with water south and west or even by building water pipelines to service arid regions.
Table 4.2 Resources and Capabilities
Resources and capabilities are the basic building blocks that organizations use to create strategies. These two building blocks are tightly linked–capabilities from using resources over time.
Tangible resources are resources than can be readily seen, touched, and quantified. Physical assets such as a firm’s property, plant, and equipment are considered to be tangible resources, as is cash.
Intangible resources are quite difficult to see, touch, or quantify. Intangible resources include, for example, the knowledge and skills of employees, a firm’s reputation, and a firm’s culture. In a nod to Southwest Airlines’ outstanding reputation, the firm ranks fourth in Fortune magazine’s 2011 list of the “World’s Most Admired Companies.” Only Apple, Google, and Berkshire Hathaway enjoy a stronger reputation.
A dynamic capability exists when a firm is skilled at continually updating its array of capabilities to keep pace with changes in its environment. General Electric, for example, buys and sells firms to maintain its market leadership over time while Coca-Cola has an uncanny knack for building new brands and products as the soft-drink market evolves. Not surprisingly, both of these firms rank among the top thirteen among the “World’s Most Admired Companies” for 2011.
• From Resources to Capabilities
The tangibility of a firm’s resources is an important consideration within resource-based theory. Tangible resources are resources that can be readily seen, touched, and quantified. Physical assets such as a firm’s property, plant, and equipment, as well as cash, are considered to be tangible resources. In contrast, intangible resources are quite difficult to see, to touch, or to quantify. Intangible resources include, for example, the knowledge and skills of employees, a firm’s reputation, and a firm’s culture. In comparing the two types of resources, intangible resources are more likely to meet the criteria for strategic resources (i.e., valuable, rare, difficult to imitate, and nonsubstitutable) than are tangible resources. Executives who wish to achieve long-term competitive advantages should therefore place a premium on trying to nurture and develop their firms’ intangible resources.
Capabilities are another key concept within resource-based theory. A good and easy-to-remember way to distinguish resources and capabilities is this: resources refer to what an organization owns, capabilities refer to what the organization can do (Table 4.2). Capabilities tend to arise over time as a firm takes actions that build on its strategic resources. Southwest Airlines, for example, has developed the capability of providing excellent customer service by building on its strong organizational culture. Capabilities are important in part because they are how organizations capture the potential value that resources offer. Customers do not simply send money to an organization because it owns strategic resources. Instead, capabilities are needed to bundle, to manage, and otherwise to exploit resources in a manner that provides value added to customers and creates advantages over competitors.
Some firms develop a dynamic capability. This means that a firm has a unique capability of creating new capabilities. Said differently, a firm that enjoys a dynamic capability is skilled at continually updating its array of capabilities to keep pace with changes in its environment. General Electric, for example, buys and sells firms to maintain its market leadership over time, while Coca-Cola has an uncanny knack for building new brands and products as the soft-drink market evolves. Not surprisingly, both of these firms rank among the top thirteen among the “World’s Most Admired Companies” for 2011.
Strategy at the Movies
That Thing You Do!
How can the members of an organization reach success “doing that thing they do”? According to resource-based theory, one possible road to riches is creating—on purpose or by accident—a unique combination of resources. In the 1996 movie That Thing You Do!, unwittingly assembling a unique bundle of resources leads a 1960s band called The Wonders to rise from small-town obscurity to the top of the music charts. One resource is lead singer Jimmy Mattingly, who possesses immense musical talent. Another is guitarist Lenny Haise, whose fun attitude reigns in the enigmatic Mattingly. Although not a formal band member, Mattingly’s girlfriend Faye provides emotional support to the group and even suggests the group’s name. When the band’s usual drummer has to miss a gig due to injury, the door is opened for charismatic drummer Guy Patterson, whose energy proves to be the final piece of the puzzle for The Wonders.
Despite Mattingly’s objections, Guy spontaneously adds an up-tempo beat to a sleepy ballad called “That Thing You Do!” during a local talent contest. When the talent show audience goes crazy in response, it marks the beginning of a meteoric rise for both the song and the band. Before long, The Wonders perform on television and “That Thing You Do!” is a top-ten hit record. The band’s magic vanishes as quickly as it appeared, however. After their bass player joins the Marines, Lenny elopes on a whim, and Jimmy’s diva attitude runs amok, the band is finished and Guy is left to “wonder” what might have been. That Thing You Do! illustrates that while bundling resources in a unique way can create immense success, preserving and managing these resources over time can be very difficult.
Liv Tyler plays Faye Dolan, the love interest of drummer Guy Patterson, in That Thing You Do!
• Is Resource-Based Theory Old News?
Resource-based theory has evolved in recent years to provide a way to understand how strategic resources and capabilities allow firms to enjoy excellent performance. But more than one wry observer has wondered aloud, “Is resource-based theory just old wine in a new bottle?” This is a question worth considering because the role of resources in shaping success and failure has been discussed for many centuries.
Aesop was a Greek storyteller who lived approximately 2,500 years ago. Aesop is known in particular for having created a series of fables—stories that appear on the surface to be simply children’s tales but that offer deep lessons for everyone. One of Aesop’s fables focuses on an ass (donkey) and some grasshoppers. When the ass tries to duplicate the sweet singing of the grasshoppers by copying their diet, he soon dies of starvation. Attempting to replicate the grasshoppers’ unique singing capability proved to be a fatal mistake (Figure 4.3). The fable illustrates a central point of resource-based theory: it is an array of resources and capabilities that fuels enduring success, not any one resource alone.
In a far more recent example, sociologist Philip Selznick developed the concept of distinctive competence through a series of books in the 1940s and 1950s (Selznick, 1957; Selznick, 1949). A distinctive competence is a set of activities that an organization performs especially well. Southwest Airlines, for example, appears to have a distinctive competency in operations, as evidenced by how quickly it moves its flights in and out of airports. Further, Selznick suggested that possessing a distinctive competency creates a competitive advantage for a firm. Certainly, there is plenty of overlap between the concept of distinctive competency, on the one hand, and capabilities, on the other.
Figure 4.3 Aesop’s Fables
So is resource-based theory in fact old wine in a new bottle? Not really. Resource-based theory builds on past ideas about resources, but it represents a big improvement on past ideas in at least two ways. First, resource-based theory offers a complete framework for analyzing organizations, not just snippets of valuable wisdom like Aesop and Selznick provided. Second, the ideas offered by resource-based theory have been developed and refined through scores of research studies involving thousands of organizations. In other words, there is solid evidence backing it up.
• The Marketing Mix
Table 4.4 The Marketing Mix
Much like a baker mixes together ingredients to create a delicious cake, executives need to blend together various ways to appeal to customers. As one of the most famous business “recipes,” the marketing mix suggests four factors that need to work together in order for a firm to achieve superior performance. The four Ps of the marketing mix are illustrated below using Duff Goldman’s custom cake shop, Charm City Cakes.
A firm’s product is what it sells to customers. The unique cakes offered by Duff have included replicas of Radio City Music Hall and the Hubble space telescope.
The price of a good or service should provide a good match with the value offered. While a grocery store’s cake might sell for \$30 or less, the uniqueness of Duff’s cakes allows him to charge upwards of \$1,000 per cake.
Place can refer to a physical purchase point as well as a distribution channel. The location of Charm City Cakes is itself unique–a converted church. This adds to the hip image Duff tries to project.
Promotion consists of the communications used to market a product, including advertising, public relations, and other forms of direct and indirect selling. Duff’s popular show on The Food Network, Ace of Cakes, spread Duff’s fame and extended the reach of his cake shop dramatically.
Leveraging resources and capabilities to create desirable products and services is important, but customers must still be convinced to purchase these goods and services. The marketing mix—also known as the four Ps of marketing—provides important insights into how to make this happen. A master of the marketing mix was circus impresario P. T. Barnum, who is famous in part for his claim that “there’s a sucker born every minute.” The real purpose of the marketing mix is not to trick customers but rather to provide a strong alignment among the four Ps (product, price, place, and promotion) to offer customers a coherent and persuasive message (Table 4.4).
A firm’s product is what it sells to customers. Southwest Airlines sells, of course, airplane flights. The airline tries to set its flights apart from those of airlines by making flying fun. This can include, for example, flight attendants offering preflight instructions as a rap. The price of a good or service should provide a good match with the value offered. Throughout its history, Southwest has usually charged lower airfares than its rivals. Place can refer to a physical purchase point as well as a distribution channel. Southwest has generally operated in cities that are not served by many airlines and in secondary airports in major cities. This has allowed the firm to get favorable lease rates at airports and has helped it create customer loyalty among passengers who are thankful to have access to good air travel.
Finally, promotion consists of the communications used to market a product, including advertising, public relations, and other forms of direct and indirect selling. Southwest is known for its clever advertising. In a recent television advertising campaign, for example, Southwest lampooned the baggage fees charged by most other airlines while highlighting its more customer-friendly approach to checked luggage. Given the consistent theme of providing a good value plus an element of fun to passengers that is developed across the elements of the marketing mix, it is no surprise that Southwest has been so successful within a very challenging industry.
Few executives in history have had the marketing savvy of P. T. Barnum.
Key Takeaway
• Resource-based theory suggests that resources that are valuable, rare, difficult to imitate, and nonsubstitutable best position a firm for long-term success. These strategic resources can provide the foundation to develop firm capabilities that can lead to superior performance over time. Capabilities are needed to bundle, to manage, and otherwise to exploit resources in a manner that provides value added to customers and creates advantages over competitors.
Exercises
1. Does your favorite restaurant have the four qualities of resources that lead to success as articulated by resource-based theory?
2. If you were hired by your college or university to market your athletic department, what element of the marketing mix would you focus on first and why?
3. What other classic stories or fables could be applied to discuss the importance of firm resources and superior performance? | textbooks/biz/Management/Mastering_Strategic_Management/04%3A_Managing_Firm_Resources/4.02%3A_Resource-Based_Theory.txt |
Learning Objectives
1. Define the four major types of intellectual property.
2. Be able to provide examples of each intellectual property type.
3. Understand how intellectual property can be a valuable resource for firms.
• Defining Intellectual Property
The inability of competitors to imitate a strategic resource is a key to leveraging the resource to achieve long–term competitive advantages. Companies are clever, and effective imitation is often very possible. But resources that involve intellectual property reduce or even eliminate this risk. As a result, developing intellectual property is important to many organizations.
Intellectual property refers to creations of the mind, such as inventions, artistic products, and symbols. The four main types of intellectual property are patents, trademarks, copyrights, and trade secrets (Table 4.5). If a piece of intellectual property is also valuable, rare, and nonsubstitutable, it constitutes a strategic resource. Even if a piece of intellectual property does not meet all four criteria for serving as a strategic resource, it can be bundled with other resources and activities to create a resource.
A variety of formal and informal methods are available to protect a firm’s intellectual property from imitation by rivals. Some forms of intellectual property are best protected by legal means, while defending others depends on surrounding them in secrecy. This can be contrasted with Southwest Airlines’ well-known culture, which rivals are free to attempt to copy if they wish. Southwest’s culture thus is not intellectual property, although some of its complements such as Southwest’s logo and unique color schemes are.
Table 4.5 Types of Intellectual Property
The term intellectual property refers to creations of the mind, such as inventions, artistic products, and symbols. Some forms of intellectual property by law while others can best be defended by surrounding them in secrecy.
Patents protect inventions from direct imitation for a limited period of time. Within the pharmaceutical industry, patents protect the new drugs created by firms such as Merck and Pfizer for up to twenty years. If a new drug gains acceptance in the market, its patent creates a window of opportunity for the patent holder to enjoy excellent profits.
Trademarks are phrases, pictures, names, or symbols used to identify a particular organization. McDonald’s golden arches, the phrase “Intel Inside,” and the brand name Old Navy are examples of trademarks.
Copyrights provide exclusive rights to the creators of original artistic works such as books, movies, songs, and screenplays. Sometimes copyrights are sold and licensed. The late pop star Michael Jackson bought the rights to The Beatle’s music catalog and later licensed songs to Target and other companies for use in television advertisements.
Trade secrets refer to formulas, practices, and designs that are central to a firm’s business and that remain unknown to competitors. One famous example is the blend of eleven herbs and spices used in Kentucky Fried Chicken’s original recipe chicken. KFC protects this secret by having multiple suppliers each produce a portion of the herb and spice blend; no one supplier knows the full recipe.
• Patents
Table 4.6 Patents
Patents protect inventions from direct imitation for a limited period of time. Some examples and key issues surrounding patents are illustrated below.
To earn a patent from the U.S. Patent and Trademark Office, an inventor must demonstrate than an invention is new, non obvious, and useful. As several different inventors raced to create a workable system for voice transmission over wires, Alexander Graham Bell was awarded a patent for the telephone in 1876.
Perhaps the greatest inventor in history was Thomas Edison, who was awarded over one thousand patents. In a 2011 lawsuit, EBSCO alleged that Bass Pro Shops sold a product that violated EBSCO’s patent on a deer-hunting stand that helps prevent hunters from falling out of trees. EBSCO’s complaint was settled out of court.
Patents are legal decrees that protect inventions from direct imitation for a limited period of time (Table 4.6). Obtaining a patent involves navigating a challenging process. To earn a patent from the US Patent and Trademark Office, an inventor must demonstrate than an invention is new, nonobvious, and useful. If the owner of a patent believes that a company or person has infringed on the patent, the owner can sue for damages. In 2011, for example, a private company named EBSCO alleged that retailer Bass Pro Shops sold a product that violated EBSCO’s patent on a deer-hunting stand that helps prevent hunters from falling out of trees. Rather than endure a costly legal fight, the two sides agreed to settle EBSCO’s complaint out of court.
Patenting an invention is important because patents can fuel enormous profits. Imagine, for example, the potential for lost profits if the Slinky had not been patented. Shipyard engineer Richard James came up with the idea for the Slinky by accident in 1943 while he was trying to create springs for use in ship instruments. When James accidentally tipped over one of his springs, he noticed that it moved downhill in a captivating way. James spent his free time perfecting the Slinky and then applied for a patent in 1946. To date, more than three hundred million Slinkys have been sold by the company that Richard James and his wife Betty created.
Patenting inventions such as the Slinky helps ensure that the invention is protected from imitation.
• Trademarks
Trademarks are phrases, pictures, names, or symbols used to identify a particular organization (Table 4.7). Trademarks are important because they help an organization stand out and build an identity in the marketplace. Some trademarks are so iconic that almost all consumers recognize them, including McDonald’s golden arches, the Nike swoosh, and Apple’s outline of an apple.
Other trademarks help rising companies carve out a unique niche for themselves. For example, French shoe designer Christian Louboutin has trademarked the signature red sole of his designer shoes. Because these shoes sell for many hundreds of dollars via upscale retailers such as Neiman Marcus and Saks Fifth Avenue, competitors would love to copy their look. Thus legally protecting the distinctive red sole from imitation helps preserve Louboutin’s profits.
Fashionistas instantly recognize the trademark red sole of Christian Louboutin’s high-end shoes.
Trademarks are important to colleges and universities. Schools earn tremendous sums of money through royalties on T-shirts, sweatshirts, hats, backpacks, and other consumer goods sporting their names and logos. On any given day, there are probably several students in your class wearing one or more pieces of clothing featuring your school’s insignia; your school benefits every time items like this are sold.
Schools’ trademarks are easy to counterfeit, however, and the sales of counterfeit goods take money away from colleges and universities. Not surprisingly, many schools fight to protect their trademarks. In October 2009, for example, the University of Oklahoma announced that it was teaming with law enforcement officials to combat the sale of counterfeit goods around its campus (Ward, 2009). This initiative and similar ones at other colleges and universities are designed to ensure that schools receive their fair share of the sales that their names and logos generate.
Table 4.7 Trademarks
An organization’s trademarks consist of phrases, pictures, names, or symbols that are closely associated with the organization. Some examples and key issues surrounding trademarks are illustrated below.
To be fully protected in the United States, a trademark must be registered with the United States Patent and Trademark Office. A capital R with a circle around it denotes a registered trademark. Many small companies use their founders’ name as the basis for a trademarked company name.
As part of the punishment for German aggression during World War I, German drug maker Bayer lost its trademark on “Aspirin” in France, Russia, the United Kingdom, and the United States. Today, Bayer still retains its trademark in Germany, Canada, Mexico and dozens of other countries. The distinctive pattern of Burberry Ltd. is an example of a trademark that does not involve words or symbols.
• Copyrights
The rights of creators of original artistic works such as books, movies, songs, and screenplays are protected by copyrights. Some examples and key issues surrounding copyrights are illustrated below.
In China, millions of pirated DVDs are sold each year, and music piracy is estimated to account for at least 95 percent of music sales. In response, the U.S. government has pressed its Chinese counterpart to better enforce copyrights. The presence of the copyright symbol tells consumers that they are not allowed to duplicate the product that carriers the copyright. When it became apparent that The Verve’s 1997 hit single “Bittersweet Symphony” duplicated a Rolling Stones song, The Verve was forced to give up the copyright for the song.
Today’s cheesy television ads aimed at inventors follow a long traditional of companies offering to help individuals copyright their ideas–for a small fee, of course. A painting such as Johannes Vermeer’s “Girl with a Pearl Earring” enters the public domain (i.e., is not subject to copyright) one hundred years after its creator’s death.
Copyrights provide exclusive rights to the creators of original artistic works such as books, movies, songs, and screenplays (Figure 4.8). Sometimes copyrights are sold and licensed. In the late 1960s, Buick thought it had an agreement in place to license the number one hit “Light My Fire” for a television advertisement from The Doors until the band’s volatile lead singer Jim Morrison loudly protested what he saw as mistreating a work of art. Classic rock by The Beatles has been used in television ads in recent years. After the late pop star Michael Jackson bought the rights to the band’s music catalog, he licensed songs to Target and other companies. Some devoted music fans consider such ads to be abominations, perhaps proving the merit of Morrison’s protest decades ago.
He looks calm here, but the licensing of a copyrighted song for a car commercial enraged rock legend Jim Morrison.
Over time, piracy has become a huge issue for the owners of copyrighted works. In China, millions of pirated DVDs are sold each year, and music piracy is estimated to account for at least 95 percent of music sales. This piracy deprives movie studios, record labels, and artists of millions of dollars in royalties. In response to the damage piracy has caused, the US government has pressed its Chinese counterpart and other national governments to better enforce copyrights.
• Trade Secrets
Trade secrets refer to formulas, practices, and designs that are central to a firm’s business and that remain unknown to competitors (Table 4.9). Trade secrets are protected by laws on theft, but once a secret is revealed, it cannot be a secret any longer. This leads firms to rely mainly on silence and privacy rather than the legal system to protect trade secrets.
Table 4.9 Trade Secrets
Trade secrets are formulas, practices, and designs that are central to a firm’s business and that remain unknown to competitors. Everyone loves a good mystery, so it is no surprise that legends have arisen around some trade secrets. Some examples and key issues surrounding trade secrets are illustrated below.
Low-end fast food chain Long John Silver’s considers its “crumblies” (small bits of fried batter) to be a trade secret, but would anyone really want to solve the mystery? In 2006, Pepsi was offered a chance to buy a stolen copy of Coca-Cola’s secret recipe. An FBI sting was created and the thieves were arrested. WD-40 was developed to repel water and prevent corrosion, but it was later found to have over two thousand uses. Creating WD-40 took a lot of work: the product’s unusual name stands for “Water Displacement, 40th attempt.” Despite being created in 1953, the formula for making WD-40 remains unknown outside the company that sells it.
FarmVille creator Zynga alleged in a lawsuit that Disney had lured away Zynga employees to work for Disney and then urged the employees to turn over a secret “playbook” that described Zynga’s strategy. The case was settled out of court in late 2010. In a 1995 episode of the hit comedy Sienfeld, a very successful but mean-spirited restaurateur nicknamed the “Soup Nazi” saw his business collapse when his secret recipes were revealed to customers. Individuals could now make delicious soups at home rather than endure the Soup Nazi’s verbal abuse when buying soup.
Some trade secrets have become legendary, perhaps because a mystique arises around the unknown. One famous example is the blend of eleven herbs and spices used in Kentucky Fried Chicken’s original recipe chicken. KFC protects this secret by having multiple suppliers each produce a portion of the herb and spice blend; no one supplier knows the full recipe. The formulation of Coca-Cola is also shrouded in mystery. In 2006, Pepsi was approached by shady individuals who were offering a chance to buy a stolen copy of Coca-Cola’s secret recipe. Pepsi wisely refused. An FBI sting was used to bring the thieves to justice. The soft-drink industry has other secrets too. Dr Pepper’s recipe remains unknown outside the company. Although Coke’s formula has been the subject of greater speculation, Dr Pepper is actually the original secret soft drink; it was created a year before Coca-Cola.
The recipe for Dr Pepper is a secret dating back to the 1880s.
Key Takeaway
• Intellectual property can serve as a strategic resource for organizations. While some sources of intellectual property such as patents, trademarks, and copyrights can receive special legal protection, trade secrets provide competitive advantages by simply staying hidden from competitors.
Exercises
1. What designs for your college or university are protected by trademarks?
2. What type of intellectual property provides the most protection for firms?
3. Why would a firm protect a resource through trade secret rather than by a formal patent? | textbooks/biz/Management/Mastering_Strategic_Management/04%3A_Managing_Firm_Resources/4.03%3A_Intellectual_Property.txt |
Learning Objectives
1. Define the primary activities of the value chain.
2. Know the different support activities within the value chain.
3. Be able to apply the value chain to an organization of your choosing.
4. Understand the difference between a value chain and supply chain.
Table 4.10 Adding Value within a Value Chain
• Elements of the Value Chain
When executives choose strategies, an organization’s resources and capabilities should be examined alongside consideration of its value chain. A value chain charts the path by which products and services are created and eventually sold to customers (Porter, 1985). The term value chain reflects the fact that, as each step of this path is completed, the product becomes more valuable than it was at the previous step (Table 4.10). Within the lumber business, for example, value is added when a tree is transformed into usable wooden boards; the boards created from a tree can be sold for more money than the price of the tree.
The Value Chain
Value chains include both primary and secondary activities. Primary activities are actions that are directly involved in creating and distributing goods and services. Consider a simple illustrative example: doughnut shops. Doughnut shops transform basic commodity products such as flour, sugar, butter, and grease into delectable treats. Value is added through this process because consumers are willing to pay much more for doughnuts than they would be willing to pay for the underlying ingredients.
There are five primary activities. Inbound logistics refers to the arrival of raw materials. Although doughnuts are seen by most consumers as notoriously unhealthy, the Doughnut Plant in New York City has carved out a unique niche for itself by obtaining organic ingredients from a local farmer’s market. Operations refers to the actual production process, while outbound logistics tracks the movement of a finished product to customers. One of Southwest Airlines’ unique capabilities is moving passengers more quickly than its rivals. This advantage in operations is based in part on Southwest’s reliance on one type of airplane (which speeds maintenance) and its avoidance of advance seat assignments (which accelerates the passenger boarding process).
Attracting potential customers and convincing them to make purchases is the domain of marketing and sales. For example, people cannot help but notice Randy’s Donuts in Inglewood, California, because the building has a giant doughnut on top of it. Finally, service refers to the extent to which a firm provides assistance to their customers. Voodoo Donuts in Portland, Oregon, has developed a clever website (voodoodoughnut.com) that helps customers understand their uniquely named products, such as the Voodoo Doll, the Texas Challenge, the Memphis Mafia, and the Dirty Snowball.
Secondary activities are not directly involved in the evolution of a product but instead provide important underlying support for primary activities. Firm infrastructure refers to how the firm is organized and led by executives. The effects of this organizing and leadership can be profound. For example, Ron Joyce’s leadership of Canadian doughnut shop chain Tim Hortons was so successful that Canadians consume more doughnuts per person than all other countries. In terms of resource-based theory, Joyce’s leadership was clearly a valuable and rare resource that helped his firm prosper.
Also important is human resource management, which involves the recruitment, training, and compensation of employees. A recent research study used data from more than twelve thousand organizations to demonstrate that the knowledge, skills, and abilities of a firm’s employees can act as a strategic resource and strongly influence the firm’s performance (Crook, et. al., 2011). Certainly, the unique level of dedication demonstrated by employees at Southwest Airlines has contributed to that firm’s excellent performance over several decades.
Technology refers to the use of computerization and telecommunications to support primary activities. Although doughnut making is not a high-tech business, technology plays a variety of roles for doughnut shops, such as allowing customers to use credit cards. Procurement is the process of negotiating for and purchasing raw materials. Large doughnut chains such as Dunkin’ Donuts and Krispy Kreme can gain cost advantages over their smaller rivals by purchasing flour, sugar, and other ingredients in bulk. Meanwhile, Southwest Airlines has gained an advantage over its rivals by using futures contracts within its procurement process to minimize the effects of rising fuel prices.
• From the Value Chain to Best Value Supply Chains
“Time is money!” warns a famous saying. This simple yet profound statement suggests that organizations that quickly complete their work will enjoy greater profits, while slower-moving firms will suffer. The belief that time is money has encouraged the modern emphasis on supply chain management. A supply chain is a system of people, activities, information, and resources involved in creating a product and moving it to the customer. A supply chain is a broader concept than a value chain; the latter refers to activities within one firm, while the former captures the entire process of creating and distributing a product, often across several firms.
Competition in the twenty-first century requires an approach that considers the supply chain concept in tandem with the value-creation process within a firm: best value supply chains. These chains do not fixate on speed or on any other single metric. Instead, relative to their peers, best value supply chains focus on the total value added to the customer.
Creating best value supply chains requires four components. The first is strategic supply chain management—the use of supply chains as a means to create competitive advantages and enhance firm performance. Such an approach contradicts the popular wisdom centered on the need to maximize speed. Instead, there is recognition that the fastest chain may not satisfy customers’ needs. Best value supply chains strive to excel along four measures. Speed (or “cycle time”) is the time duration from initiation to completion of the production and distribution process. Quality refers to the relative reliability of supply chain activities. Supply chains’ efforts at managing cost involve enhancing value by either reducing expenses or increasing customer benefits for the same cost level. Flexibility refers to a supply chain’s responsiveness to changes in customers’ needs. Through balancing these four metrics, best value supply chains attempt to provide the highest level of total value added.
The value of strategic supply chain management is reflected in how firms such as Walmart have used their supply chains as competitive weapons to gain advantages over peers. Walmart excels in terms of speed and cost by locating all domestic stores within one day’s drive of a warehouse while owning a trucking fleet. This creates distribution speed and economies of scale that competitors simply cannot match. When Kmart’s executives decided in the late 1990s to compete head-to-head with Walmart on price, Walmart’s sophisticated logistics system enabled it to easily withstand the price war. Unable to match its rival’s speed and costs, Kmart soon plunged into bankruptcy. Walmart’s supply chains also possess strong quality and flexibility. When Hurricane Katrina devastated the Gulf Coast in 2005, Walmart used not only its warehouses and trucks but also its satellite technology, radio frequency identification (RFID), and global positioning systems to quickly divert assets to affected areas. The result was that Walmart emerged as the first responder in many towns and provided essentials such as drinking water faster than local and federal governments could.
Meanwhile, failing to manage a supply chain effectively causes serious harm. For example, in 2003 Motorola was unable to meet demand for its new camera phones because it did not have enough lenses available. Also, firms whose supply chains were centered in the Port of Los Angeles collectively lost more than \$2 billion a day during a 2002 workers’ strike. In terms of stock price, firms’ market value erodes by an average of 10 percent following the announcement of a major supply chain problem.
The second component is agility, the supply chain’s relative capacity to act rapidly in response to dramatic changes in supply and demand (Lee, 2004). Agility can be achieved using buffers. Excess capacity, inventory, and management information systems all provide buffers that better enable a best value supply chain to service and to be more responsive to its customers. Rapid improvements and decreased costs in deploying information systems have enabled supply chains in recent years to reduce inventory as a buffer. Much popular thinking depicts inventory reduction as a goal in and of itself. However, this cannot occur without corresponding increases in buffer capacity elsewhere in the chain, or performance will suffer. A best value supply chain seeks to optimize the total costs of all buffers used. The costs of deploying each buffer differs across industries; therefore, no solution that works for one company can be directly applied to another in a different industry without adaptation.
Agility in a supply chain can also be improved and achieved by colocating with the customer. This arrangement creates an information flow that cannot be duplicated through other methods. Daily face-to-face contact for supply chain personnel enables quicker response times to customer demands due to the speed at which information can travel back and forth between the parties. Again, this buffer of increased and improved information flows comes at an expense, so executives seeking to build a best value supply chain will investigate the opportunity and determine whether this action optimizes total costs.
Adaptability refers to a willingness and capacity to reshape supply chains when necessary. Generally, creating one supply chain for a customer is desired because this helps minimize costs. Adaptable firms realize that this is not always a best value solution, however. For example, in the defense industry, the US Army requires one class of weapon simulators to be repaired within eight hours, while another class of items can be repaired and returned within one month. To service these varying requirements efficiently and effectively, Computer Science Corporation (the firm whose supply chains maintain the equipment) must devise adaptable supply chains. In this case, spare parts inventory is positioned in proximity to the class of simulators requiring quick turnaround, while the less-time-sensitive devices are sent to a centralized repair facility. This supply chain configuration allows Computer Science Corporation to satisfy customer demands while avoiding the excess costs that would be involved in localizing all repair activities.
In situations in which the interests of one firm in the chain and the chain as a whole conflict, most executives will choose an option that benefits their firm. This creates a need for alignment among chain members. Alignment refers to creating consistency in the interests of all participants in a supply chain. In many situations, this can be accomplished through carefully writing incentives into contracts. Collaborative forecasting with suppliers and customers can also help build alignment. Taking the time to sit together with participants in the supply chain to agree on anticipated business levels permits shared understanding and rapid information transfers between parties. This is particularly valuable when customer demand is uncertain, such as in the retail industry (Ketchen, et. al., 2008).
Key Takeaway
• The value chain provides a useful tool for managers to examine systematically where value may be added to their organizations. This tool is useful in that it examines key elements in the production of a good or service, as well as areas in which value may be added in support of those primary activities.
Exercises
1. If you were hired as a consultant for your university, what specific element of the value chain would you seek to improve first?
2. What local business in your town could be improved most dramatically by applying the value chain? Would improvements of primary or support activities help to improve this firm most? Could knowledge of strategic supply chain management add further value to this firm? | textbooks/biz/Management/Mastering_Strategic_Management/04%3A_Managing_Firm_Resources/4.04%3A_Value_Chain.txt |
Learning Objectives
1. Be able to discuss other theories about firm success and failure beyond resource-based theory.
2. Be able to apply different theories to help explain competition in different industries.
Table 4.11 Other Theories about Firm Performance
Resource-based theory is currently perhaps the most popular way of explaining why some firms succeed and other fail, but it is far from the only explanation. Below we illustrate several other prominent theories using examples from the airline industry.
Enactment suggests that organizations can, in part, create their environment through outstanding strategies. This puts a firm in control of its destiny. Although no airline has ever been able to do so, Microsoft and Apple are two firms that seemed to have enacted their environments.
Environmental determinism contends that external factors drive a firm’s fate. In its early days, the federal government controlled airlines’ routes and prices. After the airline industry was deregulated in the late 1970s, a series of large airlines fell prey to bad environment conditions such as recession, overcapacity in the industry, and fuel shortages. Many industry experts claim that the demise of Braniff Airlines, and others was inevitable.
Institutional theory is interested in the extent to which firms copy each other’s strategies. After American Airlines became the first major airline to create a frequent flyer program in 1981, its competitors quickly developed their own frequent flyer programs. In the late 2000s, a new idea of charging passengers to check their luggage was copied by one airline after another.
Transaction cost economics centers on whether it is cheaper for a firm to make or to buy the products that it needs. Choosing efficient options enhances profits. No airline has ever chosen “make” when needing new airplanes. Buying airplanes from Boeing or Airbus is much more efficient than would be trying to backwardly integrate into the airplane manufacturing business.
Although resource-based theory stands as perhaps the most popular explanation of why some organizations prosper while others do not, several other theories are popular. Enactment treats executives as the masters of their domains. Enactment contends that an organization can, at least in part, create an environment for itself that is beneficial to the organization. This is accomplished by putting strategies in place that reshape competitive conditions in a favorable way (Table 4.11).
By the 1990s, Microsoft had been so successful at reshaping the software industry to its benefit that the firm was the subject of a lengthy antitrust investigation by the federal government. More recently, Apple has been able to reshape its environment by introducing products such as the iPhone and the iPad that transcend the traditional boundaries between the cell phone, digital camera, music player, and computer businesses. No airline has ever been able to enact the environment, however, perhaps because the airline industry is so fragmented.
Environmental determinism offers a completely opposite view from enactment on why some firms succeed and others fail. Environmental determinism views organizations much like biological theories view animals—organizations (and animals) are very limited in their ability to adapt to the conditions around them. Thus just as harsh environmental changes are believed to have made dinosaurs extinct, changes in the business environment can destroy organizations regardless of how clever and insightful executives are.
Until 1978, the federal government regulated the airline industry by dictating what routes each airline would fly and what prices it would charge. Once these controls were removed, airlines were subjected to a series of negative environmental trends, including recession, overcapacity in the industry, new entrants, fierce price competition, and fuel shortages. Perhaps not surprisingly, dozens of airlines have been crushed by these conditions.
An old saying notes that “imitation is the sincerest form of flattery.” This flattery is the focus of institutional theory. In particular, institutional theory centers on the extent to which firms copy one another’s strategies. Consider, for example, fast-food hamburger restaurants. Innovations such as dollar menus and drive-through windows tend to be introduced by one firm and then duplicated by the others.
Airlines also seem to follow a “monkey see, monkey do” mentality. To build passenger loyalty, American Airlines introduced a frequent flyer program called AAdvantage in 1981. After flying a certain number of miles on American flights, AAdvantage members were rewarded with a free flight. The idea was to make passengers less likely to shop around for the cheapest ticket. Ironically, AAdvantage turned out to be not much of an advantage at all. Many of American’s rivals quickly developed their own frequent-flyer programs, and today most airlines reward frequent passengers. In recent years, ideas such as charging passengers to check their luggage and eliminating free food on flights have been copied by one airline after another.
Transaction cost economics is a theory that centers on just one element of business activity: whether it is cheaper for a firm to make or to buy the products that it needs. This is an important element, however, because choosing the more efficient option can enhance a firm’s profits. Automakers such as Ford and General Motors face a wide variety of make-or-buy decisions because so many different parts are needed to build cars and trucks. Sometimes Ford and GM make these products, and other times they purchase them from outside suppliers. These firms’ financial situations are improved when these decisions are made wisely and harmed when they are made poorly.
In contrast, airlines always buy (or rent) their airplanes. Large planes are generally bought from Boeing or Airbus, while modest-sized airliners are purchased from companies such as Brazil’s Embraer. It would be simply too costly for an airline to pursue a backward integration strategy and enter the airplane manufacturing business. Insights such as these are powerful enough that the creator of transaction cost economics, Professor Oliver Williamson, was awarded a Nobel Prize in Economic Sciences in 2009.
Each of these theories—enactment, environmental determinism, institutional theory, and transaction cost economics—is useful for understanding some situations and some important business decisions. Thus executives should keep these perspectives in mind as they attempt to lead their firms to greater levels of success. However, one important advantage that resource-based theory offers over the alternatives is that only resource-based theory does a good job of explaining firm performance across a wide variety of contexts. Thus resource-based theory offers the point of view of business that has the strongest value for most executives.
Key Takeaway
• Although resource-based theory is the dominant perspective to predict performance in the strategic management field, other theories exist to explain firm behavior. In some industries, explanations provided by these theories can be very convincing.
Exercises
1. What theory of the firm do you think best explains competition in the fast-food industry?
2. What is an example of an industry in which institutional theory seems to explain the behavior of firms? | textbooks/biz/Management/Mastering_Strategic_Management/04%3A_Managing_Firm_Resources/4.05%3A_Beyond_Resource-Based_Theory-_Other_Views_on_Firm_Performance.txt |
Learning Objectives
1. Understand what SWOT analysis is.
2. Learn how SWOT analysis can help organizations and individuals, and its limitations.
Table 4.12 SWOT
Chess master Bruce Pandolfini has noted the similarities between business and chess. In both arenas, you must understand your own abilities as well as your flaws. You must also know your opponents, try to anticipate their moves, and deal with considerable uncertainty. A very popular management tool that incorporates the idea of understanding the elements internal and external to the firm is SWOT (strengths, weaknesses, opportunities, and threats) analysis. Strengths and weaknesses are assessed by examining the firm, while opportunities and threats refer to external events and trends. These ideas can be applied to individuals too. Below we offer examples of each element of SWOT analysis for organizations and for individuals who are seeking employment.
SWOT point Organizational Examples Individual Examples
Strenths Having high-levels of cash flow gives firms discretion to purchase new equipment if they wish to. Strong technical and language skills, as well as previous work experience, can help individuals rise above the competition.
Weaknesses Dubious leadership and CEO scandals have plagued some corporations in recent years. Poor communication skills keep many job seekers from being hired into sales and supervisory positions.
Opportunities The high cost of gasoline creates opportunities for substitute products based on alternative energy sources. The U.S. economy is increasingly services based, suggesting that individuals can enjoy more opportunities in service firms.
Threats
Concerns about worldwide pollution are a threat to petroleum-based products.
A tight job market poses challenges to new graduates.
Five forces analysis examines the situation faced by the competitors in an industry. Strategic groups analysis narrows the focus by centering on subsets of these competitors whose strategies are similar. SWOT analysis takes an even narrower focus by centering on an individual firm. Specifically, SWOT analysis is a tool that considers a firm’s strengths and weaknesses along with the opportunities and threats that exist in the firm’s environment (Table 4.12).
Executives using SWOT analysis compare these internal and external factors to generate ideas about how their firm might become more successful. In general, it is wise to focus on ideas that allow a firm to leverage its strengths, steer clear of or resolve its weaknesses, capitalize on opportunities, and protect itself against threats. For example, untapped overseas markets have presented potentially lucrative opportunities to Subway and other restaurant chains such as McDonald’s and Kentucky Fried Chicken. Meanwhile, Subway’s strengths include a well-established brand name and a simple business format that can easily be adapted to other cultures. In considering the opportunities offered by overseas markets and Subway’s strengths, it is not surprising that entering and expanding in different countries has been a key element of Subway’s strategy in recent years. Indeed, Subway currently has operations in nearly 100 nations.
China’s huge population and growing wealth makes it an attractive opportunity for Subway and other American restaurant chains.
SWOT analysis is helpful to executives, and it is used within most organizations. Important cautions need to be offered about SWOT analysis, however. First, in laying out each of the four elements of SWOT, internal and external factors should not be confused with each other. It is important not to list strengths as opportunities, for example, if executives are to succeed at matching internal and external concerns during the idea generation process. Second, opportunities should not be confused with strategic moves designed to capitalize on these opportunities. In the case of Subway, it would be a mistake to list “entering new countries” as an opportunity. Instead, untapped markets are the opportunity presented to Subway, and entering those markets is a way for Subway to exploit the opportunity. Finally, and perhaps most important, the results of SWOT analysis should not be overemphasized. SWOT analysis is a relatively simple tool for understanding a firm’s situation. As a result, SWOT is best viewed as a brainstorming technique for generating creative ideas, not as a rigorous method for selecting strategies. Thus the ideas produced by SWOT analysis offer a starting point for executives’ efforts to craft strategies for their organization, not an ending point.
In addition to organizations, individuals can benefit from applying SWOT analysis to their personal situation. A college student who is approaching graduation, for example, could lay out her main strengths and weaknesses and the opportunities and threats presented by the environment. Suppose, for instance, that this person enjoys and is good at helping others (a strength) but also has a rather short attention span (a weakness). Meanwhile, opportunities to work at a rehabilitation center or to pursue an advanced degree are available. Our hypothetical student might be wise to pursue a job at the rehabilitation center (where her strength at helping others would be a powerful asset) rather than entering graduate school (where a lot of reading is required and her short attention span could undermine her studies).
Key Takeaway
• Executives using SWOT analysis compare internal strengths and weaknesses with external opportunities and threats to generate ideas about how their firm might become more successful. Ideas that allow a firm to leverage its strengths, steer clear of or resolve its weaknesses, capitalize on opportunities, and protect itself against threats are particularly helpful.
Exercises
1. What do each of the letters in SWOT represent?
2. What are your key strengths, and how might you build your own personal strategies for success around them?
4.07: Conclusion
This chapter explains key issues that executives face in managing resources to keep their firms competitive. Resource-based theory argues that firms will perform better when they assemble resources that are valuable, rare, difficult to imitate, and nonsubstitutable. When executives can successfully bundle organizational resources into unique capabilities, the firm is more likely to enjoy lasting success. Different forms of intellectual property—which include patents, trademarks, copyrights, and trade secrets—may also serve as strategic resources for firms. Examining a firm’s resources can be aided by the value chain, a tool that systematically examines primary and secondary activities in the creation of a good or service and by a knowledge of supply chain management that examines the value added of multiple firms working together. While resource-based theory provides a dominant view for examining the determinants of firm success, other perspectives provide insight for understanding specific behaviors of firms within an industry. Finally, SWOT analysis is a simple but powerful technique for examining the interactions between factors internal and external to the firm.
Exercises
1. Divide your class into four or eight groups, depending on the size of the class. Each group should search for a patent tied to a successful product, as well as a patent associated with a product that was not a commercial hit. Were there resources tied to the successful organization that the poor performer did not seem to attain?
2. This chapter discussed Southwest Airlines. Based on your reading of the chapter, how well has Southwest done in bundling together the resources recommended by resource-based theory? What theoretical perspective best explains the competitive actions of most firms in the airline industry?
3. Conduct a SWOT analysis of your college or university. Based on your analysis, what one strategic move should your school make first, and why? | textbooks/biz/Management/Mastering_Strategic_Management/04%3A_Managing_Firm_Resources/4.06%3A_SWOT_Analysis.txt |
Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. Why is an examination of generic strategies valuable?
2. What are the four main generic strategies?
3. What is a best-cost strategy?
4. What does it mean to be “stuck in the middle”?
The Competition Takes Aim at Target
Mike Mozart – Target – CC BY 2.0.
On January 13, 2011, Target Corporation announced its intentions to operate stores outside the United States for the first time. The plan called for Target to enter Canada by purchasing existing leases from a Canadian retailer and then opening 100 to 150 stores in 2013 and 2014.(Target, 2011) The chain already included more than 1,700 stores in forty-nine states. Given the close physical and cultural ties between the United States and Canada, entering the Canadian market seemed to be a logical move for Target.
In addition to making its initial move beyond the United States, Target had several other sources of pride in early 2011. The company claimed that 96 percent of American consumers recognized its signature logo, surpassing the percentages enjoyed by famous brands such as Apple and Nike. In March, Fortune magazine ranked Target twenty-second on its list of the “World’s Most Admired Companies.” In May, Target reported that its sales and earnings for the first quarter of 2011 (sales: \$15.6 billion; earnings: \$689 million) were stronger than they had been in the first quarter of 2010 (sales: \$15.2 billion; earnings: \$671 million). Yet there were serious causes for concern, too. News stories in the second half of 2010 about Target’s donations to political candidates had created controversy and unwanted publicity. And despite increasing sales and profits, Target’s stock price fell about 20 percent during the first quarter of 2011.
Concern also surrounded Target’s possible vulnerability to competition within the retail industry. Since its creation in the early 1960s, Target executives had carved out a lucrative position for the firm. Target offers relatively low prices on brand-name consumer staples such as cleaning supplies and paper products, but it also offers chic clothing and household goods. This unique combination helps Target to appeal to fairly affluent customers. Although Target counts many college students and senior citizens among its devotees, the typical Target shopper is forty-one years old and has a household income of about \$63,000 per year. Approximately 45 percent of Target customers have children at home, and about 48 percent have a college degree.1 Perhaps the most tangible reflection of Target’s upscale position among large retailers is the tendency of some customers to jokingly pronounce its name as if it were a French boutique: “Tar-zhay.”
Target’s lucrative position was far from guaranteed, however. Indeed, a variety of competitors seemed to be taking aim at Target. Retail chains such as Kohl’s and Old Navy offered fashionable clothing at prices similar to Target’s. Discounters like T.J. Maxx, Marshalls, and Ross offered designer clothing and chic household goods for prices that often were lower than Target’s. Closeout stores such as Big Lots offered a limited selection of electronics, apparel, and household goods but at deeply discounted prices. All these stores threatened to steal business from Target.
Walmart was perhaps Target’s most worrisome competitor. After some struggles in the 2000s, the mammoth retailer’s performance was strong enough that it ranked well above Target on Fortune’s list of the “World’s Most Admired Companies” (eleventh vs. twenty-second). Walmart also was much bigger than Target. The resulting economies of scale meant that Walmart could undercut Target’s prices anytime it desired. Just such a scenario had unfolded before. A few years ago, Walmart’s victory in a price war over Kmart led the latter into bankruptcy.
One important difference between Kmart and Target is that Target is viewed by consumers as offering relatively high-quality goods. But this difference might not protect Target. Although Walmart’s products tended to lack the chic appeal of Target’s, Walmart had begun offering better products during the recession of the late 2000s in an effort to expand its customer base. If Walmart executives chose to match Target’s quality while charging lower prices, Target could find itself without a unique appeal for customers. As 2011 continued, a big question loomed: could Target maintain its unique appeal to customers or would the competitive arrows launched by Walmart and others force Target’s executives to quiver?
1Target fact card. 2007, January 2007. Retrieved from sites.target.com/images/corpo...ard_101107.pdf | textbooks/biz/Management/Mastering_Strategic_Management/05%3A_Selecting_Business-Level_Strategies/5.01%3A_Selecting_Business-Level_Strategies.txt |
Learning Objectives
1. Understand the four primary generic strategies.
2. Know the two dimensions that are critical to defining business-level strategy.
3. Know the limitations of generic strategies.
• Why Examine Generic Strategies?
Business-level strategy addresses the question of how a firm will compete in a particular industry (Table 5.1). This seems to be a simple question on the surface, but it is actually quite complex. The reason is that there are a great many possible answers to the question. Consider, for example, the restaurants in your town or city. Chances are that you live fairly close to some combination of McDonald’s, Subway, Chili’s, Applebee’s, Panera Bread Company, dozens of other national brands, and a variety of locally based eateries that have just one location. Each of these restaurants competes using a business model that is at least somewhat unique. When an executive in the restaurant industry analyzes her company and her rivals, she needs to avoid getting distracted by all the nuances of different firm’s business-level strategies and losing sight of the big picture.
The solution is to think about business-level strategy in terms of generic strategies. A generic strategy is a general way of positioning a firm within an industry. Focusing on generic strategies allows executives to concentrate on the core elements of firms’ business-level strategies. The most popular set of generic strategies is based on the work of Professor Michael Porter of the Harvard Business School and subsequent researchers that have built on Porter’s initial ideas (Porter, 1980; Zeng, 2009).
Table 5.1 Business-Level Strategies
Firms compete on two general dimensions — the source of competitive advantage (cost or uniqueness) and the scope of operations (broad or narrow). Four possible generic business-level strategies emerge from these decisions. An example of each generic business-level strategy from the retail industry is illustrated below.
Competitive Advantage: Cost Competitive Advantage: Uniqueness
Scope of Operations: Broad Target Walmart’s cost leadership strategy depends on attracting a large customer base and keeping prices low by buying massive quantities of goods from suppliers. Nordstrom builds its differentiation strategy around offering designer merchandise and providing exceptional service.
Scope of Operations: Narrow Target In using a focused cost leadership, Dollar General does not offer a full array of consumer goods, but those that it does offer are priced to move. Anthropologie follows a focused differentiation strategy by selling unique (and pricey) women’s apparel, accessories, and home furnishings.
According to Porter, two competitive dimensions are the keys to business-level strategy. The first dimension is a firm’s source of competitive advantage. This dimension involves whether a firm tries to gain an edge on rivals by keeping costs down or by offering something unique in the market. The second dimension is firms’ scope of operations. This dimension involves whether a firm tries to target customers in general or whether it seeks to attract just a segment of customers. Four generic business-level strategies emerge from these decisions: (1) cost leadership, (2) differentiation, (3) focused cost leadership, and (4) focused differentiation. In rare cases, firms are able to offer both low prices and unique features that customers find desirable. These firms are following a best-cost strategy. Firms that are not able to offer low prices or appealing unique features are referred to as “stuck in the middle.”
Understanding the differences that underlie generic strategies is important because different generic strategies offer different value propositions to customers. A firm focusing on cost leadership will have a different value chain configuration than a firm whose strategy focuses on differentiation. For example, marketing and sales for a differentiation strategy often requires extensive effort while some firms that follow cost leadership such as Waffle House are successful with limited marketing efforts. This chapter presents each generic strategy and the “recipe” generally associated with success when using that strategy. When firms follow these recipes, the result can be a strategy that leads to superior performance. But when firms fail to follow logical actions associated with each strategy, the result may be a value proposition configuration that is expensive to implement and that does not satisfy enough customers to be viable.
Analyzing generic strategies enhances the understanding of how firms compete at the business level.
• Limitations of Generic Strategies
Examining business-level strategy in terms of generic strategies has limitations. Firms that follow a particular generic strategy tend to share certain features. For example, one way that cost leaders generally keep costs low is by not spending much on advertising. Not every cost leader, however, follows this path. While cost leaders such as Waffle House spend very little on advertising, Walmart spends considerable money on print and television advertising despite following a cost leadership strategy. Thus a firm may not match every characteristic that its generic strategy entails. Indeed, depending on the nature of a firm’s industry, tweaking the recipe of a generic strategy may be essential to cooking up success.
Key Takeaway
• Business-level strategies examine how firms compete in a given industry. Firms derive such strategies by executives making decisions about whether their source of competitive advantage is based on price or differentiation and whether their scope of operations targets a broad or narrow market.
Exercises
1. What are examples of each generic business-level strategy in the apparel industry?
2. What are the limitations of examining firms in terms of generic strategies?
3. Create a new framework to examine generic strategies using different dimensions than the two offered by Porter’s framework. What does your approach offer that Porter’s does not? | textbooks/biz/Management/Mastering_Strategic_Management/05%3A_Selecting_Business-Level_Strategies/5.02%3A_Understanding_Business-Level_Strategy_through_Generic_Strategies.txt |
Learning Objectives
1. Describe the nature of cost leadership.
2. Understand how economies of scale help contribute to a cost leadership strategy.
3. Know the advantages and disadvantages of a cost leadership strategy.
Table 5.2 Cost Leadership
Firms that compete based on price and target a broad target market are following a cost leadership strategy. Several examples of firms pursuing a cost leadership strategy are illustrated below.
Despite its name, Dunkin’ Donuts makes more money selling inexpensive coffee than it does from selling donuts. The coffee is often advertised as costing under a dollar, making Dunkin’ Donuts a low-priced alternative to Starbucks. Payless ShoeSource is a discount retailer tha sells inexpensive shoes for men, women, and children. Their advertising slogans such as “Why pay more when you can Payless?” and “You could pay more, buy why?” consistently preach a low-price message.
Supercuts’ website makes clear their longstanding cost leadership strategy by noting, “A Supercut is a haircut that has kept people looking their best, while keeping money in their pockets, since 1975.”
Little Debbie snack cakes began when O.D. McKee started selling treats for five cents each in the early 1930s. Little Debbie cakes cost a lot more than five cents today, but they remain cheaper than similar offerings from Entenmann’s, Tastykake, and other snack cake rivals.
• The Nature of the Cost Leadership Strategy
It is tempting to think of cost leaders as companies that sell inferior, poor-quality goods and services for rock-bottom prices. The Yugo, for example, was an extremely unreliable car that was made in Eastern Europe and sold in the United States for about \$4,000. Despite its attractive price tag, the Yugo was a dismal failure because drivers simply could not depend on the car for transportation. Yugo exited the United States in the early 1990s and closed down entirely in 2008.
In contrast to firms such as Yugo whose failure is inevitable, cost leaders can be very successful. A firm following a cost leadership strategy offers products or services with acceptable quality and features to a broad set of customers at a low price (Table 5.2). Payless ShoeSource, for example, sells name-brand shoes at inexpensive prices. Its low-price strategy is communicated to customers through advertising slogans such as “Why pay more when you can Payless?” and “You could pay more, but why?” Little Debbie snack cakes offer another example. The brand was started in the 1930s when O. D. McKee began selling sugary treats for five cents. Most consumers today would view the quality of Little Debbie cakes as a step below similar offerings from Entenmann’s, but enough people believe that they offer acceptable quality that the brand is still around eight decades after its creation.
Listeners of the popular radio show Car Talk voted the Yugo as the “worst car of the millennium.”
Perhaps the most famous cost leader is Walmart, which has used a cost leadership strategy to become the largest company in the world. The firm’s advertising slogans such as “Always Low Prices” and “Save Money. Live Better” communicate Walmart’s emphasis on price slashing to potential customers. Meanwhile, Walmart has the broadest customer base of any firm in the United States. Approximately one hundred million Americans visit a Walmart in a typical week (Zimmerman & Hudson, 2006). Incredibly, this means that roughly one-third of Americans are frequent Walmart customers. This huge customer base includes people from all demographic and social groups within society. Although most are simply typical Americans, the popular website http://www.peopleofwalmart.com features photos of some of the more outrageous characters that have been spotted in Walmart stores.
Cost leaders tend to share some important characteristics. The ability to charge low prices and still make a profit is challenging. Cost leaders manage to do so by emphasizing efficiency. At Waffle House restaurants, for example, customers are served cheap eats quickly to keep booths available for later customers. As part of the effort to be efficient, most cost leaders spend little on advertising, market research, or research and development. Waffle House, for example, limits its advertising to billboards along highways. Meanwhile, the simplicity of Waffle House’s menu requires little research and development.
Many cost leaders rely on economies of scale to achieve efficiency. Economies of scale are created when the costs of offering goods and services decreases as a firm is able to sell more items. This occurs because expenses are distributed across a greater number of items. Walmart spent approximately \$2 billion on advertising in 2008. This is a huge number, but Walmart is so large that its advertising expenses equal just a tiny fraction of its sales. Also, cost leaders are often large companies, which allows them to demand price concessions from their suppliers. Walmart is notorious for squeezing suppliers such as Procter & Gamble to sell goods to Walmart for lower and lower prices over time. The firm passes some of these savings to customers in the form of reduced prices in its stores.
• Advantages and Disadvantages of Cost Leadership
Each generic strategy offers advantages that firms can potentially leverage to enhance their success as well as disadvantages that may undermine their success. In the case of cost leadership, one advantage is that cost leaders’ emphasis on efficiency makes them well positioned to withstand price competition from rivals (Table 5.3). Kmart’s ill-fated attempt to engage Walmart in a price war ended in disaster, in part because Walmart was so efficient in its operations that it could live with smaller profit margins far more easily than Kmart could.
Table 5.3 Executing a Low-Cost Strategy
Using a cost leadership strategy offers firms important advantages and disadvantages. Below we illustrate a few examples in relation to entertainment and leisure.
Advantages High profits can be enjoyed if a cost leader has a high market share. An example is Kampgrounds of America, a chain of nearly 500 low cost camping franchises in the United States.
Low-cost firms such as many municipal golf courses can withstand price wars because high-priced competitors will not want to compete directly with a more efficient rival.
Disadvantages If perceptions of quality become too low, business will suffer.
Large volumes of sales are a must because margins are slim.
The need to keep expenses low might lead cost leaders to be late in detecting key environment trends.
Low-cost firms’ emphasis on efficiency makes it difficult for them to change quickly if needed.
Beyond existing competitors, a cost leadership strategy also creates benefits relative to potential new entrants. Specifically, the presence of a cost leader in an industry tends to discourage new firms from entering the business because a new firm would struggle to attract customers by undercutting the cost leaders’ prices. Thus a cost leadership strategy helps create barriers to entry that protect the firm—and its existing rivals—from new competition.
Challenging a cost leader in a price war may end up destroying a company.
In many settings, cost leaders attract a large market share because a large portion of potential customers find paying low prices for goods and services of acceptable quality to be very appealing. This is certainly true for Walmart, for example. The need for efficiency means that cost leaders’ profit margins are often slimmer than the margins enjoyed by other firms. However, cost leaders’ ability to make a little bit of profit from each of a large number of customers means that the total profits of cost leaders can be substantial.
In some settings, the need for high sales volume is a critical disadvantage of a cost leadership strategy. Highly fragmented markets and markets that involve a lot of brand loyalty may not offer much of an opportunity to attract a large segment of customers. In both the soft drink and cigarette industries, for example, customers appear to be willing to pay a little extra to enjoy the brand of their choice. Lower-end brands of soda and cigarettes appeal to a minority of consumers, but famous brands such as Coca-Cola, Pepsi, Marlboro, and Camel still dominate these markets. A related concern is that achieving a high sales volume usually requires significant upfront investments in production and/or distribution capacity. Not every firm is willing and able to make such investments.
Cost leaders tend to keep their costs low by minimizing advertising, market research, and research and development, but this approach can prove to be expensive in the long run. A relative lack of market research can lead cost leaders to be less skilled than other firms at detecting important environmental changes. Meanwhile, downplaying research and development can slow cost leaders’ ability to respond to changes once they are detected. Lagging rivals in terms of detecting and reacting to external shifts can prove to be a deadly combination that leaves cost leaders out of touch with the market and out of answers.
Key Takeaway
• Cost leadership is an effective business-level strategy to the extent that a firm offers low prices, provides satisfactory quality, and attracts enough customers to be profitable.
Exercises
1. What are three industries in which a cost leadership strategy would be difficult to implement?
2. What is your favorite cost leadership restaurant?
3. Name three examples of firms conducting a cost leadership strategy that use no advertising. Should they start advertising? Why or why not? | textbooks/biz/Management/Mastering_Strategic_Management/05%3A_Selecting_Business-Level_Strategies/5.03%3A_Cost_Leadership.txt |
Table 5.4 Differentiation
Firms that compete on uniqueness and target a broad market are following a differentiation strategy. Several examples of firms pursuing a differentiation strategy are illustrate below.
Although salt is a commodity, Morton has differentiated its salt by building a brand around its iconic umbrella girl and its trademark slogan of “When it rains, it pours.”
FedEx’s former slogan “When it absolutely, positively has to be there overnight” highlights the commitment to very speedy delivery that differentiates them from competitors such as UPS and the U.S. Postal Service.
Offering such as Hot Wheels cars and the Barbie line of dolls highlight toy maker Mattel’s differentiation strategy. Both are updated regularly to reflect current trends and tastes.
Nike differentiates its athletic shoes through its iconic “swoosh” as well as an intense emphasis on product innovation through research and development.
The Walt Disney Company has developed numerous well-known characters such as Mickey Mouse, the Little Mermaid, and Captain Jack Sparrow that help differentiate their movies, theme parks, and merchandise.
Learning Objectives
1. Describe the nature of differentiation.
2. Know the advantages and disadvantages of a differentiation strategy.
• The Nature of the Differentiation Strategy
A famous cliché contends that “you get what you pay for.” This saying captures the essence of a differentiation strategy. A firm following a differentiation strategy attempts to convince customers to pay a premium price for its good or services by providing unique and desirable features (Table 5.4). The message that such a firm conveys to customers is that you will pay a little bit more for our offerings, but you will receive a good value overall because our offerings provide something special.
In terms of the two competitive dimensions described by Michael Porter, using a differentiation strategy means that a firm is competing based on uniqueness rather than price and is seeking to attract a broad market (Porter, 1980). Coleman camping equipment offers a good example. If camping equipment such as sleeping bags, lanterns, and stoves fail during a camping trip, the result will be, well, unhappy campers. Coleman’s sleeping bags, lanterns, and stoves are renowned for their reliability and durability. Cheaper brands are much more likely to have problems. Lovers of the outdoors must pay more to purchase Coleman’s goods than they would to obtain lesser brands, but having equipment that you can count on to keep you warm and dry is worth a price premium in the minds of most campers.
Coleman’s patented stove was originally developed for use by soldiers during World War II. Seven decades later, the Coleman Stove remains a must-have item for campers.
Successful use of a differentiation strategy depends on not only offering unique features but also communicating the value of these features to potential customers. As a result, advertising in general and brand building in particular are important to this strategy. Few goods are more basic and generic than table salt. This would seemingly make creating a differentiated brand in the salt business next to impossible. Through clever marketing, however, Morton Salt has done so. Morton has differentiated its salt by building a brand around its iconic umbrella girl and its trademark slogan of “When it rains, it pours.” Would the typical consumer be able to tell the difference between Morton Salt and cheaper generic salt in a blind taste test? Not a chance. Yet Morton succeeds in convincing customers to pay a little extra for its salt through its brand-building efforts.
FedEx and Nike are two other companies that have done well at communicating to customers that they provide differentiated offerings. FedEx’s former slogan “When it absolutely, positively has to be there overnight” highlights the commitment to speedy delivery that sets the firm apart from competitors such as UPS and the US Postal Service. Nike differentiates its athletic shoes and apparel through its iconic “swoosh” logo as well as an intense emphasis on product innovation through research and development.
Developing a Differentiation Strategy at Express Oil Change
Express Oil Change and Service Centers is a chain of auto repair shops that stretches from Florida to Texas. Based in Birmingham, Alabama, the firm has more than 170 company-owned and franchised locations under its brand. Express Oil Change tries to provide a unique level of service, and the firm is content to let rivals offer cheaper prices. We asked an Express Oil Change executive about his firm (Ketchen & Short, 2010).
Question:
The auto repair and maintenance business is a pretty competitive space. How is Express Oil Change being positioned relative to other firms, such as Super Lube, American LubeFast, and Jiffy Lube?
Don Larose, Senior Vice President of Franchise Development:
Every good business sector is competitive. The key to our success is to be more convenient and provide a better overall experience for the customer. Express Oil Change and Service Centers outperform the industry significantly in terms of customer transactions per day and store sales, for a host of reasons.
In terms of customer convenience, Express Oil Change is faster than most of our competitors—we do a ten-minute oil change while the customer stays in the car. Mothers with kids in car seats especially enjoy this feature. We also do mechanical work that other quick lube businesses don’t do. We change and rotate tires, do brake repairs, air conditioning, tune ups, and others. There is no appointment necessary for many mechanical services like tire rotation and balancing, and checking brakes. So, overall, we are more convenient than most of our competitors.
In terms of staffing our stores, full-time workers are all that we employ. Full-time workers are better trained and typically have less turnover. They therefore have more experience and do better quality work.
We think incentives are very important. We use a payroll system that provides incentives to the store staff on how many cars are serviced each day and on the total sales of the store, rather than on increasing the average transactions by selling the customer items they did not come in for, which is what most of the industry does. We don’t sell customers things they don’t yet need, like air filters and radiator flushes. We focus on building trust, by acting with integrity, to get the customer to come back and build the daily car count. This philosophy is not a slogan for us. It is how we operate with every customer, in every store, every day.
The placement of our outlets is another key factor. We place our stores in A-caliber retail locations. These are lots that may cost more than our competitors are willing or able to pay. We get what we pay for though; we have approximately 41% higher sales per store than the industry average.
Question:
What is the strangest interaction you’ve ever had with a potential franchisee?
Larose:
I once had a franchisee candidate in New Jersey respond to a request by us for proof of his liquid assets by bringing to the interview about \$100,000 in cash to the meeting. He had it in a bag, with bundles of it wrapped in blue tape. Usually, folks just bring in a copy of a bank or stock statement. Not sure why he had so much cash on hand, literally, and I didn’t want to know. He didn’t become a franchisee.
Express Oil Change sets itself apart through superior service and great locations.
Table 5.5 Executing a Differentiation Strategy
A differentiation strategy offers important advantages and disadvantages for firms that adopt it. Below we illustrate a few examples in relation to an often differentiated product–women’s handbags.
Advantages Buyer loyalty is common among handbag buyers. Many individuals enjoy seeing–and being seen with–a designer logo on the products they buy such as the iconic C that is shown on Coach bags. Chanel enjoys strong margins because their well-known name allows them to charge a premium for their handbags.
Disadvantages
Less-expensive bags from retailers such as Target provide enough of a trendy look to satisfy many price-sensitive buyers. These individuals will choose to save their money by avoiding expensive bags from top-end designers.
Imitations may steal customers, such as is common with knock-off handbags sold by street vendors.
• Advantages and Disadvantages of Differentiation
Each generic strategy offers advantages that firms can potentially leverage to enjoy strong performance, as well as disadvantages that may damage their performance. In the case of differentiation, a key advantage is that effective differentiation creates an ability to obtain premium prices from customers (Table 5.5). This enables a firm to enjoy strong profit margins. Coca-Cola, for example, currently enjoys a profit margin of approximately 33 percent, meaning that about thirty-three cents of every dollar it collects from customers is profit. In comparison, Walmart’s cost leadership strategy delivered a margin of under 4 percent in 2010.
In turn, strong margins mean that the firm does not need to attract huge numbers of customers to have a good overall level of profit. Luckily for Coca-Cola, the firm does attract a great many buyers. Overall, the firm made a profit of just under \$12 billion on sales of just over \$35 billion in 2010. Interestingly, Walmart’s profits were only 25 percent higher (\$15 billion) than Coca-Cola’s while its sales volume (\$421 billion) was twelve times as large as Coca-Cola’s.1 This comparison of profit margins and overall profit levels illustrates why a differentiation strategy is so attractive to many firms.
To the extent that differentiation remains in place over time, buyer loyalty may be created. Loyal customers are very desirable because they are not price sensitive. In other words, buyer loyalty makes a customer unlikely to switch to another firm’s products if that firm tries to steal the customer away through lower prices. Many soda drinkers are fiercely loyal to Coca-Cola’s products. Coca-Cola’s headquarters are in Atlanta, and loyalty to the firm is especially strong in Georgia and surrounding states. Pepsi and other brands have a hard time convincing loyal Coca-Cola fans to buy their beverages, even when offering deep discounts. This helps keep Coca-Cola’s profits high because the firm does not have to match any promotions that its rivals launch to keep its customers.
Meanwhile, Pepsi also has attracted a large set of brand-loyal customers that Coca-Cola struggles to steal. This enhances Pepsi’s profits. In contrast, store-brand sodas such as Sam’s Choice (which is sold at Walmart) seldom attract loyalty. As a result, they must be offered at very low prices to move from store shelves into shopping carts.
Beyond existing competitors, a differentiation strategy also creates benefits relative to potential new entrants. Specifically, the brand loyalty that customers feel to a differentiated product makes it difficult for a new entrant to lure these customers to adopt its product. A new soda brand, for example, would struggle to take customers away from Coca-Cola or Pepsi. Thus a differentiation strategy helps create barriers to entry that protect the firm and its industry from new competition.
The big risk when using a differentiation strategy is that customers will not be willing to pay extra to obtain the unique features that a firm is trying to build its strategy around. In 2007, department store Dillard’s stopped carrying men’s sportswear made by Nautica because the seafaring theme of Nautica’s brand had lost much of its cache among many men (Kapner, 2007). Because Nautica’s uniqueness had eroded, Dillard’s believed that space in its stores that Nautica had been occupying could be better allocated to other brands.
In some cases, customers may simply prefer a cheaper alternative. For example, products that imitate the look and feel of offerings from Ray-Ban, Tommy Bahama, and Coach are attractive to many value-conscious consumers. Firms such as these must work hard at product development and marketing to ensure that enough customers are willing to pay a premium for their goods rather than settling for knockoffs.
In other cases, customers desire the unique features that a firm offers, but competitors are able to imitate the features well enough that they are no longer unique. If this happens, customers have no reason to pay a premium for the firm’s offerings. IBM experienced the pain of this scenario when executives tried to follow a differentiation strategy in the personal computer market. The strategy had worked for IBM in other areas. Specifically, IBM had enjoyed a great deal of success in the mainframe computer market by providing superior service and charging customers a premium for their mainframes. A business owner who relied on a mainframe to run her company could not afford to have her mainframe out of operation for long. Meanwhile, few businesses had the skills to fix their own mainframes. IBM’s message to customers was that they would pay more for IBM’s products but that this was a good investment because when a mainframe needed repairs, IBM would provide faster and better service than its competitors could. The customer would thus be open for business again very quickly after a mainframe failure.
This positioning failed when IBM used it in the personal computer market. Rivals such as Dell were able to offer service that was just as good as IBM’s while also charging lower prices for personal computers than IBM charged. From a customer’s perspective, a person would be foolish to pay more for an IBM personal computer since IBM did not offer anything unique. IBM steadily lost market share as a result. By 2005, IBM’s struggles led it to sell its personal computer business to Lenovo. The firm is still successful, however, within the mainframe market where its offerings remain differentiated.
Firms following a differentiation strategy must “watch” out for counterfeit goods such as the faux Rolexes shown here.
Key Takeaway
• Differentiation can be an effective business-level strategy to the extent that a firm offers unique features that convince customers to pay a premium for their goods and services.
Exercises
1. What are two industries in which a differentiation strategy would be difficult to implement?
2. What is an example of a differentiated business near your college or university?
3. Name three ways businesses that provide entertainment that might better differentiate their services. How might they do this?
1Profit statistics drawn from Standard & Poor’s stock reports on Coca-Cola and Walmart. | textbooks/biz/Management/Mastering_Strategic_Management/05%3A_Selecting_Business-Level_Strategies/5.04%3A_Differentiation.txt |
Learning Objectives
1. Describe the nature of focused cost leadership and focused differentiation.
2. Know the advantages and disadvantages of focus strategies.
Companies that use a cost leadership strategy and those that use a differentiation strategy share one important characteristic: both groups try to be attractive to customers in general. These efforts to appeal to broad markets can be contrasted with strategies that involve targeting a relatively narrow niche of potential customers. These latter strategies are known as focus strategies (Porter, 1980).
• The Nature of the Focus Cost Leadership Strategy
Focused cost leadership is the first of two focus strategies. A focused cost leadership strategy requires competing based on price to target a narrow market (Table 5.6). A firm that follows this strategy does not necessarily charge the lowest prices in the industry. Instead, it charges low prices relative to other firms that compete within the target market. Redbox, for example, uses vending machines placed outside grocery stores and other retail outlets to rent DVDs of movies for \$1. There are ways to view movies even cheaper, such as through the flat-fee streaming video subscriptions offered by Netflix. But among firms that rent actual DVDs, Redbox offers unparalleled levels of low price and high convenience.
Table 5.6 Focused Cost Leadership
Firms that compete based on price and target a narrow market are following a focused cost leadership strategy. Several examples of firms pursuing a focused cost leadership strategy are illustrated below.
Redbox rents DVDs and video games through vending machines for only \$1. Papa Murphy’s targets its inexpensive take-and-bake pizzas at value-conscious families. Because the pizzas are baked at home rather than in the store, Papa Murphy’s is permitted to accept food stamps. This allows the firm to attract customers that might not otherwise be able to afford a restaurant-quality pizza.
Claire’s three thousand+ locations target young women with inexpensive jewelry, accessories, and ear piercings. The strategy has worked: Claire’s has over three thousand locations and has stores in 95 percent of U.S. shopping malls.
Providing indoor seating creates expenses for fast-food restaurants. Checkers Drive In keeps its costs low by not offering indoor seating. Checkers targets drive-thru customers and offers them big burgers at rock-bottom prices.
Another important point is that the nature of the narrow target market varies across firms that use a focused cost leadership strategy. In some cases, the target market is defined by demographics. Claire’s, for example, seeks to appeal to young women by selling inexpensive jewelry, accessories, and ear piercings. Claire’s use of a focused cost leadership strategy has been very successful; the firm has more than three thousand locations and has stores in 95 percent of US shopping malls.
Redbox machines are available on university campuses nationwide.
In other cases, the target market is defined by the sales channel used to reach customers. Most pizza shops offer sit-down service, delivery, or both. In contrast, Papa Murphy’s sells pizzas that customers cook at home. Because these inexpensive pizzas are baked at home rather than in the store, the law allows Papa Murphy’s to accept food stamps as payment. This allows Papa Murphy’s to attract customers that might not otherwise be able to afford a prepared pizza. In contrast to most fast-food restaurants, Checkers Drive In is a drive-through-only operation. To serve customers quickly, each store has two drive-through lanes: one on either side of the building. Checkers saves money in a variety of ways by not offering indoor seating to its customers—Checkers’ buildings are cheaper to construct, its utility costs are lower, and fewer employees are needed. These savings allow the firm to offer large burgers at very low prices and still remain profitable.
• The Nature of the Focused Differentiation Strategy
Focused differentiation is the second of two focus strategies. A focused differentiation strategy requires offering unique features that fulfill the demands of a narrow market (Table 5.7). As with a focused low-cost strategy, narrow markets are defined in different ways in different settings. Some firms using a focused differentiation strategy concentrate their efforts on a particular sales channel, such as selling over the Internet only. Others target particular demographic groups. One example is Breezes Resorts, a company that caters to couples without children. The firm operates seven tropical resorts where vacationers are guaranteed that they will not be annoyed by loud and disruptive children.
While a differentiation strategy involves offering unique features that appeal to a variety of customers, the need to satisfy the desires of a narrow market means that the pursuit of uniqueness is often taken to the proverbial “next level” by firms using a focused differentiation strategy. Thus the unique features provided by firms following a focused differentiation strategy are often specialized.
Table 5.7 Focused Differentiation
Firms that compete based on uniqueness and target a narrow market are following a focused differentiations strategy. Several examples of firms pursuing a focused differentiation strategy are illustrated below.
Whole Foods Market focuses on selling natural and organic products. The supermarket’s reputation for high prices has led to a wry nickname — “Whole Paycheck” — but a sizable number of consumers are willing to pay a premium in order to feel better about the food they are buying. After all, you are what you eat! At Build-A-Bear Workshop, customers enjoy an interactive process of designing and assembling teddy bears. Build-A-Bear customers are willing to pay a premium price because they receive a unique, hands-on experience rather than simply buying a stuffed toy.
You can buy a cinnamon roll cheaper elsewhere, but Cinnabon’s pricey pastries are so delicious that sugar-obsessed snackers line up to buy them. Perhaps in a nod to Cinnabon’s strategy, the brand is owned by a parent company name Focus Brands.
The dedication of Mercedez-Benz to cutting-edge technology, styling, and safety innovations has made the firm’s vehicles prized by those who are rich enough to afford them.
When it comes to uniqueness, few offerings can top Kopi Luwak coffee beans. High-quality coffee beans often sell for \$10 to \$15 a pound. In contrast, Kopi Luwak coffee beans sell for hundreds of dollars per pound (Cat’s Ass Coffee). This price is driven by the rarity of the beans and their rather bizarre nature. As noted in a 2010 article in the New York Times, these beans
are found in the droppings of the civet, a nocturnal, furry, long-tailed catlike animal that prowls Southeast Asia’s coffee-growing lands for the tastiest, ripest coffee cherries. The civet eventually excretes the hard, indigestible innards of the fruit—essentially, incipient coffee beans—though only after they have been fermented in the animal’s stomach acids and enzymes to produce a brew described as smooth, chocolaty and devoid of any bitter aftertaste (Onishi, 2010).
Although many consumers consider Kopi Luwak to be disgusting, a relatively small group of coffee enthusiasts has embraced the coffee and made it a profitable product. This illustrates the essence of a focused differentiation strategy—effectively serving the specialized needs of a niche market can create great riches.
Larger niches are served by Whole Foods Market and Mercedes-Benz. Although most grocery stores devote a section of their shelves to natural and organic products, Whole Foods Market works to sell such products exclusively. For customers, the large selection of organic goods comes at a steep price. Indeed, the supermarket’s reputation for high prices has led to a wry nickname—“Whole Paycheck”—but a sizable number of consumers are willing to pay a premium to feel better about the food they buy.
The dedication of Mercedes-Benz to cutting-edge technology, styling, and safety innovations has made the firm’s vehicles prized by those who are rich enough to afford them. This appeal has existing for many decades. In 1970, acid-rocker Janis Joplin recorded a song called “Mercedes Benz” that highlighted the automaker’s allure. Since then Mercedes-Benz has used the song in several television commercials, including during the 2011 Super Bowl.
Janis Joplin’s musical tribute to Mercedes-Benz underscores the allure of the brand.
Developing a Focused Differentiation Strategy at Augustino LoPrinzi Guitars and Ukuleles
Augustino LoPrinzi Guitars and Ukuleles in Clearwater, Florida, builds high-end custom instruments. The founder of the company, Augustino LoPrinzi, has been a builder of custom guitars for five decades. While a reasonably good mass-produced guitar can be purchased elsewhere for a few hundred dollars, LoPrinzi’s handmade models start at \$1,100, and some sell for more than \$10,000. The firm’s customers have included professional musicians such as Dan Fogelberg, Leo Kottke, Herb Ohta (Ohta-San), Lyle Ritz, Andrés Segovia, and B. J. Thomas. Their instruments can be found at http://www.augustinoloprinzi.com. We asked Augustino about his firm (Short, 2007).
Question:
Were there other entrepreneurial opportunities you considered before you began making guitars?
Augustino Loprinzi:
I originally thought of pursuing a career in commercial art, but I found my true love was in classical guitar building. I was trained by my father to be a barber from a very young age, and after my term in the service, I opened a barbershop.
Question:
What is the most expensive guitar you’ve ever sold?
Loprinzi:
\$17,500.
Question:
How old were you when you started your first business in the guitar industry?
Loprinzi:
I was in my early twenties.
Question:
How did you get your break with more famous customers?
Loprinzi:
I think word of mouth had a lot do with it.
Question:
You have been active in Japan. Do the preferences of Japanese customers differ from those of Americans?
Loprinzi:
Yes. The Japanese want only high-end instruments. Aesthetics are very important to the Japanese along with high-quality materials and workmanship. The US market seems to care in general less about ornamentation and more about quality workmanship, tone, and playability.
Question:
How do you stay ahead in your industry?
Loprinzi:
Always try to stay abreast on what the music industry is doing. We do this by reading several music industry publications, talking with suppliers, and keeping an eye on the trends going on in other countries because usually they come full circle. Also, for the past several years by following the Internet forums and such has been extremely beneficial.
• Advantages and Disadvantages of the Focused Strategies
Each generic strategy offers advantages that firms can potentially leverage to enhance their success as well as disadvantages that may undermine their success. In the case of focus differentiation, one advantage is that very high prices can be charged. Indeed, these firms often price their wares far above what is charged by firms following a differentiation strategy (Table 5.8). REI (Recreational Equipment Inc.), for example, commands a hefty premium for its outdoor sporting goods and clothes that feature name brands, such as The North Face and Marmot. Nat Nast’s focus differentiation strategy centers on selling men’s silk camp shirts with a 1950s retro flair. These shirts retail for more than \$100. Focused cost leaders such as Checkers Drive In do not charge high prices like REI and Nat Nast do, but their low cost structures enable them to enjoy healthy profit margins.
A second advantage of using a focus strategy is that firms often develop tremendous expertise about the goods and services that they offer. In markets such as camping equipment where product knowledge is important, rivals and new entrants may find it difficult to compete with firms following a focus strategy.
Table 5.8 Executing a Focus Strategy
Using one of the focus strategies offers firms important advantages and disadvantages. Below we illustrate a few examples in relation to an industry where many different types of focus exist–sporting goods.
Advantages Disadvantages
High prices can be charged. Recreational Equipment Incorporated (REI), for example, commands a premium for their outdoor sporting goods and clothes that feature name brands such as The North Face and Marmot.
Firms using a focus strategy often develop great expertise about the good or service being sold. Thus, customers may gravitate toward a specialty camping shop in order to learn how to best take advantage of limited vacation time.
Limited demands exist for specialized goods and services, so every potential sale counts.
The area of focus may be taken over by others or even disappear over time. Many gun stores went out of business after large retailers such as Walmart started carrying an array of firearms.
Other firms may provide an even narrower focus. An outdoor sporting goods store, for example, might lose business to a store that focuses solely on ski apparel because the latter can provide more guidance about how skiers can stay warm and avoid broken bones.
In terms of disadvantages, the limited demand available within a niche can cause problems. First, a firm could find its growth ambitions stymied. Once its target market is being well served, expansion to other markets might be the only way to expand, and this often requires developing a new set of skills. Also, the niche could disappear or be taken over by larger competitors. Many gun stores have struggled and even gone out of business since Walmart and sporting goods stores such as Academy Sports and Bass Pro Shops have started carrying an impressive array of firearms.
In contrast to tacky Hawaiian souvenirs, the quality of Kamaka ukuleles makes them a favorite of ukulele phenom Jake Shimabukuro and others who are willing to pay \$1,000 or more for a high-end instrument.
Finally, damaging attacks may come not only from larger firms but also from smaller ones that adopt an even narrower focus. A sporting goods store that sells camping, hiking, kayaking, and skiing goods, for example, might lose business to a store that focuses solely on ski apparel because the latter can provide more guidance about how skiers can stay warm and avoid broken bones.
Strategy at the Movies
Zoolander
One man’s trash is another man’s fashion? That’s what fashion mogul Jacobim Mugatu was counting on in the 2001 comedy Zoolander. In his continued effort to be the most cutting-edge designer in the fashion industry, Mugatu developed a new line of clothing inspired “by the streetwalkers and hobos that surround us.” His new product line, Derelicte, characterized by dresses made of burlap and parking cones and pants made of garbage bags and tin cans, was developed for customers who valued the uniqueness of his…eclectic design. Emphasizing unique products is typical of a company following a differentiation strategy; however, Mugatu targeted a very specific set of customers. Few people would probably be enticed to wear garbage for the sake of fashion. By catering to a niche target market, Mugatu went from a simple differentiation strategy to a focused differentiation. Mugatu’s Derelicte campaign in Zoolander is one illustration of how a particular firm might develop a focused differentiation strategy.
Key Takeaway
• Focus strategies can be effective business-level strategies to the extent that a firm can match their goods and services to specific niche markets.
Exercises
1. What are three different demographics that firms might target to establish a focus strategy?
2. What is an example of a business that you think is focused in too narrow a fashion to be successful? How might it change to be more successful? | textbooks/biz/Management/Mastering_Strategic_Management/05%3A_Selecting_Business-Level_Strategies/5.05%3A_Focused_Cost_Leadership_and_Focused_Differentiation.txt |
Learning Objectives
1. Describe the nature of a best-cost strategy.
2. Understand why executing a best-cost strategy is difficult.
Table 5.9 Best-Cost Strategy
Firms that charge relatively low prices and offer substantial differentiation are following a best-cost strategy. This strategy is difficult to execute, but it is also potentially very rewarding. Several examples of firms pursuing a best-cost strategy are illustrated below.
Southwest Airlines provides low cost flights to vacations destinations such as San Antonio, San Diego, and Orland. While many airlines make passengers feel like cattle loaded on to a truck, Southwest creates fun by, for example, getting children excited about visiting Sea World when they see this custom Shamu plane design. Chipotle Mexican Grill relies on organic ingredients to create very tasty burritos that are sold at prices comparable to those of fast-food restaurants. When noon arrives, many hungry people prefer to spend their lunch dollars on a top-shelf burrito rather than a greasy burger combo meal.
Target offers extremely competitive prices, but the firm also differentiates itself from other discount retailers by carrying products from trendy designers such as Michael Graves, Isaac Mizrahi, Fiorruci, and Liza Lange.
Pabst Blue Ribbon is offered at an extremely low price and its taste (or lack thereof) is comparable that to other inexpensive beers. “PBR” enjoys brand loyalty, however, due to its high name recognition. The frequent appearance of PBR’s well-known logo on signs, T-shirts, and other merchandise has helped make PBR an enduring favorite among beer consumers with light wallets.
• The Challenge of Following a Best-Cost Strategy
Some executives are not content to have their firms compete based on offering low prices or unique features. They want it all! Firms that charge relatively low prices and offer substantial differentiation are following a best-cost strategy (Table 5.9). This strategy is difficult to execute in part because creating unique features and communicating to customers why these features are useful generally raises a firm’s costs of doing business. Product development and advertising can both be quite expensive. However, firms that manage to implement an effective best-cost strategy are often very successful.
Target appears to be following a best-cost strategy. The firm charges prices that are relatively low among retailers while at the same time attracting trend-conscious consumers by carrying products from famous designers, such as Michael Graves, Isaac Mizrahi, Fiorucci, Liz Lange, and others. This is a lucrative position for Target, but the position is under attack from all sides. Cost leader Walmart charges lower prices than Target. This makes Walmart a constant threat to steal the thriftiest of Target’s customers. Focus differentiators such as Anthropologie that specialize in trendy clothing and home furnishings can take business from Target in those areas. Deep discounters such as T.J. Maxx and Marshalls offer another viable alternative to shoppers because they offer designer clothes and furnishings at closeout prices. A firm such as Target that uses a best-cost strategy also opens itself up to a wider variety of potentially lethal rivals.
Developing a Best-Cost Strategy at Plain Ivey Jane
According to government statistics, women are 60 percent less likely than men to become entrepreneurs. Meanwhile, succeeding within the specialty fashion retailing market is notoriously difficult. These trends do not worry Sarah Reeves, a young entrepreneur and 2007 graduate of Auburn University who is rapidly becoming a key player within the Austin, Texas, retail scene by offering high-end fashion at low prices.
On her website (http://www.plainiveyjane.com), Sarah describes Plain Ivey Jane as “the go-to place for women who want to elevate their wardrobes. We offer high end designer names at a discount, and the new overstocked apparel is handpicked from over 70 different brands to offer exactly what Austin needs at a price every girl can afford. To pair with your fabulous new wardrobe, Plain Ivey Jane carries accessories from undiscovered local artisans.” We asked Reeves to discuss her firm (Ketchen & Short).
Question:
Can you tell us a little about your Plain Ivey Jane concept?
Sarah Reeves, Owner:
Plain Ivey Jane sells overstock from Anthropologie, Urban Outfitters, Bloomingdales, and other high-end and small designers. Although I buy from the same designers as the big and famous retailers, our dresses and accessories are sold at a fraction of their prices.
Question:
What differentiates your boutique from competitors?
Reeves:
I’m one of the lowest-priced retailers in the shopping district that people in Austin call the Second Street area. My niche in the fashion retailing business is that my merchandise is overstock from great brands. There’s maybe one other business in Austin that sells overstock. What makes my concept different is that it has the feel of a high-end retail store versus a basement feel of the typical discount retailer.
Question:
Do have a lot of regular customers?
Reeves:
Yes. Once people find out what I offer, they’re in here all the time. I see the same group of people every few months, but getting in new faces is the challenge. I think a lot of people walk by and assume that our clothes are expensive, but nothing could be further from the truth.
Question:
Were you fearful of starting your own business so young?
Reeves:
No, I figured this was a great time since I had nothing to lose. I thought getting it out of my system now was a good idea, and it was a good time since I was able to get a great deal on my lease. With the downturn in the economy, the time was right for my lower-priced strategy.
Question:
What would you say is the biggest key to success for small business?
Reeves:
Flexibility. Rolling with the punches and definitely the ability to follow up with people. I thought that people who owned their own business must know what they are doing, but many people don’t. At this point, I prefer to do everything myself. At least I can blame myself when things go wrong.
Another key is networking with other small-business owners. A lot of the other boutique owners nearby have become close friends. I learn what works for them and what might possibly apply to my concept.
The success that 2007 college graduate Sarah Reeves has enjoyed with Plain Ivey Jane may inspire other young women to become entrepreneurs.
Table 5.10 Driving toward a Best-Cost Strategy by Reducing Overhead
Many firms would like to use a best cost strategy but struggle to meet the strategy’s dual requirements of charging low prices and providing differentiation features. One way to help make best cost a reality is to use a business model that slashes fixed costs. Amazon.com, for example, can charge low prices in part because it does not have to absorb the overhead involved in operating stores. Similarly, some talented chefs are pursuing a best cost strategy by operating food trucks and thereby avoiding the overhead required to run a restaurant such as rent and utilities. SEveral examples are illustrated below.
For about the same price as a Subway or Jimmy John’s sandwich, Counter Culture in Austin, Texas, provides vegan offerings such as their Garbonzo “Tuna” sandwich. Owners Kahala and Kat founded Ninja Plate Lunch in Portland, Oregon, to offer large portions of delectable Hawaiian foods cub as pulled pork for only around \$5.
PBJ’s offer unique sandwiches with organic peanut butter at the heart of many of their creations. The traditional PB and J is a staple nationwide, but customers will travel far to get the “Hot Hood” with Challah bread, black cherry jam, jalapeño, apple wood-somked bacon, and PBJ’s peanut butter for only \$5.50.
In the smash hit graphic novel Tales of Garcón: The Franchise Players, the Tapas Taxi takes the concept of a cheap taxi ride to a new level by also offering passengers a variety of “tapas.” These Spanish snacks are top shelf, of course!
• Pursuing the Best-Cost Strategy through a Low-Overhead Business Model
One route toward a best-cost strategy is for a firm to adopt a business model whose fixed costs and overhead are very low relative to the costs that competitors are absorbing (Table 5.10). The Internet has helped make this possible for some firms. Amazon, for example, can charge low prices in part because it does not have to endure the expenses that firms such as Walmart and Target do in operating many hundreds of stores. Meanwhile, Amazon offers an unmatched variety of goods. This combination has made Amazon the unquestioned leader in e-commerce.
Another example is Netflix. This firm is able to offer customers a far greater variety of movies and charge lower prices than video rental stores by conducting all its business over the Internet and via mail. Netflix’s best-cost strategy has been so successful that \$10,000 invested in the firm’s stock in May 2006 was worth more than \$90,000 five years later.1
Hey Cupcake! in Austin, Texas, is a low-overhead bakery that has become a delicious success.
Moving toward a best-cost strategy by dramatically reducing expenses is also possible for firms that cannot rely on the Internet as a sales channel. Owning a restaurant requires significant overhead costs, such as rent and utilities. Some talented chefs are escaping these costs by taking their food to the streets. Food trucks that serve high-end specialty dishes at very economical prices are becoming a popular trend in cities around the country. In Portland, Oregon, a food truck called the Ninja Plate Lunch offers large portions of delectable Hawaiian foods such as pulled pork for around \$5. Another Portland food truck is PBJ’s, whose unique and inexpensive sandwiches often center on organic peanut butter. Beyond keeping costs low, the mobility of food trucks offers important advantages over a traditional restaurant. Some food trucks set up outside big-city nightclubs, for example, to sell partygoers a late-night snack before they head home.
Key Takeaway
• A best-cost strategy can be an effective business-level strategy to the extent that a firm offers differentiated goods and services at relatively low prices.
Exercises
1. What is an example of an industry that you think a best-cost strategy could be successful? How would you differentiate a company to achieve success in this industry?
2. What is an example of a firm following a best-cost strategy near your college or university?
1Statistics drawn from Standard & Poor’s stock report on Netflix. | textbooks/biz/Management/Mastering_Strategic_Management/05%3A_Selecting_Business-Level_Strategies/5.06%3A_Best-Cost_Strategy.txt |
Learning Objectives
1. Describe the problem of being stuck in the middle of different generic strategies.
2. Understand why trying to please everyone often creates problems when crafting a business-level strategy.
Table 5.11 Stuck in the Middle
A firm is said to be stuck in the middle if it does not offer features that are unique enough to convince customers to buy its offerings and its prices are too high to effectively compete on based on price. Firms that are stuck in the middle generally perform poorly because they lack a clear market or competitive pricing. Several examples of such firms are illustrated below.
Arby’s signature roast beef sandwiches are neither cheaper than other fast food nor are they standouts in taste. Perhaps not surprisingly, parent company Wendy’s has been trying to sell Arby’s. Electronics retailer Circuit City found itself squeezed by the superior service offer by rival Best Buy and the cheaper prices charged on electronics by Walmart and Target. The firm went bankrupt in 2009 after sixty years in business.
Sears and their famous catalog once dominated U.S. retailing, but the failure to cultivate customers among newer generations and prices that are higher than those of rivals have severely wounded the company.
Kmart’s “Blue Light Specials” that alert shoppers to a deeply discounted item reflect the firm’s long-running effort to be a cost leader. But emerging on the losing end of a price war with Walmart sent the firm into bankruptcy. Although Kmart escaped bankruptcy, it may be a matter of time until the lights go out permanently for Kmart.
• Stuck in the Middle: Neither Inexpensive nor Differentiated
Some firms fail to effectively pursue one of the generic strategies. A firm is said to be stuck in the middle if it does not offer features that are unique enough to convince customers to buy its offerings, and its prices are too high to compete effectively based on price (Table 5.11). Arby’s appears to be a good example. Arby’s signature roast beef sandwiches are neither cheaper than other fast-food sandwiches nor standouts in taste. Firms that are stuck in the middle generally perform poorly because they lack a clear market or competitive pricing. Perhaps not surprisingly, parent company Wendy’s has been trying to sell Arby’s despite having recently acquired the company in 2008. Stockholders apparently agreed with the plan to cut Arby’s loose—the price of Wendy’s stock rose 7 percent the day the plan was announced (McWilliams, 2011).
• Doing Everything Means Doing Nothing Well
Michael Porter has noted that strategy is as much about executives deciding what a firm is not going to do as it is about deciding what the firm is going to do (Porter, 1996). In other words, a firm’s business-level strategy should not involve trying to serve the varied needs of different segment of customers in an industry. No firm could possibly pull this off.
This illustration from 1887 captures the lesson of Aesop’s fable “The Miller, His Son, and Their Ass”—a lesson that executives need to follow.
The fable “The Miller, His Son, and Their Ass” told by the ancient Greek storyteller Aesop helps illustrate this idea. In this tale, a miller and his son were driving their ass (donkey) to market for sale. They soon encountered a group of girls who mocked them for walking instead of riding. The father then told his son to ride the animal. Not long after, father and son overheard a man claim that young people had no respect for the elderly. On hearing this opinion, the father told the boy to dismount the animal and he began to ride. They progressed a short distance farther and met a company of women and children. Several of the women suggested that it was both ridiculous and lazy for the father to ride while the young son was forced to walk alone; once again the two changed positions. Another bystander suggested that they could not believe that the man was the owner of the beast, judging from the way it was weighted down. In fact, it would make more sense for the man and his son to carry the ass. On hearing this, the father and his son tied the animal’s legs together and carried it on a pole. As they crossed a bridge near town, the townspeople began to gather and laugh at the unorthodox sight. The noise and the chaos frightened the beast, leading it to thrash around until it tumbled into the river. With tongue in cheek, we note that the moral of the story is that if you try to please everyone, you may lose your ass (Short & Ketchen, 2005).
• Getting Outmaneuvered by Competitors
In many cases, firms become stuck in the middle not because executives fail to arrive at a well-defined strategy but because firms are simply outmaneuvered by their rivals. After six decades as an electronics retailer, Circuit City went out of business in 2009. The firm had simply lost its appeal to customers. Rival electronics retailer Best Buy offered comparable prices to Circuit City’s prices, but the former offered much better customer service. Meanwhile, the service offered by discount retailers such as Walmart and Target on electronics were no better that Circuit City’s, but their prices were better.
The results were predictable—customers who made electronics purchases based on the service they received went to Best Buy, and value-driven buyers patronized Walmart and Target. Circuit City’s demise was probably inevitable because it lacked a competitive advantage within the electronics business. Although Target was on the winning end of this battle, Target executives need to worry that their firm could become stuck in the middle between Walmart’s better prices on one side and the trendiness of specialty shops on the other.
IBM’s personal computer business offers another example. IBM tried to position its personal computers via a differentiation strategy. In particular, IBM’s personal computers were offered at high prices, and the firm promised to offer excellent service to customers in return. Unfortunately for IBM, rivals such as Dell were able to provide equal levels of service while selling computers at lower prices. Nothing made IBM’s computers stand out from the crowd, and the firm eventually exited the business.
At its peak in the mid-2000s, Movie Gallery operated approximately 4,700 video rental stores. By 2010, the firm was dead. This rapid demise can be traced to the firm becoming outmaneuvered by Netflix. When Netflix began offering inexpensive DVD rentals through the mail, customers defected in droves from Movie Gallery and other video rental stores such as Blockbuster. Netflix customers were delighted by the firm’s low prices, vast selection, and the convenience of not having to visit a store to select and return videos. Movie Gallery was stuck in the middle—its prices were higher than those of Netflix, and Netflix’s service was superior. Once individuals lacked a compelling reason to be Movie Gallery customers, the firm’s fate was sealed.
Netflix and Redbox have left video rental stores such as Movie Gallery and Blockbuster stuck in the middle. Blockbuster filed for bankruptcy in late 2010.
Key Takeaway
• When executing a business-level strategy, a firm must not become stuck in the middle between viable generic business-level strategies by neither offering unique features nor competitive pricing.
Exercises
1. What is an example of a firm that you would consider to be “stuck in the middle”? What would your advice be to the executives in charge of this firm?
2. Research a company that has gone bankrupt or otherwise stopped operations in the past decade because their strategy was “stuck in the middle” of otherwise viable generic business-level strategies. Could its demise have been prevented?
5.08: Conclusion
This chapter explains generic business-level strategies that executives select to keep their firms competitive. Executives must select their firm’s source of competitive advantage by choosing to compete based on low-cost versus more expensive features that differentiate their firm from competitors. In addition, targeting either a narrow or broad market helps firms further understand their customer base. Based on these choices, firms will follow cost leadership, differentiation, focused cost leadership, or focused differentiation strategies. Another potentially viable business strategy, best cost, exists when firms offer relatively low prices while still managing to differentiate their goods or services on some important value-added aspects. All firms can fall victim to being “stuck in the middle” by not offering unique features or competitive prices.
Exercises
1. Divide your class into four or eight groups, depending on the size of the class. Each group should select a different industry. Find examples of each generic business-level strategy for your industry. Discuss which strategy seems to be the most successful in your selected industry.
2. This chapter discussed Target and other retailers. If you were assigned to turn around a struggling retailer such as Kmart, what actions would you take to revive the company? | textbooks/biz/Management/Mastering_Strategic_Management/05%3A_Selecting_Business-Level_Strategies/5.07%3A_Stuck_in_the_Middle.txt |
Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. What different competitive moves are commonly used by firms?
2. When and how do firms respond to the competitive actions taken by their rivals?
3. What moves can firms make to cooperate with other firms and create mutual benefits?
Can Merck Stay Healthy?
The financial stakes are high for Merck and its rivals in the pharmaceutical industry.
On June 7, 2011, pharmaceutical giant Merck & Company Inc. announced the formation of a strategic alliance with Roche Holding AG, a smaller pharmaceutical firm that is known for excellence in medical testing. The firms planned to work together to create tests that could identify cancer patients who might benefit from cancer drugs that Merck had under development (Stynes, 2011).
This was the second alliance formed between the companies in less than a month. On May 16, 2011, the US Food and Drug Administration approved a drug called Victrelis that Merck had developed to treat hepatitis C. Merck and Roche agreed to promote Victrelis together. This surprised industry experts because Merck and Roche had offered competing treatments for hepatitis C in the past. The Merck/Roche alliance was expected to help Victrelis compete for market share with a new treatment called Incivek that was developed by a team of two other pharmaceutical firms: Vertex and Johnson & Johnson.
Experts predicted that Victrelis’s wholesale price of \$1,100 for a week’s supply could create \$1 billion of annual revenue. This could be an important financial boost to Merck, although the company was already enormous. Merck’s total of \$46 billion in sales in 2010 included approximately \$5.0 billion in revenues from asthma treatment Singulair, \$3.3 billion for two closely related diabetes drugs, \$2.1 billion for two closely related blood pressure drugs, and \$1.1 billion for an HIV/AIDS treatment.
Despite these impressive numbers, concerns about Merck had reduced the price of the firm’s stock from nearly \$60 per share at the start of 2008 to about \$36 per share by June 2011. A big challenge for Merck is that once the patent on a drug expires, its profits related to that drug plummet because generic drugmakers can start selling the drug. The patent on Singulair is set to expire in the summer of 2012, for example, and a sharp decline in the massive revenues that Singulair brings into Merck seemed inevitable.1
A major step in the growth of Merck was the 2009 acquisition of drugmaker Schering-Plough. By 2011, Merck ranked fifty-third on the Fortune 500 list of America’s largest companies. Rivals Pfizer (thirty-first) and Johnson & Johnson (fortieth) still remained much bigger than Merck, however. Important questions also loomed large. Would the competitive and cooperative moves made by Merck’s executives keep the firm healthy? Or would expiring patents, fearsome rivals, and other challenges undermine Merck’s vitality?
Friedrich Jacob Merck had no idea that he was setting the stage for such immense stakes when he took the first steps toward the creation of Merck. He purchased a humble pharmacy in Darmstadt, Germany, in 1688. In 1827, the venture moved into the creation of drugs when Heinrich Emanuel Merck, a descendant of Friedrich, created a factory in Darmstadt in 1827. The modern version of Merck was incorporated in 1891. More than three hundred years after its beginnings, Merck now has approximately ninety-four thousand employees.
Merck’s origins can be traced back more than three centuries to Friedrich Jacob Merck’s purchase of this pharmacy in 1688.
For executives leading firms such as Merck, selecting a generic strategy is a key aspect of business-level strategy, but other choices are very important too. In their ongoing battle to make their firms more successful, executives must make decisions about what competitive moves to make, how to respond to rivals’ competitive moves, and what cooperative moves to make. This chapter discusses some of the more powerful and interesting options. As our opening vignette on Merck illustrates, often another company, such as Roche, will be a potential ally in some instances and a potential rival in others.
1Statistics drawn from Standard & Poor’s stock report on Merck. | textbooks/biz/Management/Mastering_Strategic_Management/06%3A_Supporting_the_Business-Level_Strategy_-_Competitive_and_Cooperative_Moves/6.01%3A_Supporting_the_Business-Level_Strategy-_Competitive_and_Cooperative_Moves.txt |
Figure 6.1 Making Competitive Moves
Learning Objectives
1. Understand the advantages and disadvantages of being a first mover.
2. Know how disruptive innovations can change industries.
3. Describe two ways that using foothold can benefit firms.
4. Explain how firms can win without fighting using a blue ocean strategy.
5. Describe the creative process of bricolage.
• Being a First Mover: Advantages and Disadvantages
Table 6.2 First Mover Advantage
When confronted by a poisonous snake, should you strike first or wait for the serepent to make a move? Each option has advantages and disadvantages. In business, being a first mover might allow a firm to “rattle its rivals, but a first move might also attract the “venom” of skeptical customers. Below we offer examples of successful–and not so successful–first movers.
First Move Successes First Move Failures
Kosmo.com provided free delivery of a host of goods such as games, magazines, DVDs, and Starbucks coffee. While their first mover advantage allowed them to gain popularity during the dot.com boom, the company lasted only four years.
At a time when using most personal computers required memorizing obscure commands, Apple pioneered a user-friendly interface. The firm gained a reputation as an innovator that persists today. Netscape’s web browser was a first mover that was popular in the 1990s, but nearly extinct by 2002 with the advent of Microsoft’s competitive offering–Internet Explorer.
Following World War II, Japan’s economy laid in ruin. Ibuka Masaru used this backdrop to build a company that would be the first in Japan to create tape recorders and transistors radios. The company he pioneered–Sony–has now been a fierce electronics competitor for over a half century.
Not all of Apple’s first moves are triumphs. The firm’s disastrous attempt to pioneer the personal digital assistand market through its “Newton” created a loss of around one-hundred million dollars.
A famous cliché contends that “the early bird gets the worm.” Applied to the business world, the cliché suggests that certain benefits are available to a first mover into a market that will not be available to later entrants (Figure 6.1). A first-mover advantage exists when making the initial move into a market allows a firm to establish a dominant position that other firms struggle to overcome (Table 6.2). For example, Apple’s creation of a user-friendly, small computer in the early 1980s helped fuel a reputation for creativity and innovation that persists today. Kentucky Fried Chicken (KFC) was able to develop a strong bond with Chinese officials by being the first Western restaurant chain to enter China. Today, KFC is the leading Western fast-food chain in this rapidly growing market. Genentech’s early development of biotechnology allowed it to overcome many of the pharmaceutical industry’s traditional entry barriers (such as financial capital and distribution networks) and become a profitable firm. Decisions to be first movers helped all three firms to be successful in their respective industries (Ketchen, et. al., 2004).
On the other hand, a first mover cannot be sure that customers will embrace its offering, making a first move inherently risky. Apple’s attempt to pioneer the personal digital assistant market, through its Newton, was a financial disaster. The first mover also bears the costs of developing the product and educating customers. Others may learn from the first mover’s successes and failures, allowing them to cheaply copy or improve the product. In creating the Palm Pilot, for example, 3Com was able to build on Apple’s earlier mistakes. Matsushita often refines consumer electronic products, such as compact disc players and projection televisions, after Sony or another first mover establishes demand. In many industries, knowledge diffusion and public-information requirements make such imitation increasingly easy.
One caution is that first movers must be willing to commit sufficient resources to follow through on their pioneering efforts. RCA and Westinghouse were the first firms to develop active-matrix LCD display technology, but their executives did not provide the resources needed to sustain the products spawned by this technology. Today, these firms are not even players in this important business segment that supplies screens for notebook computers, camcorders, medical instruments, and many other products.
To date, the evidence is mixed regarding whether being a first mover leads to success. One research study of 1,226 businesses over a fifty-five-year period found that first movers typically enjoy an advantage over rivals for about a decade, but other studies have suggested that first moving offers little or no advantages.
Perhaps the best question that executives can ask themselves when deciding whether to be a first mover is, how likely is this move to provide my firm with a sustainable competitive advantage? First moves that build on strategic resources such as patented technology are difficult for rivals to imitate and thus are likely to succeed. For example, Pfizer enjoyed a monopoly in the erectile dysfunction market for five years with its patented drug Viagra before two rival products (Cialis and Levitra) were developed by other pharmaceutical firms. Despite facing stiff competition, Viagra continues to raise about \$1.9 billion in sales for Pfizer annually.1
In contrast, E-Trade Group’s creation in 2003 of the portable mortgage seemed doomed to fail because it did not leverage strategic resources. This innovation allowed customers to keep an existing mortgage when they move to a new home. Bigger banks could easily copy the portable mortgage if it gained customer acceptance, undermining E-Trade’s ability to profit from its first move.
• Disruptive Innovation
Some firms have the opportunity to shake up their industry by introducing a disruptive innovation—an innovation that conflicts with, and threatens to replace, traditional approaches to competing within an industry (Table 6.3). The iPad has proved to be a disruptive innovation since its introduction by Apple in 2010. Many individuals quickly abandoned clunky laptop computers in favor of the sleek tablet format offered by the iPad. And as a first mover, Apple was able to claim a large share of the market.
Table 6.3 Shaking the Market with Disruptive Innovations
Disruptive innovations occur when firms introduce offerings that are so unique and superior that they threaten to replace traditional approaches. We illustrate a number of disruptive innovations below.
Tablet computers have the potential to disrupt laptop sales due to their versatility and portability. Reading books can be awkward on traditional computers, but user-friendly devices such as iPad, Nook, and Kindle are popular platforms for aggressive textbook publishers.
Many stores that relied on compact disc sales went under when downloadable digital media disrupted the music industry. Years earlier, CDs supplanted vinyl albums and cassette tapes due to their superior durability and quality. Will the cycle continue with a new technology replacing downloads?
Digital cameras disrupted the photography industry by offering instant gratification and eliminating the cost of getting film developed.
The emergence of personal computers disrupted the dominance of mainframes and made it possible for everyone to have a computer in their home.
Steamships replaced sailing ships, which must have been a relief to the prisoners who were often required to row when there was no wind.
The iPad story is unusual, however. Most disruptive innovations are not overnight sensations. Typically, a small group of customers embrace a disruptive innovation as early adopters and then a critical mass of customers builds over time. An example is digital cameras. Few photographers embraced digital cameras initially because they took pictures slowly and offered poor picture quality relative to traditional film cameras. As digital cameras have improved, however, they have gradually won over almost everyone that takes pictures. Executives who are deciding whether to pursue a disruptive innovation must first make sure that their firm can sustain itself during an initial period of slow growth.
• Footholds
Table 6.4 Footholds
Footholds are useful for rock climbers looking for sure footing to ascend a difficult mountain, as well as firms hoping to gain positions in new markets. In business, a foothold is a small position that a firm intentionally establishes within a market in which it does not yet compete. Examples of the use of footholds are illustrated below.
Swedish furniture seller IKEA opens just a single store when entering a new country, such as their first store in Japan shown here. This foothold is used as a showcase to establish IKEA’s brand; then more stores are opened once brand recognition is gained in the country.
Pharmaceutical giant Merck obtained a foothold by purchasing SmartCells Inc.,–a company developing a possible new diabetes treatment.
The foothold concept also applies to warfare. Many armies establish new positions in geographic territories that they have not previously occupied. The Allied Forces used Normany, France, as their foothold to advance on German forces during World War II.
In warfare, many armies establish small positions in geographic territories that they have not occupied previously. These footholds provide value in at least two ways (Table 6.4). First, owning a foothold can dissuade other armies from attacking in the region. Second, owning a foothold gives an army a quick strike capability in a territory if the army needs to expand its reach.
Similarly, some organizations find it valuable to establish footholds in certain markets. Within the context of business, a foothold is a small position that a firm intentionally establishes within a market in which it does not yet compete (Upson, et. al.). Swedish furniture seller IKEA is a firm that relies on footholds. When IKEA enters a new country, it opens just one store. This store is then used as a showcase to establish IKEA’s brand. Once IKEA gains brand recognition in a country, more stores are established (Hambrick & Fredrickson, 2005).
Pharmaceutical giants such as Merck often obtain footholds in emerging areas of medicine. In December 2010, for example, Merck purchased SmartCells Inc., a company that was developing a possible new treatment for diabetes. In May 2011, Merck acquired an equity stake in BeiGene Ltd., a Chinese firm that was developing novel cancer treatments and detection methods. Competitive moves such as these offer Merck relatively low-cost platforms from which it can expand if clinical studies reveal that the treatments are effective.
• Blue Ocean Strategy
It is best to win without fighting.
Sun-Tzu, The Art of War
A blue ocean strategy involves creating a new, untapped market rather than competing with rivals in an existing market (Kim, 2004). This strategy follows the approach recommended by the ancient master of strategy Sun-Tzu in the quote above. Instead of trying to outmaneuver its competition, a firm using a blue ocean strategy tries to make the competition irrelevant (Table 6.5). Baseball legend Wee Willie Keeler offered a similar idea when asked how to become a better hitter: “Hit ’em where they ain’t.” In other words, hit the baseball where there are no fielders rather than trying to overwhelm the fielders with a ball hit directly at them.
Nintendo openly acknowledges following a blue ocean strategy in its efforts to invent new markets. In 2006, Perrin Kaplan, Nintendo’s vice president of marketing and corporate affairs for Nintendo of America noted in an interview, “We’re making games that are expanding our base of consumers in Japan and America. Yes, those who’ve always played games are still playing, but we’ve got people who’ve never played to start loving it with titles like Nintendogs, Animal Crossing and Brain Games. These games are blue ocean in action (Rosmarin, 2006).” Other examples of companies creating new markets include FedEx’s invention of the fast-shipping business and eBay’s invention of online auctions.
Table 6.5 Blue Ocean Strategy
It’s a big ocean out there! When pursuing a blue ocean strategy, executives try to create and exploit vast untapped markets rather than competing directly with rivals. We provide several examples of firms following a blue ocean strategy below.
The interactive features of Nintendo’s Wii transformed playing video games from a hobby for the hardcore gamers into a treasured family event.
Coffee shops were once the domain of old men, insomniacs, and chain-smoking urban hipsters. By reinventing coffee shops, Starbucks made the \$4 latte a must-have item for college students, businesspeople, and soccer moms.
At a time when cars were only for the wealth, Henry Ford envisioned cars that were affordable to the typical American. Ford priced his vehicles so that his assembly line workers could afford them.
eBay’s invention of online auctions extended the auction experience–and the chance to buy that rare Elvis plate–to anyone with Internet access.
Golf can be frustrating to even skilled players. Callaway’s creation of the Big Bertha club with an over-sized head made golf appealing to a whole new set of weekend warriors.
A classy, affordable wine for novice wine drinkers? Casella wines (maker of Yellow Tail) steered clear of wine snobs and sommeliers and instead created fun and simple tastes for the masses.
• Bricolage
Bricolage is a concept that is borrowed from the arts and that, like blue ocean strategy, stresses moves that create new markets. Bricolage means using whatever materials and resources happen to be available as the inputs into a creative process. A good example is offered by one of the greatest inventions in the history of civilization: the printing press. As noted in the Wall Street Journal, “The printing press is a classic combinatorial innovation. Each of its key elements—the movable type, the ink, the paper and the press itself—had been developed separately well before Johannes Gutenberg printed his first Bible in the 15th century. Movable type, for instance, had been independently conceived by a Chinese blacksmith named Pi Sheng four centuries earlier. The press itself was adapted from a screw press that was being used in Germany for the mass production of wine (Johnson).” Gutenberg took materials that others had created and used them in a unique and productive way.
Actor Johnny Depp uses bricolage when creating a character. Captain Jack Sparrow, for example, combines aspects of Rolling Stones guitarist Keith Richards and cartoon skunk Pepé Le Pew.
Executives apply the concept of bricolage when they combine ideas from existing businesses to create a new business. Think miniature golf is boring? Not when you play at one of Monster Mini Golf’s more than twenty-five locations. This company couples a miniature golf course with the thrills of a haunted house. In April 2011, Monster Mini Golf announced plans to partner with the rock band KISS to create a “custom-designed, frightfully fun course [that] will feature animated KISS and monster props lurking in all 18 fairways” in Las Vegas (Monster Mini Golf, 2011).
Braveheart meets heavy metal when TURISAS takes the stage.
Many an expectant mother has lamented the unflattering nature of maternity clothes and the boring stores that sell them. Coming to the rescue is Belly Couture, a boutique in Lubbock, Texas, that combines stylish fashion and maternity clothes. The store’s clever slogan—“Motherhood is haute”—reflects the unique niche it fills through bricolage. A wilder example is TURISAS, a Finnish rock band that has created a niche for itself by combining heavy metal music with the imagery and costumes of Vikings. The band’s website describes their effort at bricolage as “inspirational cinematic battle metal brilliance (Turisas).” No one ever claimed that rock musicians are humble.
Strategy at the Movies
Love and Other Drugs
Competitive moves are chosen within executive suites, but they are implemented by frontline employees. Organizational success thus depends just as much on workers such as salespeople excelling in their roles as it does on executives’ ability to master strategy. A good illustration is provided in the 2010 film Love and Other Drugs, which was based on the nonfiction book Hard Sell: The Evolution of a Viagra Salesman.
As a new sales representative for drug giant Pfizer, Jamie Randall believed that the best way to increase sales of Pfizer’s antidepressant Zoloft in his territory was to convince highly respected physician Dr. Knight to prescribe Zoloft rather than the good doctor’s existing preference, Ely Lilly’s drug Prozac. Once Dr. Knight began prescribing Zoloft, thought Randall, many other physicians in the area would follow suit.
This straightforward plan proved more difficult to execute than Randall suspected. Sales reps from Ely Lilly and other pharmaceutical firms aggressively pushed their firm’s products, such as by providing all-expenses-paid trips to Hawaii for nurses in Dr. Knight’s office. Prozac salesman Trey Hannigan went so far as to beat up Randall after finding out that Randall had stolen and destroyed Prozac samples. While assault is an extreme measure to defend a sales territory, the actions of Hannigan and the other salespeople depicted in Love and Other Drugs reflect the challenges that frontline employees face when implementing executives’ strategic decisions about competitive moves.
Key Takeaway
• Firms can take advantage of a number of competitive moves to shake up or otherwise get ahead in an ever-changing business environment.
Exercises
1. Find a key trend from the general environment and develop a blue ocean strategy that might capitalize on that trend.
2. Provide an example of a product that, if invented, would work as a disruptive innovation. How widespread would be the appeal of this product?
3. How would you propose to develop a new foothold if your goal was to compete in the fashion industry?
4. Develop a new good or service applying the concept of bricolage. In other words, select two existing businesses and describe the experience that would be created by combining those two businesses.
1Figures from Standard & Poor’s stock report on Pfizer. | textbooks/biz/Management/Mastering_Strategic_Management/06%3A_Supporting_the_Business-Level_Strategy_-_Competitive_and_Cooperative_Moves/6.02%3A_Making_Competitive_Moves.txt |
Table 6.6 Responding to Rivals’ Moves
Famed military strategist Carl von Clausewitz once quipped, “The best defense is a good offense.” We illustrate a number of key issues surrounding whether and how firms respond when put on the defensive by rivals.
Speed of response is important when under attack. A slow response might lead a beverage firm, for example, to be crushed by the competition. However, despite that fact that RC Cola been responsible for many innovations in the soft drink industry such as diet and caffeine-free colas, the quick responses of Coca-Cola and Pepsi have kept RC Cola fro taking market share from them.
Multipoint competition is a situation where a firm faces the same rival in more than one market. Such dynamics can set off wildfires such as in the case of cigarette makers R.J. Reynolds (RJR) and Philip Morris, who compete head-to-head worldwide. When threatened in one market, firms often retaliate in other geographic regions.
Mutual forbearance arises when rivals each realize that they have more to lose through aggression against each other than they can gain. United Airlines’ decision to not compete in some markets dominated by Southwest Airlines provides an example of this dynamic.
Three main options are available for responding to a disruptive innovation: ignore the disruption, engage in a counterattack using different goods and/or services, or directly match the competitor’s move. When online stock trading emerged as a disruptive innovation in the brokerage industry, Merrill Lynch chose the third option and formed its own Internet-based unit.
Fighting brands are lower-end brands that a firm introduces to try to protect the firm’s market share without damaging the firm’s existing brands. General Motor’s Geo line of inexpensive automobiles and Delta’s Song brand were fighting brands intended to keep their owners from suffering knockout blows.
Learning Objectives
1. Know the three factors that determine the likelihood of a competitor response.
2. Understand the importance of speed in competitive response.
3. Describe how mutual forbearance can be beneficial for firms engaged in multipoint competition.
4. Explain two ways firms can respond to disruptive innovations.
5. Understand the importance of fighting brands as a competitive response.
In addition to choosing what moves their firm will make, executives also have to decide whether to respond to moves made by rivals (Table 6.6). Figuring out how to react, if at all, to a competitor’s move ranks among the most challenging decisions that executives must make. Research indicates that three factors determine the likelihood that a firm will respond to a competitive move: awareness, motivation, and capability. These three factors together determine the level of competition tension that exists between rivals (Table 6.7).
Table 6.7 Competitive Tension: The A-M-C Framework
Bridges and rubber bands have been known to snap under too much tension. In a similar vein, firms experience competitive tension with their competitors. Three factors help to explain the likelihood that a firm will respond aggressively to rivals’ competitive actions. We explain each of these factors below.
Awareness Like a patrolman walking his beat, executives must watch out for moves by competitors that can steal sales from their firm.
Motivation Newton’s third law of motion states that for every action there is an equal and opposite reaction. Just like a little kid who cries “He hit me first!” when being admonished for hitting a classmate, executives will be highly motivated to retaliate when a rival makes a competitive move.
Capability
Famed literary figure Johann Wolfgang von Goethe once said, “Thinking is easy, acting is difficult.” Like a firefighter that puts as many tools at her disposal as possible, firms must possess plans, as well as resources, to respond to the actions of their rivals.
An analysis of the “razor wars” illustrates the roles that these factors play (Ketchen, et. al., 2004). Consider Schick’s attempt to grow in the razor-system market with its introduction of the Quattro. This move was widely publicized and supported by a \$120 million advertising budget. Therefore, its main competitor, Gillette, was well aware of the move. Gillette’s motivation to respond was also high. Shaving products are a vital market for Gillette, and Schick has become an increasingly formidable competitor since its acquisition by Energizer. Finally, Gillette was very capable of responding, given its vast resources and its dominant role in the industry. Because all three factors were high, a strong response was likely. Indeed, Gillette made a preemptive strike with the introduction of the Sensor 3 and Venus Devine a month before the Schick Quattro’s projected introduction.
Although examining a firm’s awareness, motivation, and capability is important, the results of a series of moves and countermoves are often difficult to predict and miscalculations can be costly. The poor response by Kmart and other retailers to Walmart’s growth in the late 1970s illustrates this point. In discussing Kmart’s parent corporation (Kresge), a stock analyst at that time wrote, “While we don’t expect Kresge to stage any massive invasion of Walmart’s existing territory, Kresge could logically act to contain Walmart’s geographical expansion.…Assuming some containment policy on Kresge’s part, Walmart could run into serious problems in the next few years.” Kmart executives also received but ignored early internal warnings about Walmart. A former member of Kmart’s board of directors lamented, “I tried to advise the company’s management of just what a serious threat I thought [Sam Walton, founder of Walmart] was. But it wasn’t until fairly recently that they took him seriously.” While the threat of Walmart growth was apparent to some observers, Kmart executives failed to respond. Competition with Walmart later drove Kmart into bankruptcy.
• Speed Kills
Executives in many markets must cope with a rapid-fire barrage of attacks from rivals, such as head-to-head advertising campaigns, price cuts, and attempts to grab key customers. If a firm is going to respond to a competitor’s move, doing so quickly is important. If there is a long delay between an attack and a response, this generally provides the attacker with an edge. For example, PepsiCo made the mistake of waiting fifteen months to copy Coca-Cola’s May 2002 introduction of Vanilla Coke. In the interim, Vanilla Coke carved out a significant market niche; 29 percent of US households had purchased the beverage by August 2003, and 90 million cases had been sold.
In contrast, fast responses tend to prevent such an edge. Pepsi’s spring 2004 announcement of a midcalorie cola introduction was quickly followed by a similar announcement by Coke, signaling that Coke would not allow this niche to be dominated by its longtime rival. Thus, as former General Electric CEO Jack Welch noted in his autobiography, success in most competitive rivalries “is less a function of grandiose predictions than it is a result of being able to respond rapidly to real changes as they occur. That’s why strategy has to be dynamic and anticipatory.”
• So…We Meet Again
Multipoint competition adds complexity to decisions about whether to respond to a rival’s moves. With multipoint competition, a firm faces the same rival in more than one market. Cigarette makers R. J. Reynolds (RJR) and Philip Morris, for example, square off not only in the United States but also in many countries around the world. When a firm has one or more multipoint competitors, executives must realize that a competitive move in a market can have effects not only within that market but also within others. In the early 1990s, RJR started using lower-priced cigarette brands in the United States to gain customers. Philip Morris responded in two ways. The first response was cutting prices in the United States to protect its market share. This started a price war that ultimately hurt both companies. Second, Philip Morris started building market share in Eastern Europe where RJR had been establishing a strong position. This combination of moves forced RJR to protect its market share in the United States and neglect Eastern Europe.
If rivals are able to establish mutual forbearance, then multipoint competition can help them be successful. Mutual forbearance occurs when rivals do not act aggressively because each recognizes that the other can retaliate in multiple markets. In the late 1990s, Southwest Airlines and United Airlines competed in some but not all markets. United announced plans to form a new division that would move into some of Southwest’s other routes. Southwest CEO Herb Kelleher publicly threatened to retaliate in several shared markets. United then backed down, and Southwest had no reason to attack. The result was better performance for both firms. Similarly, in hindsight, both RJR and Philip Morris probably would have been more profitable had RJR not tried to steal market share in the first place. Thus recognizing and acting on potential forbearance can lead to better performance through firms not competing away their profits, while failure to do so can be costly.
• Responding to a Disruptive Innovation
When a rival introduces a disruptive innovation that conflicts with the industry’s current competitive practices, such as the emergence of online stock trading in the late 1990s, executives choose from among three main responses. First, executives may believe that the innovation will not replace established offerings entirely and thus may choose to focus on their traditional modes of business while ignoring the disruption. For example, many traditional bookstores such as Barnes & Noble did not consider book sales on Amazon to be a competitive threat until Amazon began to take market share from them. Second, a firm can counter the challenge by attacking along a different dimension. For example, Apple responded to the direct sales of cheap computers by Dell and Gateway by adding power and versatility to its products. The third possible response is to simply match the competitor’s move. Merrill Lynch, for example, confronted online trading by forming its own Internet-based unit. Here the firm risks cannibalizing its traditional business, but executives may find that their response attracts an entirely new segment of customers.
• Fighting Brands: Get Ready to Rumble
A firm’s success can be undermined when a competitor tries to lure away its customers by charging lower prices for its goods or services. Such a scenario is especially scary if the quality of the competitor’s offerings is reasonably comparable to the firm’s. One possible response would be for the firm to lower its prices to prevent customers from abandoning it. This can be effective in the short term, but it creates a long-term problem. Specifically, the firm will have trouble increasing its prices back to their original level in the future because charging lower prices for a time will devalue the firm’s brand and make customers question why they should accept price increases.
The creation of a fighting brand is a move that can prevent this problem. A fighting brand is a lower-end brand that a firm introduces to try to protect the firm’s market share without damaging the firm’s existing brands. In the late 1980s, General Motors (GM) was troubled by the extent to which the sales of small, inexpensive Japanese cars were growing in the United States. GM wanted to recapture lost sales, but it did not want to harm its existing brands, such as Chevrolet, Buick, and Cadillac, by putting their names on low-end cars. GM’s solution was to sell small, inexpensive cars under a new brand: Geo.
Interestingly, several of Geo’s models were produced in joint ventures between GM and the same Japanese automakers that the Geo brand was created to fight. A sedan called the Prizm was built side by side with the Toyota Corolla by the New United Motor Manufacturing Incorporated (NUMMI), a factory co-owned by GM and Toyota. The two cars were virtually identical except for minor cosmetic differences. A smaller car (the Metro) and a compact sport utility vehicle (the Tracker) were produced by a joint venture between GM and Suzuki. By 1998, the US car market revolved around higher-quality vehicles, and the low-end Geo brand was discontinued.
The Geo brand was known for its low price and good gas mileage, not for its styling.
Some fighting brands are rather short lived. Merck’s failed attempt to protect market share in Germany by creating a fighting brand is an example. Zocor, a treatment for high cholesterol, was set to lose its German patent in 2003. Merck tried to keep its high profit margin for Zocor intact until the patent expired as well as preparing for the inevitable competition with generic drugmakers by creating a lower-priced brand, Zocor MSD. Once the patent expired, however, the new brand was not priced low enough to keep customers from switching to generics. Merck soon abandoned the Zocor MSD brand (Ritson, 2009).
Two major airlines experienced similar futility. In response to the growing success of discount airlines such as Southwest, AirTran, Jet Blue, and Frontier, both United Airlines and Delta Airlines created fighting brands. United launched Ted in 2004 and discontinued it in 2009. Delta’s Song had an even shorter existence. It was started in 2003 and was ended in 2006. Southwest’s acquisition of AirTran in 2011 created a large airline that may make United and Delta lament that they were not able to make their own discount brands successful.
Despite these missteps, the use of fighting brands is a time-tested competitive move. For example, very successful fighting brands were launched forty years apart by Anheuser-Busch and Intel. After Anheuser-Busch increased the prices charged by its existing brands in the mid-1950s (Budweiser and Michelob), smaller brewers started gaining market share. In response, Anheuser-Busch created a lower-priced brand: Busch. The new brand won back the market share that had been lost and remains an important part of Anheuser-Busch’s brand portfolio today. In the late 1990s, silicon chipmaker Advanced Micro Devices started undercutting the prices charged by industry leader Intel. Intel responded by creating the Celeron brand of silicon chips, a brand that has preserved Intel’s market share without undermining profits. Wise strategic moves such as the creation of the Celeron brand help explain why Intel ranks thirty-second on Fortune magazine’s list of the “World’s Most Admired Corporations.” Meanwhile, Anheuser-Busch is the second most admired beverage firm, ranking behind Coca-Cola.
Key Takeaway
• When threatened by the competitive actions of rivals, firms possess numerous ways to respond, depending on the severity of the threat.
Exercises
1. Why might local restaurants not be in the position to respond to large franchises or chains? What can local restaurants do to avoid being ruined by chain restaurants?
2. If a new alternative fuel was found in the auto industry, what are two ways existing car manufacturers might respond to this disruptive innovation?
3. How might a firm such as Apple computers use a fighting brand? | textbooks/biz/Management/Mastering_Strategic_Management/06%3A_Supporting_the_Business-Level_Strategy_-_Competitive_and_Cooperative_Moves/6.03%3A_Responding_to_Competitors_Moves.txt |
Learning Objectives
1. Know the four types of cooperative moves.
2. Understand the benefits of taking quick and decisive action.
In addition to competitive moves, firms can benefit from cooperating with one another. Cooperative moves such as forming joint ventures and strategic alliances may allow firms to enjoy successes that might not otherwise be reached (Table 6.8). This is because cooperation enables firms to share (rather than duplicate) resources and to learn from one another’s strengths. Firms that enter cooperative relationships take on risks, however, including the loss of control over operations, possible transfer of valuable secrets to other firms, and possibly being taken advantage of by partners (Ketchen, et. al., 2004).
• Joint Ventures
A joint venture is a cooperative arrangement that involves two or more organizations each contributing to the creation of a new entity. The partners in a joint venture share decision-making authority, control of the operation, and any profits that the joint venture earns.
Sometimes two firms create a joint venture to deal with a shared opportunity. In April 2011, a joint venture was created between Merck and Sun Pharmaceutical Industries Ltd., an Indian pharmaceutical company. The purpose of the joint venture is to create and sell generic drugs in developing countries. In a press release, a top executive at Sun stressed that each side has important strengths to contribute: “This joint venture reinforces [Sun’s] strategy of partnering to launch products using our highly innovative delivery technologies around the world. Merck has an unrivalled reputation as a world leading, innovative, research-driven pharmaceutical company (Merck, 2004).” Both firms contributed executives to the new organization, reflecting the shared decision making and control involved in joint ventures.
In other cases, a joint venture is designed to counter a shared threat. In 2007, brewers SABMiller and Molson Coors Brewing Company created a joint venture called MillerCoors that combines the firms’ beer operations in the United States. Miller and Coors found it useful to join their US forces to better compete against their giant rival Anheuser-Busch, but the two parent companies remain separate. The joint venture controls a wide array of brands, including Miller Lite, Coors Light, Blue Moon Belgian White, Coors Banquet, Foster’s, Henry Weinhard’s, Icehouse, Keystone Premium, Leinenkugel’s, Killian’s Irish Red, Miller Genuine Draft, Miller High Life, Milwaukee’s Best, Molson Canadian, Peroni Nastro Azzurro, Pilsner Urquell, and Red Dog. This diverse portfolio makes MillerCoors a more potent adversary for Anheuser-Busch than either Miller or Coors would be alone.
Table 6.8 Making Cooperative Moves
Franklin Roosevelt once quipped, “Competition has been shown to be useful up to a certain point and no further, but cooperation, which is the thing we must strive for today, begins where competition leaves off.” We illustrate four commonly used cooperative moves used by firms below.
Join ventures involve two or more organizations that contribute to the creation of a new entity. For example, Hong Kong Disneyland is a joint venture between the government of Hong Kong and the Walt Disney Company. While the park consists of Disney mainstays such as Main Street, U.S.A., Fantasyland, Adventureland, and Tomorrowland, the park also incorporates elements of Chinese culture such as adherence to the rules of Feng Shui–a set of aesthetic design principles believe to promote positive energy.
Strategic alliances are cooperative arrangements between two or more organizations that do not involve creating new entities. For example, a strategic alliance between Merck and PAREXEL International Corporation was recently announced with the goal of collaborating on biotechnology efforts known as biosimilars–a term used to describe subsequent versions of innovative drugs.
Colocation refers to a situation when goods and services offered under different brands are located very close to each other. Noting once common example of colocation, a comedian once joke that La Quinta was Spanish for “Next to Denny’s.” Both hotels and restaurants are often colocated alongside freeway exits to allow numerous choices for road-weary travelers.
Coopetition is a term that refers to the blending of competition and cooperation between two firms. Toyota and General Motors’ creation of jointly owned New United Motor Manufacturing incorporated (NUMMI) allowed for collaboration on automobile designs while Toyota and GM continued to compete for market share worldwide. The NUMMI experience also inspired the 1986 comedy Gung Ho.
• Strategic Alliances
A strategic alliance is a cooperative arrangement between two or more organizations that does not involve the creation of a new entity. In June 2011, for example, Twitter announced the formation of a strategic alliance with Yahoo! Japan. The alliance involves relevant Tweets appearing within various functions offered by Yahoo! Japan (Rao, 2014). The alliance simply involves the two firms collaborating as opposed to creating a new entity together.
The pharmaceutical industry is the location of many strategic alliances. In January 2011, for example, a strategic alliance between Merck and PAREXEL International Corporation was announced. Within this alliance, the two companies collaborate on biotechnology efforts known as biosimilars. This alliance could be quite important to Merck because the global market for biosimilars has been predicted to rise from \$235 million in 2010 to \$4.8 billion by 2015(PRWeb, 2011).
• Colocation
Colocation occurs when goods and services offered under different brands are located close to one another. In many cities, for examples, theaters and art galleries are clustered together in one neighborhood. Auto malls that contain several different car dealerships are found in many areas. Restaurants and hotels are often located near on another too. By providing customers with a variety of choices, a set of colocated firms can attract a bigger set of customers collectively than the sum that could be attracted to individual locations. If a desired play is sold out, a restaurant overcrowded, or a hotel overbooked, many customers simply patronize another firm in the area.
Because of these benefits, savvy executives in some firms colocate their own brands. The industry that Brinker International competes within is revealed by its stock ticker symbol: EAT. This firm often sites outlets of the multiple restaurant chains it owns on the same street. Marriott’s Courtyard and Fairfield Inn often sit side by side. Yum! Brands takes this clustering strategy one step further by locating more than one of its brands—A&W, Long John Silver’s, Taco Bell, Kentucky Fried Chicken, and Pizza Hut—within a single store.
• Co-opetition
Although competition and cooperation are usually viewed as separate processes, the concept of co-opetition highlights a complex interaction that is becoming increasingly popular in many industries. Ray Noorda, the founder of software firm Novell, coined the term to refer to a blending of competition and cooperation between two firms. As explained in this chapter’s opening vignette, for example, Merck and Roche are rivals in some markets, but the firms are working together to develop tests to detect cancer and to promote a hepatitis treatment. NEC (a Japanese electronics company) has three different relationships with Hewlett-Packard Co.: customer, supplier, and competitor. Some units of each company work cooperatively with the other company, while other units are direct competitors. NEC and Hewlett-Packard could be described as “frienemies”—part friends and part enemies.
Toyota and General Motors provide a well-known example of co-opetition. In terms of cooperation, Toyota and GM vehicles were produced side by side for many years at the jointly owned New United Motor Manufacturing Incorporated (NUMMI) in Fremont, California. While Honda and Nissan used wholly owned plants to begin producing cars in the United States, NUMMI offered Toyota a lower-risk means of entering the US market. This entry mode was desirable to Toyota because its top executives were not confident that Japanese-style management would work in the United States. Meanwhile, the venture offered GM the chance to learn Japanese management and production techniques—skills that were later used in GM’s facilities. NUMMI offered both companies economies of scale in manufacturing and the chance to collaborate on automobile designs. Meanwhile, Toyota and GM compete for market share around the world. In recent years, the firms have been the world’s two largest automakers, and they have traded the top spot over time.
In their book titled, not surprisingly, Co-opetition, A. M. Brandenberger and B. J. Nalebuff suggest that cooperation is generally best suited for “creating a pie,” while competition is best suited for “dividing it up (Brandenberger & Nalebuff, 1996).” In other words, firms tend to cooperate in activities located far in the value chain from customers, while competition generally occurs close to customers. The NUMMI example illustrates this tendency—GM and Toyota worked together on design and manufacturing but worked separately on distribution, sales, and marketing. Similarly, a research study focused on Scandinavian firms found that, in the mining equipment industry, firms cooperated in material development, but they competed in product development and marketing. In the brewing industry, firms worked together on the return of used bottles but not in distribution (Bengtsson & Kock, 2000).
• Get Moving!
Figure 6.9 Get Moving!
Joseph Addison, an eighteenth-century poet, is often credited with coining the phrase “He who hesitates is lost.” This proverb is especially meaningful in today’s business world. It is easy for executives to become paralyzed by the dizzying array of competitive and cooperative moves available to them. Given the fast-paced nature of most industries today, hesitation can lead to disaster. Some observers have suggested that competition in many settings has transformed into hypercompetition, which involves very rapid and unpredictable moves and countermoves that can undermine competitive advantages. Under such conditions, it is often better to make a reasonable move quickly rather than hoping to uncover the perfect move through extensive and time-consuming analysis (Figure 6.9).
The importance of learning also contributes to the value of adopting a “get moving” mentality. This is illustrated in Miroslav Holub’s poem “Brief Thoughts on Maps.” The discovery that one soldier had a map gave the soldiers the confidence to start moving rather than continuing to hesitate and remaining lost. Once they started moving, the soldiers could rely on their skill and training to learn what would work and what would not. Similarly, success in business often depends on executives learning from a series of competitive and cooperative moves, not on selecting ideal moves.
Key Takeaway
• Cooperating with other firms is sometimes a more lucrative and beneficial approach than directly attacking competing firms.
Exercises
1. How could a family jewelry store use one of the cooperative moves mentioned in this section?? What type of organization might be a good cooperative partner for a family jewelry store?
2. Why is it that “any old map will do” sometimes in relation to strategic actions?
6.05: Conclusion
This chapter explains competitive and cooperative moves that executives may choose from when challenged by competitors. Executives may choose to act swiftly by being a first mover in their market, and their firms may benefit if they are offering disruptive innovations to an industry. Executives may also choose a more conservative route by establishing a foothold within an area that can serve as a launching point or by avoiding existing competitors overall by using a blue ocean strategy. When firms are on the receiving end of a competitive attack, they are likely to retaliate to the extent that they possess awareness, motivation, and capability. While responding quickly is often beneficial, mutual forbearance can also be an effective approach. When firms encounter a potentially disruptive innovation, they might ignore the threat, confront it head on, or attack along a different dimension. Executives may also react to competitive attacks by using fighting brands. Rather than engaging in a head-to-head battle with competitors, executives may also choose to engage in a cooperative strategy such as a joint venture, strategic alliance, colocation, or co-opetition. Regardless of the decision executives make, in many cases any attempt to act on a viable road map will result in progress that will get the firm moving in the right direction.
Exercises
1. Divide your class into four or eight groups, depending on the size of the class. Each group should select a different industry. Find examples of competitive and cooperative moves that you would recommend if hired as a consultant for a firm in that industry.
2. What types of cooperative moves could your college or university use to partner with local, national, and international businesses? What benefits and risks would be created by making these moves? | textbooks/biz/Management/Mastering_Strategic_Management/06%3A_Supporting_the_Business-Level_Strategy_-_Competitive_and_Cooperative_Moves/6.04%3A_Making_Cooperative_Moves.txt |
Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. What are the main benefits and risks of competing in international markets?
2. What is the “diamond model,” and how does it help explain why some firms compete better in international markets than others?
3. What are the various global strategies that firms can adopt?
4. What forms of involvement are available to firms that seek to compete in international markets?
Kia Picks Up Speed
Kia is enjoying accelerated growth within the global automobile industry.
On June 2, 2011, South Korean automaker Kia announced plans for a major expansion of its American production facility. Capacity at Kia Motors Manufacturing Georgia Inc. (KMMG) was slated to expand 20 percent from 300,000 to 360,000 vehicles per year. In addition to the crossover utility vehicle Sorento, the plant would begin making a sedan named the Optima in September 2011. The expansion of the plant was estimated to cost \$100 million and was expected to create 1,000 new jobs (Kia Motors Manufacturing Georgia, 2011).
This ambitious growth was made possible by Kia’s superb performance in the US market. KMMG had started building vehicles less than two years earlier after being constructed for a cost of \$1 billion. In 2010, yearly sales in the United States climbed above 350,000 vehicles. Kia’s overall share of the US market increased in 2010 for the sixteenth consecutive year. In May 2011, Kia sold more than 48,000 cars and trucks in United States, an increase of more than 53 percent from May 2010 sales levels. The Optima led the way with a whopping 210 percent increase in sales.
Kia was not the only beneficiary of its success. KMMG’s location of West Point, Georgia, had been economically devastated when its homegrown textile company, WestPoint Home, shut down its local factories to take advantage of lower labor prices overseas. Following a fierce competition with towns in Mississippi, Kentucky, and other states, West Point was selected in 2006 as the site of Kia’s first US manufacturing facility. To win the plant, state and local authorities offered Kia more than \$400 million worth of incentives, including tax breaks, free land, and infrastructure creation.
Georgia’s return on this investment included two thousand new jobs at the plant as well as hundreds of jobs at suppliers that set up shop to support KMMG. The neighboring state of Alabama benefited from KMMG’s success too. As of June 2011, nearly sixty companies spread across twenty-three Alabama counties supplied parts or services to KMMG (Kent, 2011).
The name “Kia” means to arise or come up out of Asia (Kia). This name is very appropriate; Kia rose from humble beginnings as a maker of bicycle parts in 1944 to become a global player in the automobile industry. As of 2011, Kia was producing more than 2.1 million vehicles per year in eight countries. Kias were sold in 172 countries. Kia employed more than 44,000 people and enjoyed annual revenues in excess of \$20 billion. Fellow South Korean automaker Hyundai owned just over 33 percent of Kia, and the two firms strengthened each other through collaboration. When taking all of these facts into consideration, Kia’s slogan—The Power to Surprise—had to make its rivals wonder what surprises the Korean upstart might have in store for them next.
Workers in Georgia build Sorentos for South Korea–based Kia. | textbooks/biz/Management/Mastering_Strategic_Management/07%3A_Competing_in_International_Markets/7.01%3A_Competing_in_International_Markets.txt |
Learning Objectives
1. Understand the potential benefits of competing in international markets.
2. Understand the risks faced when competing in international markets.
As Kia’s experience illustrates, international business is a huge segment of the world’s economic activity. Amazingly, current projections suggest that, within a few years, the total dollar value of trade across national borders will be greater than the total dollar value of trade within all of the world’s countries combined. One driver of the rapid growth of internal business over the past two decades has been the opening up of large economies such as China and Russia that had been mostly closed off to outside investors.
Table 7.1 Why Compete in New Markets?
The domestication of the camel by Arabian travelers fueled two early examples of international trade: spices and silk. Today, camels have been replaced by airplanes, trains, and ships, and international trade is more alluring than ever. Here are three key reasons why executives are enticed to enter new markets.
Access to new customers China’s population is roughly four times as large as that of the United States. While political, cultural, and economic differences add danger to trade with China, the immense size of the Chinese market appeals to American firms.
Lowering costs Access to cheaper raw materials and labor have led to considerable outsourcing and offshoring. Call centers in India have become so sophisticated that many Indian customer service representatives take extensive language training to learn regional U.S. dialects.
Diversification of business risk
Business risk refers to the risk of an operation failing. Competing in multiple markets allows this risk to be spread out among many economies and customers. Coca-Cola, for example, has a presence in over 200 markets worldwide.
The United States enjoys the world’s largest economy. As an illustration of the power of the American economy, consider that, as of early 2011, the economy of just one state—California—would be the eighth largest in the world if it were a country, ranking between Italy and Brazil (The Economist, 2011). The size of the US economy has led American commerce to be very much intertwined with international markets. In fact, it is fair to say that every business is affected by international markets to some degree. Tiny businesses such as individual convenience stores and clothing boutiques sell products that are imported from abroad. Meanwhile, corporate goliaths such as General Motors (GM), Coca-Cola, and Microsoft conduct a great volume of business overseas.
• Access to New Customers
Perhaps the most obvious reason to compete in international markets is gaining access to new customers. Although the United States enjoys the largest economy in the world, it accounts for only about 5 percent of the world’s population. Selling goods and services to the other 95 percent of people on the planet can be very appealing, especially for companies whose industry within their home market are saturated (Table 7.1).
Few companies have a stronger “All-American” identity than McDonald’s. Yet McDonald’s is increasingly reliant on sales outside the United States. In 2006, the United States accounted for 34 percent of McDonald’s revenue, while Europe accounted for 32 percent and 14 percent was generated across Asia, the Middle East, and Africa. By 2011, Europe was McDonald’s biggest source of revenue (40 percent), the US share had fallen to 32 percent, and the collective contribution of Asia, the Middle East, and Africa had jumped to 23 percent. With less than one-third of its sales being generated in its home country, McDonald’s is truly a global powerhouse.
Levi’s jeans are appreciated by customers worldwide, as shown by this balloon featured at the Putrajaya International Hot Air Balloon Fiesta.
China and India are increasingly attractive markets to US firms. The countries are the two most populous in the world. Both nations have growing middle classes, which means that more and more people are able to purchase goods and services that are not merely necessities of life. This trend has created tremendous opportunities for some firms. In the first half of 2010, for example, GM sold more vehicles in China than it sold in the United States (1.2 million vs. 1.08 million). This gap seemed likely to expand; in the first half of 2010, GM’s sales in China increased nearly 50 percent relative to 2009 levels, while sales in the United States rose 15 percent (Isidore, 2010).
• Lowering Costs
Many firms that compete in international markets hope to gain cost advantages. If a firm can increase it sales volume by entering a new country, for example, it may attain economies of scale that lower its production costs. Going international also has implications for dealing with suppliers. The growth that overseas expansion creates leads many businesses to purchase supplies in greater numbers. This can provide a firm with stronger leverage when negotiating prices with its suppliers.
Offshoring has become a popular yet controversial means for trying to reduce costs. Offshoring involves relocating a business activity to another country. Many American companies have closed down operations at home in favor of creating new operations in countries such as China and India that offer cheaper labor. While offshoring can reduce a firm’s costs of doing business, the job losses in the firm’s home country can devastate local communities. For example, West Point, Georgia, lost approximately 16,000 jobs in the 1990s and 2000s as local textile factories were shut down in favor of offshoring (Copeland, 2010). Fortunately for the town, Kia’s decision to locate its first US factory in West Point has improved the economy in the past few years. In another example, Fortune Brands saved \$45 million a year by relocating several factories to Mexico, but the employee count in just one of the affected US plants dropped from 1,160 to 350.
A growing number of US companies are finding that offshoring is not providing the benefits they had expected. This has led to a new phenomenon known as reshoring, whereby jobs that had been sent overseas are returning home. In some cases, the quality provided by workers overseas is not good enough. Carbonite, a seller of computer backup services, found that its call center in Boston was providing much strong customer satisfaction than its call center in India. The Boston operation’s higher rating was attained even though it handled the more challenging customer complaints. As a result, Carbonite plans to shift 250 call center jobs back to the United States by the end of 2012.
Concerns about customer service are leading some American firms to shift their call centers back to the United States.
In other cases, the expected cost savings have not materialized. NCR had been making ATMs and self-service checkout systems in China, Hungary, and Brazil. These machines can weigh more than a ton, and NCR found that shipping them from overseas plants back to the United States was extremely expensive. NCR hired 500 workers to start making the ATMs and checkout systems at a plant in Columbus, Georgia. NCR’s plans call for 370 more jobs to be added at the plant by 2014. Similarly, General Electric announced plans to hire approximately 1,300 workers in Louisville, Kentucky, starting in the fall of 2011. These workers will make water heaters and refrigerators that had been produced overseas (Isidore, 2011).
• Diversification of Business Risk
A familiar cliché warns “don’t put all of your eggs in one basket.” Applied to business, this cliché suggests that it is dangerous for a firm to operate in only one country. Business risk refers to the potential that an operation might fail. If a firm is completely dependent on one country, negative events in that country could ruin the firm. Just like spreading one’s eggs into multiple baskets reduces the chances that all eggs will be broken, business risk is reduced when a firm is involved in multiple countries.
Firms can reduce business risk by competing in a variety of international markets. For example, the ampm convenience store chain has locations in the United States, Mexico, Brazil, and Japan.
Consider, for example, natural disasters such as the earthquakes and tsunami that hit Japan in 2011. If Japanese automakers such as Toyota, Nissan, and Honda sold cars only in their home country, the financial consequences could have been grave. Because these firms operate in many countries, however, they were protected from being ruined by events in Japan. In other words, these firms diversified their business risk by not being overly dependent on their Japanese operations.
American cigarette companies such as Philip Morris and R. J. Reynolds are challenged by trends within the United States and Europe. Tobacco use in these areas is declining as more laws are passed that ban smoking in public areas and in restaurants. In response, cigarette makers are attempting to increase their operations within countries where smoking remains popular to remain profitable over time.
In 2006, for example, Philip Morris spent \$5.2 billion to purchase a controlling interest in Indonesian cigarette maker Sampoerna. This was the biggest acquisition ever in Indonesia by a foreign company. Tapping into Indonesia’s population of approximately 230 million people was attractive to Philip Morris in part because nearly two-thirds of men are smokers, and smoking among women is on the rise. As of 2007, Indonesia was the fifth-largest tobacco market in the world, trailing only China, the United States, Russia, and Japan. To appeal to local preferences for cigarettes flavored with cloves, Philip Morris introduced a variety of its signature Marlboro brand called Marlboro Mix 9 that includes cloves in its formulation (The Two Malcontents, 2007).
Trends in the decline of cigarette use in the United States and Europe may snuff out profits enjoyed by brands such as Marlboro.
Figure 7.2 Entering New Markets: Worth the Risk?
• Political Risk
Although competing in international markets offers important potential benefits, such as access to new customers, the opportunity to lower costs, and the diversification of business risk, going overseas also poses daunting challenges. Political risk refers to the potential for government upheaval or interference with business to harm an operation within a country (Figure 7.2). For example, the term “Arab Spring” has been used to refer to a series of uprisings in 2011 within countries such as Tunisia, Egypt, Libya, Bahrain, Syria, and Yemen. Unstable governments associated with such demonstrations and uprisings make it difficult for firms to plan for the future. Over time, a government could become increasingly hostile to foreign businesses by imposing new taxes and new regulations. In extreme cases, a firm’s assets in a country are seized by the national government. This process is called nationalization. In recent years, for example, Venezuela has nationalized foreign-controlled operations in the oil, cement, steel, and glass industries.
Countries with the highest levels of political risk tend to be those such as Somalia, Sudan, and Afghanistan whose governments are so unstable that few foreign companies are willing to enter them. High levels of political risk are also present, however, in several of the world’s important emerging economies, including India, the Philippines, Russia, and Indonesia. This creates a dilemma for firms in that these risky settings also offer enormous growth opportunities. Firms can choose to concentrate their efforts in countries such as Canada, Australia, South Korea, and Japan that have very low levels of political risk, but opportunities in such settings are often more modest (Kostigen, 2011).
Cuban leader Fidel Castro nationalized the assets of thousands of US companies after overthrowing the previous government.
• Economic Risk
Economic risk refers to the potential for a country’s economic conditions and policies, property rights protections, and currency exchange rates to harm a firm’s operations within a country. Executives who lead companies that do business in many different countries have to take stock of these various dimensions and try to anticipate how the dimensions will affect their companies. Because economies are unpredictable, economic risk presents executives with tremendous challenges.
Consider, for example, Kia’s operations in Europe. In May 2009, Kia reported increased sales in ten European countries relative to May 2008. The firm enjoyed a 62 percent year-to-year increase in Slovakia, 58 percent in Austria, 50 percent in Gibraltar, 49 percent in Sweden, 43 percent in Poland, 24 percent in Germany, 21 percent in the United Kingdom, 13 percent in the Czech Republic, 6 percent in Belgium, and 3 percent in Italy (Kia). As Kia’s executives planned for the future, they needed to wonder how economic conditions would influence Kia’s future performance in Europe. If inflation and interest rates were to increase in a particular country, this would make it more difficult for consumers to purchase new Kias. If currency exchange rates were to change such that the euro became weaker relative to the South Korean won, this would make a Kia more expensive for European buyers.
Economic risk involves many complex and daunting elements.
• Cultural Risk
Table 7.3 Cultural Risk: When in Rome
The phrase “When in Rome, do as the Romans do” is used to encourage travelers to embrace local customs. An important part of fitting in is avoiding behaviors that locals consider offensive. Below we illustrate a number of activities that would go largely unnoticed in the United States but could raise concerns in other countries.
If you want to signal “Check please!” to catch the attention of your garçon in France and Belgium, remember that snapping your fingers is vulgar there. In many Asian and Arabian countries, showing the sole of your shoe is considered rude.
Provocative dress is embraced by many Americans, but many people in Muslim countries consider a woman’s clothing to be inappropriate if it reveals anything besides the face and hands. If everything is OK when you’re in Brazil, avoid making the “OK” hand signal. It’s the equivalent to giving someone the middle finger.
Do you pride yourself on your punctuality? You may be wasting your time in Latin American countries, where the locals tend to be about 20 minutes behind schedule. Do not clean your plate in China. Leaving food on the plate indicates the host was so generous that the meal could not be finished.
Do not eat with your left hand in India or Malaysia. That hand is associated with unclean activities reserved for the bathroom.
In Japan, direct eye contact is viewed as impolite.
Cultural risk refers to the potential for a company’s operations in a country to struggle because of differences in language, customs, norms, and customer preferences (Table 7.3). The history of business is full of colorful examples of cultural differences undermining companies. For example, a laundry detergent company was surprised by its poor sales in the Middle East. Executives believed that their product was being skillfully promoted using print advertisements that showed dirty clothing on the left, a box of detergent in the middle, and clean clothing on the right.
A simple and effective message, right? Not exactly. Unlike English and other Western languages, the languages used in the Middle East, such as Hebrew and Arabic, involve reading from right to left. To consumers, the implication of the detergent ads was that the product could be used to take clean clothes and make the dirty. Not surprisingly, few boxes of the detergent were sold before this cultural blunder was discovered.
A refrigerator manufacturer experienced poor sales in the Middle East because of another cultural difference. The firm used a photo of an open refrigerator in its prints ads to demonstrate the large amount of storage offered by the appliance. Unfortunately, the photo prominently featured pork, a type of meat that is not eaten by the Jews and Muslims who make up most of the area’s population (Ricks, 1993). To get a sense of consumers’ reactions, imagine if you saw a refrigerator ad that showed meat from a horse or a dog. You would likely be disgusted. In some parts of world, however, horse and dog meat are accepted parts of diets. Firms must take cultural differences such as these into account when competing in international markets.
This photo would not help sell refrigerators in the Middle East because it includes pork, a meat that is taboo in that part of the world.
Cultural differences can cause problems even when the cultures involved are very similar and share the same language. RecycleBank is an American firm that specializes in creating programs that reward people for recycling, similar to airlines’ frequent-flyer programs. In 2009, RecycleBank expanded its operations into the United Kingdom. Executives at RecycleBank became offended when the British press referred to RecycleBank’s rewards program as a “scheme.” Their concern was unwarranted, however. The word scheme implies sneakiness when used in the United States, but a scheme simply means a service in the United Kingdom (Maltby, 2010). Differences in the meaning of English words between the United States and the United Kingdom are also vexing to American men named Randy, who wonder why Brits giggle at the mention of their name (Table 7.4).
Table 7.4 Watch Your Language
Cultural differences rooted in language—even across English-speaking countries—can affect how firms do business internationally. Below we provide a few examples.
Book and movie titles are often changed in different markets to appeal to different cultural sensibilities. For example, British author J.K. Rowling’s Harry Potter and the Philosopher’s Stone was changed to Harry Potter and the Sorcerer’s Stone in the United States because of the belief that American children would find a philosopher to be boring.
Moms in the states can be seen walking with strollers in their neighborhoods, while “mums” in Ireland and the United Kingdom keep their children moving in a buggy.
In India, you are more likely to hear “no problem” than “no” as Indian nationals avoid the disappointment associated with using the word no.
The area called a trunk in America is known as the a boot in England.
Wondering what it means when a British friend asks, “What’s under your bonnet?” Open the hood of your car to offer an answer.
While Americans look for a flashlight when power goes out, a torch is the preferred term for those outside of North America.
Urban legend says that the Chevrolet Nova did not do well in Spanish speaking countries because the name translates as “no go.” The truth is that the car sold well in both Mexico and Venezuela.
Key Takeaway
• Competing in international markets involves important opportunities and daunting threats. The opportunities include access to new customers, lowering costs, and diversification of business risk. The threats include political risk, economic risk, and cultural risk.
Exercises
1. Is offshoring ethical or unethical? Why?
2. Do you expect reshoring to become more popular in the years ahead? Why or why not?
3. Have you ever seen an advertisement that was culturally offensive? Why do you think that companies are sometimes slow to realize that their ads will offend people? | textbooks/biz/Management/Mastering_Strategic_Management/07%3A_Competing_in_International_Markets/7.02%3A_Advantages_and_Disadvantages_of_Competing_in_International_Markets.txt |
Learning Objectives
1. Explain the elements of the “diamond model.”
2. Understand how the model helps to explain success and failure in international markets.
The title of a book written by newspaper columnist Thomas Friedman attracted a great deal of attention when the book was released in 2005. In The World Is Flat: A Brief History of the 21st Century, Friedman argued that technological advances and increased interconnectedness is leveling the competitive playing field between developed and emerging countries. This means that companies exist in a “flat world” because economies across the globe are converging on a single integrated global system (Friedman, 2005). For executives, a key implication is that a firm’s being based in a particular country is ceasing to be an advantage or disadvantage.
While Friedman’s notion of business becoming a flat world is flashy and attention grabbing, it does not match reality. Research studies conducted since 2005 have found that some firms enjoy advantages based on their country of origin while others suffer disadvantages. A powerful framework for understanding how likely it is that firms based in a particular country will be successful when competing in international markets was provided by Professor Michael Porter of the Harvard Business School (Porter, 1990). The framework is formally known as “the determinants of national advantage,” but it is often referred to more simply as “the diamond model” because of its shape (Table 7.5).
Table 7.5 Diamond Model of National Advantage
Diamonds may be a country’s best friend. Around half of the world’s diamonds are mined in South Africa, giving that country a unique advantage in the global diamond industry. Porter’s Determinants of National advantage (often referred to as the diamond model) includes four key dimensions that help explain why firms located in certain countries are more successful than others in particular industries.
Strategy, Structure, and Rivalry The United States has an overall trade deficit, but it enjoys a trade surplus within the service sector. Fierce domestic competition in industries such as hotels and restaurants has helped make American firms such as Marriott and Subway important players on the world stage.
Factor Conditions The inputs present in a country shape firm’s global competitiveness. The rapid growth of Chinese manufacturers has been fueled by the availability of cheap labor.
Demand Conditions Fussy domestic customers help firms prepare for the global arena. Japanese firms must create excellent goods to meet Japanese consumers’ high expectations about quality, aesthetics, and reliability.
Related and Supporting Industries
Firms benefit when their domestic suppliers and other complementary industries are developed and helpful. Italy’s fashion industry is enhance by the abundance of fine Italian leather and well-known designers.
According to the model, the ability of the firms in an industry whose origin is in a particular country (e.g., South Korean automakers or Italian shoemakers) to be successful in the international arena is shaped by four factors: (1) their home country’s demand conditions, (2) their home country’s factor conditions, (3) related and supporting industries within their home country, and (4) strategy, structure, and rivalry among their domestic competitors.
• Demand Conditions
Within the diamond model, demand conditions refer to the nature of domestic customers (Table 7.6). It is tempting to believe that firms benefit when their domestic customers are perfectly willing to purchase inferior products. This would be a faulty belief! Instead, firms benefit when their domestic customers have high expectations.
Japanese consumers are known for insisting on very high levels of quality, aesthetics, and reliability. Japanese automakers such as Honda, Toyota, and Nissan reap rewards from this situation. These firms have to work hard to satisfy their domestic buyers. Living up to lofty quality standards at home prepares these firms to offer high-quality products when competing in international markets. In contrast, French car buyers do not stand out as particularly fussy. It is probably not a coincidence that French automakers Renault and Peugeot have struggled to gain traction within the global auto industry.
Table 7.6 Demand Conditions
Within the diamond model, demand conditions refer to the nature of domestic customers. Below we provide examples from the worldwide auto industry that illustrate how domestic customers influence firms’ ability to compete in the global arena.
Japanese consumers insist on very high levels of quality, aesthetics, and reliability. This forces Honda, Toyota, and Nissan to rise to a difficult challenge as well as preparing them to dominate internationally.
Because French car buyers are not particularly picky, Renault and Peugeot have not been forced to excel in their home market. Not surprisingly, they have struggled to gain traction within the global auto industry.
Germans place value on the concept of fahrvergnügen, which means “driving pleasure.” Customers around the globe experience driving pleasure when purchasing cars from BMW, Mercedes-Benz, Porsche, and Volkswagen.
The Italian fascination with styling is evident in luxury car brands such as Alfa Romeo, Ferrari, Lamborghini, and Maserati.
To many Americans, bigger is better. This attitude is captured in the Hummer. Originally developed for military use, the Hummer is about as far away from eco-friendly as a vehicle can get.
Demand conditions also help to explain why German automakers such as Porsche, Mercedes-Benz, and BMW create excellent luxury and high-performance vehicles. German consumers value superb engineering. While a car is simply a means of transportation in some cultures, Germans place value on the concept of fahrvergnügen, which means “driving pleasure.” Meanwhile, demand for fast cars is high in Germany because the country has built nearly eight thousand miles of superhighways known as autobahns. No speed limits for cars are enforced on more than half of the eight thousand miles. Many Germans enjoy driving at 150 miles per hour or more, and German automakers must build cars capable of safely reaching and maintaining such speeds. When these companies compete in the international arena, the engineering and performance of their vehicles stand out.
Japanese firms must deliver very high quality to meet the expectations of Japanese consumers.
• Factor Conditions
Factor conditions refer to the nature of raw material and other inputs that firms need to create goods and services (Table 7.7). Examples include land, labor, capital markets, and infrastructure. Firms benefit when they have good access to factor conditions and face challenges when they do not. Companies based in the United States, for example, are able to draw on plentiful natural resources, a skilled labor force, highly developed transportation systems, and sophisticated capital markets to be successful. The dramatic growth of Chinese manufacturers in recent years has been fueled in part by the availability of cheap labor.
Table 7.7 Factor Conditions
The factor conditions in a country serve as the basic building blocks of doing business within the country. Below we provide examples of how important factor conditions have provided competitive advantages for firms based in certain different countries.
Land Russia has the greatest land mass of any country in the world and it enjoys vast oil deposits. This abundance of natural resources has helped Russia’s petroleum industry become one of the largest in the world.
Labor India is the seventh largest country in terms of land mass, but its population size is second only to China. Because India graduates more English speakers annually than the United States, it should come as no surprise that Indian firms have gained ground in the international arena within industries that rely on engineering and computer skills.
Capital
The capital market in the United States is one of the largest and most sophisticated in the world. This has helped American companies fund expansion and innovation over time, making them better prepared for international competition.
Entrepreneurial Ability
Entrepreneurial ability creates national wealth when entrepreneurs develop new innovations that support key industries. Denmark’s low start-up costs and high research and development spending have fueled success in industries such as pharmaceuticals and medical equipment.
In some cases, overcoming disadvantages in factor conditions leads companies to develop unique skills. Japan is a relatively small island nation with little room to spare. This situation has led Japanese firms to be pioneers in the efficient use of warehouse space through systems such as just-in-time inventory management (JIT). Rather than storing large amounts of parts and material, JIT management conserves space—and lowers costs—by requiring inputs to a production process to arrive at the moment they are needed. Their use of JIT management has given Japanese manufacturers an advantage when they compete in international markets.
American furniture makers benefit from the abundance of high-quality lumber in the United States.
• Related and Supporting Industries
Table 7.8 Related and Supporting Industries
The Beatles’ legendary songwriting team of Lennon and McCartney once wrote that they got by “with a little help from my friends.” In Porter’s diamond model, the presence of strong friends in the form of related and supporting industries is one of the keys to national advantage. We provide examples of American industries that excel internationally due in part to help form supporting industries.
A very strong agriculture business helps support the cattle industry—which accounted for approximately four billion dollars worth of exports in 2010.
The same competitive spirit that arises within intramural and varsity sports at the collegiate level fuels the financial services sector and other American industries.
Excellent steel makers and engine manufacturers support the production of one of America’s most lucrative exports—commercial aircraft.
The pharmaceutical industry benefits from the research skills possessed by university-affiliated hospitals.
America’s excellent performing arts schools such as the Juilliard School cultivate the talents of world-famous American performers.
Could Italian shoemakers create some of the world’s best shoes if Italian leather makers were not among the world’s best? Possibly, but it would be much more difficult. The concept of related and supporting industries refers to the extent to which firms’ domestic suppliers and other complementary industries are developed and helpful (Table 7.8). Italian shoemakers such as Salvatore Ferragamo, Prada, Gucci, and Versace benefit from the availability of top-quality leather within their home country. If these shoemakers needed to rely on imported leather, they would lose flexibility and speed.
Fine Italian shoes, such as those found at the famous Via Montenapoleone in Milan, are usually made of fine Italian leather.
The auto industry is a setting where related and supporting industries are very important. Electronics are key components of modern vehicles. South Korean automakers Kia and Hyundai can leverage the excellent electronics provided by South Korean firms Samsung and LG. Similarly, Honda, Nissan, and Toyota are able to draw on the skills of Sony and other Japanese electronics firms. Unfortunately, for French automakers Renault and Peugeot, no French electronics firms are standouts in the international arena. This situation makes it difficult for Renault and Peugeot to integrate electronics into their vehicles as effectively as their South Korean and Japanese rivals.
In extreme cases, the poor condition of related and supporting industries can undermine an operation. Otabo LLC, a small custom shoe company, was forced to shut down its Florida factory in 2008. Otabo struggled to find technicians that had the skills needed to fix its shoemaking machines. Meanwhile, there are very few suppliers of shoelaces, soles, eyelets, and other components in the United States because about 99 percent of the shoes purchased in the United States are imported, mostly from China. The few available suppliers were unwilling to create the small batches of customized materials that Otabo wanted. In the end, the American factory simply could not get access to many of the supplies needed to create shoes (Aeppel, 2008). Production was shifted to China, where all the needed supplies can be found easily and cheaply.
• Firm Strategy, Structure, and Rivalry
Table 7.9 Strategy, Structure, and Rivalry
The concept of firm strategy, structure, and rivalry within the diamond model refers to how challenging it is to survive domestic competition. When domestic competition is fierce, the survivors are well prepared for the international arena. Below we offer examples of some of the most renowned exports that have resulted from the intense competition in domestic markets.
Cuban cigar brands such as Chiba are treasured by cigar aficionados around the globe. Despite U.S. trade sanctions, cigars remain a leading export from Cuba. Over one million weavers work in Iran’s Persian rug industry. Part of the magic behind these world-famous carpets is that excellence is needed in order to fly above a crowded domestic market.
Belgian firms produce over 200 million tons of chocolate each year. Brands that prosper despite this domestic competition stand out when they compete overseas. German breweries produce over five thousand brands of beer. With this high level of domestic rivalry, it is not surprising that German beers excel worldwide.
Say “domo arigato” (Thank you very much) to the Japanese electronics industry, where competitors Seiko, Sony, Hitachi, and others push each other to bring smiles to the faces of consumers wanting a new watch, camera, video game system, or robot.
U.S. movie studios have collectively dominated the global scene since the days of Charlie Chaplin and other silent-film stars.
The concept of firm strategy, structure, and rivalry refers to how challenging it is to survive domestic competition (Table 7.9). The Olympics offer a good analogy for illustrating the positive aspects of very challenging domestic situations. If the competition to make a national team in gymnastics is fierce, the gymnasts who make the team will have been pushed to stretch their abilities and performance. In contrast, gymnasts who faced few contenders in their quest to make a national team will not have been tested with the same level of intensity. When the two types meet at the Olympics, the gymnasts who overcame huge hurdles to make their national teams are likely to have an edge over athletes from countries with few skilled gymnasts.
Companies that have survived intense rivalry within their home markets are likely to have developed strategies and structures that will facilitate their success when they compete in international markets. Hyundai and Kia had to keep pace with each other within the South Korean market before expanding overseas. The leading Japanese automakers—Honda, Nissan, and Toyota—have had to compete not only with one another but also with smaller yet still potent domestic firms such as Isuzu, Mazda, Mitsubishi, Subaru, and Suzuki. In both examples, the need to navigate potent domestic rivals has helped firms later become fearsome international players.
Succeeding despite difficult domestic competition prepares firms to expand their kingdoms into international markets.
If, in contrast, domestic competition is fairly light, a company may enjoy admirable profits within its home market. However, the lack of being pushed by rivals will likely mean that the firm struggles to reach its potential in creativity and innovation. This undermines the firm’s ability to compete overseas and makes it vulnerable to foreign entry into its home market. Because neither Renault nor Peugeot has been a remarkable innovator historically, these French automakers have enjoyed fairly gentle domestic competition. Once the auto industry became a global competition, however, these firms found themselves trailing their Asian rivals.
Key Takeaway
• The likelihood that a firm will succeed when it competes in international markets is shaped by four aspects of its domestic market: (1) demand conditions; (2) factor conditions; (3) related and supporting industries; and (4) strategy, structure, and rivalry among its domestic competitors.
Exercises
1. Which of the four elements of the diamond model do you believe has the strongest influence on a firm’s fate when it competes in international markets?
2. Automakers in China and India have yet to compete on the world stage. Based on the diamond model, would these firms be likely to succeed or fail within the global auto industry? | textbooks/biz/Management/Mastering_Strategic_Management/07%3A_Competing_in_International_Markets/7.03%3A_Drivers_of_Success_and_Failure_When_Competing_in_International_Markets.txt |
Learning Objectives
1. Understand what a multidomestic strategy involves and be able to offer an example.
2. Understand what a global strategy involves and be able to offer an example.
3. Understand what a transnational strategy involves and be able to offer an example.
A firm that has operations in more than one country is known as a multinational corporation (MNC). The largest MNCs are major players within the international arena. Walmart’s annual worldwide sales, for example, are larger than the dollar value of the entire economies of Austria, Norway, and Saudi Arabia. Although Walmart tends to be viewed as an American retailer, the firm earns more than one-quarter of its revenues outside the United States. Walmart owns significant numbers of stores in Mexico (1,730 as of mid-2011), Central America (549), Brazil (479), Japan (414), the United Kingdom (385), Canada (325), Chile (279), and Argentina (63). Walmart also participates in joint ventures in China (328 stores) and India (5).1 Even more modestly sized MNCs are still very powerful. If Kia were a country, its current sales level of approximately \$21 billion would place it in the top 100 among the more than 180 nations in the world.
Multinationals such as Kia and Walmart must choose an international strategy to guide their efforts in various countries. There are three main international strategies available: (1) multidomestic, (2) global, and (3) transnational (Table 7.10). Each strategy involves a different approach to trying to build efficiency across nations and trying to be responsiveness to variation in customer preferences and market conditions across nations.
• Multidomestic Strategy
A firm using a multidomestic strategy sacrifices efficiency in favor of emphasizing responsiveness to local requirements within each of its markets. Rather than trying to force all of its American-made shows on viewers around the globe, MTV customizes the programming that is shown on its channels within dozens of countries, including New Zealand, Portugal, Pakistan, and India. Similarly, food company H. J. Heinz adapts its products to match local preferences. Because some Indians will not eat garlic and onion, for example, Heinz offers them a version of its signature ketchup that does not include these two ingredients.
Table 7.10 International Strategy
• Global Strategy
A firm using a global strategy sacrifices responsiveness to local requirements within each of its markets in favor of emphasizing efficiency. This strategy is the complete opposite of a multidomestic strategy. Some minor modifications to products and services may be made in various markets, but a global strategy stresses the need to gain economies of scale by offering essentially the same products or services in each market.
Microsoft, for example, offers the same software programs around the world but adjusts the programs to match local languages. Similarly, consumer goods maker Procter & Gamble attempts to gain efficiency by creating global brands whenever possible. Global strategies also can be very effective for firms whose product or service is largely hidden from the customer’s view, such as silicon chip maker Intel. For such firms, variance in local preferences is not very important.
• Transnational Strategy
A firm using a transnational strategy seeks a middle ground between a multidomestic strategy and a global strategy. Such a firm tries to balance the desire for efficiency with the need to adjust to local preferences within various countries. For example, large fast-food chains such as McDonald’s and Kentucky Fried Chicken (KFC) rely on the same brand names and the same core menu items around the world. These firms make some concessions to local tastes too. In France, for example, wine can be purchased at McDonald’s. This approach makes sense for McDonald’s because wine is a central element of French diets.
Key Takeaway
• Multinational corporations choose from among three basic international strategies: (1) multidomestic, (2) global, and (3) transnational. These strategies vary in their emphasis on achieving efficiency around the world and responding to local needs.
Exercises
1. Which of the three international strategies is Kia using? Is this the best strategy for Kia to be using?
2. Identify examples of companies using each of the three international strategies other than those described above. Which company do you think is best positioned to compete in international markets?
1Standard & Poor’s stock report on Walmart. | textbooks/biz/Management/Mastering_Strategic_Management/07%3A_Competing_in_International_Markets/7.04%3A_Types_of_International_Strategies.txt |
Learning Objectives
1. Understand the various options for entering an international market.
2. Be able to provide an example of a firm using each option.
Table 7.11 Market Entry Options
French philosopher Michel de Montaigne once quipped that marriage is “a market which has nothing free but the entrance.” When trying to match their goods and services with the promise of love from a new market, executives have multiple entry options—but they should carefully consider each, lest the romance be short-lived.
Exporting involved creating goods at home and then shipping them to another country. Civilian aircraft is a top-ten U.S. export to countries such as Japan, China, Germany, Italy, and France that want to make their skies friendlier for travel.
A wholly owned subsidiary is a business operation in a foreign country that a firm fully owns. Intel established IPLS—a wholly owned subsidiary in Ireland—to facilitate and manage its research throughout the “Emerald Isle.”
Franchising involves “renting” a firm’s brand name and business processes to local entrepreneurs. Curves International has used franchising to bulk up its fitness empire to include over sixty countries.
Licensing involves granting a foreign company the right to create a company’s product in exchange for a fee. This option is frequently used in manufacturing industries, such as when Coca-Cola licenses their secret formulas to local bottlers (without revealing the formulas, of course).
In a joint venture, two or more organizations each contribute to the creation of a new entity. In a strategic alliance, firms work together cooperatively without forming a new organization. Global Nuclear Fuel Co.—a collaboration among General Electric, Toshiba Corporation, and Hitachi Limited—is an example of a joint venture.
When the executives in charge of a firm decide to enter a new country, they must decide how to enter the country. There are five basic options available: (1) exporting, (2) creating a wholly owned subsidiary, (3) franchising, (4) licensing, and (5) creating a joint venture or strategic alliance (Table 7.11). These options vary in terms of how much control a firm has over its operation, how much risk is involved, and what share of the operation’s profits the firm gets to keep.
• Exporting
Exporting involves creating goods within a firm’s home country and then shipping them to another country. Once the goods reach foreign shores, the exporter’s role is over. A local firm then sells the goods to local customers. Many firms that expand overseas start out as exporters because exporting offers a low-cost method to find out whether a firm’s products are appealing to customers in other lands. Some Asian automakers, for example, first entered the US market though exporting. Small firms may rely on exporting because it is a low-cost option.
Exporting often relies on huge cargo ships, such as this one docked in Cyprus.
Once a firm’s products are found to be viable in a particular country, exporting often becomes undesirable. A firm that exports its goods loses control of them once they are turned over to a local firm for sale locally. This local distributor may treat customers poorly and thereby damage the firm’s brand. Also, an exporter only makes money when it sells its goods to a local firm, not when end users buy the goods. Executives may want their firm rather than a local distributor to enjoy the profits that are made when products are sold to individual customers.
• Creating a Wholly Owned Subsidiary
A wholly owned subsidiary is a business operation in a foreign country that a firm fully owns. A firm can develop a wholly owned subsidiary through a greenfield venture, meaning that the firm creates the entire operation itself. Another possibility is purchasing an existing operation from a local company or another foreign operator.
Regardless of whether a firm builds a wholly owned subsidiary “from scratch” or acquires an existing operation, having a wholly owned subsidiary can be attractive because the firm maintains complete control over the operation and gets to keep all of the profits that the operation makes. A wholly owned subsidiary can be quite risky, however, because the firm must pay all of the expenses required to set it up and operate it. Kia, for example, spent \$1 billion to build its US factory. Many firms are reluctant to spend such sums in more volatile countries because they fear that they may never recoup their investments.
• Franchising
Table 7.12 Franchising: A Leading American Export
Franchising is a popular way for firms to grow internationally. Below we provide examples of US-based franchises that are successful worldwide.
In many Asian countries, McDonald’s franchises offer side dishes such as rice alongside its signature French fries.
If you grow tired of strudel while in Germany, remember that Dunkin’ Donuts has over 2,500 stores in 30 countries outside of the United States.
Legend says that the first sandwich was created when John Montagu, the fourth Earl of Sandwich, ordered meat tucked between bread so he could play cards and eat at the same time. The sandwich remains popular in Europe, where Subway boasts over one thousand franchised restaurants.
All KFCs in Japan prominently feature a statue of KFC’s founder Colonel Sanders.
If a franchised store in Norway was open during the age of the Vikings, its slogan may have been “Thank Asgard for 7-11.”
Franchising has been used by many firms that compete in service industries to develop a worldwide presence (Table 7.12). Subway, The UPS Store, and Hilton Hotels are just a few of the firms that have done so. Franchising involves an organization (called a franchisor) granting the right to use its brand name, products, and processes to other organizations (known as franchisees) in exchange for an up-front payment (a franchise fee) and a percentage of franchisees’ revenues (a royalty fee).
Franchising is an attractive way to enter foreign markets because it requires little financial investment by the franchisor. Indeed, local franchisees must pay the vast majority of the expenses associated with getting their businesses up and running. On the downside, the decision to franchise means that a firm will get to enjoy only a small portion of the profits made under its brand name. Also, local franchisees may behave in ways that the franchisor does not approve. For example, Kentucky Fried Chicken (KFC) was angered by some of its franchisees in Asia when they started selling fish dishes without KFC’s approval. It is often difficult to fix such problems because laws in many countries are stacked in favor of local businesses. Last, franchises are only successful if franchisees are provided with a simple and effective business model. Executives thus need to avoid expanding internationally through franchising until their formula has been perfected.
Firms should own a thoroughly proven business model before franchising in other countries.
• Licensing
While franchising is an option within service industries, licensing is most frequently used in manufacturing industries. Licensing involves granting a foreign company the right to create a company’s product within a foreign country in exchange for a fee. These relationships often center on patented technology. A firm that grants a license avoids absorbing a lot of costs, but its profits are limited to the fees that it collects from the local firm. The firm also loses some control over how its technology is used.
A historical example involving licensing illustrates how rapidly events can change within the international arena. By the time Japan surrendered to the United States and its Allies in 1945, World War II had crippled the country’s industrial infrastructure. In response to this problem, Japanese firms imported a great deal of technology, especially from American firms. When the Korean War broke out in the early 1950s, the American military relied on Jeeps made in Japan using licensed technology. In just a few years, a mortal enemy had become a valuable ally.
Strategy at the Movies
Gung Ho
Can American workers survive under Japanese management? Although this sounds like the premise for a bad reality TV show, the question was a legitimate consideration for General Motors (GM) and Toyota in the early 1980s. GM was struggling at the time to compete with the inexpensive, reliable, and fuel-efficient cars produced by Japanese firms. Meanwhile, Toyota was worried that the US government would limit the number of foreign cars that could be imported. To address these issues, these companies worked together to reopen a defunct GM plant in Fremont, California, in 1984 that would manufacture both companies’ automobiles in one facility. The plant had been the worst performer in the GM system; however, under Toyota’s management, the New United Motor Manufacturing Incorporated (NUMMI) plant became the best factory associated with GM—using the same workers as before! Despite NUMMI’s eventual success, the joint production plant experienced significant growing pains stemming from the cultural differences between Japanese managers and American workers.
The NUMMI story inspired the 1986 movie Gung Ho in which a closed automobile manufacturing plant in Hadleyville, Pennsylvania, was reopened by Japanese car company Assan Motors. While Assan Motors and the workers of Hadleyville were both excited about the venture, neither was prepared for the differences between the two cultures. For example, Japanese workers feel personally ashamed when they make a mistake. When manager Oishi Kazihiro failed to meet production targets, he was punished with “ribbons of shame” and forced to apologize to his employees for letting them down. In contrast, American workers were presented in the film as likely to reject management authority, prone to fighting at work, and not opposed to taking shortcuts.
When Assan Motors’ executives attempted to institute morning calisthenics and insisted that employees work late without overtime pay, the American workers challenged these policies and eventually walked off the production line. Assan Motors’ near failure was the result of differences in cultural norms and values. Gung Ho illustrates the value of understanding and bridging cultural differences to facilitate successful cross-cultural collaboration, value that was realized in real life by NUMMI.
• Joint Ventures and Strategic Alliances
Within each market entry option described earlier, a firm either maintains strong control of operations (wholly owned subsidiary) or it turns most control over to a local firm (exporting, franchising, and licensing). In some cases, however, executives find it beneficial to work closely with one or more local partners in a joint venture or a strategic alliance. In a joint venture, two or more organizations each contribute to the creation of a new entity. In a strategic alliance, firms work together cooperatively, but no new organization is formed. In both cases, the firm and its local partner or partners share decision-making authority, control of the operation, and any profits that the relationship creates.
Joint ventures and strategic alliances are especially attractive when a firm believes that working closely with locals will provide it important knowledge about local conditions, facilitate acceptance of their involvement by government officials, or both. In the late 1980s, China was a difficult market for American businesses to enter. Executives at KFC saw China as an attractive country because chicken is a key element of Chinese diets. After considering the various options for entering China with its first restaurant, KFC decided to create a joint venture with three local organizations. KFC owned 51 percent of the venture; having more than half of the operation was advantageous in case disagreements arose. A Chinese bank owned 25 percent, the local tourist bureau owned 14 percent, and the final 10 percent was owned by a local chicken producer that would supply the restaurant with its signature food item.
Having these three local partners helped KFC navigate the cumbersome regulatory process that was in place and allowed the American firm to withstand the scrutiny of wary Chinese officials. Despite these advantages, it still took more than a year for the store to be built and approved. Once open in 1987, however, KFC was an instant success in China. As China’s economy gradually became more and more open, KFC was a major beneficiary. By the end of 1997, KFC operated 191 restaurants in 50 Chinese cities. By the start of 2011, there were approximately 3,200 KFCs spread across 850 Chinese cites. Roughly 90 percent of these restaurants are wholly owned subsidiaries of KFC—a stark indication of how much doing business in China has changed over the past twenty-five years.
As of early 2011, KFC was opening a new store in China every eighteen hours on average.
Key Takeaway
• When entering a new country, executives can choose exporting, creating a wholly owned subsidiary, franchising, licensing, and creating a joint venture or strategic alliance. The key issues of how much control a firm has over its operation, how much risk is involved, and what share of the operation’s profits the firm gets to keep all vary across these options.
Exercises
1. Do you believe that KFC would have been so successful in China today if executives had tried to make their first store a wholly owned subsidiary? Why or why not?
2. The typical joint venture only lasts a few years. Why might joint ventures dissolve so quickly?
7.06: Conclusion
This chapter explains competition in international markets. Executives must consider the benefits and risks of competing internationally when making decisions about whether to expand overseas. Executives also need to determine the likelihood that their firms will succeed when they compete in international markets by examining demand conditions, factor conditions, related and supporting industries, and strategy, structure, and rivalry among its domestic competitors. When a firm does venture overseas, a decision must be made about whether its international strategy will be multidomestic, global, or transnational. Finally, when leading a firm to enter a new market, executives can choose to manage the operation via exporting, creating a wholly owned subsidiary, franchising, licensing, and creating a joint venture or strategic alliance.
Exercises
1. Divide your class into four or eight groups, depending on the size of the class. Each group should select a different industry. Find examples of each international strategy for your industry. Discuss which strategy seems to be the most successful in your selected industry.
2. This chapter discussed Kia and other automakers. If you were assigned to turn around a struggling automaker such as General Motors or Chrysler, what actions would you take to revive the company’s prospects within the global auto industry? | textbooks/biz/Management/Mastering_Strategic_Management/07%3A_Competing_in_International_Markets/7.05%3A_Options_for_Competing_in_International_Markets.txt |
Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. Why might a firm concentrate on a single industry?
2. What is vertical integration and what benefits can it provide?
3. What are the two types of diversification and when should they be used?
4. Why and how might a firm retrench or restructure?
5. What is portfolio planning and why is it useful?
What’s the Big Picture at Disney?
Walt Disney remains a worldwide icon five decades after his death.
The animated film Cars 2 was released by Pixar Animation Studios in late June 2011. This sequel to the smash hit Cars made \$66 million at the box office on its opening weekend and appeared likely to be yet another commercial success for Pixar’s parent corporation, The Walt Disney Company. By the second weekend after its release, Cars 2 had raked in \$109 million.
Although Walt Disney was a visionary, even he would have struggled to imagine such enormous numbers when his company was created. In 1923, Disney Brothers Cartoon Studio was started by Walt and his brother Roy in their uncle’s garage. The fledgling company gained momentum in 1928 when a character was invented that still plays a central role for Disney today—Mickey Mouse. Disney expanded beyond short cartoons to make its first feature film, Snow White and the Seven Dwarves, in 1937.
Following a string of legendary films such as Pinocchio (1940), Fantasia (1940), Bambi (1942), and Cinderella (1950), Walt Disney began to diversify his empire. His company developed a television series for the American Broadcasting Company (ABC) in 1954 and opened the Disneyland theme park in 1955. Shortly before its opening, the theme park was featured on the television show to expose the American public to Walt’s innovative ideas. One of the hosts of that episode was Ronald Reagan, who twenty-five years later became president of the United States. A larger theme park, Walt Disney World, was opened in Orlando in 1971. Roy Disney died just two months after Disney World opened; his brother Walt had passed in 1966 while planning the creation of the Orlando facility.
The Walt Disney Company began a series of acquisitions in 1993 with the purchase of movie studio Miramax Pictures. ABC was acquired in 1996, along with its very successful sports broadcasting company, ESPN. Two other important acquisitions were made during the following decade. Pixar Studios was purchased in 2006 for \$7.4 billion. This strategic move brought a very creative and successful animation company under Disney’s control. Three years later, Marvel Entertainment was acquired for \$4.24 billion. Marvel was attractive because of its vast roster of popular characters, including Iron Man, the X-Men, the Incredible Hulk, the Fantastic Four, and Captain America. In addition to featuring these characters in movies, Disney could build attractions around them within its theme parks.
With annual revenues in excess of \$38 billion, The Walt Disney Company was the largest media conglomerate in the world by 2010. It was active in four key industries. Disney’s theme parks included not only its American locations but also joint ventures in France and Hong Kong. A park in Shanghai, China, is slated to open by 2016. The theme park business accounted for 28 percent of Disney’s revenues.
Disney’s presence in the television industry, including ABC, ESPN, Disney Channel, and ten television stations, accounted for 45 percent of revenues. Disney’s original business, filmed entertainment, accounted for 18 percent of revenue. Merchandise licensing was responsible for 7 percent of revenue. This segment of the business included children’s books, video games, and 350 stores spread across North American, Europe, and Japan. The remaining 2 percent of revenues were derived from interactive online technologies. Much of this revenue was derived from Playdom, an online gaming company that Disney acquired in 2010.1
By mid-2011, questions arose about how Disney was managing one of its most visible subsidiaries. Pixar’s enormous success had been built on creativity and risk taking. Pixar executives were justifiably proud that they made successful movies that most studios would view as quirky and too off-the-wall. A good example is 2009’s Up!, which made \$730 million despite having unusual main characters: a grouchy widower, a misfit “Wilderness Explorer” in search of a merit badge for helping the elderly, and a talking dog. Disney executives, however, seemed to be adopting a much different approach to moviemaking. In a February 2011 speech, Disney’s chief financial officer noted that Disney intended to emphasize movie franchises such as Toy Story and Cars that can support sequels and sell merchandise.
When the reviews of Pixar’s Cars 2 came out in June, it seemed that Disney’s preferences were the driving force behind the movie. The film was making money, but it lacked Pixar’s trademark artistry. One movie critic noted, “With Cars 2, Pixar goes somewhere new: the ditch.” Another suggested that “this frenzied sequel seldom gets beyond mediocrity.” A stock analyst that follows Disney perhaps summed up the situation best when he suggested that Cars 2 was “the worst-case scenario.…A movie created solely to drive merchandise. It feels cynical. Parents may feel they’re watching a two-hour commercial (Stewart, 2011).” Looking to the future, Pixar executives had to wonder whether their studio could excel as part of a huge firm. Would Disney’s financial emphasis destroy the creativity that made Pixar worth more than \$7 billion in the first place? The big picture was definitely unclear.
Will John Lassiter, Pixar’s chief creative officer, be prevented from making more quirky films like Up! by parent company Disney?
When dealing with corporate-level strategy, executives seek answers to a key question: In what industry or industries should our firm compete? The executives in charge of a firm such as The Walt Disney Company must decide whether to remain within their present domains or venture into new ones. In Disney’s case, the firm has expanded from its original business (films) and into television, theme parks, and several others. In contrast, many firms never expand beyond their initial choice of industry.
1Standard & Poor’s stock report on The Walt Disney Company. | textbooks/biz/Management/Mastering_Strategic_Management/08%3A_Selecting_Corporate-Level_Strategies/8.01%3A_Selecting_Corporate-Level_Strategies.txt |
Learning Objectives
1. Name and understand the three concentration strategies.
2. Be able to explain horizontal integration and two reasons why it often fails.
For many firms, concentration strategies are very sensible. These strategies involve trying to compete successfully only within a single industry. McDonald’s, Starbucks, and Subway are three firms that have relied heavily on concentration strategies to become dominant players.
Table 8.1 Concentration Strategies
Concentration strategies involve trying to grow by successfully competing only within a single industry. WE illustrate the three concentration strategies below.
Market penetration involves trying to gain additional share of a firm’s existing markets using existing products—often by relying on extensive advertising. Perhaps the most famous example of two close rivals simultaneously attempting market penetration is the “cola wars” where Coca-Cola and PepsiCo fight for share in the soft drink market. Pepsi’s blind taste tests in 1975 called the Pepsi Challenge is one of the more famous attacks in this ongoing battle.
Market development involves taking existing products and trying to sell them within new markets. Starbucks engages in market development by selling their beans and bottled drinks in grocery stores. Apple engages in market development by allowing customers in Starbucks stores to connect directly to iTunes store and Starbucks Now Playing content. Customers are offered a free download to get them to visit iTunes—and to perhaps purchase more songs.
Product development involves creating new products to serve existing markets. King Gillette, an American businessman whose family hailed from France, pioneered the safety razor that bears his family name. His company’s more recent innovations in the razor market include Trac II (the first two-bald razor), Altra (first razor with a pivoting head), Sensor (first razor with spring-loaded blades), Mach 3 (first three-blade razor), and Fusion (first six-blade razor). Is the ten-blade razor coming soon?
• Market Penetration
There are three concentration strategies: (1) market penetration, (2) market development, and (3) product development (Table 8.1). A firm can use one, two, or all three as part of their efforts to excel within an industry (Ansoff, 1957). Market penetration involves trying to gain additional share of a firm’s existing markets using existing products. Often firms will rely on advertising to attract new customers with existing markets.
Nike, for example, features famous athletes in print and television ads designed to take market share within the athletic shoes business from Adidas and other rivals. McDonald’s has pursued market penetration in recent years by using Latino themes within some of its advertising. The firm also maintains a Spanish-language website at www.meencanta.com; the website’s name is the Spanish translation of McDonald’s slogan “I’m lovin’ it.” McDonald’s hopes to gain more Latino customers through initiatives such as this website.
Nike relies in part on a market penetration strategy within the athletic shoe business.
• Market Development
Market development involves taking existing products and trying to sell them within new markets. One way to reach a new market is to enter a new retail channel. Starbucks, for example, has stepped beyond selling coffee beans only in its stores and now sells beans in grocery stores. This enables Starbucks to reach consumers that do not visit its coffeehouses.
Starbucks’ market development strategy has allowed fans to buy its beans in grocery stores.
Entering new geographic areas is another way to pursue market development. Philadelphia-based Tasty Baking Company has sold its Tastykake snack cakes since 1914 within Pennsylvania and adjoining states. The firm’s products have become something of a cult hit among customers, who view the products as much tastier than the snack cakes offered by rivals such as Hostess and Little Debbie. In April 2011, Tastykake was purchased by Flowers Foods, a bakery firm based in Georgia. When it made this acquisition, Flower Foods announced its intention to begin extensively distributing Tastykake’s products within the southeastern United States. Displaced Pennsylvanians in the south rejoiced.
• Product Development
Product development involves creating new products to serve existing markets. In the 1940s, for example, Disney expanded its offerings within the film business by going beyond cartoons and creating movies featuring real actors. More recently, McDonald’s has gradually moved more and more of its menu toward healthy items to appeal to customers who are concerned about nutrition.
In 2009, Starbucks introduced VIA, an instant coffee variety that executives hoped would appeal to their customers when they do not have easy access to a Starbucks store or a coffeepot. The soft drink industry is a frequent location of product development efforts. Coca-Cola and Pepsi regularly introduce new varieties—such as Coke Zero and Pepsi Cherry Vanilla—in an attempt to take market share from each other and from their smaller rivals.
Product development is a popular strategy in the soft-drink industry, but not all developments pay off. Coca-Cola Black (a blending of cola and coffee flavors) was launched in 2006 but discontinued in 2008.
Seattle-based Jones Soda Co. takes a novel approach to product development. Each winter, the firm introduces a holiday-themed set of unusual flavors. Jones Soda’s 2006 set focus on the flavors of Thanksgiving. It contained Green Pea, Sweet Potato, Dinner Roll, Turkey and Gravy, and Antacid sodas. The flavors of Christmas were the focus of 2007’s set, which included Sugar Plum, Christmas Tree, Egg Nog, and Christmas Ham. In early 2011, Jones Soda let it customers choose the winter 2011 flavors via a poll on its website. The winners were Candy Cane, Gingerbread, Pear Tree, and Egg Nog. None of these holiday flavors are expected to be big hits, of course. The hope is that the buzz that surrounds the unusual flavors each year will grab customers’ attention and get them to try—and become hooked on—Jones Soda’s more traditional flavors.
• Horizontal Integration: Mergers and Acquisitions
Table 8.2 Horizontal Integration
Horizontal integrations refers to pursuing a concentration strategy by acquiring or merging with a rival. The term merger is generally used when two similarly sized firms are integrated into a single entity. In an acquisition, a larger firm purchases and absorbs a smaller firm. We illustrate examples of each below.
ExxonMobil is a direct descendant of John D. Rockefeller’s Standard Oil Company. It was formed by the 1999 merger of Exxon and Mobil. As in many mergers, the new company name combines the old company names.
Starbucks acquired competitor Seattle’s Best Coffee—which had a presence in Borders Bookstores and Subway Restaurants—in order to target a more working-class audience without diluting the Starbucks brand.
Bill Hewlett and Dave Packard formed Hewlett-Packard in a garage after graduating from Stanford in 1935. In recent years, HP has pursued horizontal integration through a merger with Compaq and the acquisition of Palm.
DaimlerChrysler was formed in 1998 when Chrysler entered into what was billed as a “merger of equals” with Germany’s Daimler-Benz AG. The marriage failed, and Chrysler is currently owned by Italian automaker Fiat.
Global pharmaceutical firm GlaxoSmithKline plc was formed by the merger of GlaxoWellcome plc and SmithKline Beecham plc in 200.
Rather than rely on their own efforts, some firms try to expand their presence in an industry by acquiring or merging with one of their rivals. This strategic move is known as horizontal integration (Table 8.2). An acquisition takes place when one company purchases another company. Generally, the acquired company is smaller than the firm that purchases it. A merger joins two companies into one. Mergers typically involve similarly sized companies. Disney was much bigger than Miramax and Pixar when it joined with these firms in 1993 and 2006, respectively, thus these two horizontal integration moves are considered to be acquisitions.
Horizontal integration can be attractive for several reasons. In many cases, horizontal integration is aimed at lowering costs by achieving greater economies of scale. This was the reasoning behind several mergers of large oil companies, including BP and Amoco in 1998, Exxon and Mobil in 1999, and Chevron and Texaco in 2001. Oil exploration and refining is expensive. Executives in charge of each of these six corporations believed that greater efficiency could be achieved by combining forces with a former rival. Considering horizontal integration alongside Porter’s five forces model highlights that such moves also reduce the intensity of rivalry in an industry and thereby make the industry more profitable.
Some purchased firms are attractive because they own strategic resources such as valuable brand names. Acquiring Tasty Baking was appealing to Flowers Foods, for example, because the name Tastykake is well known for quality in heavily populated areas of the northeastern United States. Some purchased firms have market share that is attractive. Part of the motivation behind Southwest Airlines’ purchase of AirTran was that AirTran had a significant share of the airline business in cities—especially Atlanta, home of the world’s busiest airport—that Southwest had not yet entered. Rather than build a presence from nothing in Atlanta, Southwest executives believed that buying a position was prudent.
Horizontal integration can also provide access to new distribution channels. Some observers were puzzled when Zuffa, the parent company of the Ultimate Fighting Championship (UFC), purchased rival mixed martial arts (MMA) promotion Strikeforce. UFC had such a dominant position within MMA that Strikeforce seemed to add very little for Zuffa. Unlike UFC, Strikeforce had gained exposure on network television through broadcasts on CBS and its partner Showtime. Thus acquiring Strikeforce might help Zuffa gain mainstream exposure of its product (Wagenheim, 2011).
The combination of UFC and Strikeforce into one company may accelerate the growing popularity of mixed martial arts.
Despite the potential benefits of mergers and acquisitions, their financial results often are very disappointing. One study found that more than 60 percent of mergers and acquisitions erode shareholder wealth while fewer than one in six increases shareholder wealth (Henry, 2002). Some of these moves struggle because the cultures of the two companies cannot be meshed. This chapter’s opening vignette suggests that Disney and Pixar may be experiencing this problem. Other acquisitions fail because the buyer pays more for a target company than that company is worth and the buyer never earns back the premium it paid.
In the end, between 30 percent and 45 percent of mergers and acquisitions are undone, often at huge losses (Hitt, et. al., 2001). For example, Mattel purchased The Learning Company in 1999 for \$3.6 billion and sold it a year later for \$430 million—12 percent of the original purchase price. Similarly, Daimler-Benz bought Chrysler in 1998 for \$37 billion. When the acquisition was undone in 2007, Daimler recouped only \$1.5 billion worth of value—a mere 4 percent of what it paid. Thus executives need to be cautious when considering using horizontal integration.
Key Takeaways
• A concentration strategy involves trying to compete successfully within a single industry.
• Market penetration, market development, and product development are three methods to grow within an industry. Mergers and acquisitions are popular moves for executing a concentration strategy, but executives need to be cautious about horizontal integration because the results are often poor.
Exercises
1. Suppose the president of your college or university decided to merge with or acquire another school. What schools would be good candidates for this horizontal integration move? Would the move be a success?
2. Given that so many mergers and acquisitions fail, why do you think that executives keep making horizontal integration moves?
3. Can you identify a struggling company that could benefit from market penetration, market development, or product development? What might you advise this company’s executives to do differently? | textbooks/biz/Management/Mastering_Strategic_Management/08%3A_Selecting_Corporate-Level_Strategies/8.02%3A_Concentration_Strategies.txt |
Learning Objectives
1. Understand what backward vertical integration is.
2. Understand what forward vertical integration is.
3. Be able to provide examples of backward and forward vertical integration.
When pursuing a vertical integration strategy, a firm gets involved in new portions of the value chain (Table 8.3). This approach can be very attractive when a firm’s suppliers or buyers have too much power over the firm and are becoming increasingly profitable at the firm’s expense. By entering the domain of a supplier or a buyer, executives can reduce or eliminate the leverage that the supplier or buyer has over the firm. Considering vertical integration alongside Porter’s five forces model highlights that such moves can create greater profit potential. Firms can pursue vertical integration on their own, such as when Apple opened stores bearing its brand, or through a merger or acquisition, such as when eBay purchased PayPal.
In the late 1800s, Carnegie Steel Company was a pioneer in the use of vertical integration. The firm controlled the iron mines that provided the key ingredient in steel, the coal mines that provided the fuel for steelmaking, the railroads that transported raw material to steel mills, and the steel mills themselves. Having control over all elements of the production process ensured the stability and quality of key inputs. By using vertical integration, Carnegie Steel achieved levels of efficiency never before seen in the steel industry.
Table 8.3 Vertical Integration at American Apparel
When using vertical integration, firms get involved in different elements of the value chain. This concept gets top billing at American Apparel, a firm that describes its business model as “vertically integrated manufacturing.” The elements of their integrated process for designing, manufacturing, wholesaling, and selling basic T-shirts, underwear, leggings, dresses, and other clothing and accessories for men, women, children, and dogs is illustrated below.
Backward vertical integration — entering a supplier’s business—is evident as all clothing design is done in-house—often using employees as models.
Manufacturing is conducted in a 800,000 square foot factory in downtown Los Angeles.
Ironically, it was a Canadian named Dov Charney who founded American Apparel in 1989.
The vertical integration process allows the company to keep pace with the fast-moving world of fashion. It takes just a couple of weeks to go from idea to retail floor.
American Apparel uses forward vertical integration—entering a buyer’s business—by operating 250 plus company-owned stores worldwide.
Today, oil companies are among the most vertically integrated firms. Firms such as ExxonMobil and ConocoPhillips can be involved in all stages of the value chain, including crude oil exploration, drilling for oil, shipping oil to refineries, refining crude oil into products such as gasoline, distributing fuel to gas stations, and operating gas stations.
The risk of not being vertically integrated is illustrated by the 2010 Deepwater Horizon oil spill in the Gulf of Mexico. Although the US government held BP responsible for the disaster, BP cast at least some of the blame on drilling rig owner Transocean and two other suppliers: Halliburton Energy Services (which created the cement casing for the rig on the ocean floor) and Cameron International Corporation (which had sold Transocean blowout prevention equipment that failed to prevent the disaster). In April 2011, BP sued these three firms for what it viewed as their roles in the oil spill.
The 2010 explosion of the Deepwater Horizon oil rig cost eleven lives and released nearly five million barrels of crude oil into the Gulf of Mexico.
Vertical integration also creates risks. Venturing into new portions of the value chain can take a firm into very different businesses. A lumberyard that started building houses, for example, would find that the skills it developed in the lumber business have very limited value to home construction. Such a firm would be better off selling lumber to contractors.
Vertical integration can also create complacency. Consider, for example, a situation in which an aluminum company is purchased by a can company. People within the aluminum company may believe that they do not need to worry about doing a good job because the can company is guaranteed to use their products. Some companies try to avoid this problem by forcing their subsidiary to compete with outside suppliers, but this undermines the reason for purchasing the subsidiary in the first place.
• Backward Vertical Integration
A backward vertical integration strategy involves a firm moving back along the value chain and entering a supplier’s business. Some firms use this strategy when executives are concerned that a supplier has too much power over their firms. In the early days of the automobile business, Ford Motor Company created subsidiaries that provided key inputs to vehicles such as rubber, glass, and metal. This approach ensured that Ford would not be hurt by suppliers holding out for higher prices or providing materials of inferior quality.
To ensure high quality, Ford relied heavily on backward vertical integration in the early days of the automobile industry.
Although backward vertical integration is usually discussed within the context of manufacturing businesses, such as steelmaking and the auto industry, this strategy is also available to firms such as Disney that compete within the entertainment sector. ESPN is a key element of Disney’s operations within the television business. Rather than depend on outside production companies to provide talk shows and movies centered on sports, ESPN created its own production company. ESPN Films is a subsidiary of ESPN that was created in 2001. ESPN Films has created many of ESPN’s best-known programs, including Around the Horn and Pardon the Interruption. By owning its own production company, ESPN can ensure that it has a steady flow of programs that meet its needs.
• Forward Vertical Integration
A forward vertical integration strategy involves a firm moving further down the value chain to enter a buyer’s business. Disney has pursued forward vertical integration by operating more than three hundred retail stores that sell merchandise based on Disney’s characters and movies. This allows Disney to capture profits that would otherwise be enjoyed by another store. Each time a Hannah Montana book bag is sold through a Disney store, the firm makes a little more profit than it would if the same book bag were sold by a retailer such as Target.
Forward vertical integration also can be useful for neutralizing the effect of powerful buyers. Rental car agencies are able to insist on low prices for the vehicles they buy from automakers because they purchase thousands of cars. If one automaker stubbornly tries to charge high prices, a rental car agency can simply buy cars from a more accommodating automaker. It is perhaps not surprising that Ford purchased Hertz Corporation, the world’s biggest rental car agency, in 1994. This ensured that Hertz would not drive too hard of a bargain when buying Ford vehicles. By 2005, selling vehicles to rental car companies had become less important to Ford and Ford was struggling financially. The firm then reversed its forward vertical integration strategy by selling Hertz.
The massive number of cars purchased by rental car agencies makes forward vertical integration a tempting strategy for automakers.
eBay’s purchase of PayPal and Apple’s creation of Apple Stores are two recent examples of forward vertical integration. Despite its enormous success, one concern for eBay is that many individuals avoid eBay because they are nervous about buying and selling goods online with strangers. PayPal addressed this problem by serving, in exchange for a fee, as an intermediary between online buyers and sellers. eBay’s acquisition of PayPal signaled to potential customers that their online transactions were completely safe—eBay was now not only the place where business took place but eBay also protected buyers and sellers from being ripped off.
Apple’s ownership of its own branded stores set the firm apart from computer makers such as Hewlett-Packard, Acer, and Gateway that only distribute their products through retailers like Best Buy and Office Depot. Employees at Best Buy and Office Depot are likely to know just a little bit about each of the various brands their store carries.
In contrast, Apple’s stores are popular in part because store employees are experts about Apple products. They can therefore provide customers with accurate and insightful advice about purchases and repairs. This is an important advantage that has been created through forward vertical integration.
Key Takeaway
• Vertical integration occurs when a firm gets involved in new portions of the value chain. By entering the domain of a supplier (backward vertical integration) or a buyer (forward vertical integration), executives can reduce or eliminate the leverage that the supplier or buyer has over the firm.
Exercises
1. Identify a well-known company that does not use backward or forward vertical integration. Why do you believe that the firm’s executives have avoided these strategies?
2. Some universities have used vertical integration by creating their own publishing companies. The Harvard Business Press is perhaps the best-known example. Are there other ways that a university might vertical integrate? If so, what benefits might this create? | textbooks/biz/Management/Mastering_Strategic_Management/08%3A_Selecting_Corporate-Level_Strategies/8.03%3A_Vertical_Integration_Strategies.txt |
Learning Objectives
1. Explain the concept of diversification.
2. Be able to apply the three tests for diversification.
3. Distinguish related and unrelated diversification.
Firms using diversification strategies enter entirely new industries. While vertical integration involves a firm moving into a new part of a value chain that it is already is within, diversification requires moving into new value chains. Many firms accomplish this through a merger or an acquisition, while others expand into new industries without the involvement of another firm.
• Three Tests for Diversification
A proposed diversification move should pass three tests or it should be rejected (Porter, 1987).
1. How attractive is the industry that a firm is considering entering? Unless the industry has strong profit potential, entering it may be very risky.
2. How much will it cost to enter the industry? Executives need to be sure that their firm can recoup the expenses that it absorbs in order to diversify. When Philip Morris bought 7Up in the late 1970s, it paid four times what 7Up was actually worth. Making up these costs proved to be impossible and 7Up was sold in 1986.
3. Will the new unit and the firm be better off? Unless one side or the other gains a competitive advantage, diversification should be avoided. In the case of Philip Morris and 7Up, for example, neither side benefited significantly from joining together.
• Related Diversification
Related diversification occurs when a firm moves into a new industry that has important similarities with the firm’s existing industry or industries (Figure 8.4 the Lauder Empire”). Because films and television are both aspects of entertainment, Disney’s purchase of ABC is an example of related diversification. Some firms that engage in related diversification aim to develop and exploit a core competency to become more successful. A core competency is a skill set that is difficult for competitors to imitate, can be leveraged in different businesses, and contributes to the benefits enjoyed by customers within each business (Prahalad & Hamel, 1990). For example, Newell Rubbermaid is skilled at identifying underperforming brands and integrating them into their three business groups: (1) home and family, (2) office products, and (3) tools, hardware, and commercial products.
Figure 8.4 The Sweet Fragrance of Success: The Brands That “Make Up” the Lauder Empire
Honda Motor Company provides a good example of leveraging a core competency through related diversification. Although Honda is best known for its cars and trucks, the company actually started out in the motorcycle business. Through competing in this business, Honda developed a unique ability to build small and reliable engines. When executives decided to diversify into the automobile industry, Honda was successful in part because it leveraged this ability within its new business. Honda also applied its engine-building skills in the all-terrain vehicle, lawn mower, and boat motor industries.
Honda’s related diversification strategy has taken the firm into several businesses, including boat motors.
Sometimes the benefits of related diversification that executives hope to enjoy are never achieved. Both soft drinks and cigarettes are products that consumers do not need. Companies must convince consumers to buy these products through marketing activities such as branding and advertising. Thus, on the surface, the acquisition of 7Up by Philip Morris seemed to offer the potential for Philip Morris to take its existing marketing skills and apply them within a new industry. Unfortunately, the possible benefits to 7Up never materialized.
• Unrelated Diversification
Table 8.5 Unrelated Diversification at Berkshire Hathaway
”Don’t put all your eggs in one basket” is often a good motto for individual investors. By building a portfolio of stocks, an investor can minimize the chances of suffering a huge loss. Some executives take a similar approach. Rather than trying to develop synergy across businesses, they seek greater financial stability for their firms by owning an array of companies. Warren Buffett’s Berkshire Hathaway has long enjoyed strong performance by purchasing companies and improving how they are run. Below we illustrate some of the different groups in their very diversified portfolio of firms.
Berkshire’s insurance group includes firms such as General Re and GEICO. They maintain capital strength at exceptionally high levels, which gives them an advantage even a cave man could understand. Berkshire’s financial health is also fueled by utilities and energy companies that are part of the MidAmerican Energy Holdings Company. Their apparel businesses include well-known names such as Fruit of the Loom and Justin Brands.
Building companies include Acme Building Brands, makes of the famous brick, as well as paint company Benjamin Moore & Co. FlightSafety International Inc. is a Berkshire firm that engages in high-tech training to aircraft and ship operators. Retail holdings include a number of furniture businesses such as R.C. Willey Home Furnishings, Star Furniture Company, and Jordan’s Furniture, Inc.
Hungry for more businesses to manage, Berkshire acquired The Pampered Chef, Ltd.—the largest direct kitchen tools seller—in 2002.
Buffett had a sweet tooth for See’s Candies, who he purchased from the See’s family in 1972.
Shareholders were all on board for the purchase of the Burlington Northern Santa Fe Corporation in 2009.
Why would a soft-drink company buy a movie studio? It’s hard to imagine the logic behind such a move, but Coca-Cola did just this when it purchased Columbia Pictures in 1982 for \$750 million. This is a good example of unrelated diversification, which occurs when a firm enters an industry that lacks any important similarities with the firm’s existing industry or industries (Table 8.5). Luckily for Coca-Cola, its investment paid off—Columbia was sold to Sony for \$3.4 billion just seven years later.
Most unrelated diversification efforts, however, do not have happy endings. Harley-Davidson, for example, once tried to sell Harley-branded bottled water. Starbucks tried to diversify into offering Starbucks-branded furniture. Both efforts were disasters. Although Harley-Davidson and Starbucks both enjoy iconic brands, these strategic resources simply did not transfer effectively to the bottled water and furniture businesses.
Lighter firm Zippo is currently trying to avoid this scenario. According to CEO Geoffrey Booth, the Zippo is viewed by consumers as a “rugged, durable, made in America, iconic” brand (Townhall, 2010). This brand has fueled eighty years of success for the firm. But the future of the lighter business is bleak. Zippo executives expect to sell about 12 million lighters this year, which is a 50 percent decline from Zippo’s sales levels in the 1990s. This downward trend is likely to continue as smoking becomes less and less attractive in many countries. To save their company, Zippo executives want to diversify.
The durability of Zippo’s products is illustrated by this lighter, which still works despite being made in 1968.
In particular, Zippo wants to follow a path blazed by Eddie Bauer and Victorinox Swiss Army Brands Inc. The rugged outdoors image of Eddie Bauer’s clothing brand has been used effectively to sell sport utility vehicles made by Ford. The high-quality image of Swiss Army knives has been used to sell Swiss Army–branded luggage and watches. As of March 2011, Zippo was examining a wide variety of markets where their brand could be leveraged, including watches, clothing, wallets, pens, liquor flasks, outdoor hand warmers, playing cards, gas grills, and cologne. Trying to figure out which of these diversification options would be winners, such as the Eddie Bauer-edition Ford Explorer, and which would be losers, such as Harley-branded bottled water, was a key challenge facing Zippo executives.
Strategy at the Movies
In Good Company
What do Techline cell phones, Sports America magazine, and Crispity Crunch cereals have in common? Not much, but that did not stop Globodyne from buying each of these companies in its quest for synergy in the 2004 movie In Good Company. Executive Carter Duryea was excited when his employer Globodyne purchased Waterman Publishing, the owner of Sports America magazine. The acquisition landed him a big promotion and increased his salary to “Porsche-leasing” size.
Synergy is created when two or more businesses produce benefits together that could not be produced separately. While Duryea was confident that a cross-promotional strategy between his advertising division and the other units within the Globodyne universe was a slam-dunk, Waterman employee Dan Foreman saw little congruence between advertisements in Sports America on the one hand and cell phones and breakfast cereals on the other. Despite his considerable efforts, Duryea was unable to increase ad pages in Sports America because the unrelated nature of Globodyne’s other business units inhibited his strategy of creating synergy. Seeing little value in owning a failing publishing company, Globodyne promptly sold the division to another conglomerate. After the sale, the executives that had been rewarded for the initial purchase of Waterman Publishing, including Duryea, were fired.
Globodyne’s inability to successfully manage Waterman Publishing illustrates the difficulties associated with unrelated diversification. While buying companies outside a parent company’s core competencies can increase the size of the company and in turn its executives’ bank accounts, managing firms unfamiliar to management is generally a risky and losing proposition. Decades of research on strategic management suggest that when firms diversify, it is best to “stick to the knitting.” That is, stay with businesses executives are familiar with and avoid moving into ventures where little expertise exists.
In Good Company starred Topher Grace as ill-fated junior executive Carter Duryea.
Key Takeaway
• Diversification strategies involve firmly stepping beyond its existing industries and entering a new value chain. Generally, related diversification (entering a new industry that has important similarities with a firm’s existing industries) is wiser than unrelated diversification (entering a new industry that lacks such similarities).
Exercises
1. Studies have shown that executives’ pay increases when their firms gets larger. What role, if any, do you think executive pay plays in diversification decisions?
2. Identify a firm that has recently engaged in diversification. Search the firm’s website to identify executives’ rationale for diversifying. Do you find the reasoning to be convincing? Why or why not? | textbooks/biz/Management/Mastering_Strategic_Management/08%3A_Selecting_Corporate-Level_Strategies/8.04%3A_Diversification_Strategies.txt |
Learning Objectives
1. Understand why a firm would want to shrink or exit from a business.
2. Be able to distinguish retrenchment and restructuring.
“In what industry or industries should our firm compete?” is the central question addressed by corporate-level strategy. In some cases, the answer that executives arrive at involves exiting one or more industries.
• Retrenchment
In the early twentieth century, many military battles were fought in series of parallel trenches. If an attacking army advanced enough to force a defending army to abandon a trench, the defenders would move back to the next trench and try to refortify their position. This small retreat was preferable to losing the battle entirely. Trench warfare inspired the business term retrenchment. Firms following a retrenchment strategy shrink one or more of their business units. Much like an army under attack, firms using this strategy hope to make just a small retreat rather than losing a battle for survival.
Retrenchment is often accomplished through laying off employees. In July 2011, for example, South African grocery store chain Pick n Pay announced plans to release more than 3,000 of its estimated 36,000 workers. Just over a month earlier, South African officials had approved Walmart’s acquisition of a leading local retailer called Massmart. Rivalry in the South African grocery business seemed likely to become fiercer, and Pick n Pay executives needed to cut costs for their firm to remain competitive.
A Pick n Pay executive explained the layoffs by noting that “the decision was not taken lightly but was required to ensure the viability of the retail business and its employees into the future (Chilwane, 2011).” This is a common rationale for retrenchment—by shrinking the size of a firm, executives hope that the firm can survive as a profitable enterprise. Without becoming smaller and more cost effective, Pick n Pay and other firms that use retrenchment can risk total failure.
The term retrenchment has its origins in trench warfare, which is shown in this World War I photo taken in France.
• Restructuring
Table 8.6 Spin Offs
Spin-offs occur when businesses create a new firm from a piece of their operations. Because some diversified firms are too complex for investors to understand, breaking them up can create wealth by resulting in greater stock market valuations. Spinning off a company also reduces management layers, which can lower costs and speed up decision making. Below we describe a variety of firms that were created as spin-offs.
There are 17 billion of Freescale Semiconductor’s chips in use around the world. The firm was spun-off from Motorola in 2004.
Toyota started in the car business, right? Wrong. The firm was spun-off in the 1930s from Toyoda Automatic Loom Works—a company that produced commercial weaving looms.
The 2000 merger between America Online (AOL) and Time Warner was one of the largest in history. The firms split in 2009. Net result? A staggering \$99 billion loss.
Delphi Automotive—an automotive parts company headquartered in Troy, Michigan—is a spin-off from General Motors.
Guidant Corporation—a spin-off from Eli Lilly—designs and manufacturers artificial pacemakers, defibrillators, stents, and other heart-helpful medical products.
Executives sometimes decide that bolder moves than retrenchment are needed for their firms to be successful in the future. Divestment refers to selling off part of a firm’s operations. In some cases, divestment reverses a forward vertical integration strategy, such as when Ford sold Hertz. Divestment can also be used to reverse backward vertical integration. General Motors (GM), for example, turned a parts supplier called Delphi Automotive Systems Corporation from a GM subsidiary into an independent firm. This was done via a spin-off, which involves creating a new company whose stock is owned by investors (Table 8.6). GM stockholders received 0.69893 shares of Delphi for every share of stock they owned in GM. A stockholder who owned 100 shares of GM received 69 shares of the new company plus a small cash payment in lieu of a fractional share.
Divestment also serves as a means to undo diversification strategies. Divestment can be especially appealing to executives in charge of firms that have engaged in unrelated diversification. Investors often struggle to understand the complexity of diversified firms, and this can result in relatively poor performance by the stocks of such firms. This is known as a diversification discount. Executives sometimes attempt to unlock hidden shareholder value by breaking up diversified companies.
Fortune Brands provides a good example. Surprisingly, this company does not own Fortune magazine, but it has been involved in a diverse set of industries. As of 2010, the firm consisted of three businesses: spirits (including Jim Beam and Maker’s Mark), household goods (including Masterlock and Moen Faucets), and golf equipment (including Titleist clubs and balls as well as FootJoy shoes). In December 2010, Fortune Brand’s CEO announced a plan to separate the three businesses to “maximize long-term value for our shareholders and to create exciting opportunities within our businesses (Sauerhaft, 2011).” Fortune Brands took the first step toward overcoming the diversification discount in May 2011 when it reached an agreement to sell its gold business to Fila. In June 2011, plans to spin off the home products business were announced.
Fortune Brands hopes to unlock hidden shareholder value by divesting unrelated brands such as Masterlock.
Executives are sometimes forced to admit that the operations that they want to abandon have no value. If selling off part of a business is not possible, the best option may be liquidation. This involves simply shutting down portions of a firm’s operations, often at a tremendous financial loss. GM has done this by scrapping its Geo, Saturn, Oldsmobile, and Pontiac brands. Ford recently followed this approach by shutting down its Mercury brand. Such moves are painful because massive investments are written off, but becoming “leaner and meaner” may save a company from total ruin.
Key Takeaway
• Executives sometimes need to reduce the size of their firms to maximize the chances of success. This can involve fairly modest steps such as retrenchment or more profound restructuring strategies.
Exercises
1. Should Disney consider using retrenchment or restructuring? Why or why not?
2. Given how much information is readily available about companies, why do you think investors still struggle to analyze diversified companies? | textbooks/biz/Management/Mastering_Strategic_Management/08%3A_Selecting_Corporate-Level_Strategies/8.05%3A_Strategies_for_Getting_Smaller.txt |
Learning Objectives
1. Understand why a firm would want to use portfolio planning.
2. Be able to explain the limitations of portfolio planning.
Executives in charge of firms involved in many different businesses must figure out how to manage such portfolios. General Electric (GE), for example, competes in a very wide variety of industries, including financial services, insurance, television, theme parks, electricity generation, lightbulbs, robotics, medical equipment, railroad locomotives, and aircraft jet engines. When leading a company such as GE, executives must decide which units to grow, which ones to shrink, and which ones to abandon.
Portfolio planning can be a useful tool. Portfolio planning is a process that helps executives assess their firms’ prospects for success within each of its industries, offers suggestions about what to do within each industry, and provides ideas for how to allocate resources across industries. Portfolio planning first gained widespread attention in the 1970s, and it remains a popular tool among executives today.
• The Boston Consulting Group (BCG) Matrix
The Boston Consulting Group (BCG) matrix is the best-known approach to portfolio planning (Table 8.7). Using the matrix requires a firm’s businesses to be categorized as high or low along two dimensions: its share of the market and the growth rate of its industry. High market share units within slow-growing industries are called cash cows. Because their industries have bleak prospects, profits from cash cows should not be invested back into cash cows but rather diverted to more promising businesses. Low market share units within slow-growing industries are called dogs. These units are good candidates for divestment. High market share units within fast-growing industries are called stars. These units have bright prospects and thus are good candidates for growth. Finally, low-market-share units within fast-growing industries are called question marks. Executives must decide whether to build these units into stars or to divest them.
Owning a puppy is fun, but companies may want to avoid owning units that are considered to be dogs.
The BCG matrix is just one portfolio planning technique. With the help of a leading consulting firm, GE developed the attractiveness-strength matrix to examine its diverse activities. This planning approach involves rating each of a firm’s businesses in terms of the attractiveness of the industry and the firm’s strength within the industry. Each dimension is divided into three categories, resulting in nine boxes. Each of these boxes has a set of recommendations associated with it.
Table 8.7 The Boston Consulting Group (BCG) Matrix
The Boston Consulting Group (BCG) matrix is the best-known approach to portfolio planning—assessing a firm’s prospects for success within the industries in which it competes. The matrix categorizes businesses as high or low along two dimensions—the firm’s market share in each industry and the growth rate of each industry. Suggestions are then offered about how to approach each industry.
High Relative Market Share Low Relative Market Share
High Industry Growth Rate Stars should be funded and encourage to grow. Question marks should be resolved by executives by deciding whether to foster or sell these units.
Low Industry Growth Rate Cash cows should be “milked” to supply funds to more promising businesses. It sounds mean, but dogs should be sold if possible and abandoned if necessary.
• Limitations to Portfolio Planning
Although portfolio planning is a useful tool, this tool has important limitations. First, portfolio planning oversimplifies the reality of competition by focusing on just two dimensions when analyzing a company’s operations within an industry. Many dimensions are important to consider when making strategic decisions, not just two. Second, portfolio planning can create motivational problems among employees. For example, if workers know that their firm’s executives believe in the BCG matrix and that their subsidiary is classified as a dog, then they may give up any hope for the future. Similarly, workers within cash cow units could become dismayed once they realize that the profits that they help create will be diverted to boost other areas of the firm. Third, portfolio planning does not help identify new opportunities. Because this tool only deals with existing businesses, it cannot reveal what new industries a firm should consider entering.
Key Takeaway
• Portfolio planning is a useful tool for analyzing a firm’s operations, but this tool has limitations. The BCG matrix is one of the most widely used approaches to portfolio planning.
Exercises
1. Is market share a good dimension to use when analyzing the prospects of a business? Why or why not?
2. What might executives do to keep employees within dog units motivated and focused on their jobs?
8.07: Conclusion
This chapter explains corporate-level strategy. Executives grappling with corporate-level strategy must decide in what industry or industries their firms will compete. Many of the possible answers to this question involve growth. Concentration strategies involve competing within existing domains to expand within those domains. This can take the form of market penetration, market development, or product development. Integration involves expanding into new stages of the value chain. Backward integration occurs when a firm enters a supplier’s business while forward vertical integration occurs when a firm enters a customer’s business. Diversification involves entering entirely new industries; this can be an industry that is related or unrelated to a firm’s existing activities. Sometimes being smart about corporate-level strategy requires shrinking the firm through retrenchment or restructuring. Finally, portfolio planning can be useful for analyzing firms that participate in a wide variety of industries.
Exercises
1. Divide your class into four or eight groups, depending on the size of the class. Each group should create a new portfolio planning technique by selecting two dimensions along which companies can be analyzed. Allow each group three to five minutes to present its approach to the class. Discuss which portfolio planning technique seems to offer the best insights.
2. This chapter discussed Disney. Imagine that you were hired as a consultant by General Electric (GE), a firm that competes with Disney in the movie, television, and theme park industries. What actions would you recommend that GE take in these three industries to gain advantages over Disney? | textbooks/biz/Management/Mastering_Strategic_Management/08%3A_Selecting_Corporate-Level_Strategies/8.06%3A_Portfolio_Planning_and_Corporate-Level_Strategy.txt |
Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. What are the basic building blocks of organizational structure?
2. What types of structures exist, and what are advantages and disadvantages of each?
3. What is control and why is it important?
4. What are the different forms of control and when should they be used?
5. What are the key legal forms of business, and what implications does the choice of a business form have for organizational structure?
Can Oil Well Services Fuel Success for GE?
General Electric’s logo has changed little since its creation in the 1890s, but the company has grown to become the sixth largest in the United States.
In February 2011, General Electric (GE) reached an agreement to acquire the well-support division of John Wood Group PLC for \$2.8 billion. This was GE’s third acquisition of a company that provides services to oil wells in only five months. In October 2010, GE added the deepwater exploration capabilities of Wellstream Holdings PLC for \$1.3 billion. In December 2010, part and equipment maker Dresser was acquired for \$3 billion. By spending more than \$7 billion on these acquisitions, GE executives made it clear that they had big plans within the oil well services business.
While many executives would struggle to integrate three new companies into their firms, experts expected GE’s leaders to smoothly execute the transitions. In describing the acquisition of John Wood Group PLC, for example, one Wall Street analyst noted, “This is a nice bolt-on deal for GE (Layne, 2011).” In other words, this analyst believed that John Wood Group PLC could be seamlessly added to GE’s corporate empire. The way that GE was organized fueled this belief.
GE’s organizational structure includes six divisions, each devoted to specific product categories: (1) Energy (the most profitable division), (2) Capital (the largest division), (3) Home & Business Solutions, (4) Healthcare, (5) Aviation, and (6) Transportation. Within the Energy division, there are three subdivisions: (1) Oil & Gas, (2) Power & Water, and (3) Energy Services. Rather than having the entire organization involved with integrating John Wood Group PLC, Wellstream Holdings PLC, and Dresser into GE, these three newly acquired companies would simply be added to the Oil & Gas subdivisions within the Energy division.
In addition to the six product divisions, GE also had a division devoted to Global Growth & Operations. This division was responsible for all sales of GE products and services outside the United States. The Global Growth & Operations division was very important to GE’s future. Indeed, GE’s CEO Jeffrey Immelt expected that countries other than the United States will account for 60 percent of GE’s sales in the future, up from 53 percent in 2010. To maximize GE’s ability to respond to local needs, the Global Growth & Operations was further divided into twelve geographic regions: China, India, Southeast Asia, Latin/South America, Russia, Canada, Australia, the Middle East, Africa, Germany, Europe, and Japan (GE News Center, 2010).
Finally, like many large companies, GE also provided some centralized services to support all its units. These support areas included public relations, business development, legal, global research, human resources, and finance. By having entire units of the organization devoted to these functional areas, GE hoped not only to minimize expenses but also to create consistency across divisions.
Growing concerns about the environmental effects of drilling, for example, made it likely that GE’s oil well services operations would need the help of GE’s public relations and legal departments in the future. Other important questions about GE’s acquisitions remained open as well. In particular, would the organizational cultures of John Wood Group PLC, Wellstream Holdings PLC, and Dresser mesh with the culture of GE? Most acquisitions in the business world fail to deliver the results that executives expect, and the incompatibility of organizational cultures is one reason why.
GE fits a dizzying array of businesses into a relatively simple organizational chart.
The word executing used in this chapter’s title has two distinct meanings. These meanings were cleverly intertwined in a quip by John McKay. McKay had the misfortune to be the head coach of a hapless professional football team. In one game, McKay’s offensive unit played particularly poorly. When McKay was asked after the game what he thought of his offensive unit’s execution, he wryly responded, “I am in favor of it.”
In the context of business, execution refers to how well a firm such as GE implements the strategies that executives create for it. This involves the creation and operation of both an appropriate organizational structure and an appropriate organizational control processes. Executives who skillfully orchestrate structure and control are likely to lead their firms to greater levels of success. In contrast, those executives who fail to do so are likely to be viewed by stakeholders such as employees and owners in much the same way Coach McKay viewed his offense: as worthy of execution. | textbooks/biz/Management/Mastering_Strategic_Management/09%3A_Executing_Strategy_through_Organizational_Design/9.01%3A_Executing_Strategy_through_Organizational_Design.txt |
Table 9.1 The Building Blocks of Organizational Structure
Legendary football coach Vince Lombardi once noted, “The achievements of an organization are the results of the combined effort of each individual.” Understanding how people can be most efficiently organized is the basis for modern management thought, and we illustrate the building blocks of organizational structure below.
Division of labor is a process of splitting up a task into a series of smaller tasks, each of which is performed by a specialist. In ancient Greece, historian Xenophon wrote about the division of labor in shoe making: one person cut out the shoes, another sewed the uppers together, and a third person assembled the parts.
An organizational chart is a diagram that depicts a firm’s structure.
Do you know what happens each year on the Wednesday of the last full week of April? It’s Administrative Professionals’ Day. Savvy workers mark this day with generosity. The reason involves informal linkages, which are unofficial relationships such as friendships that do not appear in organizational charts. Administrative professionals such as secretaries tend to be well informed about both policies and office politics. So keep them on your side!
Vertical linkages tie supervisors and subordinates together. These linkages show the lines of responsibility through which a supervisor delegates authority to subordinates, oversees their activities, evaluates their performance, and guides them toward improvement.
Horizontal linkages are formal relationships between equals in an organization. They often take the form of committees and task forces.
Employees may receive conflicting guidance about how to do their jobs if they work in a situation where multiple bosses are present. This problem can be avoided by following the unity of command principle, which states that each person should only report directly to one supervisor.
Learning Objectives
1. Understand what division of labor is and why it is beneficial.
2. Distinguish between vertical and horizontal linkages and know what functions each fulfills in an organizational structure.
• Division of Labor
General Electric (GE) offers a dizzying array of products and services, including lightbulbs, jet engines, and loans. One way that GE could produce its lightbulbs would be to have individual employees work on one lightbulb at a time from start to finish. This would be very inefficient, however, so GE and most other organizations avoid this approach. Instead, organizations rely on division of labor when creating their products (Table 9.1). Division of labor is a process of splitting up a task (such as the creation of lightbulbs) into a series of smaller tasks, each of which is performed by a specialist.
Table 9.2 Hierarchy of Authority
We illustrate one of the oldest recorded stories that is relevant to the design of modern organizations below.
After fleeing Egypt, Moses found himself as the sole judge of the entire Hebrew population. This was a daunting task because estimates suggest the population may’ve exceeded on million people. Moses’s father-in-law Jethro warned Moses that he would wear himself out if he tried to handle such a heavy load alone.
Jethro offered Moses some practical advice. He told Moses that he should teach the people decrees and laws in an effort to minimize trouble and act as an example to demonstrate how the people live and the duties they were to perform. Rather than handling all judging himself, Moses should appoint capable and trustworthy officials over groups of thousands, hundreds, fifties, and tens. These men would serve as judges for the people at all times, and only the most difficult cases would be brought to Moses.
Key Takeaway
This is perhaps the first recorded example of a clear hierarchy of authority—an arrangement of individuals based on rank. A similar idea is used today in the U.S. justice system where there are lower courts for easy-to-resolve cases and the Supreme Court only handles the most difficult cases.
The leaders at the top of organizations have long known that division of labor can improve efficiency. Thousands of years ago, for example, Moses’s creation of a hierarchy of authority by delegating responsibility to other judges offered perhaps the earliest known example (Table 9.2). In the eighteenth century, Adam Smith’s book The Wealth of Nations quantified the tremendous advantages that division of labor offered for a pin factory. If a worker performed all the various steps involved in making pins himself, he could make about twenty pins per day. By breaking the process into multiple steps, however, ten workers could make forty-eight thousand pins a day. In other words, the pin factory was a staggering 240 times more productive than it would have been without relying on division of labor. In the early twentieth century, Smith’s ideas strongly influenced Henry Ford and other industrial pioneers who sought to create efficient organizations.
Division of labor allowed eighteenth-century pin factories to dramatically increase their efficiency.
While division of labor fuels efficiency, it also creates a challenge—figuring out how to coordinate different tasks and the people who perform them. The solution is organizational structure, which is defined as how tasks are assigned and grouped together with formal reporting relationships. Creating a structure that effectively coordinates a firm’s activities increases the firm’s likelihood of success. Meanwhile, a structure that does not match well with a firm’s needs undermines the firm’s chances of prosperity.
Division of labor was central to Henry Ford’s development of assembly lines in his automobile factory. Ford noted, “Nothing is particularly hard if you divide it into small jobs.”
• Vertical and Horizontal Linkages
Most organizations use a diagram called an organizational chart to depict their structure. These organizational charts show how firms’ structures are built using two basic building blocks: vertical linkages and horizontal linkages. Vertical linkages tie supervisors and subordinates together. These linkages show the lines of responsibility through which a supervisor delegates authority to subordinates, oversees their activities, evaluates their performance, and guides them toward improvement when necessary. Every supervisor except for the person at the very top of the organization chart also serves as a subordinate to someone else. In the typical business school, for example, a department chair supervises a set of professors. The department chair in turn is a subordinate of the dean.
Most executives rely on the unity of command principle when mapping out the vertical linkages in an organizational structure. This principle states that each person should only report directly to one supervisor. If employees have multiple bosses, they may receive conflicting guidance about how to do their jobs. The unity of command principle helps organizations to avoid such confusion. In the case of General Electric, for example, the head of the Energy division reports only to the chief executive officer. If problems were to arise with executing the strategic move discussed in this chapter’s opening vignette—joining the John Wood Group PLC with GE’s Energy division—the head of the Energy division reports would look to the chief executive officer for guidance.
Horizontal linkages are relationships between equals in an organization. Often these linkages are called committees, task forces, or teams. Horizontal linkages are important when close coordination is needed across different segments of an organization. For example, most business schools revise their undergraduate curriculum every five or so years to ensure that students are receiving an education that matches the needs of current business conditions. Typically, a committee consisting of at least one professor from every academic area (such as management, marketing, accounting, and finance) will be appointed to perform this task. This approach helps ensure that all aspects of business are represented appropriately in the new curriculum.
Committee meetings can be boring, but they are often vital for coordinating efforts across departments.
Organic grocery store chain Whole Foods Market is a company that relies heavily on horizontal linkages. As noted on their website, “At Whole Foods Market we recognize the importance of smaller tribal groupings to maximize familiarity and trust. We organize our stores and company into a variety of interlocking teams. Most teams have between 6 and 100 Team Members and the larger teams are divided further into a variety of sub-teams. The leaders of each team are also members of the Store Leadership Team and the Store Team Leaders are members of the Regional Leadership Team. This interlocking team structure continues all the way upwards to the Executive Team at the highest level of the company (Mackey, 2010).” This emphasis on teams is intended to develop trust throughout the organization, as well as to make full use of the talents and creativity possessed by every employee.
• Informal Linkages
Informal linkages refer to unofficial relationships such as personal friendships, rivalries, and politics. In the long-running comedy series The Simpsons, Homer Simpson is a low-level—and very low-performing—employee at a nuclear power plant. In one episode, Homer gains power and influence with the plant’s owner, Montgomery Burns, which far exceeds Homer’s meager position in the organization chart, because Mr. Burns desperately wants to be a member of the bowling team that Homer captains. Homer tries to use his newfound influence for his own personal gain and naturally the organization as a whole suffers. Informal linkages such as this one do not appear in organizational charts, but they nevertheless can have (and often do have) a significant influence on how firms operate.
Key Takeaway
• The concept of division of labor (dividing organizational activities into smaller tasks) lies at the heart of the study of organizational structure. Understanding vertical, horizontal, and informal linkages helps managers to organize better the different individuals and job functions within a firm.
Exercises
1. How is division of labor used when training college or university football teams? Do you think you could use a different division of labor and achieve more efficiency?
2. What are some formal and informal linkages that you have encountered at your college or university? What informal linkages have you observed in the workplace? | textbooks/biz/Management/Mastering_Strategic_Management/09%3A_Executing_Strategy_through_Organizational_Design/9.02%3A_The_Basic_Building_Blocks_of_Organizational_Structure.txt |
Learning Objectives
1. Know and be able to differentiate among the four types of organizational structure.
2. Understand why a change in structure may be needed.
Within most firms, executives rely on vertical and horizontal linkages to create a structure that they hope will match the needs of their firm’s strategy. Four types of structures are available to executives: (1) simple, (2) functional, (3) multidivisional, and (4) matrix (Table 9.3). Like snowflakes, however, no two organizational structures are exactly alike. When creating a structure for their firm, executives will take one of these types and adapt it to fit the firm’s unique circumstances. As they do this, executives must realize that the choice of structure will influences their firm’s strategy in the future. Once a structure is created, it constrains future strategic moves. If a firm’s structure is designed to maximize efficiency, for example, the firm may lack the flexibility needed to react quickly to exploit new opportunities.
Executives rely on vertical and horizontal linkages to create a structure that they hope will match the firm’s needs. While no two organizational structures are exactly alike, four general types of structures are available to executives: simple functional, multidivisional, and matrix.
Table 9.3 Common Organizational Structures
Simple Structure Simple structures do not rely on formal systems of division of labor, and organizational charts are not generally needed. If the firm is a sole proprietorship, one person performs all of the tasks that the organization needs to accomplish. Consequently, this structure is common for many small businesses.
Functional Structure Within a functional structure, employees are divided into departments that each handles activities related to a functional area of the business, such as marketing, production, human resources, information technology, and customer service.
Multidivisional Structure In this type of structure, employees are divided into departments based on product areas and/or geographic regions. General Electric, for example, has six product divisions: Energy, Capital, Home & Business Solutions, Healthcare, Aviation, and Transportation.
Matrix Structure Firms that engage in projects of limited duration often use a matrix structure where employees can be put on different teams to maximize creativity and idea flow. As parodied in the move Office Space, this structure is common in high tech and engineering firms.
Simple Structure
Many organizations start out with a simple structure. In this type of structure, an organizational chart is usually not needed. Simple structures do not rely on formal systems of division of labor (Table 9.4). If the firm is a sole proprietorship, one person performs all the tasks the organization needs to accomplish. For example, on the TV series The Simpsons, both bar owner Moe Szyslak and the Comic Book Guy are shown handling all aspects of their respective businesses.
Most small businesses begin with a simple structure where one person or a small set of people share the tasks needed to accomplish the firm’s goals with relatively little formalized division of labor. We illustrate a number of businesses that commonly rely upon a simple structure below.
Table 9.4 Simple Structure
Need a few dollars to tide you over? You may want to pawn your rare coin collection. The pawn shop’s simple structure will mean that the same person values your coins, decides how much money you can borrow, and writes up your paperwork. The reality show Miami Ink illustrates how a tattoo parlor’s simple structure governs a colorful set of tattoo artists who create body art for their patrons.
Architects often also act as marketers and accountants when drafting their small business plans. Bait shop owners generally do not dive deep into their pockets to pay for additional personnel as many are owner operated.
When a dry cleaner is family owned as many are, all members of the family pitch in as needed to clean clothing and wait on customers. There is flexibility in the management of many yoga studios given the laid back management style often embraced.
Instrument dealers may create beautiful music, but they rarely create complex organizational structures.
“Bridezillas” are an occupational hazard for bridal shops, but these shops are generally able to avoid the complexity associated with other organizational structures.
There is a good reason most sole proprietors do not bother creating formal organizational charts.
If the firm consists of more than one person, tasks tend to be distributed among them in an informal manner rather than each person developing a narrow area of specialization. In a family-run restaurant or bed and breakfast, for example, each person must contribute as needed to tasks, such as cleaning restrooms, food preparation, and serving guests (hopefully not in that order). Meanwhile, strategic decision making in a simple structure tends to be highly centralized. Indeed, often the owner of the firm makes all the important decisions. Because there is little emphasis on hierarchy within a simple structure, organizations that use this type of structure tend to have very few rules and regulations. The process of evaluating and rewarding employees’ performance also tends to be informal.
The informality of simple structures creates both advantages and disadvantages. On the plus side, the flexibility offered by simple structures encourages employees’ creativity and individualism. Informality has potential negative aspects, too. Important tasks may be ignored if no one person is specifically assigned accountability for them. A lack of clear guidance from the top of the organization can create confusion for employees, undermine their motivation, and make them dissatisfied with their jobs. Thus when relying on a simple structure, the owner of a firm must be sure to communicate often and openly with employees.
Functional Structure
As a small organization grows, the person in charge of it often finds that a simple structure is no longer adequate to meet the organization’s needs. Organizations become more complex as they grow, and this can require more formal division of labor and a strong emphasis on hierarchy and vertical links. In many cases, these firms evolve from using a simple structure to relying on a functional structure.
Functional structures rely on a division of labor whereby groups of people handle activities related to a specific function of the overall business. We illustrate functional structures in action within two types of organizations that commonly use them.
Table 9.5 Functional Structure
Grocery Store Functions Spa Functions
Grocery stockers often work at night to make sure shelves stay full during the day. Some spa employees manicure fingernails, a practice that is over four thousand years old. Many also provide pedicures, a service whose popularity has nearly doubled in the past decade.
Pharmacists’ specialized training allows them to command pay that can exceed \$50 an hour. Compared to other spa functions, little training is required of a tanning bed operator–although the ability to tell time may help.
Bakers wake up early to give shoppers their daily bread. Almost anyone can buy a shotgun or parent a child without any training, but every state requires a license in order to cut hair.
Bagging groceries requires a friendly personality as well as knowing that eggs should not go on the bottom. Cucumber masks are usually applied by a skin care specialist who has taken a professional training program.
Folks that work checkout aisles should be trusted to handle cash. The license required of massage therapists in many states ensures that spa visits end happily.
The creation of produce, deli, and butcher departments provides an efficient way to divide a grocery store physically as well as functionally.
Within a functional structure, employees are divided into departments that each handle activities related to a functional area of the business, such as marketing, production, human resources, information technology, and customer service (Table 9.5). Each of these five areas would be headed up by a manager who coordinates all activities related to her functional area. Everyone in a company that works on marketing the company’s products, for example, would report to the manager of the marketing department. The marketing managers and the managers in charge of the other four areas in turn would report to the chief executive officer.
An example of a functional structure
Using a functional structure creates advantages and disadvantages. An important benefit of adopting a functional structure is that each person tends to learn a great deal about his or her particular function. By being placed in a department that consists entirely of marketing professionals, an individual has a great opportunity to become an expert in marketing. Thus a functional structure tends to create highly skilled specialists. Second, grouping everyone that serves a particular function into one department tends to keep costs low and to create efficiency. Also, because all the people in a particular department share the same background training, they tend to get along with one another. In other words, conflicts within departments are relatively rare.
Using a functional structure also has a significant downside: executing strategic changes can be very slow when compared with other structures. Suppose, for example, that a textbook publisher decides to introduce a new form of textbook that includes “scratch and sniff” photos that let students smell various products in addition to reading about them. If the publisher relies on a simple structure, the leader of the firm can simply assign someone to shepherd this unique new product through all aspects of the publication process.
If the publisher is organized using a functional structure, however, every department in the organization will have to be intimately involved in the creation of the new textbooks. Because the new product lies outside each department’s routines, it may become lost in the proverbial shuffle. And unfortunately for the books’ authors, the publication process will be halted whenever a functional area does not live up to its responsibilities in a timely manner. More generally, because functional structures are slow to execute change, they tend to work best for organizations that offer narrow and stable product lines.
The specific functional departments that appear in an organizational chart vary across organizations that use functional structures. In the example offered earlier in this section, a firm was divided into five functional areas: (1) marketing, (2) production, (3) human resources, (4) information technology, and (5) customer service. In the TV show The Office, a different approach to a functional structure is used at the Scranton, Pennsylvania, branch of Dunder Mifflin. As of 2009, the branch was divided into six functional areas: (1) sales, (2) warehouse, (3) quality control, (4) customer service, (5) human resources, and (6) accounting. A functional structure was a good fit for the branch at the time because its product line was limited to just selling office paper.
The Scranton branch of Dunder Mifflin may be a dysfunctional organization, but it relies on a functional structure.
Multidivisional Structure
Many organizations offer a wide variety of products and services. Some of these organizations sell their offerings across an array of geographic regions. These approaches require firms to be very responsive to customers’ needs. Yet, as noted, functional structures tend to be fairly slow to change. As a result, many firms abandon the use of a functional structure as their offerings expand. Often the new choice is a multidivisional structure. In this type of structure, employees are divided into departments based on product areas and/or geographic regions.
General Electric (GE) is an example of a company organized this way. As shown in the organization chart that accompanies this chapter’s opening vignette, most of the company’s employees belong to one of six product divisions (Energy, Capital, Home & Business Solutions, Health Care, Aviation, and Transportation) or to a division that is devoted to all GE’s operations outside the United States (Global Growth & Operations).
A big advantage of a multidivisional structure is that it allows a firm to act quickly. When GE makes a strategic move such as acquiring the well-support division of John Wood Group PLC, only the relevant division (in this case, Energy) needs to be involved in integrating the new unit into GE’s hierarchy. In contrast, if GE was organized using a functional structure, the transition would be much slower because all the divisions in the company would need to be involved. A multidivisional structure also helps an organization to better serve customers’ needs. In the summer of 2011, for example, GE’s Capital division started to make real-estate loans after exiting that market during the financial crisis of the late 2000s (Jacobius, 2011). Because one division of GE handles all the firm’s loans, the wisdom and skill needed to decide when to reenter real-estate lending was easily accessible.
Of course, empowering divisions to act quickly can backfire if people in those divisions take actions that do not fit with the company’s overall strategy. McDonald’s experienced this kind of situation in 2002. In particular, the French division of McDonald’s ran a surprising advertisement in a magazine called Femme Actuelle. The ad included a quote from a nutritionist that asserted children should not eat at a McDonald’s more than once per week. Executives at McDonald’s headquarters in suburban Chicago were concerned about the message sent to their customers, of course, and they made it clear that they strongly disagreed with the nutritionist.
Problems can be created when delegating lots of authority to local divisions. McDonald’s top executives were angered when an ad by their French division suggested that children should only eat at their restaurants once a week. Alfonsina Blyde – Everything to see you smile – CC BY-NC-ND 2.0.
Another downside of multidivisional structures is that they tend to be more costly to operate than functional structures. While a functional structure offers the opportunity to gain efficiency by having just one department handle all activities in an area, such as marketing, a firm using a multidivisional structure needs to have marketing units within each of its divisions. In GE’s case, for example, each of its seven divisions must develop marketing skills. Absorbing the extra expenses that are created reduces a firm’s profit margin.
GE’s organizational chart highlights a way that firms can reduce some of these expenses: the centralization of some functional services. As shown in the organizational chart, departments devoted to important aspects of public relations, business development, legal, global research, human resources, and finance are maintained centrally to provide services to the six product divisions and the geographic division. By consolidating some human resource activities in one location, for example, GE creates efficiency and saves money.
An additional benefit of such moves is that consistency is created across divisions. In 2011, for example, the Coca-Cola Company created an Office of Sustainability to coordinate sustainability initiatives across the entire company. Bea Perez was named Coca-Cola’s chief sustainability officer and was put in charge of the Office of Sustainability. At the time, Coca-Cola’s chief executive officer Muhtar Kent noted that Coca-Cola had “made significant progress with our sustainability initiatives, but our current approach needs focus and better integration (McWilliams, 2011).” In other words, a department devoted to creating consistency across Coca-Cola’s sustainability efforts was needed for Coca-Cola to meet its sustainability goals.
Matrix Structure
Within functional and multidivisional structures, vertical linkages between bosses and subordinates are the most elements. Matrix structures, in contrast, rely heavily on horizontal relationships (Ketchen & Short, 2011). In particular, these structures create cross-functional teams that each work on a different project. This offers several benefits: maximizing the organization’s flexibility, enhancing communication across functional lines, and creating a spirit of teamwork and collaboration. A matrix structure can also help develop new managers. In particular, a person without managerial experience can be put in charge of a relatively small project as a test to see whether the person has a talent for leading others.
Using a matrix structure can create difficulties too. One concern is that using a matrix structure violates the unity of command principle because each employee is assigned multiple bosses. Specifically, any given individual reports to a functional area supervisor as well as one or more project supervisors. This creates confusion for employees because they are left unsure about who should be giving them direction. Violating the unity of command principle also creates opportunities for unsavory employees to avoid responsibility by claiming to each supervisor that a different supervisor is currently depending on their efforts.
The potential for conflicts arising between project managers within a matrix structure is another concern. Chances are that you have had some classes with professors who are excellent speakers while you have been forced to suffer through a semester of incomprehensible lectures in other classes. This mix of experiences reflects a fundamental reality of management: in any organization, some workers are more talented and motivated than others. Within a matrix structure, each project manager naturally will want the best people in the company assigned to her project because their boss evaluates these managers based on how well their projects perform. Because the best people are a scarce resource, infighting and politics can easily flare up around which people are assigned to each project.
Given these problems, not every organization is a good candidate to use a matrix structure. Organizations such as engineering and consulting firms that need to maximize their flexibility to service projects of limited duration can benefit from the use of a matrix. Matrix structures are also used to organize research and development departments within many large corporations. In each of these settings, the benefits of organizing around teams are so great that they often outweigh the risks of doing so.
You won’t need to choose between a red pill and a blue pill within a matrix structure, but you will have multiple bosses.
Strategy at the Movies
Office Space
How much work can a man accomplish with eight bosses breathing down his neck? For Peter Gibbons, an employee at information technology firm Initech in the 1999 movie Office Space, the answer was zero. Initech’s use of a matrix structure meant that each employee had multiple bosses, each representing a different aspect of Initech’s business. High-tech firms often use matrix to gain the flexibility needed to manage multiple projects simultaneously. Successfully using a matrix structure requires excellent communication among various managers—however, excellence that Initech could not reach. When Gibbons forgot to put the appropriate cover sheet on his TPS report, each of his eight bosses—and a parade of his coworkers—admonished him. This fiasco and others led to Gibbons to become cynical about his job.
Simpler organizational structures can be equally frustrating. Joanna, a waitress at nearby restaurant Chotchkie’s, had only one manager—a stark contrast to Gibbons’s eight bosses. Unfortunately, Joanna’s manager had an unhealthy obsession with the “flair” (colorful buttons and pins) used by employees to enliven their uniforms. A series of mixed messages about the restaurant’s policy on flair led Joanna to emphatically proclaim—both verbally and nonverbally—her disdain for the manager. She then quit her job and stormed out of the restaurant.
Office Space illustrates the importance of organizational design decisions to an organization’s culture and to employees’ motivation levels. A matrix structure can facilitate resource sharing and collaboration but may also create complicated working relationships and impose excessive stress on employees. Chotchkie’s organizational structure involved simpler working relationships, but these relationships were strained beyond the breaking point by a manager’s eccentricities. In a more general sense, Office Space shows that all organizational structures involve a series of trade-offs that must be carefully managed.
Within a poorly organized firm like Initech, simply keeping possession of a treasured stapler is a challenge. Wikimedia Commons – public domain.
Boundaryless Organizations
Most organizational charts show clear divisions and boundaries between different units. The value of a much different approach was highlighted by former GE CEO Jack Welch when he created the term boundaryless organization. A boundaryless organization is one that removes the usual barriers between parts of the organization as well as barriers between the organization and others (Askenas, et. al., 1995). Eliminating all internal and external barriers is not possible, of course, but making progress toward being boundaryless can help an organization become more flexible and responsive. One example is W.L. Gore, a maker of fabrics, medical implants, industrial sealants, filtration systems, and consumer products. This firm avoids organizational charts, management layers, and supervisors despite having approximately nine thousand employees across thirty countries. Rather than granting formal titles to certain people, leaders with W.L. Gore emerge based on performance and they attract followers to their ideas over time. As one employee noted, “We vote with our feet. If you call a meeting, and people show up, you’re a leader (Hamel, 2007).”
The boundaryless approach to structure embraced by W.L. Gore drives the kind of creative thinking that led to their most famous product, GORE-TEX. Adifansnet – adidas_Men’s_WINTER STORY – CC BY-SA 2.0.
An illustration of how removing barriers can be valuable has its roots in a very unfortunate event. During 2005’s Hurricane Katrina, rescue efforts were hampered by a lack of coordination between responders from the National Guard (who are controlled by state governments) and from active-duty military units (who are controlled by federal authorities). According to one National Guard officer, “It was just like a solid wall was between the two entities (Elliott, 2011).” Efforts were needlessly duplicated in some geographic areas while attention to other areas was delayed or inadequate. For example, poor coordination caused the evacuation of thousands of people from the New Orleans Superdome to be delayed by a full day. The results were immense human suffering and numerous fatalities.
In 2005, boundaries between organizations hampered rescue efforts following Hurricane Katrina. Wikimedia Commons – public domain.
To avoid similar problems from arising in the future, barriers between the National Guard and active-duty military units are being bridged by special military officers called dual-status commanders. These individuals will be empowered to lead both types of units during a disaster recovery effort, helping to ensure that all areas receive the attention they need in a timely manner.
Reasons for Changing an Organization’s Structure
Creating an organizational structure is not a onetime activity. Executives must revisit an organization’s structure over time and make changes to it if certain danger signs arise. For example, a structure might need to be adjusted if decisions with the organization are being made too slowly or if the organization is performing poorly. Both these problems plagued Sears Holdings in 2008, leading executives to reorganize the company.
Although it was created to emphasize the need for unity among the American colonies, this famous 1754 graphic by Ben Franklin also illustrates a fundamental truth about structure: If the parts that make up a firm do not work together, the firm is likely to fail. Wikimedia Commons – public domain.
Sears’s new structure organized the firm around five types of divisions: (1) operating businesses (such as clothing, appliances, and electronics), (2) support units (certain functional areas such as marketing and finance), (3) brands (which focus on nurturing the firm’s various brands such as Lands’ End, Joe Boxer, Craftsman, and Kenmore), (4) online, and (5) real estate. At the time, Sears’s chairman Edward S. Lampert noted that “by creating smaller focused teams that are clearly responsible for their units, we [will] increase autonomy and accountability, create greater ownership and enable faster, better decisions (Retail Net).” Unfortunately, structural changes cannot cure all a company’s ills. As of July 2011, Sears’s stock was worth just over half what it had been worth five years earlier.
Sometimes structures become too complex and need to be simplified. Many observers believe that this description fits Cisco. The company’s CEO, John Chambers, has moved Cisco away from a hierarchical emphasis toward a focus on horizontal linkages. As of late 2009, Cisco had four types of such linkages. For any given project, a small team of people reported to one of forty-seven boards. The boards averaged fourteen members each. Forty-three of these boards each reported to one of twelve councils. Each council also averaged fourteen members. The councils reported to an operating committee consisting of Chambers and fifteen other top executives. Four of the forty-seven boards bypassed the councils and reported directly to the operating committee. These arrangements are so complex and time consuming that some top executives spend 30 percent of their work hours serving on more than ten of the boards, councils, and the operating committee.
Because it competes in fast-changing high-tech markets, Cisco needs to be able to make competitive moves quickly. The firm’s complex structural arrangements are preventing this. In late 2007, Hewlett-Packard (HP) started promoting a warranty service that provides free support and upgrades within the computer network switches market. Because Cisco’s response to this initiative had to work its way through multiple committees, the firm did not take action until April 2009. During the delay, Cisco’s share of the market dropped as customers embraced HP’s warranty. This problem and others created by Cisco’s overly complex structure were so severe that one columnist wondered aloud “has Cisco’s John Chambers lost his mind (Blodget, 2009)?” In the summer of 2011, Chambers reversed course and decided to return Cisco to a more traditional structure while reducing the firm’s workforce by 9 percent. Time will tell whether these structural changes will boost Cisco’s stock price, which remained flat between 2006 and mid-2011.
Exercises
Executives must select among the four types of structure (simple, functional, multidivisional, and matrix) available to organize operations. Each structure has unique advantages, and the selection of structures involves a series of trade-offs.
1. What type of structure best describes the organization of your college or university? What led you to reach your conclusion?
2. The movie Office Space illustrates two types of structures. What are some other scenes or themes from movies that provide examples or insights relevant to understanding organizational structure? | textbooks/biz/Management/Mastering_Strategic_Management/09%3A_Executing_Strategy_through_Organizational_Design/9.03%3A_Creating_an_Organizational_Structure.txt |
Learning Objectives
1. Understand the three types of control systems.
2. Know the strengths and weaknesses of common management fads.
In addition to creating an appropriate organizational structure, effectively executing strategy depends on the skillful use of organizational control systems. Executives create strategies to try to achieve their organization’s vision, mission, and goals. Organizational control systems allow executives to track how well the organization is performing, identify areas of concern, and then take action to address the concerns. Three basic types of control systems are available to executives: (1) output control, (2) behavioral control, and (3) clan control. Different organizations emphasize different types of control, but most organizations use a mix of all three types.
Output Control
Output control focuses on measurable results within an organization. Examples from the business world include the number of hits a website receives per day, the number of microwave ovens an assembly line produces per week, and the number of vehicles a car salesman sells per month (Table 9.6). In each of these cases, executives must decide what level of performance is acceptable, communicate expectations to the relevant employees, track whether performance meets expectations, and then make any needed changes. In an ironic example, a group of post office workers in Pensacola, Florida, were once disappointed to learn that their paychecks had been lost—by the US Postal Service! The corrective action was simple: they started receiving their pay via direct deposit rather than through the mail.
Many times the stakes are much higher. In early 2011, Delta Air Lines was forced to face some facts as part of its use of output control. Data gathered by the federal government revealed that only 77.4 percent of Delta’s flights had arrived on time during 2010. This performance led Delta to rank dead last among the major US airlines and fifteenth out of eighteen total carriers (Yamanouchi, 2011). In response, Delta took important corrective steps. In particular, the airline added to its ability to service airplanes and provided more customer service training for its employees. Because some delays are inevitable, Delta also announced plans to staff a Twitter account called Delta Assist around the clock to help passengers whose flights are delayed. These changes and others paid off. For the second quarter of 2011, Delta enjoyed a \$198 million profit, despite having to absorb a \$1 billion increase in its fuel costs due to rising prices (Yamanouchi, 2011).
Outcome controls assess measurable production and other tangible results. Often output controls emphasize “bottom-line” performance. We illustrate some outcome controls found in organizations below.
Table 9.6 Output Controls
Because real estate agents are paid a percentage of the selling price when a house sells, the number of dollars generated in houses sold is an important metric. Many realty offices have designations like “five million dollar club” to recognize very productive realtors.
Grade point averages provide a tangible means to compare students for employers and graduate schools.
In the movie Elf, the main character Buddy leaves Santa’s workshop when the number of Etch-A-Sketch toys he produces is nearly nine hundred units lower than the standard pace.
To ear tenure in a research-focused business schools, a professor’s output generally must include publishing numerous high-quality articles at reputable scholarly journals.
Within restaurants, servers can increase a key output–amount of tips received–by providing customers with fast, friendly, and high-quality service.
Output control also plays a big part in the college experience. For example, test scores and grade point averages are good examples of output measures. If you perform badly on a test, you might take corrective action by studying harder or by studying in a group for the next test. At most colleges and universities, a student is put on academic probation when his grade point average drops below a certain level. If the student’s performance does not improve, he may be removed from his major and even dismissed. On the positive side, output measures can trigger rewards too. A very high grade point average can lead to placement on the dean’s list and graduating with honors.
While most scholarships require a high GPA, comedian David Letterman created a scholarship for a “C” student at Ball State University. Ball State later named a new communications and media building after its very famous alumnus. Wikimedia Commons – public domain.
Behavioral Control
Table 9.7 Behavioral Controls
Behavioral controls dictate the actions of individuals. Such controls often emphasize rules and procedures. We illustrate some behavioral controls found in organizations below.
No shoes, no shirt, no paycheck. Many food service companies have strict attire requirements to make sure employees are in compliance with the rules of the Food and Drug Administration and those of local health departments. Casual Fridays provide a welcome break in offices that enforce strict dress codes. Many businesses require that checks are signed by two people. This prevents a dishonest employee from embezzling money. Grading attendance is a behavioral control designed to force students to show up for class. This can be very helpful because research shows that attendance is positively related to grades. Unfortunately, however, there are no behavioral controls that force professors’ lectures to be interesting.
Gotta go? Be careful to not take too much time at certain auto factories, where bathroom breaks are monitored in an effort to cut costs. Some employees of U.S. firms are limited to forty six minutes of bathroom time per shift, while Japanese automakers allow their American employees only 30 minutes per shift.
While output control focuses on results, behavioral control focuses on controlling the actions that ultimately lead to results. In particular, various rules and procedures are used to standardize or to dictate behavior (Table 9.7). In most states, for example, signs are posted in restaurant bathrooms reminding employees that they must wash their hands before returning to work. The dress codes that are enforced within many organizations are another example of behavioral control. To try to prevent employee theft, many firms have a rule that requires checks to be signed by two people. And in a somewhat bizarre example, some automobile factories dictate to workers how many minutes they can spend in restrooms during their work shift.
Behavioral control also plays a significant role in the college experience. An illustrative (although perhaps unpleasant) example is penalizing students for not attending class. Professors grade attendance to dictate students’ behavior; specifically, to force students to attend class. Meanwhile, if you were to suggest that a rule should be created to force professors to update their lectures at least once every five years, we would not disagree with you.
Outside the classroom, behavioral control is a major factor within college athletic programs. The National Collegiate Athletic Association (NCAA) governs college athletics using a huge set of rules, policies, and procedures. The NCAA’s rulebook on behavior is so complex that virtually all coaches violate its rules at one time or another. Critics suggest that the behavioral controls instituted by the NCAA have reached an absurd level. Nevertheless, some degree of behavioral control is needed within virtually all organizations.
Creating an effective reward structure is key to effectively managing behavior because people tend to focus their efforts on the rewarded behaviors. Problems can arise when people are rewarded for behaviors that seem positive on the surface but that can actually undermine organizational goals under some circumstances. For example, restaurant servers are highly motivated to serve their tables quickly because doing so can increase their tips. But if a server devotes all his or her attention to providing fast service, other tasks that are vital to running a restaurant, such as communicating effectively with managers, host staff, chefs, and other servers, may suffer. Managers need to be aware of such trade-offs and strive to align rewards with behaviors. For example, waitstaff who consistently behave as team players could be assigned to the most desirable and lucrative shifts, such as nights and weekends.
Although some behavioral controls are intended for employees and not customers, following them is beneficial to everyone. Wikimedia Commons – CC BY-SA 3.0.
Clan Control
Table 9.8 Clan Controls
Rather than measuring result (as in outcome control) or dictating behavior (as in behavioral control), clan control relies on shared traditions, expectations, values, and norms to lead people to work toward the good of their organization. Some of the most interesting and unusual examples of clan control are found on college campuses. Below we illustrate a few striking examples that help build school spirit and loyalty.
Roughly one-quarter of Brandeis University’s student body gets adorned in pain–and nothing else–at the annual Liquid Latex event.
No matter how you slice it, the Toast Toss seems strange to outsiders. University of Pennsylvania students fling the breakfast staple into the air after the third quarter of home football games.
Students at Texas Tech University honor the school’s southwest heritage by throwing torillas at sporting events.
Instead of measuring results (as in outcome control) or dictating behavior (as in behavioral control), clan control is an informal type of control. Specifically, clan control relies on shared traditions, expectations, values, and norms to lead people to work toward the good of their organization (Table 9.8). Clan control is often used heavily in settings where creativity is vital, such as many high-tech businesses. In these companies, output is tough to dictate, and many rules are not appropriate. The creativity of a research scientist would be likely to be stifled, for example, if she were given a quota of patents that she must meet each year (output control) or if a strict dress code were enforced (behavioral control).
Google is a firm that relies on clan control to be successful. Employees are permitted to spend 20 percent of their workweek on their own innovative projects. The company offers an ‘‘ideas mailing list’’ for employees to submit new ideas and to comment on others’ ideas. Google executives routinely make themselves available two to three times per week for employees to visit with them to present their ideas. These informal meetings have generated a number of innovations, including personalized home pages and Google News, which might otherwise have never been adopted.
As part of the team-building effort at Google, new employees are known as Noogles and are given a propeller hat to wear. Wikimedia Commons – CC BY-SA 3.0.
Some executives look to clan control to improve the performance of struggling organizations. In 2005, Florida officials became fed up with complaints about surly clerks within the state’s driver’s license offices. The solution was to look for help with training employees from two companies that are well-known for friendly, engaged employees and excellent customer service. The first was The Walt Disney Company, which offers world-famous hospitality at its Orlando theme parks. The second was regional supermarket chain Publix, a firm whose motto stressed that “shopping is a pleasure” in its stores. The goal of the training was to build the sort of positive team spirit Disney and Publix enjoy. The state’s highway safety director summarized the need for clan control when noting that “we’ve just got to change a little culture out there (Bousquet, 2005).”
Clan control is also important on many college campuses. Philanthropic and social organizations such as clubs, fraternities, and sororities often revolve around shared values and team spirit. More broadly, many campuses have treasured traditions that bind alumni together across generations. Purdue University, for example, proudly owns the world’s largest drum. The drum is beaten loudly before home football games to fire up the crowd. After athletic victories, Auburn University students throw rolls of toilet paper into campus oak trees. At Clark University, Rollins College, and Emory University, time-honored traditions that involve spontaneously canceling classes surprise and delight students. These examples and thousands of others spread across the country’s colleges and universities help students feel like they belong to something special.
Management Fads: Out of Control?
The emergence and disappearance of fads appears to be a predictable aspect of modern society. A fad arises when some element of culture–such as fashion, a toy, or a hairstyle–becomes enthusiastically embraced by a group of people. Fads also seem to be a predictable aspect of the business world. Below we illustrate several fads that executives have latched onto in an effort to improve their organizations’ control systems.
Table 9.9 Managing Management Fads
Management by objectives A supervisor and an employee create a series of goals that provide structure and motivation for the employee. A huge set of studies shows that setting challenging but attainable goals leads to good performance, but not every aspect of work can be captured by a goal.
Sensitivity training Free-flowing group discussions are used to lead individuals toward greater understanding of themselves and others. Because a “mob mentality” can take over a group, sensitivity training too often degenerates into hostility and humiliation.
Quality circles Volunteer employee groups developed to brainstorm new methods or processes to improve quality. Quality is important, but managers face trade-offs among quality, cost, flexibility, and speed. A singular obsession with quality sacrifices too much along other dimensions.
Strong culture
Fueled by 1982’s In Search of Excellence and fascination with Japanese management systems, having a strong culture became viewed as crucial to organizational success. Within a few years, many of the “excellent” companies highlighted in the book had fallen on hard times. However, firms such as Disney continue to gain competitive advantage through their strong cultures.
Don’t chase the latest management fads. The situation dictates which approach best accomplishes the team’s mission.
- Colin Powell
The emergence and disappearance of fads appears to be a predictable aspect of modern society. A fad arises when some element of popular culture becomes enthusiastically embraced by a group of people. Over the past few decades, for example, fashion fads have included leisure suits (1970s), “Members Only” jackets (1980s), Doc Martens shoes (1990s), and Crocs (2000s). Ironically, the reason a fad arises is also usually the cause of its demise. The uniqueness (or even outrageousness) of a fashion, toy, or hairstyle creates “buzz” and publicity but also ensures that its appeal is only temporary (Ketchen & Short, 2011).
Fads also seem to be a predictable aspect of the business world (Table 9.9). As with cultural fads, many provocative business ideas go through a life cycle of creating buzz, captivating a group of enthusiastic adherents, and then giving way to the next fad. Bookstore shelves offer a seemingly endless supply of popular management books whose premises range from the intriguing to the absurd. Within the topic of leadership, for example, various books promise to reveal the “leadership secrets” of an eclectic array of famous individuals such as Jesus Christ, Hillary Clinton, Attila the Hun, and Santa Claus.
Beyond the striking similarities between cultural and business fads, there are also important differences. Most cultural fads are harmless, and they rarely create any long-term problems for those that embrace them. In contrast, embracing business fads could lead executives to make bad decisions. As our quote from Colin Powell suggests, relying on sound business practices is much more likely to help executives to execute their organization’s strategy than are generic words of wisdom from Old St. Nick.
Many management fads have been closely tied to organizational control systems. For example, one of the best-known fads was an attempt to use output control to improve performance. Management by objectives (MBO) is a process wherein managers and employees work together to create goals. These goals guide employees’ behaviors and serve as the benchmarks for assessing their performance. Following the presentation of MBO in Peter Drucker’s 1954 book The Practice of Management, many executives embraced the process as a cure-all for organizational problems and challenges.
Like many fads, however, MBO became a good idea run amok. Companies that attempted to create an objective for every aspect of employees’ activities eventually discovered that this was unrealistic. The creation of explicit goals can conflict with activities involving tacit knowledge about the organization. Intangible notions such as “providing excellent customer service,” “treating people right,” and “going the extra mile” are central to many organizations’ success, but these notions are difficult if not impossible to quantify. Thus, in some cases, getting employees to embrace certain values and other aspects of clan control is more effective than MBO.
Quality circles were a second fad that built on the notion of behavioral control. Quality circles began in Japan in the 1960s and were first introduced in the United States in 1972. A quality circle is a formal group of employees that meets regularly to brainstorm solutions to organizational problems. As the name “quality circle” suggests, identifying behaviors that would improve the quality of products and the operations management processes that create the products was the formal charge of many quality circles.
While the quality circle fad depicted quality as the key driver of productivity, it quickly became apparent that this perspective was too narrow. Instead, quality is just one of four critical dimensions of the production process; speed, cost, and flexibility are also vital. Maximizing any one of these four dimensions often results in a product that simply cannot satisfy customers’ needs. Many products with perfect quality, for example, would be created too slowly and at too great a cost to compete in the market effectively. Thus trade-offs among quality, speed, cost, and flexibility are inevitable.
Improving clan control was the aim of sensitivity-training groups (or T-groups) that were used in many organizations in the 1960s. This fad involved gatherings of approximately eight to fifteen people openly discussing their emotions, feelings, beliefs, and biases about workplace issues. In stark contrast to the rigid nature of MBO, the T-group involved free-flowing conversations led by a facilitator. These discussions were thought to lead individuals to greater understanding of themselves and others. The anticipated results were more enlightened workers and a greater spirit of teamwork.
Research on social psychology has found that groups are often far crueler than individuals. Unfortunately, this meant that the candid nature of T-group discussions could easily degenerate into accusations and humiliation. Eventually, the T-group fad gave way to recognition that creating potentially hurtful situations has no place within an organization. Hints of the softer side of T-groups can still be observed in modern team-building fads, however. Perhaps the best known is the “trust game,” which claims to build trust between employees by having individuals fall backward and depend on their coworkers to catch them.
Improving clan control was the basis for the fascination with organizational culture that was all the rage in the 1980s. This fad was fueled by a best-selling 1982 book titled In Search of Excellence: Lessons from America’s Best-Run Companies. Authors Tom Peters and Robert Waterman studied companies that they viewed as stellar performers and distilled eight similarities that were shared across the companies. Most of the similarities, including staying “close to the customer” and “productivity through people,” arose from powerful corporate cultures. The book quickly became an international sensation; more than three million copies were sold in the first four years after its publication.
Soon it became clear that organizational culture’s importance was being exaggerated. Before long, both the popular press and academic research revealed that many of Peters and Waterman’s “excellent” companies quickly had fallen on hard times. Basic themes such as customer service and valuing one’s company are quite useful, but these clan control elements often cannot take the place of holding employees accountable for their performance.
Spirited games of kickball can help build an organization’s culture, but such events should not substitute for holding employees accountable for delivering results. Matthew Peoples – Kickball – CC BY-NC 2.0.
The history of fads allows us to make certain predictions about today’s hot ideas, such as empowerment, “good to great,” and viral marketing. Executives who distill and act on basic lessons from these fads are likely to enjoy performance improvements. Empowerment, for example, builds on important research findings regarding employees—many workers have important insights to offer to their firms, and these workers become more engaged in their jobs when executives take their insights seriously. Relying too heavily on a fad, however, seldom turns out well.
Just as executives in the 1980s could not treat In Search of Excellence as a recipe for success, today’s executives should avoid treating James Collins’s 2001 best-selling book Good to Great: Why Some Companies Make the Leap…and Others Don’t as a detailed blueprint for running their companies. Overall, executives should understand that management fads usually contain a core truth that can help organizations improve but that a balance of output, behavioral, and clan control is needed within most organizations. As legendary author Jack Kerouac noted, “Great things are not accomplished by those who yield to trends and fads and popular opinion.”
Key Takeaway
Organizational control systems are a vital aspect of executing strategy because they track performance and identify adjustments that need to be made. Output controls involve measurable results. Behavioral controls involve regulating activities rather than outcomes. Clan control relies on a set of shared values, expectations, traditions, and norms. Over time, a series of fads intended to improve organizational control processes have emerged. Although these fads tend to be seen as cure-alls initially, executives eventually realize that an array of sound business practices is needed to create effective organizational controls.
Exercises
1. What type of control do you think works most effectively with you and why?
2. What are some common business practices that you predict will be considered fads in the future?
3. How could you integrate each type of control intro a college classroom to maximize student learning? | textbooks/biz/Management/Mastering_Strategic_Management/09%3A_Executing_Strategy_through_Organizational_Design/9.04%3A_Creating_Organizational_Control_Systems.txt |
Learning Objectives
1. Know the three basic legal forms of business.
2. Know the two specialized types of corporations.
Table 9.10 Business Forms
Making a profit is a key goal for the overwhelming majority of firms. How a firm’s owners benefit from profits and suffer from losses varies across different legal forms of business. Below we illustrate how profits and losses are treated within different business forms.
A sole proprietorship is owned by one person. The firm and its owner are treated interchangeably–the owner is the only beneficiary of any profits and its personally responsible for any losses and debts. Most sole proprietorships are small, but entrepreneur James Cash Penney operated JCPenney as one for many years after buying out his two partners.
In a partnership, two or more partners jointly own the firm. A successful partnership requires trust because profits and losses are shared and because each partner is accountable for the actions of others. Partnerships are a common business form for dental practices and law offices.
A corporation such as Southwest Airlines separates ownership and management by issuing ownership shares that are publicly traded in stock markets. Shareholders do not directly receive profits or absorb losses, but profits and losses tend to be reflected in whether the firm’s stock price rises or falls. Shareholders can also benefit from profits in the form of dividends. A disadvantage of this business form is double taxation: taxes are paid on corporate profits and on any dividends that corporate income fuels.
A limited liability company (LLC) can be thought of as a hybrid of a corporation and partnership. Like in a corporation, owners are not accountable for the firm’s debts. A winner of a legal judgement against an LLC, for example, cannot claim the personal assets of the LLC’s owners. LLC’s also enjoy the management flexibility of partnerships. For federal tax purposes, an LLC must choose to be treated as a corporation, a partnership, or a sole proprietorship. Many architectural and consulting firms are organized as LLCs.
• Choosing a Form of Business
The legal form a firm chooses to operate under is an important decision with implications for how a firm structures its resources and assets. Several legal forms of business are available to executives. Each involves a different approach to dealing with profits and losses (Table 9.10).
There are three basic forms of business. A sole proprietorship is a firm that is owned by one person. From a legal perspective, the firm and its owner are considered one and the same. On the plus side, this means that all profits are the property of the owner (after taxes are paid, of course). On the minus side, however, the owner is personally responsible for the firm’s losses and debts. This presents a tremendous risk. If a sole proprietor is on the losing end of a significant lawsuit, for example, the owner could find his personal assets forfeited. Most sole proprietorships are small and many have no employees. In most towns, for example, there are a number of self-employed repair people, plumbers, and electricians who work alone on home repair jobs. Also, many sole proprietors run their businesses from their homes to avoid expenses associated with operating an office.
In a partnership, two or more partners share ownership of a firm. A partnership is similar to a sole proprietorship in that the partners are the only beneficiaries of the firm’s profits, but they are also responsible for any losses and debts. Partnerships can be especially attractive if each person’s expertise complements the others. For example, an accountant who specializes in preparing individual tax returns and another who has mastered business taxes might choose to join forces to offer customers a more complete set of tax services than either could offer alone.
From a practical standpoint, a partnership allows a person to take time off without closing down the business temporarily. Sander & Lawrence is a partnership of two home builders in Tallahassee, Florida. When Lawrence suffered a serious injury a few years ago, Sander was able to take over supervising his projects and see them through to completion. Had Lawrence been a sole proprietor, his customers would have suffered greatly. However, a person who chooses to be part of a partnership rather than operating alone as a sole proprietor also takes on some risk; your partner could make bad decisions that end up costing you a lot of money. Thus developing trust and confidence in one’s partner is very important.
Most large firms, such as Southwest Airlines, are organized as corporations. A key difference between a corporation on the one hand and a sole proprietorship and a partnership on the other is that corporations involve the separation of ownership and management. Corporations sell shares of ownership that are publicly traded in stock markets, and they are managed by professional executives. These executives may own a significant portion of the corporation’s stock, but this is not a legal requirement.
Another unique feature of corporations is how they deal with profits and losses. Unlike in sole proprietorships and partnerships, a corporation’s owners (i.e., shareholders) do not directly receive profits or absorb losses. Instead, profits and losses indirectly affect shareholders in two ways. First, profits and losses tend to be reflected in whether the firm’s stock price rises or falls. When a shareholder sells her stock, the firm’s performance while she has owned the stock will influence whether she makes a profit relative to her stock purchase. Shareholders can also benefit from profits if a firm’s executives decide to pay cash dividends to shareholders. Unfortunately, for shareholders, corporate profits and any dividends that these profits support are both taxed. This double taxation is a big disadvantage of corporations.
A specialized type of corporation called an S corporation avoids double taxation. Much like in a partnership, the firm’s profits and losses are reported on owners’ personal tax returns in proportion with each owner’s share of the firm. Although this is an attractive feature, an S corporation would be impractical for most large firms because the number of shareholders in an S corporation is capped, usually at one hundred. In contrast, Southwest Airlines has more than ten thousand shareholders. For smaller firms, such as many real-estate agencies, the S corporation is an attractive form of business.
A final form of business is very popular, yet it is not actually recognized by the federal government as a form of business. Instead, the ability to create a limited liability company (LLC) is granted in state laws. LLCs mix attractive features of corporations and partnerships. The owners of an LLC are not personally responsible for debts that the LLC accumulates (like in a corporation) and the LLC can be run in a flexible manner (like in a partnership). When paying federal taxes, however, an LLC must choose to be treated as a corporation, a partnership, or a sole proprietorship. Many home builders (including Sander & Lawrence), architectural businesses, and consulting firms are LLCs.
Key Takeaway
• The three major forms of business in the United States are sole proprietorships, partnerships, and corporations. Each form has implications for how individuals are taxed and resources are managed and deployed.
Exercises
1. Why are so many small firms sole proprietorships?
2. Find an example of a firm that operates as an LLC. Why do you think the owners of this firm chose this form of business over others?
3. Why might different forms of business be more likely to rely on a different organizational structure?
9.06: Conclusion
This chapter explains elements of organizational design that are vital for executing strategy. Leaders of firms, ranging from the smallest sole proprietorship to the largest global corporation, must make decisions about the delegation of authority and responsibility when organizing activities within their firms. Deciding how to best divide labor to increase efficiency and effectiveness is often the starting point for more complex decisions that lead to the creation of formal organizational charts. While small businesses rarely create organization charts, firms that embrace functional, multidivisional, and matrix structures often have reporting relationships with considerable complexity. To execute strategy effectively, managers also depend on the skillful use of organizational control systems that involve output, behavioral, and clan controls. Although introducing more efficient business practices to improve organizational functioning is desirable, executives need to avoid letting their firms become “out of control” by being skeptical of management fads. Finally, the legal form a business takes is an important decision with implications for a firm’s organizational structure.
Exercises
1. The following chart is an organizational chart for the US federal government. What type of the four structures mentioned in this chapter best fits what you see in this chart?
2. How does this structure explain why the government seems to move at an incredibly slow pace?
3. What changes could be made to speed up the government? Would they be beneficial? | textbooks/biz/Management/Mastering_Strategic_Management/09%3A_Executing_Strategy_through_Organizational_Design/9.05%3A_Legal_Forms_of_Business.txt |
Learning Objectives
After reading this chapter, you should be able to understand and articulate answers to the following questions:
1. What are the key elements of effective corporate governance?
2. How do individuals and firms gauge ethical behavior?
3. What influences and biases might impact and impede decision making?
TOMS Shoes: Doing Business with Soul
Under the business model used by TOMS Shoes, a pair of their signature alpargata footwear is donated for every pair sold.
In 2002, Blake Mycoskie competed with his sister Paige on The Amazing Race—a reality show where groups of two people with existing relationships engage in a global race to win valuable prizes, with the winner receiving a coveted grand prize. Although Blake’s team finished third in the second season of the show, the experience afforded him the opportunity to visit Argentina, where he returned in 2006 and developed the idea to build a company around the alpargata—a popular style of shoe in that region.
The premise of the company Blake started was a unique one. For every shoe sold, a pair will be given to someone in need. This simple business model was the basis for TOMS Shoes, which has now given away more than one million pairs of shoes to those in need in more than twenty countries worldwide (Oloffson, 2010).
The rise of TOMS Shoes has inspired other companies that have adopted the “buy-one-give-one” philosophy. For example, the Good Little Company donates a meal for every package purchased (Nicolas, 2011). This business model has also been successfully applied to selling (and donating) other items such as glasses and books.
The social initiatives that drive TOMS Shoes stand in stark contrast to the criticisms that plagued Nike Corporation, where claims of human rights violations, ranging from the use of sweatshops and child labor to lack of compliance with minimum wage laws, were rampant in the 1990s (McCall, 1998). While Nike struggled to win back confidence in buyers that were concerned with their business practices, TOMS social initiatives are a source of excellent publicity in pride in those who purchase their products. As further testament to their popularity, TOMS has engaged in partnerships with Nordstrom, Disney, and Element Skateboards.
Although the idea of social entrepreneurship and the birth of firms such as TOMS Shoes are relatively new, a push toward social initiatives has been the source of debate for executives for decades. Issues that have sparked particularly fierce debate include CEO pay and the role of today’s modern corporation. More than a quarter of a century ago, famed economist Milton Friedman argued, “The social responsibility of business is to increase its profits.” This notion is now being challenged by firms such as TOMS and their entrepreneurial CEO, who argue that serving other stakeholders beyond the owners and shareholders can be a powerful, inspiring, and successful motivation for growing business.
This chapter discusses some of the key issues and decisions relevant to understanding corporate and business ethics. Issues include how to govern large corporations in an effective and ethical manner, what behaviors are considered best practices in regard to corporate social performance, and how different generational perspectives and biases may hold a powerful influence on important decisions. Understanding these issues may provide knowledge that can encourage effective organizational leadership like that of TOMS Shoes and discourage the criticisms of many firms associated with the corporate scandals of the late 1990s and early 2000s. | textbooks/biz/Management/Mastering_Strategic_Management/10%3A_Leading_an_Ethical_Organization-_Corporate_Governance_Corporate_Ethics_and_Social_Responsibility/10.01%3A_Leading_an_Ethical_Organization-_Corporate_Governance_Corporate_Ethic.txt |
Learning Objectives
1. Understand the key roles played by boards of directors.
2. Know how CEO pay and perks impact the landscape of corporate governance.
3. Explain different terms associated with corporate takeovers.
• The Many Roles of Boards of Directors
“You’re fired!” is a commonly used phrase most closely associated with Donald Trump as he dismisses candidates on his reality show, The Apprentice. But who would have the power to utter these words to today’s CEOs, whose paychecks are on par with many of the top celebrities and athletes in the world? This honor belongs to the board of directors—a group of individuals that oversees the activities of an organization or corporation.
Potentially firing or hiring a CEO is one of many roles played by the board of directors in their charge to provide effective corporate governance for the firm. An effective board plays many roles, ranging from the approval of financial objectives, advising on strategic issues, making the firm aware of relevant laws, and representing stakeholders who have an interest in the long-term performance of the firm (Table 10.1). Effective boards may help bring prestige and important resources to the organization. For example, General Electric’s board often has included the CEOs of other firms as well as former senators and prestigious academics. Blake Mycoskie of TOMS Shoes was touted as an ideal candidate for an “all-star” board of directors because of his ability to fulfill his company’s mission “to show how together we can create a better tomorrow by taking compassionate action today (Bunting, 2011).”
The key stakeholder of most corporations is generally agreed to be the shareholders of the company’s stock. Most large, publicly traded firms in the United States are made up of thousands of shareholders. While 5 percent ownership in many ventures may seem modest, this amount is considerable in publicly traded companies where such ownership is generally limited to other companies, and ownership in this amount could result in representation on the board of directors.
The possibility of conflicts of interest is considerable in public corporations. On the one hand, CEOs favor large salaries and job stability, and these desires are often accompanied by a tendency to make decisions that would benefit the firm (and their salaries) in the short term at the expense of decisions considered over a longer time horizon. In contrast, shareholders prefer decisions that will grow the value of their stock in the long term. This separation of interest creates an agency problem wherein the interests of the individuals that manage the company (agents such as the CEO) may not align with the interest of the owners (such as stockholders).
The composition of the board is critical because the dynamics of the board play an important part in resolving the agency problem. However, who exactly should be on the board is an issue that has been subject to fierce debate. CEOs often favor the use of board insiders who often have intimate knowledge of the firm’s business affairs. In contrast, many institutional investors such as mutual funds and pension funds that hold large blocks of stock in the firm often prefer significant representation by board outsiders that provide a fresh, nonbiased perspective concerning a firm’s actions.
One particularly controversial issue in regard to board composition is the potential for CEO duality, a situation in which the CEO is also the chairman of the board of directors. This has also been known to create a bitter divide within a corporation.
For example, during the 1990s, The Walt Disney Company was often listed in BusinessWeek’s rankings for having one of the worst boards of directors (Lavelle, 2002). In 2005, Disney’s board forced the separation of then CEO (and chairman of the board) Michael Eisner’s dual roles. Eisner retained the role of CEO but later stepped down from Disney entirely. Disney’s story reflects a changing reality that boards are acting with considerably more influence than in previous decades when they were viewed largely as rubber stamps that generally folded to the whims of the CEO.
Table 10.1 Board Roles
William Shakespeare once wrote, “All the world’s a stage, and the men and women merely players.” This analogy applies well to boards of directors. When the performance of board members is impressive, the company is able to put on a dynamic show. But if a board member phones in their role, failure may soon follow. We discuss the different roles board members may play below.
Accountant Board members may, at times, approve financial objectives.
Lawyer Ensuring the firm complies with applicable laws is a key role.
Advisor Providing advice on strategic issues is a critical role that is overlooked by less effective boards.
Activist Boards must ensure the rights and interests of stakeholders (especially stockholders) are represented.
Human Resource Manager Boards must monitor the CEO and engage in hiring, firing, and the administration of CEO compensation.
Agent
Because board members may serve in powerful positions at other companies, a well-networked board member may be able to bring new connections to the firm.
• Managing CEO Compensation
One of the most visible roles of boards of directors is setting CEO pay. The valuation of the human capital associated with the rare talent possessed by some CEOs can be illustrated in a story of an encounter one tourist had with the legendary artist Pablo Picasso. As the story goes, Picasso was once spotted by a woman sketching. Overwhelmed with excitement at the serendipitous meeting, the tourist offered Picasso fair market value if he would render a quick sketch of her image. After completing his commission, she was shocked when he asked for five thousand francs, responding, “But it only took you a few minutes.” Undeterred, Picasso retorted, “No, it took me all my life (Kay, 1999).”
Picasso’s Garçon á la pipe was one of the most expensive works ever sold at more than \$100 million.
This story illustrates the complexity associated with managing CEO compensation. On the one hand, large corporations must pay competitive wages for the scarce talent that is needed to manage billion-dollar corporations. In addition, like celebrities and sport stars, CEO pay is much more than a function of a day’s work for a day’s pay. CEO compensation is a function of the competitive wages that other corporations would offer for a potential CEO’s services.
On the other hand, boards will face considerable scrutiny from investors if CEO pay is out of line with industry norms. From the year 1980 to 2000, the gap between CEO pay and worker pay grew from 42 to 1 to 475 to 1 (Blumenthal, 2000). Although efforts to close this gap have been made, as recently as 2008 reports indicate the ratio continues to be as high as 344 to 1, much higher than other countries, where an 80 to 1 ratio is common, or in Japan where the gap is just 16 to 1 (Feltman, 2009). Meanwhile, shareholders need to be aware that research studies have found that CEO pay is positively correlated with the size of firms—the bigger the firm, the higher the CEO’s compensation (Tosi, et. al., 2000). Consequently, when a CEO tries to grow a company, such as by acquiring a rival firm, shareholders should question whether such growth is in the company’s best interest or whether it is simply an effort by the CEO to get a pay raise.
Table 10.2 CEO Perks
Within American firms, the average CEO is paid over 200 times what the typical worker makes–one of the highest ratios in the world. Many CEOs also receive perks that the average employee could only dream possible. Such perks are trouble to the extent that they reflect the board’s lack of vigilance in monitoring CEO spending. We illustrate a few examples below.
Former Tyco CEO–now a convicted felon–Dennis Koslowski threw a week-long \$2 million birthday bash for his wife that included an ice-sculpture of Michelangelo’s David that dispensed vokda–top shelf, of course!
A pint-sized matter compared to the lavish perks of many executives , the sweet tooth should be satisfied for former Ben & Jerry’s CEO Robert Holland Jr., who will receive free ice cream for life.
Golden parachutes where CEOs receive large cash settlements if fired are common in publicly traded companies. Less common is the “golden coffin” that provides big settlements if an executive passes away in office. Abercrombie & Fitch CEO Michael Jefferies was offered \$6 million for his loyalty to the company…dead or alive.
Fore-closure! Countrywide Financial, now owned by Bank of America, paid nearly \$1 million dollars for executives’ country club memberships between 2003 through 2006.
Although Don Tyson of Tyson Foods retired in 2001,Tyson employees have been used to mow his yard and clean his house to keep things tidy postretirement.
In most publicly traded firms, CEO compensation generally includes guaranteed salary, cash bonus, and stock options. But perks provide another valuable source of CEO compensation (Table 10.2). In addition to the controversy surrounding CEO pay, such perks associated with holding the position of CEO have also come under considerable scrutiny. The term perks, derived from perquisite, refers to special privileges, or rights, as a function of one’s position. CEO perks have ranged in magnitude from the sweet benefit of ice cream for life given to former Ben & Jerry’s CEO Robert Holland, to much more extreme benefits that raise the ears of investors while outraging employees. One such perk was provided to John Thain, who, as former head of NYSE Euronext, received more than \$1 million to renovate his office. While such perks may provide powerful incentives to stay with a company, they may result in considerable negative press and serve only to motivate vigilant investors wary of the value of such investments to shop elsewhere.
• The Market for Corporate Governance
Table 10.3 Takeover Terms
The terms associated with mergers, acquisitions, and the actions used by executives to block these moves often sound like material from the latest war movie. We explain important terms below.
While a pirate raids a competitor’s vessel looking to loot valuable treasures, a corporate raider invades a firm by purchasing its stock. Hostile takeover refers to an attempt to purchase a company that is strongly resisted by the target firm’s CEO and/or board.
Defenses against takeovers are often referred to as shark repellent. We illustrate a few below.
A golden parachute is a financial package (often including stock options and bonuses worth millions of dollars) given to executives likely to lose their jobs after a takeover. These parachutes make taking over a firm more costly and thus less attractive. When executives are desperate to avoid a takeover they may be forced to swallow a poison pill. This involves making the firm’s stock unattractive to raiders by letting shareholders buy stock at a discount.
A firm that rescues a target firm by offering a friendly takeover as an alternative to a hostile one is known as a white knight.
In contrast to blackmail where information is withheld unless a demand is met, greenmail occurs when an unfriendly firm forces a target company to repurchase a large block of stock at a premium to thwart a takeover attempt.
An old investment cliché encourages individuals to buy low and sell high. When a publicly traded firm loses value, often due to lack of vigilance on the part of the CEO and/or board, a company may become a target of a takeover wherein another firm or set of individuals purchases the company. Generally, the top management team is charged with revitalizing the firm and maximizing its assets.
In some cases, the takeover is in the form of a leveraged buyout (LBO) in which a publicly traded company is purchased and then taken off the stock market. One of the most famous LBOs was of RJR Nabisco, which inspired the book (and later film) Barbarians at the Gate. LBOs historically are associated with reduction in workforces to streamline processes and decrease costs. The managers who instigate buyouts generally bring a more entrepreneurial mind-set to the firm with the hopes of creating a turnaround from the same fate that made the company an attractive takeover target (recent poor performance) (Wright, et. al., 2001).
Many takeover attempts increase shareholder value. However, because most takeovers are associated with the dismissal of previous management, the terminology associated with change of ownership has a decidedly negative slant against the acquiring firm’s management team. For example, individuals or firms that hope to conduct a takeover are often referred to as corporate raiders. An unsolicited takeover attempt is often dubbed a hostile takeover, with shark repellent as the potential defenses against such attempts. Although the poor management of a targeted firm is often the reason such businesses are potential takeover targets, when another firm that may be more favorable to existing management enters the picture as an alternative buyer, a white knight is said to have entered the picture (Table 10.3).
The negative tone of takeover terminology also extends to the potential target firm. CEOs as well as board members are likely to lose their positions after a successful takeover occurs, and a number of antitakeover tactics have been used by boards to deter a corporate raid. For example, many firms are said to pay greenmail by repurchasing large blocks of stock at a premium to avoid a potential takeover. Firms may threaten to take a poison pill where additional stock is sold to existing shareholders, increasing the shares needed for a viable takeover. Even if the takeover is successful and the previous CEO is dismissed, a golden parachute that includes a lucrative financial settlement is likely to provide a soft landing for the ousted executive.
Key Takeaway
• Firms can benefit from superior corporate governance mechanisms such as an active board that monitors CEO actions, provides strategic advice, and helps to network to other useful resources. When such mechanisms are not in place, CEO excess may go unchecked, resulting in negative publicity, poor firm performance, and potential takeover by other firms.
Exercises
1. Divide the class into teams and see who can find the most egregious CEO perk in the last year.
2. Find a listing of members of a board of directors for a Fortune 500 firm. Does the board seem to be composed of individuals who are likely to fulfill all the board roles effectively?
3. Research a hostile takeover in the past five years and examine the long-term impact on the firm’s stock market performance. Was the takeover beneficial or harmful for shareholders?
4. Examine the AFL-CIO Executive Paywatch website (www.aflcio.org/corporatewatch/paywatch) and select a company of interest to see how many years you would need to work to earn a year’s pay enjoyed by the firm’s CEO. | textbooks/biz/Management/Mastering_Strategic_Management/10%3A_Leading_an_Ethical_Organization-_Corporate_Governance_Corporate_Ethics_and_Social_Responsibility/10.02%3A_Boards_of_Directors.txt |
Learning Objectives
1. Know the three levels and six stages of moral development suggested by Kohlberg.
2. Describe famous corporate scandals.
3. Understand how the Sarbanes-Oxley Act of 2002 provides a check on corporate ethical behavior in the United States.
4. Know the dimensions of corporate social performance tracked by KLD.
• Stages of Moral Development
How do ethics evolve over time? Psychologist Lawrence Kohlberg suggests that there are six distinct stages of moral development and that some individuals move further along these stages than others (Kohlberg, 1981). Kohlberg’s six stages were grouped into three levels: (1) preconventional, (2) conventional, and (3) postconventional (Table 10.4).
The preconventional level of moral reasoning is very egocentric in nature, and moral reasoning is tied to personal concerns. In stage 1, individuals focus on the direct consequences that their actions will have—for example, worry about punishment or getting caught. In stage 2, right or wrong is defined by the reward stage, where a “what’s in it for me” mentality is seen.
In the conventional level of moral reasoning, morality is judged by comparing individuals’ actions with the expectations of society. In stage 3, individuals are conformity driven and act with the goal of fulfilling social roles. Parents that encourage their children to be good boys and girls use this form of moral guidance. In stage 4, the importance of obeying laws, social conventions, or other forms of authority to aid in maintaining a functional society is encouraged. You might witness encouragement under this stage when using a cell phone in a restaurant or when someone is chatting too loudly in a library.
The postconventional level, or principled level, occurs when morality is more than simply following social rules or norms. Stage 5 considers different values and opinions. Thus laws are viewed as social contracts that promote the greatest good for the greatest number of people. Following democratic principles or voting to determine an outcome is common when this stage of reasoning is invoked. In stage 6, moral reasoning is based on universal ethical principles. For example, the golden rule that you should do unto others as you would have them do unto you illustrates one such ethical principle. At this stage, laws are grounded in the idea of right and wrong. Thus individuals follow laws because they are just and not because they will be punished if caught or shunned by society. Consequently, with this stage there is an idea of civil disobedience that individuals have a duty to disobey unjust laws.
Table 10.4 Stages of Moral Development
Psychologist Lawrence Kohlberg theorized that a person’s moral reasoning (which drives ethical behavior) has six identifiable stages spread across three levels. Each successive stage is superior to the previous stage with regard to responding to moral dilemmas. We illustrate each stage below.
Level 1 (Preconventional Level). Here moral reasoning is closely tied to personal concerns.
Stage 1. Obedience and punishment orientation (“How can I avoid punishment?”) An individual’s motivation to behave ethically is driven by the fear of getting caught and punishment.
Stage 2. Self-interest orientation (“What’s in it for me?”) Right or wrong is a function of rewards in this stage, where a “you scratch my back and I’ll scratch yours” mentality dominates.
Level 2 (Conventional Level). Here moral reasoning arises from comparing one’s actions with society’s expectations.
Stage 3. Interpersonal accord and harmony Individuals act with the goal of fulfilling social roles, such as student, parent, and worker.
Stage 4. Authority and social order–maintaining orientation The desire to maintain a functional society by obeying laws drives behaviors.
Level 1 (Preconventional Level). Here moral reasoning is closely tied to personal concerns.
Stage 5. Social contract orientation Laws are viewed as social contracts that promote the greatest good for the greatest number of people. Unjust laws and policies must therefore be resisted.
Stage 6. Universal ethical principles
Moral reasoning is based on universal ethical principles such as the “golden rule” that you should treat others as you would want them to treat you.
• Corporate Scandals and Sarbanes-Oxley
Table 10.5 Corporate Scandals
Celebrity scandals often create “buzz” and actually make celebrities richer. But scandals in the business world often lead to the forfeiture of millions of dollars as well as prison sentences. We illustrate some notable corporate scandals below.
Ponzi schemes are named after Charles Ponzi, who in the 1920s paid returns to investors using money from new investors rather than firm profits. Inevitably this kind of scheme falls apart because it becomes impossible to attract enough new investors to pay existing ones. More than one wry cynic has noted the similarity between Ponzi schemes and how the Social Security system is funded. Enron executives used accounting loopholes to create shell companies to hide billion in debt from failed deals and projects. Although these smug executives thought they were always “the smartest guys in the room,” the loss of \$11 billion in stock value and the prison time served by many of them proves otherwise. Corruption was a family affair at Adelphia Communications Corporation, which was named after the Greek word for brothers. Adelphia was the fifth largest cable company in the United States until father and son team John and Timothy Rigas were found guilty on securities violations tied to their theft of \$100 million. Another Rigas son, Michael, pled guilty to falsifying financial reports.
First off the ground in 1930, American Airlines flew atop the headlines in 2009 when the Wall Street Journal accused the airline of hiding repeated maintenance lapses on over a dozen MD-80 aircraft.
Although Chiquita Brands sells healthy snacks, their corporate actions upset many stomachs in 2007 when they were fined \$25 million by the U.S. Justice Department for having ties to a Columbia paramilitary group on the department’s list of foreign terrorists organizations.
The Madoff investment scandal that broke in 2008 provided a modern twist on the classic Ponzi scheme. NASDAQ chairman Bernard Madoff pled guilty to eleven federal crimes that constituted the largest investor fraud ever committed by an individual. Madoff was sentenced to 150 years in prison.
In the 1990s and early 2000s, several corporate scandals were revealed in the United States that showed a lack of board vigilance. Perhaps the most famous involves Enron, whose executive antics were documented in the film The Smartest Guys in the Room. Enron used accounting loopholes to hide billions of dollars in failed deals. When their scandal was discovered, top management cashed out millions in stock options while preventing lower-level employees from selling their stock. The collective acts of Enron led many employees to lose all their retirement holdings, and many Enron execs were sentenced to prison.
In response to notable corporate scandals at Enron, WorldCom, Tyco, and other firms, Congress passed sweeping new legislation with the hopes of restoring investor confidence while preventing future scandals (Table 10.5). Signed into law by President George W. Bush in 2002, Sarbanes-Oxley contained eleven aspects that represented some of the most far-reaching reforms since the presidency of Franklin Roosevelt. These reforms create improved standards that affect all publicly traded firms in the United States. The key elements of each aspect of the act are summarized as follows:
1. Because accounting firms were implicated in corporate scandal, an oversight board was created to oversee auditing activities.
2. Standards now exist to ensure auditors are truly independent and not subject to conflicts of interest in regard to the companies they represent.
3. Enron executives claimed that they had no idea what was going on in their company, but Sarbanes-Oxley requires senior executives to take personal responsibility for the accuracy of financial statements.
4. Enhanced reporting is now required to create more transparency in regard to a firm’s financial condition.
5. Securities analysts must disclose potential conflicts of interest.
6. To prevent CEOs from claiming tax fraud is present at their firms, CEOs must personally sign the firm’s tax return.
7. The Securities and Exchange Commission (SEC) now has expanded authority to censor or bar securities analysts from acting as brokers, advisers, or dealers.
8. Reports from the comptroller general are required to monitor any consolidations among public accounting firms, the role of credit agencies in securities market operations, securities violations, and enforcement actions.
9. Criminal penalties now exist for altering or destroying financial records.
10. Significant criminal penalties now exist for white-collar crimes.
11. The SEC can freeze unusually large transactions if fraud is suspected.
The changes that encouraged the creation of Sarbanes-Oxley were so sweeping that comedian Jon Stewart quipped, “Did Wall Street have any rules before this? Can you just shoot a guy for looking at you wrong?” Despite the considerable merits of Sarbanes-Oxley, no legislation can provide a cure-all for corporate scandal (Table 10.6). As evidence, the scandal by Bernard Madoff that broke in 2008 represented the largest investor fraud ever committed by an individual. But in contrast to some previous scandals that resulted in relatively minor punishments for their perpetrators, Madoff was sentenced to 150 years in prison.
Table 10.6 Sarbanes-Oxley Act of 2002 (SOX)
In the early 2000s, highly publicized fraud at Enron, WorldCom, Tyco, and other firms revealed significant issues including conflicts of interest by auditors and securities analysts, boardroom failures, and inadequate funding of the Securities and Exchange Commission. In response, Senator Paul Sarbanes and Representative Michael Oxley sponsored legislation that contained what former President George. W. Bush called “the most far-reaching reforms of American business practices since the time of Franklin D. Roosevelt.” We outline the eleven key aspects of the law below.
Accounting firms were complicit in some fraudulent events. In response, SOX created a board to oversee auditing activities within these firms. To restore investor confidence in securities analysts, SOX expands the SEC’s authority to censure or bar them from acting as a broker, advisor, or dealer.
Concerns about conflicts of interests arising from accounting firms acting as consultants and auditors for the same firm led SOX to establish standards to ensure that auditors would be truly independent. The comptroller general and the SEC are now required to carefully monitor any consolidation among public accounting firms, the role of credit agencies in securities market operations, securities violations, and enforcement actions.
Senior executives must take individual responsibility for the accuracy of their firms’ financial reports and they must forfeit the benefits arising from any non-compliance. To preserve potentially incriminating documents, SOX creates criminal penalties for altering or destroying financial records.
To create more transparency, SOX enhances reporting standards for off-balance-sheet transactions and requires timely reporting of material changes in a firm’s financial condition. In the past, white collar crimes often received a proverbial slap on the wrist. SOX significantly increased the penalties associated with white-collar crimes and conspiracies.
Securities analysts must disclose any conflicts of interest involving a firm. In response to past fraud and records tampering, the SEC can temporarily freeze transactions deemed unusually large.
The CEO is required to sign his/her firm’s tax return. This may prevent CEOs from claiming that they did not know tax fraud was occurring within their firms.
• Measuring Corporate Social Performance
TOMS Shoes’ commitment to donating a pair of shoes for every shoe sold illustrates the concept of social entrepreneurship, in which a business is created with a goal of bettering both business and society (Schectman, 2010). Firms such as TOMS exemplify a desire to improve corporate social performance (CSP) in which a commitment to individuals, communities, and the natural environment is valued alongside the goal of creating economic value. Although determining the level of a firm’s social responsibility is subjective, this challenge has been addressed in detail by Kinder, Lydenberg and Domini & Co. (KLD), a Boston-based firm that rates firms on a number of stakeholder-related issues with the goal of measuring CSP. KLD conducts ongoing research on social, governance, and environmental performance metrics of publicly traded firms and reports such statistics to institutional investors. The KLD database provides ratings on numerous “strengths” and “concerns” for each firm along a number of dimensions associated with corporate social performance (Table 10.7). The results of their assessment are used to develop the Domini social investments fund, which has performed at levels roughly equivalent to the S&P 500.
Table 10.7 Measuring Corporate Social Performance
Corporate social performance is defined as the degree to which a firm’s actions honor ethical values that respect individuals, communities, and the natural environment. Determining whether a firm is socially responsible is somewhat subjective, but one popular approach has been developed by KLD Research & Analytics. Their work tracks “strengths” and “concerns” for hundreds of firms over time. KLD’s findings are used by investors to screen socially responsible firms and by scholars who are interested in explaining corporate social performance. We illustrate the six key dimensions tracked by KLD below.
Community strengths include engagement in charitable giving, while involvement in tax controversies exemplifies a community concern. Product quality/safety strengths include actions such as the establishment of a well-developed quality program, while concerns arise if a firm receives fines related to product quality and/or safety. Diversity strengths include progressive programs for the employment of the disabled, whereas fines or civil penalties that result from an affirmative action constitute a concern.
A no-layoff policy is a strength in regard to employee relations, while poor union relations are a concern.
Environmental strengths include engaging in recycling, while concerns arise when penalties for air or water violations are documented.
Corporate governance strengths include equitable levels of compensation for top management and board members, while concerns are raised if controversies related to accounting, transparency, or political accountability are discovered.
Assessing the community dimension of CSP is accomplished by assessing community strengths, such as charitable or innovative giving that supports housing, education, or relations with indigenous peoples, as well as charitable efforts worldwide, such as volunteer efforts or in-kind giving. A firm’s CSP rating is lowered when a firm is involved in tax controversies or other negative actions that affect the community, such as plant closings that can negatively affect property values.
Chick-fil-A encourages education through their program that has provided more than \$25 million in financial aid to more than twenty-five thousand employees since 1973.
CSP diversity strengths are scored positively when the company is known for promoting women and minorities, especially for board membership and the CEO position. Employment of the disabled and the presence of family benefits such as child or elder care would also result in a positive score by KLD. Diversity concerns include fines or civil penalties in conjunction with an affirmative action or other diversity-related controversy. Lack of representation by women on top management positions—suggesting that a glass ceiling is present at a company—would also negatively impact scoring on this dimension.
The employee relations dimension of CSP gauges potential strengths such as notable union relations, profit sharing and employee stock-option plans, favorable retirement benefits, and positive health and safety programs noted by the US Occupational Health and Safety Administration. Employee relations concerns would be evident in poor union relations, as well as fines paid due to violations of health and safety standards. Substantial workforce reductions as well as concerns about adequate funding of pension plans also warrant concern for this dimension.
The environmental dimension records strengths by examining engagement in recycling, preventing pollution, or using alternative energies. KLD would also score a firm positively if profits derived from environmental products or services were a part of the company’s business. Environmental concerns such as penalties for hazardous waste, air, water, or other violations or actions such as the production of goods or services that could negatively impact the environment would reduce a firm’s CSP score.
Product quality/safety strengths exist when a firm has an established and/or recognized quality program; product quality safety concerns are evident when fines related to product quality and/or safety have been discovered or when a firm has been engaged in questionable marketing practices or paid fines related to antitrust practices or price fixing.
Corporate governance strengths are evident when lower levels of compensation for top management and board members exist, or when the firm owns considerable interest in another company rated favorably by KLD; corporate governance concerns arise when executive compensation is high or when controversies related to accounting, transparency, or political accountability exist.
Strategy at the Movies
Thank You for Smoking
Does smoking cigarettes cause lung cancer? Not necessarily, according to a fictitious lobbying group called the Academy of Tobacco Studies (ATS) depicted in Thank You for Smoking (2005). The ATS’s ability to rebuff the critics of smoking was provided by a three-headed monster of disinformation: scientist Erhardt Von Grupten Mundt who had been able to delay finding conclusive evidence of the harms of tobacco for thirty years, lawyers drafted from Ivy League institutions to fight against tobacco legislation, and a spin control division led by the smooth-talking Nick Naylor.
The ATS was a promotional powerhouse. In just one week, the ATS and its spin doctor Naylor distracted the American public by proposing a \$50 million campaign against teen smoking, brokered a deal with a major motion picture producer to feature actors and actresses smoking after sex, and bribed a cancer-stricken advertising spokesman to keep quiet. But after the ATS’s transgressions were revealed and cigarette companies were forced to settle a long-standing class-action lawsuit for \$246 billion, the ATS was shut down. Although few organizations promote a product as harmful as cigarettes, the lessons offered in Thank You for Smoking have wide application. In particular, the film highlights that choosing between ethical and unethical business practices is not only a moral issue, but it can also determine whether an organization prospers or dies.
In Thank You for Smoking, lobbyist Nick Naylor faces the difficult task of making smoking sexy in an era when the health hazards of this practice are well known.
Key Takeaway
• The work of Lawrence Kohlberg examines how individuals can progress in their stages of moral development. Lack of such development by many CEOs led to a number of scandals, as well as legislation such as the Sarbanes-Oxley Act of 2002 that was enacted with the hope of deterring scandalous behavior in the future. Firms such as KLD provide objective measures of both positive and negative actions related to corporate social performance.
Exercises
1. How would your college or university fare if rated on the dimensions used by KLD?
2. Do you believe that executives will become more ethical based on legislation such as Sarbanes-Oxley? | textbooks/biz/Management/Mastering_Strategic_Management/10%3A_Leading_an_Ethical_Organization-_Corporate_Governance_Corporate_Ethics_and_Social_Responsibility/10.03%3A_Corporate_Ethics_and_Social_Responsibility.txt |
Learning Objectives
1. Know the three major generational influences that make up the majority of the current workforce and their different perspectives and influences.
2. Understand how decision biases may impede effective decision making.
• Generational Influences on Work Behavior
Psychologist Kurt Lewin, known as the “founder of social psychology,” created a well-known formula B = ƒ(P,E) that states behavior is a function of the person and their environment. One powerful environmental influence that can be seen in organizations today is based on generational differences. Currently, four generations of workers (traditionalists, baby boomers, Generation X, Generation Y) coexist in many organizations. The different backgrounds and behaviors create challenges for leading these individuals that often have similar shared experiences within their generation but different sets of values, motivations, and preferences in contrast to other generations (Table 10.8). Effective management of these four different generations involves a realization of their differences and preferred communication styles (Rathman, 2011).
The generation born between 1925 and 1946 that fought in World War II and lived through the Great Depression are referred to as traditionalists. The perseverance of this generation has led journalist Tom Brokaw to dub this group “The Greatest Generation.” As a reflection of a generation that was molded by contributions to World War II, members of this generation value personal communication, loyalty, hierarchy, and are resistant to change. This group now makes up roughly 5 percent of the workforce.
Photographer Dorothea Lange’s photo Migrant Mother, taken in 1936, embodied the struggles of the traditionalist generation that lived during the Great Depression.
The generation known as baby boomers was born between 1946 and 1964, corresponding with a population “boom” following the end of World War II. This group witnessed Beatlemania, Vietnam, and the Watergate scandal. College graduates should be aware that this group makes up the majority of the workforce and that boomer managers often view face time as an important contribution to a successful work environment (Fogg, 2008). In addition, a realization that this generation wants to be included in office activities and values recognition is important to achieving cohesiveness between generations.
Generation X,born between 1965 and 1980, is marked by an X symbolizing their unknown nature. In contrast to the baby boomer’s value on office face time, Gen X members prize flexibility in their jobs and dislike the feeling that they are being micromanaged (Burk, et. al., 2011). Because of the desire for independence as well as adaptability associated with this generation, you should try to answer the “What’s in it for me?” question to avoid the risk of Gen X members moving on to other employment opportunities.
The generation that followed Generation X is known as Generation Y or millennials. This generation is highlighted by positive attributes such as the ability to embrace technology. More than previous generations, this group prizes job and life satisfaction highly, so making the workplace an enjoyable environment is key to managing Generation Y.
Table 10.8 Managing Generational Differences
To effectively lead today’s corporations, knowledge of the firm’s products and services are not enough. Executives must understand how to manage an increasingly diverse workforce. For example, navigating the differences among the three generations that currently dominate the workforce is crucial. We illustrate some of these differences below. One important caveat is that not all members of each generation fit these general descriptions.
Baby Boomers (1946-1964) Generation X (1965-1980) Generation Y (1981-1990)
Background: Children of the post World War II “baby boom” grew up during dramatic social events including Beatlemania, the first moon walk, the Vietnam War, and Watergate. Background: Generation X refers to the unknown nature of this generation, who grew up amid an increasing divorce rate as well as political experiences such as the end of the Cold War and fall of the Berlin Wall. Background: Known also as the Millennial Generation, this group is comfortable with technology, and is often associated with “helicopter” parents who are far more involved in their children’s lives than parents have been in the past. Because of the trend toward valuing participation in competitive activities rather than outcomes, this group is sometimes called the “Trophy Generation.”
General characteristics: Optimism, politically conservative, competitive. General characteristics: Independent, cynical, adaptable. General characteristics: Team-oriented, technologically savvy, need considerable feedback.
Communication preferences: Increased accessibility to touch phones reduces the need for interaction with this group, where a quick phone call can be effective to convey a message. Communication preferences: The ability to reach out by mobile phone anytime is the hallmark of this generation. Communication preferences: Pictures, personal details, and immediate access to friends and family.
What you should know to manage this group: This group makes up the majority of the work force, and this group is susceptible to burnout and stress-related illness. Be sure to not scrimp on praise and the funding of office parties for this group that values recognition and enjoys begin part of a group.
What you should know to manage this group: Because of their independence and adaptability, this group is especially prone to switching jobs to climb the career ladder. Micromanaging this group is rarely effective, but providing flexibility as well as being able to answer the question, “What’s in it for me?” can be helpful.
What you should know to manage this group: Job and life satisfaction is the key to keeping this generation’s talent so the opportunity to make work fun should not be downplayed with this group, and providing feedback is an important role in managing this generation that has often been coddled.
Wise members of this generation will also be aware of the negative attributes surrounding them. For example, millennials are associated with their “helicopter” parents who are often too comfortably involved in the lives of their children. For example, such parents have been known to show up to their children’s job orientations, often attempting to interfere with other workplace experiences such as pay and promotion discussions that may be unwelcome by older generations. In addition, this generation is viewed as needing more feedback than previous groups. Finally, the trend toward discouraging some competitive activities among individuals in this age group has led millennials to be dubbed “Trophy Kids” by more cynical writers.
• Rational Decision Making
Understanding generational differences can provide valuable insight into the perspectives that shape the behaviors of individuals born at different periods of time. But such knowledge does not answer a more fundamental question of interest to students of strategic management, namely, why do CEOs make bad, unethical, or other questionable decisions with the potential to lead their firms to poor performance or firm failure? Part of the answer lies in the method by which CEOs and other individuals make decisions. Ideally, individuals would make rational decisions for important choices such as buying a car or house, or choosing a career or place to live. The process of rational decision making involves problem identification, establishment and weighing of decision criteria, generation and evaluation of alternatives, selection of the best alternative, decision implementation, and decision evaluation.
Rational Decision-Making Model
While this model provides valuable insights by providing an ideal approach by which to make decisions, there are several problems with this model when applied to many complex decisions. First, many strategic decisions are not presented in obvious ways, and many CEOs may not be aware their firms are having problems until it’s too late to create a viable solution. Second, rational decision making assumes that options are clear and that a single best solution exists. Third, rational decision making assumes no time or cost constraints. Fourth, rational decision making assumes accurate information is available. Because of these challenges, some have joked that marriage is one of the least rational decisions a person can make because no one can seek out and pursue every possible alternative—even with all the online dating and social networking services in the world.
• Decision Biases
In reality, decision making is not rational because there are limits on our ability to collect and process information. Because of these limitations, Nobel Prize-winner Herbert Simon argued that we can learn more by examining scenarios where individuals deviate from the ideal. These decision biases provide clues to why individuals such as CEOs make decisions that in retrospect often seem very illogical—especially when they lead to actions that damage the firm and its performance. A number of the most common biases with the potential to affect business decision making are discussed next.
Table 10.9 Decision Biases
Nobel prize winner Herbert Simon argued that we can learn much about decision making by examining where we deviate from ideal decisions. We summarize a number of the most common decision biases below.
Anchoring and adjustment bias occurs when individuals react to arbitrary or irrelevant numbers when setting financial or other numerical targets.
Availability bias occurs when more readily available information is incorrectly assessed to also be more likely.
Escalation of commitment bias occurs when individuals continue on a failing course of action even after it becomes clear that this may be a poor path to follow.
Fundamental attribution error occurs when good outcomes are attributed to personal characteristics (e.g., intelligence) but undesirable outcomes are attributed to external circumstances (e.g., the weather).
Hindsight bias occurs when mistakes seem obvious after they have already occurred.
Judgements about correlation and causality bias occurs when individuals make inaccurate attribution about the causes of events.
Misunderstandings about sampling bias occurs when individuals draw broad conclusions from small sets of observations instead of more reliable sources of information derived from large, randomly drawn samples.
Overconfidence bias occurs when individuals are more confident in their abilities to predict an event than logic suggests is actually possible.
Representativeness and framing bias occurs when the way information is presented alters the decision an individual will make.
Satisficing occurs when individuals settle for the first acceptable alternative instead of seeking the best possible (optimal) decision.
Anchoring and adjustment bias occurs when individuals react to arbitrary or irrelevant numbers when setting financial or other numerical targets. For example, it is tempting for college graduates to compare their starting salaries at their first career job to the wages earned at jobs used to fund school. Comparisons to siblings, friends, parents, and others with different majors are also very tempting while being generally irrelevant. Instead, research the average starting salary for your background, experience, and other relevant characteristics to get a true gauge. This bias could undermine firm performance if executives make decisions about the potential value of a merger or acquisition by making comparisons to previous deals rather than based on a realistic and careful study of a move’s profit potential (Table 10.9).
The availability bias occurs when more readily available information is incorrectly assessed to also be more likely. For example, research shows that most people think that auto accidents cause more deaths than stomach cancer because auto accidents are reported more in the media than deaths by stomach cancer at a rate of more than 100 to 1. This bias could cause trouble for executives if they focus on readily available information such as their own firm’s performance figures but fail to collect meaningful data on their competitors or industry trends that suggest the need for a potential change in strategic direction.
The idea of “throwing good money after bad” illustrates the bias of escalation of commitment, when individuals continue on a failing course of action even after it becomes clear that this may be a poor path to follow. This can be regularly seen at Vegas casinos when individuals think the next coin must be more likely to hit the jackpot at the slots. The concept of escalation of commitment was chronicled in the 1990 book Barbarians at the Gate: The Rise and Fall of RJR Nabisco. The book follows the buyout of RJR Nabisco and the bidding war that took place between then CEO of RJR Nabisco F. Ross Johnson and leverage buyout pioneers Henry Kravis and George Roberts. The result of the bidding war was an extremely high sales price of the company that resulted in significant debt for the new owners.
Providing an excellent suggestion to avoid a nonrational escalation of commitment, old school comedian W. C. Fields once advised, “If at first you don’t succeed, try, try again. Then quit. There’s no point being a damn fool about it.”
Fundamental attribution error occurs when good outcomes are attributed to personal characteristics but undesirable outcomes are attributed to external circumstances. Many professors lament a common scenario that, when a student does well on a test, it’s attributed to intelligence. But when a student performs poorly, the result is attributed to an unfair test or lack of adequate teaching based on the professor. In a similar vein, some CEOs are quick to take credit when their firm performs well, but often attribute poor performance to external factors such as the state of the economy.
Hindsight bias occurs when mistakes seem obvious after they have already occurred. This bias is often seen when second-guessing failed plays on the football field and is so closely associated with watching National Football League games on Sunday that the phrase Monday morning quarterback is a part of our business and sports vernacular. The decline of firms such as Kodak as victims to the increasing popularity of digital cameras may seem obvious in retrospect. It is easy to overlook the poor quality of early digital technology and to dismiss any notion that Kodak executives had good reason not to view this new technology as a significant competitive threat when digital cameras were first introduced to the market.
Judgments about correlation and causality can lead to problems when individuals make inaccurate attributions about the causes of events. Three things are necessary to determine cause—or why one element affects another. For example, understanding how marketing spending affects firm performance involves (1) correlation (do sales increase when marketing increases), (2) temporal order (does marketing spending occur before sales increase), and (3) ruling out other potential causes (is something else causing sales to increase: better products, more employees, a recession, a competitor went bankrupt, etc.). The first two items can be tracked easily, but the third is almost impossible to isolate because there are always so many changing factors. In economics, the expression ceteris paribus (all things being equal or constant) is the basis of many economic models; unfortunately, the only constant in reality is change. Of course, just because determining causality is difficult and often inconclusive does not mean that firms should be slow to take strategic action. As the old business saying goes, “We know we always waste half of our marketing budget, we just don’t know which half.”
Misunderstandings about sampling may occur when individuals draw broad conclusions from small sets of observations instead of more reliable sources of information derived from large, randomly drawn samples. Many CEOs have been known to make major financial decisions based on their own instincts rather than on careful number crunching.
Overconfidence bias occurs when individuals are more confident in their abilities to predict an event than logic suggests is actually possible. For example, two-thirds of lawyers in civil cases believe their side will emerge victorious. But as the famed Yankees player/manager Yogi Berra once noted, “It’s hard to make predictions, especially about the future.” Such overconfidence is common in CEOs that have had success in the past and who often rely on their own intuition rather than on hard data and market research.
Representativeness bias occurs when managers use stereotypes of similar occurrences when making judgments or decisions. In some cases, managers may draw from previous experiences to make good decisions when changes in the environment occur. In other cases, representativeness can lead to discriminatory behaviors that may be both unethical and illegal.
Framing bias occurs when the way information is presented alters the decision an individual will make. Poor framing frequently occurs in companies because employees are often reluctant to bring bad news to CEOs. To avoid an unpleasant message, they might be tempted to frame information in a more positive light than reality, knowing that individuals react differently to news that a glass is half empty versus half full.
Satisficing occurs when individuals settle for the first acceptable alternative instead of seeking the best possible (optimal) decision. While this bias might actually be desirable when others are waiting behind you at a vending machine, research shows that CEOs commonly satisfice with major decisions such as mergers and takeovers.
Key Takeaway
• Generational differences provide powerful influences on the mind-set of employees that should be carefully considered to effectively manage a diverse workforce. Wise managers will also be aware of the numerous decision biases that could impede effective decision making.
Exercises
1. Explain how a specific decision bias mentioned in this chapter led to poor decision making by a firm.
2. Are there negative generational tendencies in your age group that you have worked to overcome?
10.05: Conclusion
This chapter explains the role of boards of directors in the corporate governance of organizations such as large, publicly traded corporations. Wise boards work to manage the agency problem that creates a conflict of interest between top managers such as CEO and other groups with a stake in the firm. When boards fail to do their duties, numerous scandals may ensue. Corporate scandals became so widespread that new legislation such as the Sarbanes-Oxley Act of 2002 has been developed with the hope of impeding future actions by executives associated with unethical or illegal behavior. Finally, firms should be aware of generational influences as well as other biases that may lead to poor decisions.
Exercises
1. Divide your class into four or eight groups, depending on the size of the class. Each group should select a different industry. Find positive and negative examples of corporate social performance based on the dimensions used by KLD.
2. This chapter discussed Blake Mycoskie and TOMS Shoes. What other opportunities exist to create new organizations that serve both social and financial goals? | textbooks/biz/Management/Mastering_Strategic_Management/10%3A_Leading_an_Ethical_Organization-_Corporate_Governance_Corporate_Ethics_and_Social_Responsibility/10.04%3A_Understanding_Thought_Patterns-_A_Key_to_Corporate_Leadership.txt |
The traditional textbook publishing model no longer serves the interests of students, educators, and authors. Textbooks are too expensive for students and too inflexible for instructors. And authors, the major, initial source of value in the industry, are increasingly confused by faster revision demands and their compensation for those revisions. Flat World addresses all these industry pain points.
Jeff Shelstad
In 2007, two textbook publishing industry veterans, Jeff Shelstad and Eric Frank, started a privately held company, to be a new and disruptive model for the college textbook market. Traditional business textbook publishers carry a portfolio of 5 to 10 titles per subject and charge premium prices for new textbooks, an average of \$1,000 in textbooks for a college student’s first year, according to a recent General Accounting Office (GAO) report. FWK’s strategy aims to turn the traditional model on its head by providing online textbook access free to students. FWK earns revenues by selling students the digital textbooks in alternate formats, print and audio initially, and also by selling highly efficient and mobile study aids. Despite the fact that professors have rated the academic quality of FWK textbooks as equal to or higher than that of textbooks from traditional publishers, the cost to students is a fraction of current market prices due to the efficiencies of the FWK business model. Moreover, with FWK’s platform, instructors who adopt FWK books for their classes are able to pick and choose the material provided to their students, even if it is from earlier versions of textbooks that have since been revised.
Shelstad and Frank previously served as the editorial director and the marketing director, respectively, at Prentice Hall, a major U.S. publisher of educational materials and a division of Pearson PLC. They resigned from Prentice Hall in January 2007 with plans to start a higher education publishing business together. During the first several months, they met with many students, professors, authors, advisors, and potential angel investors. Shelstad became the CEO; Frank was the chief marketing officer. They also added David Wiley as the chief openness officer.
Asked why he started FWK, Shelstad said, “I was convinced the college textbook publishing industry model was broken.” He added, “When more and more students are running from your core product, you have a problem. For example, many leading business school textbooks sell in the college bookstore or on various Internet sites for \$150 or more. Students by and large don’t see that value. So they search frantically for substitutes, and the Internet has made the availability and pricing of substitutes very obvious.” In its first term (fall of 2009), FWK had 40,000 students using its textbooks. This steadily continued to rise as faculty discovered the low-priced alternative that combined quality and affordability for their students. As of January 2013, FWK has published more than 100 books, with faculty customers at more than 2000 institutions in 44 countries. As a result, more than 600,000 students have benefited from affordable textbook choices that lower costs, increase access, and personalize learning.
Media attention regarding the fledgling FWK was generally very favorable. Social media experts also gave the company accolades. For example, Chris Anderson devoted a page to the FWK business model in his bestselling book ”Free: The Future of a Radical Price.” Moreover, early user reviews of the product were also very positive. For instance, an instructor who adopted an early FWK text, Principles of Management, noted, “I highly recommend this book as a primary textbook for…business majors. The overall context is quite appropriate and the search capability within the context is useful. I have been quite impressed [with] how they have highlighted the key areas.” At the same time, opportunities to improve the Web interface still existed, with the same reviewer noting, “The navigation could be a bit more user friendly, however.” FWK uses user input like this to better adjust the strategy and delivery of its model. This type of feedback led the FWK design squad to improve its custom Web interface, so that instructors can more easily change the book.
Further changes occurred in late 2012, when the company announced it would no longer offer free online access to its textbooks. Moving from “free to fair” (the entry point for students is now \$19.95) was a difficult but necessary decision. On its website, the company explained:
“As the transition to digital has changed student buying trends, the free format has become a barrier to our long-term growth and ability to offer a fair and affordable model that works for all our customers, from individual students and instructors to our institutional partners.”
In December 2012, the company announced the appointment of Christopher Etesse as CEO. Etesse is a former senior executive and Chief Technology Officer with Blackboard Inc. Shelstad will remain with the company in a strategic role as Founder.
Only time will tell if the \$30 million invested in FWK by 2012 will result in the establishment of a new titan in textbook publishing or will be an entrepreneurial miss.
Discussion Questions
1. Which competitive advantages do open textbooks seem to possess?
2. Which learning styles might be most effective for individuals in entrepreneurial firms? Explain your answer.
3. How might the extensive textbook industry experience that open textbook founders possess help or hinder the company’s ultimate success or failure?
4. If you were one of the founders, how would you prioritize how you spent your time in the first weeks on the job after getting the venture capital funding? | textbooks/biz/Management/Organizational_Behavior/01%3A_Organizational_Behavior/01.1%3A_College_Textbook_Revolution.txt |
Learning Objectives
1. Learn about the layout of this book.
2. Understand what organizational behavior is.
3. Understand why organizational behavior matters.
4. Learn about OB Toolboxes in this book.
About This Book
The people make the place.
Benjamin Schneider, Fellow of the Academy of Management
This book is all about people, especially people at work. As evidenced in the opening case, we will share many examples of people making their workplaces work. People can make work an exciting, fun, and productive place to be, or they can make it a routine, boring, and ineffective place where everyone dreads to go. Steve Jobs, cofounder, chairman, and CEO of Apple Inc. attributes the innovations at Apple, which include the iPod, MacBook, and iPhone, to people, noting, “Innovation has nothing to do with how many R&D dollars you have.…It’s not about money. It’s about the people you have, how you’re led, and how much you get it” (Kirkpatrick, 1998). This became a sore point with investors in early 2009 when Jobs took a medical leave of absence. Many wonder if Apple will be as successful without him at the helm, and Apple stock plunged upon worries about his health (Parloff, 2008).
Mary Kay Ash, founder of Mary Kay Inc., a billion-dollar cosmetics company, makes a similar point, saying, “People are definitely a company’s greatest asset. It doesn’t make any difference whether the product is cars or cosmetics. A company is only as good as the people it keeps”[1]
Just like people, organizations come in many shapes and sizes. We understand that the career path you will take may include a variety of different organizations. In addition, we know that each student reading this book has a unique set of personal and work-related experiences, capabilities, and career goals. On average, a person working in the United States will change jobs 10 times in 20 years (U.S. Bureau of Labor Statistics, 2005). In order to succeed in this type of career situation, individuals need to be armed with the tools necessary to be lifelong learners. So, this book will not be about giving you all the answers to every situation you may encounter when you start your first job or as you continue up the career ladder. Instead, this book will give you the vocabulary, framework, and critical thinking skills necessary for you to diagnose situations, ask tough questions, evaluate the answers you receive, and act in an effective and ethical manner regardless of situational characteristics.
Throughout this book, when we refer to organizations, we will include examples that may apply to diverse organizations such as publicly held, for-profit organizations like Google and American Airlines, privately owned businesses such as S. C. Johnson & Son Inc. (makers of Windex glass cleaner) and Mars Inc. (makers of Snickers and M&Ms), and not-for-profit organizations such as the Sierra Club or Mercy Corps, and nongovernmental organizations (NGOs) such as Doctors Without Borders and the International Red Cross. We will also refer to both small and large corporations. You will see examples from Fortune 500 organizations such as Intel Corporation or Home Depot Inc., as well as small start-up organizations. Keep in mind that some of the small organizations of today may become large organizations in the future. For example, in 1998, eBay Inc. had only 29 employees and \$47.4 million in income, but by 2008 they had grown to 11,000 employees and over \$7 billion in revenue (Gibson, 2008). Regardless of the size or type of organization you may work for, people are the common denominator of how work is accomplished within organizations.
Together, we will examine people at work both as individuals and within work groups and how they impact and are impacted by the organizations where they work. Before we can understand these three levels of organizational behavior, we need to agree on a definition of organizational behavior.
What Is Organizational Behavior?
Organizational behavior (OB) is defined as the systematic study and application of knowledge about how individuals and groups act within the organizations where they work. As you will see throughout this book, definitions are important. They are important because they tell us what something is as well as what it is not. For example, we will not be addressing childhood development in this course—that concept is often covered in psychology—but we might draw on research about twins raised apart to understand whether job attitudes are affected by genetics.
OB draws from other disciplines to create a unique field. As you read this book, you will most likely recognize OB’s roots in other disciplines. For example, when we review topics such as personality and motivation, we will again review studies from the field of psychology. The topic of team processes relies heavily on the field of sociology. In the chapter relating to decision making, you will come across the influence of economics. When we study power and influence in organizations, we borrow heavily from political sciences. Even medical science contributes to the field of organizational behavior, particularly to the study of stress and its effects on individuals.
Those who study organizational behavior—which now includes you—are interested in several outcomes such as work attitudes (e.g., job satisfaction and organizational commitment) as well as job performance (e.g., customer service and counterproductive work behaviors). A distinction is made in OB regarding which level of the organization is being studied at any given time. There are three key levels of analysis in OB. They are examining the individual, the group, and the organization. For example, if I want to understand my boss’s personality, I would be examining the individual level of analysis. If we want to know about how my manager’s personality affects my team, I am examining things at the team level. But, if I want to understand how my organization’s culture affects my boss’s behavior, I would be interested in the organizational level of analysis.
Why Organizational Behavior Matters
OB matters at three critical levels. It matters because it is all about things youcare about. OB can help you become a more engaged organizational member. Getting along with others, getting a great job, lowering your stress level, making more effective decisions, and working effectively within a team…these are all great things, and OB addresses them!
It matters because employers care about OB. A recent survey by the National Association of Colleges and Employers (NACE) asked employers which skills are the most important for them when evaluating job candidates, and OB topics topped the list (NACE 2007 Job Outlook Survey, 2008).
The following were the top five personal qualities/skills:
1. Communication skills (verbal and written)
2. Honesty/integrity
3. Interpersonal skills (relates well to others)
4. Motivation/initiative
5. Strong work ethic
These are all things we will cover in OB.
Finally, it matters because organizations care about OB. The best companies in the world understand that the people make the place. How do we know this? Well, we know that organizations that value their employees are more profitable than those that do not (Huselid, 1995; Pfeffer, 1998; Pfeffer & Veiga, 1999; Welbourne & Andrews, 1996). Research shows that successful organizations have a number of things in common, such as providing employment security, engaging in selective hiring, utilizing self-managed teams, being decentralized, paying well, training employees, reducing status differences, and sharing information (Pfeffer & Veiga, 1999). For example, every Whole Foods store has an open compensation policy in which salaries (including bonuses) are listed for all employees. There is also a salary cap that limits the maximum cash compensation paid to anyone in the organization, such as a CEO, in a given year to 19 times the companywide annual average salary of all full-time employees. What this means is that if the average employee makes \$30,000 per year, the highest potential pay for their CEO would be \$570,000, which is a lot of money but pales in comparison to salaries such as Steve Jobs of Apple at \$14.6 million or the highest paid CEO in 2007, Larry Ellison of Oracle, at \$192.9 million (Elmer-DeWitt, 2008). Research shows that organizations that are considered healthier and more effective have strong OB characteristics throughout them such as role clarity, information sharing, and performance feedback. Unfortunately, research shows that most organizations are unhealthy, with 50% of respondents saying that their organizations do not engage in effective OB practices (Aguirre et al., 2005).
In the rest of this chapter, we will build on how you can use this book by adding tools to your OB Toolbox in each section of the book as well as assessing your own learning style. In addition, it is important to understand the research methods used to define OB, so we will also review those. Finally, you will see what challenges and opportunities businesses are facing and how OB can help overcome these challenges.
Adding to Your OB Toolbox
Your OB Toolbox
OB Toolboxes appear throughout this book. They indicate a tool that you can try out today to help you develop your OB skills.
Throughout the book, you will see many OB Toolbox features. Our goal in writing this book is to create something useful for you to use now and as you progress through your career. Sometimes we will focus on tools you can use today. Other times we will focus on things you may want to think about that may help you later. As you progress, you may discover some OB tools that are particularly relevant to you while others are not as appropriate at the moment. That’s great—keep those that have value to you. You can always go back and pick up tools later on if they don’t seem applicable right now.
The important thing to keep in mind is that the more tools and skills you have, the higher the quality of your interactions with others will be and the more valuable you will become to organizations that compete for top talent (Michaels, Handfield-Jones, & Axelrod, 2001). It is not surprising that, on average, the greater the level of education you have, the more money you will make. In 2006, those who had a college degree made 62% more money than those who had a high school degree (U.S. Bureau of Labor Statistics). Organizations value and pay for skills as the next figure shows.
Tom Peters is a management expert who talks about the concept of individuals thinking of themselves as a brand to be managed. Further, he recommends that individuals manage themselves like free agents (Peters, 1997; Peters, 2004). The following OB Toolbox includes several ideas for being effective in keeping up your skill set.
Your OB Toolbox: Skill Survival Kit
• Keep your skills fresh. Consider revolutionizing your portfolio of skills at least every 6 years.
• Master something. Competence in many skills is important, but excelling at something will set you apart.
• Embrace ambiguity. Many people fear the unknown. They like things to be predictable. Unfortunately, the only certainty in life is that things will change. Instead of running from this truth, embrace the situation as a great opportunity.
• Network. The term has been overused to the point of sounding like a cliché, but networking works. This doesn’t mean that having 200 connections on MySpace, LinkedIn, or Facebook makes you more effective than someone who has 50, but it does mean that getting to know people is a good thing in ways you can’t even imagine now.
• Appreciate new technology. This doesn’t mean you should get and use every new gadget that comes out on the market, but it does mean you need to keep up on what the new technologies are and how they may affect you and the business you are in.
A key step in building your OB skills and filling your toolbox is to learn the language of OB. Once you understand a concept, you are better able to recognize it. Once you recognize these concepts in real-world events and understand that you have choices in how you will react, you can better manage yourself and others. An effective tool you can start today is journaling, which helps you chart your progress as you learn new skills. For more on this, see the OB Toolbox below.
OB Toolbox: Journaling as a Developmental Tool
• What exactly is journaling? Journaling refers to the process of writing out thoughts and emotions on a regular basis.
• Why is journaling a good idea? Journaling is an effective way to record how you are feeling from day to day. It can be a more objective way to view trends in your thoughts and emotions so you are not simply relying on your memory of past events, which can be inaccurate. Simply getting your thoughts and ideas down has been shown to have health benefits as well such as lowering the writer’s blood pressure, heart rate, and decreasing stress levels.
• How do I get started? The first step is to get a journal or create a computer file where you can add new entries on a regular basis. Set a goal for how many minutes per day you want to write and stick to it. Experts say at least 10 minutes a day is needed to see benefits, with 20 minutes being ideal. The quality of what you write is also important. Write your thoughts down clearly and specifically while also conveying your emotions in your writing. After you have been writing for at least a week, go back and examine what you have written. Do you see patterns in your interactions with others? Do you see things you like and things you’d like to change about yourself? If so, great! These are the things you can work on and reflect on. Over time, you will also be able to track changes in yourself, which can be motivating as well.
Isn’t OB Just Common Sense?
As teachers we have heard this question many times. The answer, as you might have guessed, is no—OB is not just common sense. As we noted earlier, OB is the systematic study and application of knowledge about how individuals and groups act within the organizations where they work. Systematic is an important word in this definition. It is easy to think we understand something if it makes sense, but research on decision making shows that this can easily lead to faulty conclusions because our memories fail us. We tend to notice certain things and ignore others, and the specific manner in which information is framed can affect the choices we make. Therefore, it is important to rule out alternative explanations one by one rather than to assume we know about human behavior just because we are humans! Go ahead and take the following quiz and see how many of the 10 questions you get right. If you miss a few, you will see that OB isn’t just common sense. If you get them all right, you are way ahead of the game!
Putting Common Sense to the Test
Please answer the following 10 questions by noting whether you believe the sentence is true or false.
1. Brainstorming in a group is more effective than brainstorming alone. _____
2. The first 5 minutes of a negotiation are just a warm-up to the actual negotiation and don’t matter much. _____
3. The best way to help someone reach their goals is to tell them to do their best. _____
4. If you pay someone to do a task they routinely enjoy, they’ll do it even more often in the future. _____
5. Pay is a major determinant of how hard someone will work. _____
6. If a person fails the first time, they try harder the next time. _____
7. People perform better if goals are easier. _____
8. Most people within organizations make effective decisions. _____
9. Positive people are more likely to withdraw from their jobs when they are dissatisfied. _____
10. Teams with one smart person outperform teams in which everyone is average in intelligence. ______
You may check your answers with your instructor.
Key Takeaways
This book is about people at work. Organizations come in many shapes and sizes. Organizational behavior is the systematic study and application of knowledge about how individuals and groups act within the organizations where they work. OB matters for your career, and successful companies tend to employ effective OB practices. The OB Toolboxes throughout this book are useful in increasing your OB skills now and in the future.
Exercises
1. Which type of organizations did you have the most experience with? How did that affect your understanding of the issues in this chapter?
2. Which skills do you think are the most important ones for being an effective employee?
3. What are the three key levels of analysis for OB?
4. Have you ever used journaling before? If so, were your experiences positive? Do you think you will use journaling as a tool in the future?
5. How do you plan on using the OB Toolboxes in this book? Creating a plan now can help to make you more effective throughout the term.
References
Aguirre, D. M., Howell, L. W., Kletter, D. B., & Neilson, G. L. (2005). A global check-up: Diagnosing the health of today’s organizations (online report). Retrieved July 25, 2008, from the Booz & Company Web site: www.orgdna.com/downloads/Glob...lthNov2005.pdf.
Elmer-DeWitt, P. (2008, May 2). Top-paid CEOs: Steve Jobs drops from no. 1 to no. 120. Fortune. Retrieved July 26, 2008, from CNNMoney.com: apple20.blogs.fortune.cnn.com...top-paid-ceos- steve-jobs-drops-from-no-1-to-no-120/.
Gibson, E. (2008, March). Meg Whitman’s 10th anniversary as CEO of eBay. Fast Company, 25.
Huselid, M. A. (1995). The impact of human resource management practices on turnover, productivity, and corporate financial performance. Academy of Management Journal, 38, 635-672.
Kirkpatrick, D. (1998). The second coming of Apple. Fortune, 138, 90.
Michaels, E., Handfield-Jones, H., & Axelrod, B. (2001). The war for talent. Boston: Harvard Business School Publishing.
NACE 2007 Job Outlook Survey. Retrieved July 26, 2008, from the National Association of Colleges and Employers (NACE) Web site: http://www.naceweb.org/press/quick.htm#qualities.
Parloff, R. (2008, January 22). Why the SEC is probing Steve Jobs. Money. Retrieved January 28, 2009, from http://money.cnn.com/2009/01/22/technology/stevejobs_disclosure.fortune/?postversion=2009012216.
Peters, T. (1997). The brand called you. Fast Company. Retrieved July 1, 2008, from http://www.fastcompany.com/magazine/10/brandyou.html.
Peters, T. (2004). Brand you survival kit. Fast Company. Retrieved July 1, 2008, from http://www.fastcompany.com/magazine/83/playbook.html.
Pfeffer, J. (1998). The human equation: Building profits by putting people first. Boston: Harvard Business School Press.
Pfeffer, J., & Veiga, J. F. (1999). Putting people first for organizational success. Academy of Management Executive, 13, 37–48.
U.S. Bureau of Labor Statistics. (2005). Retrieved December 8, 2005, from the U.S. Bureau of Labor Statistics Web site: http://www.bls.gov/nls/nlsfaqs.htm#anch5.
Welbourne, T., & Andrews, A. (1996). Predicting performance of Initial Public Offering firms: Should HRM be in the equation? Academy of Management Journal, 39, 910–911.
1. Retrieved June 4, 2008, from www.litera.co.uk/t/NDk1MDA/. | textbooks/biz/Management/Organizational_Behavior/01%3A_Organizational_Behavior/01.2%3A_Understanding_Organizational_Behavior.txt |
Learning Objectives
1. Understand different dimensions of learning styles.
2. Diagnose your own learning style.
3. Explore strategies for working with your preferred learning style.
Learning Styles
In order to maximize your learning in this course and in any learning situation, it’s important to understand what type of learner you are. Some people learn better by seeing information. For example, if you notice that you retain more information by reading and seeing diagrams and flow charts, you may be a visual learner. If you primarily learn by listening to others such as in lectures, conversations, and videos, you may be an auditory learner. Finally, if you have a preference for actually doing things and learning from trial and error, you may be a kinesthetic learner. If you are unaware of what your primary learning style is, take a moment to diagnose it at the Web site listed below.
What Is Your Learning Style?
Take the following online learning style quiz to find out what type of learner you are:
www.vark-learn.com/english/page.asp?p=questionnaire
Now that you have established which type of learner you are, let’s go through some recommendations for your style. Here are some learning recommendations.[1]
• If you are a visual learner,
• draw pictures and diagrams to help you understand;
• take careful notes during class so you can refer back to them later on;
• summarize the main points of what you learn using charts.
• If you are an auditory learner,
• join study groups so you can discuss your questions and ideas and hear responses;
• write down any oral instructions you hear in class right away;
• consider taping lectures if your professor says it is OK and view online lectures on topics you are interested in.
• If you are a kinesthetic learner,
• schedule your homework and study sessions so you can take breaks and move around between reading your notes or chapters;
• take good notes during class—this will force you to pay attention and process information even when you feel like you are “getting it”;
• don’t sign up for long once-a-week classes—they normally require too much sitting and listening time.
For various reasons, using flash cards seems to help with all three learning styles. For example, for an auditory learner, saying the answers aloud when using flash cards helps to solidify concepts. For a visual learner, seeing the answers written down on the flash card can be helpful. And for the kinesthetic learner, the act of creating and organizing flash cards helps the concepts stick.
Key Takeaways
People tend to have a preferred learning style. Visual learners see things to learn them. Auditory learners hear things to learn them. Kinesthetic learners do things to learn them.
Exercises
1. Were you surprised by your primary learning style? Why or why not?
2. How does your learning style affect the kinds of classes you take?
3. Try out a few of the suggestions for your learning style over the next week and see how they work.
4. Now that you’ve learned more about your own learning style, are there some things you might consider doing to expand on your other styles? If so, what steps might you take to do this?
1. Adapted from recommendations by Jennifer Yeh at San Francisco State University. Retrieved June 1, 2008, from the Center for the Enhancement of Teaching, San Francisco State University: oct.sfsu.edu/introduction/lea...les/index.html. | textbooks/biz/Management/Organizational_Behavior/01%3A_Organizational_Behavior/01.3%3A_Understanding_Your_Learning_Style.txt |
Learning Objectives
1. Learn the terminology of research.
2. Understand the different types of OB research methods used.
OB Research Methods
OB researchers have many tools they use to discover how individuals, groups, and organizations behave. Researchers have working hypotheses based on their own observations, readings on the subject, and information from individuals within organizations. Based on these ideas, they set out to understand the relationships among different variables. There are a number of different research methods that researchers use, and we will discuss a few of these below. Imagine that your manager has asked you to find out if setting goals will help to make the employees at your company more productive. We will cover the different ways you could use research methods to answer this question, impress your boss, and hopefully get a promotion.
Surveys
Surveys are one of the primary methods management researchers use to learn about OB. A basic survey involves asking individuals to respond to a number of questions. The questions can be open-ended or close-ended. An example of an open-ended question that could be used to address your manager’s question would be to ask employees how they feel about goal setting in relation to productivity, then summarize your findings. This might work if you have a small organization, but open-ended surveys can be time consuming to summarize and hard to interpret at a glance. You could get more specific by asking employees a series of close-ended questions in which you supply the response key, such as a rating of 1 to 5. Today it is easy to create online surveys that quickly compile the results automatically. There are even several free survey tools available online such as http://freeonlinesurveys.com/ and http://www.surveygizmo.com/, or you can use paper-and-pencil surveys.
Sample Survey About the Effectiveness of Goal Setting
Instructions: We would like to gather your opinions about different aspects of work. Please answer the following three questions using the scale below:
Response Scale:
1=Strongly disagree
2=Disagree
3=Neither agree nor disagree
4=Agree
5=Strongly agree
Setting goals at work helps me to focus 1 2 3 4 5
Goal setting is effective in improving performance 1 2 3 4 5
I get more done when I use goal setting 1 2 3 4 5
Regardless of the method you choose to collect your information, the next step is to look at the average of the responses to the questions and see how the responses stack up. But this still wouldn’t really answer the question your boss asked, which is whether using goal setting would help employees be more effective on the job. To do this, you would want to conduct a field study.
Field Studies
Field studies are also effective ways to learn about what is truly going on within organizations. There are survey field studies like the one above, but more compelling evidence comes from field studies that employ an experimental design. Here you would assign half the employees at your company to the goal setting condition and the other half to the control group condition. The control group wouldn’t get any information on goal setting but the treatment group would. If you found that the treatment group was more effective than the control group, you could tell your boss that goal setting works.
Laboratory Studies
OB researchers are often interested in basic research questions such as “Can we show that goal setting increases performance on a simple task?” This is how research on goal setting started, and it is also how we can establish the conditions under which it works more or less effectively. Again, to address this, researchers may conduct a lab study in which one group is assigned one condition and the other group is assigned the control condition (generally the control condition involves no change at all). You may even have been involved in a lab study during your time at your university. One of the most important concepts to understand with lab studies is that they give the researcher a great deal of control over the environment they are studying but do so in a less “realistic” way, since they are not studying real employees in real work settings. For example, in a lab study, a researcher could simulate hiring and firing employees to see if firing some employees affected the goal-setting behavior of the remaining employees. While this wouldn’t be legal or ethical to do in a real organization, it could be a compelling lab study. At the same time, however, firing someone in a lab setting does not necessarily carry the same consequences as it would in real life.
Case Studies
Case studies are in-depth descriptions of a single industry or company. Case writers typically employ a systematic approach to gathering data and explaining an event or situation in great detail. The benefits of case studies are that they provide rich information for drawing conclusions about the circumstances and people involved in the topics studied. The downside is that it is sometimes difficult to generalize what worked in a single situation at a single organization to other situations and organizations.
Meta-Analysis
Meta-analysis is a technique used by researchers to summarize what other researchers have found on a given topic. This analysis is based on taking observed correlations from multiple studies, weighting them by the number of observations in each study, and finding out if, overall, the effect holds or not. For example, what is the average relationship between job satisfaction and performance? Research shows that, looking across 300 studies, the relationship is moderately strong (Judge et al., 2001). This is useful information because for years people had thought that the relationship did not exist, but when all the studies to date were examined together, the original beliefs about the satisfaction–performance relationship deteriorated. The advantage of meta-analysis is that it gives a more definitive answer to a question than a single study ever could. The downside is that meta-analysis is only possible if sufficient research has been done on the topic in question.
Measurement Issues in OB
Another important thing to understand is the difference between reliability and validity. Imagine you own a trucking company. A major component in trucking is managing the weight of different cargo. If you had a scale that gave you the same weight three times, we would say that was a very reliable scale. But, if it turns out the weights given are in kilograms instead of pounds, it would not be a valid measure if you charge for delivery by the pound.
Finally, much of management research addresses correlations between two concepts rather than actual causation. Correlation simply means that two things co-vary. For example, it would be inaccurate to assume that because 99% of the people who died this year also drank water, consuming water kills people. Yet many people claim their product caused a positive outcome when, in fact, the data do not support their claim any more than the water example. This brings up something that confuses even seasoned researchers. When you have only one observation it is called a datum. When you use the word data, it refers to multiple observations, so it is always plural.
Key Takeaways
OB researchers test hypotheses using different methods such as surveys, field studies, case studies, and meta-analyses. Reliability refers to consistency of the measurement while validity refers to the underlying truth of the measurement. It is important to recognize the difference between correlation and causation.
Exercises
1. Create a hypothesis about people at work. Now that you have one in mind, which method do you think would be most effective in helping you test your hypothesis?
2. Have you used any of the OB research methods before? If not, what can you do to become more familiar with them?
3. Give an example of a reliable measure.
4. Give an example of a valid measure.
5. How can you know if a relationship is causal or correlational? | textbooks/biz/Management/Organizational_Behavior/01%3A_Organizational_Behavior/01.4%3A_Understanding_How_OB_Research_Is_Done.txt |
Learning Objectives
1. Understand current challenges for OB.
2. Understand current opportunities for OB.
Challenges and Opportunities
There are many trends within the workplace and around the globe that have and will continue to affect the workplace and your career. We are sure you have noticed many of these trends simply by reading newspaper headlines. We will highlight some of these trends along with the challenges and opportunities they present for students of organizational behavior.
Ethical Challenges
Business ethics refers to applying ethical principles to situations that arise at work. It feels like it’s been one ethical scandal after the other. Enron Corp., AIG, Tyco International, WorldCom, and Halliburton Energy Services have all been examples of what can be described in terms ranging from poor judgment to outright illegal behavior. The immediate response by government has been the Sarbanes-Oxley Act, which went into effect in 2002. This act consists of 11 different requirements aimed at greater accountability, which companies must comply with in terms of financial reporting. And while there may be some benefit to businesses from complying with these rules (Wagner & Dittmar, 2006), few see this as the long-term solution to dealing with unethical behavior. The challenge is to continue to think about business ethics on a day-to-day basis and institute cultures that support ethical decision making. The opportunity for organizations to be on the forefront of ethical thinking and actions is wide open. OB research finds that the most important determinant of whether a company acts ethically is not necessarily related to the policies and rules regarding ethical conduct but instead whether it has a culture of consistently ethical behavior and if leaders are committed to this ethical behavior (Driscoll & McKee, 2007).
OB Toolbox: Take an Ethics-at-Work Audit
• Do you integrate ethics into your day-to-day decisions at work? It’s easy to think about ethics as something big that you either have or don’t have, but the reality is that ethical decisions are made or not made each and every day.
• Do you take the “front page” test when making important decisions at work? Thinking about how you would feel if the decisions you are making at work showed up on the front page of your local newspaper can help you avoid engaging in questionable behavior.
• Do you role model ethics at work? Seeing others engage in unethical behavior is the start of a slippery slope when it comes to ethics. Consider the decisions you are making and how they are consistent or inconsistent with how you would like to be seen by others.
• Do you consider if rewards are distributed ethically at work? Situations in which there are “haves” and “have nots” are breeding grounds of unethical behavior. Maintaining pay equity can help keep everyone more honest.
• Have you held a “risk brainstorm” at work? If you ask those around you if they see any situations that are challenging ethical behavior, you can uncover some seriously risky situations and avoid them.
Lack of Employee Engagement
Studies suggest that fostering engagement, a concept related to passion, in employees has a significant impact on the corporate bottom line. Gallup, for instance, has been on the forefront of measuring the impact of what is called employee engagement. Employee engagement is a concept that is generally viewed as managing discretionary effort, that is, when employees have choices, they will act in a way that furthers their organization’s interests. An engaged employee is a person who is fully involved in and enthusiastic about their work (Employee engagement, 2008). The consulting firm BlessingWhite offers this description of engagement and its value: “Engaged employees are not just committed. They are not just passionate or proud. They have a line-of-sight on their own future and on the organization’s mission and goals. They are ‘enthused’ and ‘in gear’ using their talents and discretionary effort to make a difference in their employer’s quest for sustainable business success” (BlessingWhite, 2008).
Engaged employees are those who are performing at the top of their abilities and happy about it. According to statistics that Gallup has drawn from 300,000 companies in its database, 75%–80% of employees are either “disengaged” or “actively disengaged” (Gallup Press, 2006).
That’s an enormous waste of potential. Consider Gallup’s estimation of the impact if 100% of an organization’s employees were fully engaged:
• Customers would be 70% more loyal.
• Turnover would drop by 70%.
• Profits would jump by 40%.
Job satisfaction studies in the United States routinely show job satisfaction ratings of 50%–60%. But one recent study by Harris Interactive of nearly 8,000 American workers went a step further (Zinkewicz, 2005). What did the researchers find?
• Only 20% feel very passionate about their jobs.
• Less than 15% agree that they feel strongly energized by their work.
• Only 31% (strongly or moderately) believe that their employer inspires the best in them.
It is clear that engagement is both a challenge and an opportunity for OB.
Technology
Technology has transformed the way work gets done and has created many great opportunities. The nexus of increasing personal computing power, the Internet, as well as nanotechnology are allowing things to be created that weren’t even imaginable 50 years ago. And the rate of technological change is not expected to slow down anytime soon. Gordon Moore, a cofounder of Intel Corp., shocked the world in 1975 with what is now termed Moore’s Law, which states that computing power doubles every 2 years. This explains why a 4-year-old computer can barely keep up with the latest video game you have purchased. As computers get faster, new software is written to capitalize on the increased computing power. We are also more connected by technology than ever before. It is now possible to send and receive e-mails or text messages with your coworkers and customers regardless of where in the world you are. Over 100 million adults in the United States use e-mail regularly (at least once a day) (Taylor, 2002) and Internet users around the world send an estimated 60 billion e-mails every day (CNET UK., 2006), making e-mail the second most popular medium of communication worldwide, second only to voice. Technology has also brought a great deal of challenges to individuals and organizations alike. To combat the overuse of e-mail, companies such as Intel have instituted “no e-mail Fridays,” in which all communication is done via other communication channels. The technology trend contains challenges for organizational behavior.
Flattening World
Thomas Friedman’s book The World Is Flat: A Brief History of the Twenty-First Century makes the point that the Internet has “flattened” the world and created an environment in which there is a more level playing field in terms of access to information. This access to information has led to an increase in innovation, as knowledge can be shared instantly across time zones and cultures. It has also created intense competition, as the speed of business is growing faster and faster all the time. In his book Wikinomics, Don Tapscott notes that mass collaboration has changed the way work gets done, how products are created, and the ability of people to work together without ever meeting.
There are few barriers to information today, which has created huge opportunities around the globe. Marc Andreessen, cofounder of Netscape Communications Corporation, notes, “Today, the most profound thing to me is the fact that a 14-year-old in Romania or Bangalore or the Soviet Union or Vietnam has all the information, all the tools, all the software easily available to apply knowledge however they want” (Friedman, 2005) Of course, information by itself is not as important as having the right information at the right time. A major challenge for individuals in the flattened world is learning how to evaluate the quality of the information they find. For tips on how to evaluate the quality of information, see the OB Toolbox below.
OB Toolbox: Tips for Evaluating the Quality of Information
Here are a few Internet resources to refer to when evaluating information you find on the Web:
Sustainability and Green Business Practices
The primary role of for-profit companies is to generate shareholder wealth. More recently, the concept of the triple bottom line has been gaining popularity. Those subscribing to the triple bottom line believe that beyond economic viability, businesses need to perform well socially and environmentally. While some organizations have embraced the concepts underlying the triple bottom line, businesses are also undergoing a great deal of “greenwashing,” which refers to the marketing of products or processes as green to gain customers without truly engaging in sustainable business practices. Sustainable business practices are those that meet the present needs without compromising the needs of future generations. The challenge is to reconcile the accountability that publicly owned firms have in generating wealth for their shareholders while attending to the triple bottom line. On the other hand, organizations also have an opportunity to leverage a proactive stance toward innovative processes that can result in even greater profits for their products. For example, sales of the Toyota Prius, which combines combustion engine efficiency with hybrid electric technology, have been dramatic and have helped propel Toyota to record market share and profits. An unlikely leader in the sustainability movement is Wal-Mart. Wal-Mart hired Adam Werbach, the former president of the Sierra Club, to help train 1.3 million North American Wal-Mart employees about sustainability. Wal-Mart has also been pressuring suppliers to produce compact fluorescent lightbulbs with less mercury and has slashed the resources needed in packaging by requiring all suppliers to make packages smaller (Fetterman, 2006; Sacks, 2007). In the future, increasing interdependence between businesses, governmental agencies, and NGOs is bound to effect change throughout the economy (Campbell, 2007; Etzion, 2007).
Aging Workforce and the Millennial Generation
You have probably heard that the American workforce is aging. Over the next 30 years, 76 million baby boomers will retire, but there will only be 46 million new workers from Generations X and Y entering the labor force. This demographic trend creates both challenges and opportunities for organizations.
The aging trend has been predicted for decades. “The number of U.S. workers over the age of 40 has increased significantly over the past 30 years. By 2010, more than 51% of the workforce will be 40 or older, up almost 20% over 30 years. At the same time, the portion of the workforce aged 25 to 39 will decline by nearly 3%. The number of workers aged 55 and older will grow from 13% of the labor force in 2000 to 20% in 2020” (Mosner, Spiezle, & Emerman, 2003). There will be record numbers of retirements. Aging workforces can create great opportunities for industries such as health care, but it can also mean great challenges lie ahead as entire industries related to basic infrastructure face massive retirement projections. For example, everything from air traffic controllers to truck drivers are predicted to be in huge demand as thousands of retiring workers leave these industries at roughly the same time (Ewart, 2008; Watson, 2008).
The Millennial Generation (which includes those born between 1980 and 2000) differs from previous generations in terms of technology and multitasking as a way of life. Having never known anything different, this population has technology embedded in their lives. In addition, they value teamwork, feedback, and challenging work that allows them to develop new skills. If you are in this generation or know those who are, you know there is an expectation of immediate interaction (Oblinger, 2003). The challenge for organizational behavior is to keep individuals from different generations communicating effectively and managing people across generational lines despite different values placed on teamwork, organizational rewards, work–life balance, and desired levels of instruction.
The Global Marketplace for Staffing: Outsourcing
Outsourcing has become a way of life for many organizations—especially those based in the United States that are outsourcing to other countries where labor is relatively inexpensive. Outsourcing refers to having someone outside the formal ongoing organization doing work previously handled in-house. This practice can involve temporary employees, consultants, or even offshoring workers. Offshoring means sending jobs previously done in one country to another country. Nowhere is there more outsourcing and offshoring than in the software technology industry. A survey of software developers revealed that 94% outsource project work, and when they offshore, the work most frequently goes to India, Singapore, Russia, and China (McGee, 2007). Microsoft has been expanding their use of employees in Canada for a variety of reasons such as closer proximity to Microsoft’s headquarters in Seattle, Washington, as well as similarity of language and time zones. Across industries, more than 80% of boards of directors in the United States have considered offshore outsourcing (Diana, 2003). Charles Handy, author of The Age of Paradox, coined the term shamrock organization, which is an organization comprising one-third regular employees, one-third temporary employees, and one-third consultants and contractors. He predicts that this is where organizations are headed in the future. The darker side of the changing trend in organization composition revolves around potential unemployment issues as companies move toward a shamrock layout. Fortunately, this shift also presents an opportunity for organizations to staff more flexibly and for employees to consider the tradeoffs between consistent, full-time work within a single organization versus the changing nature of work as a temporary employee, contract worker, or consultant—especially while developing a career in a new industry, in which increased exposure to various organizations can help an individual get up to speed in a short amount of time. The challenge for organizational behavior is managing teams consisting of different nationalities separated not only by culture and language but also in time and space.
Key Takeaways
Trends include ethical challenges, rapid technological change, a flattening world, sustainable business practices, demographic trends, and the global marketplace. A number of trends will influence the way work gets done today and in the future. Understanding organizational behavior will help you anticipate and adapt to these changes as a lifelong learner.
Exercises
1. Share an ethical dilemma you have observed at work or school to someone in your class. What do you think should have been done differently and why?
2. How has technology and the flattening world affected you in the last 10 years? Please share examples of this.
3. Do you think the sustainability movement in business is a trend that’s here to stay or a business fad? Why or why not?
4. Do you see the aging (and retiring) workforce as an opportunity or a threat for businesses? How do you think this will affect your career? | textbooks/biz/Management/Organizational_Behavior/01%3A_Organizational_Behavior/01.5%3A_Trends_and_Changes.txt |
Figure 1.11
While it might be easy to see the negative effects on the environment from car emissions or the waste we produce, fewer people think about the effects of discarded clothes on the environment. Many donate out-of-date garments to a thrift store for resale, but few think about what happens to those things that can’t be resold or the articles that are beyond use. However, the apparel industry uses more water than any industry after agriculture. At least 8,000 chemicals are used to turn raw materials into textiles, and 25% of the world’s pesticides are used to grow nonorganic cotton. To run a successful business, profits and revenue are a necessary part of the equation, but in addition to fiscal responsibility, what degree of social and environmental responsibility are companies accountable for? These are questions that a small outdoor and urban clothing company in Portland, Oregon, contemplates every day. This company has committed itself to doing good through its business practices.
A relatively young company, Nau (pronounced “now”) was founded on the idea of using business as a vehicle for change, but its path has not been easy. Nau was established in 2005 by a group of like-minded individuals from Pacific Northwest clothing companies such as Patagonia, Nike, and Marmot. Their goal was to create outdoor urban apparel constructed from sustainable materials and processes, with the entire life cycle of the product in mind. This includes taking into account the cultivation of textiles all the way through to end-of-life disposal. After 3 years of aggressive growth and expansion, Nau declared bankruptcy in the spring of 2008 when they could not secure further funding. But only a few short months later, Nau reopened as a subsidiary of outdoor clothing company Horny Toad Inc., headquartered in Santa Barbara, California. Although Nau is part of a larger company, it has been able to create a balance between the ideals of a small, independent, entrepreneurial business while being a successful part of a larger company.
The power structure that Nau shares with Horny Toad is decentralized; logistically, the companies share a human resources department, IT, warehousing space, and finances, but Nau maintains its product independence and business strategy. From the time of its inception, Nau created a network of close relationships with its overseas manufacturers, which allowed the company the power and ability to closely control its production process. During the transition, Nau desired to maintain these relationships and so had to explain the arduous process of bankruptcy to its overseas vendors and attempt to explain transferring debt and liabilities from one company to another company. Although the people and faces were the same, they were no longer connected with that debt. Nau’s small size enables it to effectively control its supply chain and to determine everything from which farm its raw materials come from to how and where textiles are produced. For Nau, responsibility does not end with the consumer’s purchase. Other changes include the number of employees at Nau, which prior to the bankruptcy was 65. In 2010, this number is down to 15 employees. While several of the individuals who took part in the founding of the company are still there, change was not embraced by others who felt that becoming part of a larger company would make it difficult to maintain the original core values and beliefs.
So far, these changes have been good for the company and good for business. Nau was acquired at the beginning of an economic downturn, and for a company that is dependent on consumer discretionary spending, this might have been a recipe for failure. But business is picking up for Nau, and it has been able to continue its Partners for Change program, in which Nau donates 2% of each sale to one of its partner organizations, such as Mercy Corps, Kiva, or Ecotrust, together working to create positive economic and social change.
Discussion Questions
1. What benefits might result from becoming a part of a larger organization?
2. What are the benefits of maintaining the autonomy of a small company?
3. How does globalization affect Nau’s business strategy?
4. What ethical dilemmas might employees at Nau and Horny Toad face during their day-to-day experience?
01.7: Conclusion
This chapter is designed to familiarize you with the concept of organizational behavior. We have covered methods organizations might use to address issues related to the way people behave at work. In addition, you should now be familiar with the large number of factors, both within an individual and within the environment, that may influence a person’s behaviors and attitudes. In the coming years, society is likely to see a major shift in the way organizations function, resulting from rapid technological advances, social awareness, and cultural blending. OB studies hope to enhance an organization’s ability to cope with these issues and create an environment that is mutually beneficial to the company as well as its employees.
01.8: Exercises
Individual Exercise
Create an Action Plan for Developing Your OB Skills
1. Hopefully you have already completed reading this chapter. If not, wait until you’ve done so to complete this individual exercise.
2. If you have not done so already, please take the learning styles survey at www.vark-learn.com/english/page.asp?p=questionnaire.
3. In addition, please be sure you have reviewed the table of contents for this organizational behavior textbook.
4. What themes do you see? How do you think these topics affect your interactions with others? How might your learning style affect how you’ll approach this course? Have you ever considered journaling as a technique for self-improvement and reflection?
5. Now, write down five action steps that you plan to take as you work through this book. Refer to these steps throughout the term and modify them as needed.
Group Exercise
Best Job–Worst Job
1. Please think about the best and worst jobs you have ever had. If you have never had a job, think of a school project instead. What made the job or project great or horrible?
2. Now get into a small group of students and share your experience with them. Listen to what others are saying and see if you see any themes emerge. For example, what are the most common features of the best jobs? What are the most common features of the worst jobs? | textbooks/biz/Management/Organizational_Behavior/01%3A_Organizational_Behavior/01.6%3A_Maintaining_Core_Values%3A_The_Case_of_Nau.txt |
Goodwill Industries International has been an advocate of diversity for over 100 years. In 1902, in Boston, Massachusetts, a young missionary set up a small operation enlisting struggling immigrants in his parish to clean and repair clothing and goods to later sell. This provided workers with the opportunity for basic education and language training. His philosophy was to provide a “hand up,” not a “hand out.” Although today you can find retail stores in over 2,300 locations worldwide, and in 2009 more than 64 million people in the United States and Canada donated to Goodwill, the organization has maintained its core mission to respect the dignity of individuals by eliminating barriers to opportunity through the power of work. Goodwill accomplishes this goal, in part, by putting 84% of its revenue back into programs to provide employment, which in 2008 amounted to \$3.23 billion. As a result of these programs, every 42 seconds of every business day, someone gets a job and is one step closer to achieving economic stability.
Goodwill is a pioneer of social enterprise and has managed to build a culture of respect through its diversity programs. If you walk into a local Goodwill retail store you are likely to see employees from all walks of life, including differences in gender and race, physical ability, sexual orientation, and age. Goodwill provides employment opportunities for individuals with disabilities, lack of education, or lack of job experience. The company has created programs for individuals with criminal backgrounds who might otherwise be unable to find employment, including basic work skill development, job placement assistance, and life skills. In 2008, more than 172,000 people obtained employment, earning \$2.3 billion in wages and gaining tools to be productive members of their community. Goodwill has established diversity as an organizational norm, and as a result, employees are comfortable addressing issues of stereotyping and discrimination. In an organization of individuals with such wide-ranging backgrounds, it is not surprising that there are a wide range of values and beliefs.
Management and operations are decentralized within the organization with 166 independent community-based Goodwill stores. These regional businesses are independent, not-for-profit human services organizations. Despite its decentralization, the company has managed to maintain its core values. Seattle’s Goodwill is focused on helping the city’s large immigrant population and those individuals without basic education and English language skills. And at Goodwill Industries of Kentucky, the organization recently invested in custom software to balance daily sales at stores to streamline operations so managers can spend less time on paperwork and more time managing employees.
Part of Goodwill’s success over the years can be attributed to its ability to innovate. As technology evolves and such skills became necessary for most jobs, Goodwill has developed training programs to ensure that individuals are fully equipped to be productive members of the workforce, and in 2008 Goodwill was able to provide 1.5 million people with career services. As an organization, Goodwill itself has entered into the digital age. You can now find Goodwill on Facebook, Twitter, and YouTube. Goodwill’s business practices encompass the values of the triple bottom line of people, planet, and profit. The organization is taking advantage of new green initiatives and pursuing opportunities for sustainability. For example, at the beginning of 2010, Goodwill received a \$7.3 million grant from the U.S. Department of Labor, which will provide funds to prepare individuals to enter the rapidly growing green industry of their choice. Oregon’s Goodwill Industries has partnered with the Oregon Department of Environmental Quality and its Oregon E-Cycles program to prevent the improper disposal of electronics. Goodwill discovered long ago that diversity is an advantage rather than a hindrance.
Discussion Questions
1. What are Goodwill’s competitive advantages?
2. Goodwill has found success in the social services. What problems might result from hiring and training the diverse populations that Goodwill is involved with?
3. Have you ever experienced problems with discrimination in a work or school setting?
4. Why do you think that Goodwill believes it necessary to continually innovate? | textbooks/biz/Management/Organizational_Behavior/02%3A_Managing_Demographic_and_Cultural_Diversity/02.1%3A_Doing_Good_as_a_Core_Business_Strategy%3A_The_Case_of_Goodwill_Industries.txt |
Learning Objectives
1. Explain the benefits of managing diversity effectively.
2. Explain the challenges of diversity management.
3. Describe the unique environment facing employees with specific traits such as gender, race, religion, physical disabilities, age, and sexual orientation.
Diversity refers to the ways in which people are similar or different from each other. It may be defined by any characteristic that varies within a particular work unit such as gender, race, age, education, tenure, or functional background (such as being an engineer versus being an accountant). Even though diversity may occur with respect to any characteristic, our focus will be on diversity with respect to demographic, relatively stable, and visible characteristics: specifically gender, race, age, religion, physical abilities, and sexual orientation. Understanding how these characteristics shape organizational behavior is important. While many organizations publicly rave about the benefits of diversity, many find it challenging to manage diversity effectively. This is evidenced by the number of complaints filed with the Equal Employment Opportunity Commission (EEOC) regarding discrimination. In the United States, the Age Discrimination Act of 1975 and Title VII of the Civil Rights Act of 1964 outlaw discrimination based on age, gender, race, national origin, or religion. The 1990 Americans with Disabilities Act prohibits discrimination of otherwise capable employees based on physical or mental disabilities. In 2008, over 95,000 individuals filed a complaint claiming that they were discriminated based on these protected characteristics. Of course, this number represents only the most extreme instances in which victims must have received visibly discriminatory treatment to justify filing a complaint. It is reasonable to assume that many instances of discrimination go unreported because they are more subtle and employees may not even be aware of inconsistencies such as pay discrimination. Before the passing of antidiscrimination laws in the United States, many forms of discrimination were socially acceptable. This acceptance of certain discrimination practices is more likely to be seen in countries without similar employment laws. It seems that there is room for improvement when it comes to benefiting from diversity, understanding its pitfalls, and creating a work environment where people feel appreciated for their contributions regardless of who they are.
Benefits of Diversity
What is the business case for diversity? Having a diverse workforce and managing it effectively have the potential to bring about a number of benefits to organizations.
Higher Creativity in Decision Making
An important potential benefit of having a diverse workforce is the ability to make higher quality decisions. In a diverse work team, people will have different opinions and perspectives. In these teams, individuals are more likely to consider more alternatives and think outside the box when making decisions. When thinking about a problem, team members may identify novel solutions. Research shows that diverse teams tend to make higher quality decisions (McLeod, Lobel, & Cox, 1996). Therefore, having a diverse workforce may have a direct impact on a company’s bottom line by increasing creativity in decision making.
Better Understanding and Service of Customers
A company with a diverse workforce may create products or services that appeal to a broader customer base. For example, PepsiCo Inc. planned and executed a successful diversification effort in the recent past. The company was able to increase the percentage of women and ethnic minorities in many levels of the company, including management. The company points out that in 2004, about 1% of the company’s 8% revenue growth came from products that were inspired by the diversity efforts, such as guacamole-flavored Doritos chips and wasabi-flavored snacks. Similarly, Harley-Davidson Motor Company is pursuing diversification of employees at all levels because the company realizes that they need to reach beyond their traditional customer group to stay competitive (Hymowitz, 2005). Wal-Mart Stores Inc. heavily advertises in Hispanic neighborhoods between Christmas and The Epiphany because the company understands that Hispanics tend to exchange gifts on that day as well (Slater, Weigand, & Zwirlein, 2008). A company with a diverse workforce may understand the needs of particular groups of customers better, and customers may feel more at ease when they are dealing with a company that understands their needs.
More Satisfied Workforce
When employees feel that they are fairly treated, they tend to be more satisfied. On the other hand, when employees perceive that they are being discriminated against, they tend to be less attached to the company, less satisfied with their jobs, and experience more stress at work (Sanchez & Brock, 1996). Organizations where employees are satisfied often have lower turnover.
Higher Stock Prices
Companies that do a better job of managing a diverse workforce are often rewarded in the stock market, indicating that investors use this information to judge how well a company is being managed. For example, companies that receive an award from the U.S. Department of Labor for their diversity management programs show increases in the stock price in the days following the announcement. Conversely, companies that announce settlements for discrimination lawsuits often show a decline in stock prices afterward (Wright et al., 1995).
Lower Litigation Expenses
Companies doing a particularly bad job in diversity management face costly litigations. When an employee or a group of employees feel that the company is violating EEOC laws, they may file a complaint. The EEOC acts as a mediator between the company and the person, and the company may choose to settle the case outside the court. If no settlement is reached, the EEOC may sue the company on behalf of the complainant or may provide the injured party with a right-to-sue letter. Regardless of the outcome, these lawsuits are expensive and include attorney fees as well as the cost of the settlement or judgment, which may reach millions of dollars. The resulting poor publicity also has a cost to the company. For example, in 1999, the Coca-Cola Company faced a race discrimination lawsuit claiming that the company discriminated against African Americans in promotions. The company settled for a record \$192.5 million (Lovel, 2003). In 2004, the clothing retailer Abercrombie & Fitch faced a race discrimination lawsuit that led to a \$40 million settlement and over \$7 million in legal fees. The company had constructed a primarily Caucasian image and was accused of discriminating against Hispanic and African American job candidates, steering these applicants to jobs in the back of the store. As part of the settlement, the company agreed to diversify its workforce and catalog, change its image to promote diversity, and stop recruiting employees primarily from college fraternities and sororities (Greenhouse, 2004). In 2007, the new African American district attorney of New Orleans, Eddie Jordan, was accused of firing 35 Caucasian employees and replacing them with African American employees. In the resulting reverse-discrimination lawsuit, the office was found liable for \$3.7 million, leading Jordan to step down from his office in the hopes of preventing the assets of the office from being seized.[1] As you can see, effective management of diversity can lead to big cost savings by decreasing the probability of facing costly and embarrassing lawsuits.
Higher Company Performance
As a result of all these potential benefits, companies that manage diversity more effectively tend to outperform others. Research shows that in companies pursuing a growth strategy, there was a positive relationship between racial diversity of the company and firm performance (Richard, 2000). Companies ranked in the Diversity 50 list created by DiversityInc magazine performed better than their counterparts (Slater, Weigand, & Zwirlein, 2008). And, in a survey of 500 large companies, those with the largest percentage of female executives performed better than those with the smallest percentage of female executives (Weisul, 2004).
Challenges of Diversity
If managing diversity effectively has the potential to increase company performance, increase creativity, and create a more satisfied workforce, why aren’t all companies doing a better job of encouraging diversity? Despite all the potential advantages, there are also a number of challenges associated with increased levels of diversity in the workforce.
Similarity-Attraction Phenomenon
One of the commonly observed phenomena in human interactions is the tendency for individuals to be attracted to similar individuals (Riordan & Shore, 1997). Research shows that individuals communicate less frequently with those who are perceived as different from themselves (Chatman et al., 1998). They are also more likely to experience emotional conflict with people who differ with respect to race, age, and gender (Jehn, Northcraft, & Neale, 1999; Pelled, Eisenhardt, & Xin, 1999). Individuals who are different from their team members are more likely to report perceptions of unfairness and feel that their contributions are ignored (Price, Harrison, & Gavin, 2006).
The similarity-attraction phenomenon may explain some of the potentially unfair treatment based on demographic traits. If a hiring manager chooses someone who is racially similar over a more qualified candidate from a different race, the decision will be ineffective and unfair. In other words, similarity-attraction may prevent some highly qualified women, minorities, or persons with disabilities from being hired. Of course, the same tendency may prevent highly qualified Caucasian and male candidates from being hired as well, but given that Caucasian males are more likely to hold powerful management positions in today’s U.S.-based organizations, similarity-attraction may affect women and minorities to a greater extent. Even when candidates from minority or underrepresented groups are hired, they may receive different treatment within the organization. For example, research shows that one way in which employees may get ahead within organizations is through being mentored by a knowledgeable and powerful mentor. Yet, when the company does not have a formal mentoring program in which people are assigned a specific mentor, people are more likely to develop a mentoring relationship with someone who is similar to them in demographic traits (Dreher & Cox, 1996). This means that those who are not selected as protégés will not be able to benefit from the support and advice that would further their careers. Similarity-attraction may even affect the treatment people receive daily. If the company CEO constantly invites a male employee to play golf with him while a female employee never receives the invitation, the male employee may have a serious advantage when important decisions are made.
Why are we more attracted to those who share our demographic attributes? Demographic traits are part of what makes up surface-level diversity. Surface-level diversity includes traits that are highly visible to us and those around us, such as race, gender, and age. Researchers believe that people pay attention to surface diversity because they are assumed to be related to deep-level diversity, which includes values, beliefs, and attitudes. We want to interact with those who share our values and attitudes, but when we meet people for the first time, we have no way of knowing whether they share similar values. As a result, we tend to use surface-level diversity to make judgments about deep-level diversity. Research shows that surface-level traits affect our interactions with other people early in our acquaintance with them, but as we get to know people, the influence of surface-level traits is replaced by deep-level traits such as similarity in values and attitudes (Harrison et al., 2002). Age, race, and gender dissimilarity are also stronger predictors of employee turnover during the first few weeks or months within a company. It seems that people who are different from others may feel isolated during their early tenure when they are dissimilar to the rest of the team, but these effects tend to disappear as people stay longer and get to know other employees.
As you may see, while similarity-attraction may put some employees at a disadvantage, it is a tendency that can be managed by organizations. By paying attention to employees early in their tenure, having formal mentoring programs in which people are assigned mentors, and training managers to be aware of the similarity-attraction tendency, organizations can go a long way in dealing with potential diversity challenges.
Faultlines
A faultline is an attribute along which a group is split into subgroups. For example, in a group with three female and three male members, gender may act as a faultline because the female members may see themselves as separate from the male members. Now imagine that the female members of the same team are all over 50 years old and the male members are all younger than 25. In this case, age and gender combine to further divide the group into two subgroups. Teams that are divided by faultlines experience a number of difficulties. For example, members of the different subgroups may avoid communicating with each other, reducing the overall cohesiveness of the team. Research shows that these types of teams make less effective decisions and are less creative (Pearsall, Ellis, & Evans, 2008; Sawyer, Houlette, & Yeagley, 2006). Faultlines are more likely to emerge in diverse teams, but not all diverse teams have faultlines. Going back to our example, if the team has three male and three female members, but if two of the female members are older and one of the male members is also older, then the composition of the team will have much different effects on the team’s processes. In this case, age could be a bridging characteristic that brings together people divided across gender.
Research shows that even groups that have strong faultlines can perform well if they establish certain norms. When members of subgroups debate the decision topic among themselves before having a general group discussion, there seems to be less communication during the meeting on pros and cons of different alternatives. Having a norm stating that members should not discuss the issue under consideration before the actual meeting may be useful in increasing decision effectiveness (Sawyer, Houlette, & Yeagley, 2006).
Stereotypes
An important challenge of managing a diverse workforce is the possibility that stereotypes about different groups could lead to unfair decision making. Stereotypes are generalizations about a particular group of people. The assumption that women are more relationship oriented, while men are more assertive, is an example of a stereotype. The problem with stereotypes is that people often use them to make decisions about a particular individual without actually verifying whether the assumption holds for the person in question. As a result, stereotypes often lead to unfair and inaccurate decision making. For example, a hiring manager holding the stereotype mentioned above may prefer a male candidate for a management position over a well-qualified female candidate. The assumption would be that management positions require assertiveness and the male candidate would be more assertive than the female candidate. Being aware of these stereotypes is the first step to preventing them from affecting decision making.
Specific Diversity Issues
Different demographic groups face unique work environments and varying challenges in the workplace. In this section, we will review the particular challenges associated with managing gender, race, religion, physical ability, and sexual orientation diversity in the workplace.
Gender Diversity in the Workplace
In the United States, two important pieces of legislation prohibit gender discrimination at work. The Equal Pay Act (1963) prohibits discrimination in pay based on gender. Title VII of the Civil Rights Act (1964) prohibits discrimination in all employment-related decisions based on gender. Despite the existence of strong legislation, women and men often face different treatment at work. The earnings gap and the glass ceiling are two of the key problems women may experience in the workplace.
Earnings Gap
An often publicized issue women face at work is the earnings gap. The median earnings of women who worked full time in 2008 was 79% of men working full time (Bureau of Labor Statistics, 2008). There are many potential explanations for the earnings gap that is often reported in the popular media. One explanation is that women are more likely to have gaps in their résumés because they are more likely to take time off to have children. Women are still the primary caregiver for young children in many families and career gaps tend to affect earnings potential because it prevents employees from accumulating job tenure. Another potential explanation is that women are less likely to pursue high-paying occupations such as engineering and business.
In fact, research shows that men and women have somewhat different preferences in job attributes, with women valuing characteristics such as good hours, an easy commute, interpersonal relationships, helping others, and opportunities to make friends more than men do. In turn, men seem to value promotion opportunities, freedom, challenge, leadership, and power more than women do (Konrad et al., 2000). These differences are relatively small, but they could explain some of the earnings gap. Finally, negotiation differences among women are often cited as a potential reason for the earnings gap. In general, women are less likely to initiate negotiations (Babcock & Laschever, 2003). Moreover, when they actually negotiate, they achieve less favorable outcomes compared to men (Stuhlmacher & Walters, 1999). Laboratory studies show that female candidates who negotiated were more likely to be penalized for their attempts to negotiate and male evaluators expressed an unwillingness to work with a female who negotiated (Bowles, Babcock, & Lai, 2007). The differences in the tendency to negotiate and success in negotiating are important factors contributing to the earnings gap. According to one estimate, as much as 34% of the differences between women’s and men’s pay can be explained by their starting salaries (Gerhart, 1990). When differences in negotiation skills or tendencies affect starting salaries, they tend to have a large impact over the course of years.
If the earnings gap could be traced only to résumé gaps, choice of different occupations, or differences in negotiation behavior, the salary difference might be viewed as legitimate. Yet, these factors fail to completely account for gender differences in pay, and lawsuits about gender discrimination in pay abound. In these lawsuits, stereotypes or prejudices about women seem to be the main culprit. In fact, according to a Gallup poll, women are over 12 times more likely than men to perceive gender-based discrimination in the workplace (Avery, McKay, & Wilson, 2008). For example, Wal-Mart Stores Inc. was recently sued for alleged gender-discrimination in pay. One of the people who initiated the lawsuit was a female assistant manager who found out that a male assistant manager with similar qualifications was making \$10,000 more per year. When she approached the store manager, she was told that the male manager had a “wife and kids to support.” She was then asked to submit a household budget to justify a raise (Daniels, 2003). Such explicit discrimination, while less frequent, contributes to creating an unfair work environment.
Glass Ceiling
Another issue that provides a challenge for women in the workforce is the so-called glass ceiling. While women may be represented in lower level positions, they are less likely to be seen in higher management and executive suites of companies. In fact, while women constitute close to one-half of the workforce, men are four times more likely to reach the highest levels of organizations (Umphress et al., 2008). In 2008, only 12 of the Fortune 500 companies had female CEOs, including Xerox Corporation, PepsiCo, Kraft Foods Inc., and Avon Products Inc. The absence of women in leadership is unfortunate, particularly in light of studies that show the leadership performance of female leaders is comparable to, and in some dimensions such as transformational or change-oriented leadership, superior to, the performance of male leaders (Eagly, Karau, & Makhijani, 1995; Eagly, Johannesen-Schmidt, & Van Engen, 2003).
One explanation for the glass ceiling is the gender-based stereotypes favoring men in managerial positions. Traditionally, men have been viewed as more assertive and confident than women, while women have been viewed as more passive and submissive. Studies show that these particular stereotypes are still prevalent among male college students, which may mean that these stereotypes may be perpetuated among the next generation of managers (Duehr & Bono, 2006). Assumptions such as these are problematic for women’s advancement because stereotypes associated with men are characteristics often associated with being a manager. Stereotypes are also found to influence how managers view male versus female employees’ work accomplishments. For example, when men and women work together in a team on a “masculine” task such as working on an investment portfolio and it is not clear to management which member has done what, managers are more likely to attribute the team’s success to the male employees and give less credit to the female employees (Heilman & Haynes, 2005). It seems that in addition to working hard and contributing to the team, female employees should pay extra attention to ensure that their contributions are known to decision makers.
There are many organizations making the effort to make work environments more welcoming to men and women. For example, IBM is reaching out to female middle school students to get them interested in science, hoping to increase female presence in the field of engineering (Thomas, 2004). Companies such as IBM, Booz Allen Hamilton Inc., Ernst & Young Global Ltd., and General Mills Inc. top the 100 Best Companies list created by Working Mother magazine by providing flexible work arrangements to balance work and family demands. In addition, these companies provide employees of both sexes with learning, development, and networking opportunities (2007 100 Best companies, 2007).
Race Diversity in the Workplace
Race is another demographic characteristic that is under legal protection in the United States. Title VII of the Civil Rights Act (1964) prohibits race discrimination in all employment-related decisions. Yet race discrimination still exists in organizations. In a Korn-Ferry/Columbia University study of 280 minority managers earning more than \$100,000, 60% of the respondents reported that they had seen discrimination in their work assignments and 45% have been the target of racial or cultural jokes. The fact that such discrimination exists even at higher levels in organizations is noteworthy (Allers, 2005; Mehta et al., 2000). In a different study of over 5,500 workers, only 32% reported that their company did a good job hiring and promoting minorities (Fisher, 2004). One estimate suggests that when compared to Caucasian employees, African Americans are four times more likely and Hispanics are three times more likely to experience discrimination (Avery et al., 2007).
Ethnic minorities experience both an earnings gap and a glass ceiling. In 2008, for every dollar a Caucasian male employee made, African American males made around 79 cents while Hispanic employees made 64 cents (Bureau of Labor Statistics, 2008). Among Fortune 500 companies, only three (American Express Company, Aetna Inc., and Darden Restaurants Inc.) have African American CEOs. It is interesting that while ethnic minorities face these challenges, the demographic trends are such that by 2042, Caucasians are estimated to constitute less than one-half of the population in the United States. This demographic shift has already taken place in some parts of the United States such as the Los Angeles area where only 30% of the population is Caucasian (Dougherty, 2008).
Unfortunately, discrimination against ethnic minorities still occurs. One study conducted by Harvard University researchers found that when Chicago-area companies were sent fictitious résumés containing identical background information, résumés with “Caucasian” sounding names (such as Emily and Greg) were more likely to get callbacks compared to résumés with African American sounding names (such as Jamal and Lakisha) (Bertrand & Mullainathan, 2004).
Studies indicate that ethnic minorities are less likely to experience a satisfying work environment. One study found that African Americans were more likely to be absent from work compared to Caucasians, but this trend existed only in organizations viewed as not valuing diversity (Avery et al., 2007). Similarly, among African Americans, the perception that the organization did not value diversity was related to higher levels of turnover (McKay et al., 2007). Another study found differences in the sales performance of Hispanic and Caucasian employees, but again this difference disappeared when the organization was viewed as valuing diversity (McKay, Avery, & Morris, 2008). It seems that the perception that the organization does not value diversity is a fundamental explanation for why ethnic minorities may feel alienated from coworkers. Creating a fair work environment where diversity is valued and appreciated seems to be the key.
Organizations often make news headlines for alleged or actual race discrimination, but there are many stories involving complete turnarounds, suggesting that conscious planning and motivation to improve may make organizations friendlier to all races. One such success story is Denny’s Corporation. In 1991, Denny’s restaurants settled a \$54 million race discrimination lawsuit. In 10 years, the company was able to change the situation completely. Now, women and minorities make up half of their board and almost half of their management team. The company started by hiring a chief diversity officer who reported directly to the CEO. The company implemented a diversity-training program, extended recruitment efforts to diverse colleges, and increased the number of minority-owned franchises. At the same time, customer satisfaction among African Americans increased from 30% to 80% (Speizer, 2004).
Age Diversity in the Workplace
The workforce is rapidly aging. By 2015, those who are 55 and older are estimated to constitute 20% of the workforce in the United States. The same trend seems to be occurring elsewhere in the world. In the European Union, employees over 50 years of age are projected to increase by 25% in the next 25 years (Avery, McKay, & Wilson, 2007). According to International Labor Organization (ILO), out of the world’s working population, the largest group is those between 40 and 44 years old. In contrast, the largest segment in 1980 was the 20- to 24-year-old group (International Labor Organization, 2005). In other words, age diversity at work will grow in the future.
What happens to work performance as employees get older? Research shows that age is correlated with a number of positive workplace behaviors, including higher levels of citizenship behaviors such as volunteering, higher compliance with safety rules, lower work injuries, lower counterproductive behaviors, and lower rates of tardiness or absenteeism (Ng & Feldman, 2008). As people get older, they are also less likely to want to quit their job when they are dissatisfied at work (Hellman, 1997).
Despite their positive workplace behaviors, employees who are older often have to deal with age-related stereotypes at work. For example, a review of a large number of studies showed that those between 17 and 29 years of age tend to rate older employees more negatively, while younger employees were viewed as more qualified and having higher potential (Finkelstein, Burke, & Raju, 1995). However, these stereotypes have been largely refuted by research. Another review showed that stereotypes about older employees—they perform on a lower level, they are less able to handle stress, or their performance declines with age—are simply inaccurate (Posthuma & Campion). The problem with these stereotypes is that they may discourage older workers from remaining in the workforce or may act as a barrier to their being hired in the first place.
In the United States, age discrimination is prohibited by the Age Discrimination in Employment Act of 1967, which made it illegal for organizations to discriminate against employees over 40 years of age. Still, age discrimination is prevalent in workplaces. For example, while not admitting wrongdoing, Honeywell International Inc. recently settled an age discrimination lawsuit for \$2.15 million. A group of older sales representatives were laid off during company reorganization while younger employees with less experience were kept in their positions (Equal Employment Opportunity Commission, 2004). Older employees may also face discrimination because some jobs have a perceived “correct age.” This was probably the reason behind the lawsuit International Creative Management Inc. faced against 150 TV writers. The lawsuit claimed that the talent agency systematically prevented older workers from getting jobs at major networks (TV writers settle age discrimination lawsuit, 2008).
What are the challenges of managing age diversity beyond the management of stereotypes? Age diversity within a team can actually lead to higher team performance. In a simulation, teams with higher age diversity were able to think of different possibilities and diverse actions, leading to higher performance for the teams (Kilduff, Angelmar, & Mehra, 2000). At the same time, managing a team with age diversity may be challenging because different age groups seem to have different opinions about what is fair treatment, leading to different perceptions of organizational justice (Colquitt, Noe, & Jackson, 2002). Age diversity also means that the workforce will consist of employees from different generations. Some organizations are noticing a generation gap and noting implications for the management of employees. For example, the pharmaceutical company Novo Nordisk Inc. noticed that baby boomers (those born between 1946 and 1964) were competitive and preferred individual feedback on performance, while Generation Y workers (born between 1979 and 1994) were more team oriented. This difference led one regional manager to start each performance feedback e-mail with recognition of team performance, which was later followed by feedback on individual performance. Similarly, Lockheed Martin Corporation noticed that employees from different generations had different learning styles, with older employees preferring PowerPoint presentations and younger employees preferring more interactive learning (White, 2008). Paying attention to such differences and tailoring various aspects of management to the particular employees in question may lead to more effective management of an age-diverse workforce.
Religious Diversity in the Workplace
In the United States, employers are prohibited from using religion in employment decisions based on Title VII of the Civil Rights Act of 1964. Moreover, employees are required to make reasonable accommodations to ensure that employees can practice their beliefs unless doing so provides an unreasonable hardship on the employer (Equal Employment Opportunity Commission, 2007). After September 11, cases involving religion and particularly those involving Muslim employees have been on the rise (Bazar, 2008). Religious discrimination often occurs because the religion necessitates modifying the employee’s schedule. For example, devout Muslim employees may want to pray five times a day with each prayer lasting 5 to 10 minutes. Some Jewish employees may want to take off Yom Kippur and Rosh Hashanah, although these days are not recognized as holidays in the United States. These situations pit employers’ concerns for productivity against employees’ desires to fulfill religious obligations.
Accommodating someone’s religious preferences may also require companies to relax their dress code to take into account religious practices such as wearing a turban for Sikhs or covering one’s hair with a scarf for Muslim women. In these cases, what matters most is that the company makes a good faith attempt to accommodate the employee. For example, in a recent lawsuit that was decided in favor of Costco Wholesale Corporation, the retailer was accused of religious discrimination. A cashier who belonged to the Church of Body Modification, which is a church with about 1,000 members worldwide, wanted to be able to display her tattoos and facial piercings, which was against the dress code of Costco. Costco wanted to accommodate the employee by asking the individual to cover the piercings with skin-colored Band-Aids, which the employee refused. This is likely the primary reason why the case was decided in favor of Costco (Wellner, 2005).
Employees with Disabilities in the Workplace
Employees with a wide range of physical and mental disabilities are part of the workforce. In 2008 alone, over 19,000 cases of discrimination based on disabilities have been filed with the EEOC. The Americans with Disabilities Act of 1990 (ADA) prohibits discrimination in employment against individuals with physical as well as mental disabilities if these individuals are otherwise qualified to do their jobs with or without reasonable accommodation. For example, an organization may receive a job application from a hearing impaired candidate whose job responsibilities will include talking over the phone. With the help of a telephone amplifier, which costs around \$50, the employee will be able to perform the job; therefore, the company cannot use the hearing impairment as a reason not to hire the person, again, as long as the employee is otherwise qualified. In 2008, the largest groups of complaints were cases based on discrimination related to disabilities or illnesses such as cancer, depression, diabetes, hearing impairment, manic-depressive disorder, and orthopedic impairments, among others (Equal Employment Opportunity Commission, 2008). Particularly employees suffering from illnesses that last for a long time and require ongoing care seem to be at a disadvantage, because they are more likely to be stereotyped, locked into dead-end jobs, and employed in jobs that require substantially lower skills and qualifications than they possess. They also are more likely to quit their jobs (Beatty & Joffe, 2006).
What can organizations do to create a better work environment for employees with disabilities? One legal requirement is that, when an employee brings up a disability, the organization should consider reasonable accommodations. This may include modifying the employee’s schedule and reassigning some nonessential job functions. Organizations that offer flexible work hours may also make it easier for employees with disabilities to be more effective. Finally, supportive relationships with others seem to be the key for making these employees feel at home. Particularly, having an understanding boss and an effective relationship with supervisors are particularly important for employees with disabilities. Because the visible differences between individuals may act as an initial barrier against developing rapport, employees with disabilities and their managers may benefit from being proactive in relationship development (Colella & Varma, 2001).
Sexual Orientation Diversity in the Workplace
Lesbian, bisexual, gay, and transgender (LBGT) employees in the workplace face a number of challenges and barriers to employment. There is currently no federal law in the United States prohibiting discrimination based on sexual orientation, but as of 2008, 20 states as well as the District of Columbia had laws prohibiting discrimination in employment based on sexual orientation (Human Rights Campaign, 2008).
Research shows that one of the most important issues relating to sexual orientation is the disclosure of sexual identity in the workplace. According to one estimate, up to one-third of lesbian, gay, and bisexual employees do not disclose their sexual orientation at work. Employees may fear the reactions of their managers and coworkers, leading to keeping their sexual identity a secret. In reality though, it seems that disclosing sexual orientation is not the key to explaining work attitudes of these employees—it is whether or not they are afraid to disclose their sexual identity. In other words, those employees who fear that full disclosure would lead to negative reactions experience lower job satisfaction, reduced organizational commitment, and higher intentions to leave their jobs (Ragins, Singh, & Cornwell, 2007). Creating an environment where all employees feel welcome and respected regardless of their sexual orientation is the key to maintaining a positive work environment.
How can organizations show their respect for diversity in sexual orientation? Some companies start by creating a written statement that the organization will not tolerate discrimination based on sexual orientation. They may have workshops addressing issues relating to sexual orientation and facilitate and create networking opportunities for lesbian and gay employees. Perhaps the most powerful way in which companies show respect for sexual orientation diversity is by extending benefits to the partners of same-sex couples. In fact, more than half of Fortune 500 companies currently offer health benefits to domestic partners of same-sex couples. Research shows that in companies that have these types of programs, discrimination based on sexual orientation is less frequent, and the job satisfaction and commitment levels are higher (Button, 2001).
OB Toolbox: I think I am being asked illegal interview questions. What can I do?
In the United States, demographic characteristics such as race, gender, national origin, age, and disability status are protected by law. Yet according to a survey of 4,000 job seekers, about one-third of job applicants have been asked illegal interview questions. How can you answer such questions?
Here are some options.
• Refuse to answer. You may point out that the question is illegal and refuse to answer. Of course, this may cost you the job offer, because you are likely to seem confrontational and aggressive.
• Answer shortly. Instead of giving a full answer to a question such as “are you married,” you could answer the question briefly and change the subject. In many cases, the interviewer may be trying to initiate small talk and may be unaware that the question is potentially illegal.
• Answer the intent. Sometimes, the illegal question hides a legitimate concern. When you are being asked where you are from, the potential employer might be concerned that you do not have a work permit. Addressing the issue in your answer may be better than answering the question you are being asked.
• Walk away from the interview. If you feel that the intent of the question is discriminatory, and if you feel that you would rather not work at a company that would ask such questions, you can always walk away from the interview. If you feel that you are being discriminated against, you may also want to talk to a lawyer later on.
Suggestions for Managing Demographic Diversity
What can organizations do to manage diversity more effectively? In this section, we review research findings and the best practices from different companies to create a list of suggestions for organizations.
Build a Culture of Respecting Diversity
In the most successful companies, diversity management is not the responsibility of the human resource department. Starting from top management and including the lowest levels in the hierarchy, each person understands the importance of respecting others. If this respect is not part of an organization’s culture, no amount of diversity training or other programs are likely to be effective. In fact, in the most successful companies, diversity is viewed as everyone’s responsibility. The United Parcel Service of America Inc. (UPS), the international shipping company, refuses to hire a diversity officer, underlining that it is not one person’s job. Companies with a strong culture—where people have a sense of shared values, loyalty to the organization is rewarded, and team performance is celebrated—enable employees with vastly different demographics and backgrounds to feel a sense of belonging (Chatman et al., 1998; Fisher, 2004).
Make Managers Accountable for Diversity
People are more likely to pay attention to aspects of performance that are measured. In successful companies, diversity metrics are carefully tracked. For example, in PepsiCo, during the tenure of former CEO Steve Reinemund, half of all new hires had to be either women or minorities. Bonuses of managers partly depended on whether they had met their diversity-related goals (Yang, 2006). When managers are evaluated and rewarded based on how effective they are in diversity management, they are more likely to show commitment to diversity that in turn affects the diversity climate in the rest of the organization.
Diversity Training Programs
Many companies provide employees and managers with training programs relating to diversity. However, not all diversity programs are equally successful. You may expect that more successful programs are those that occur in companies where a culture of diversity exists. A study of over 700 companies found that programs with a higher perceived success rate were those that occurred in companies where top management believed in the importance of diversity, where there were explicit rewards for increasing diversity of the company, and where managers were required to attend the diversity training programs (Rynes & Rosen, 1995).
Review Recruitment Practices
Companies may want to increase diversity by targeting a pool that is more diverse. There are many minority professional groups such as the National Black MBA Association or the Chinese Software Professionals Association. By building relations with these occupational groups, organizations may attract a more diverse group of candidates to choose from. The auditing company Ernst & Young Global Ltd. increases diversity of job candidates by mentoring undergraduate students (Nussenbaum, 2003). Companies may also benefit from reviewing their employment advertising to ensure that diversity is important at all levels of the company (Avery, 2003).
Affirmative Action Programs
Policies designed to recruit, promote, train, and retain employees belonging to a protected class are referred to as affirmative action. Based on Executive order 11246 (1965), federal contractors are required to use affirmative action programs. In addition, the federal government, many state and local governments, and the U.S. military are required to have affirmative action plans. An organization may also be using affirmative action as a result of a court order or due to a past history of discrimination. Affirmative action programs are among the most controversial methods in diversity management because some people believe that they lead to an unfair advantage for minority members.
In many cases, the negative perceptions about affirmative action can be explained by misunderstandings relating to what such antidiscrimination policies entail. Moreover, affirmative action means different things to different people and therefore it is inaccurate to discuss affirmative action as a uniform package.
Four groups of programs can be viewed as part of affirmative action programs (Cropanzano, Slaughter, & Bachiochi, 2005; Kravitz, 2008; Voluntary diversity plans can lead to risk, 2007):
1. Simple elimination of discrimination. These programs are the least controversial and are received favorably by employees.
2. Targeted recruitment. These affirmative action plans involve ensuring that the candidate pool is diverse. These programs are also viewed as fair by most employees.
3. Tie-breaker. In these programs, if all other characteristics are equal, then preference may be given to a minority candidate. In fact, these programs are not widely used and their use needs to be justified by organizations. In other words, organizations need to have very specific reasons for why they are using this type of affirmative action, such as past illegal discrimination. Otherwise, their use may be illegal and lead to reverse discrimination. These programs are viewed as less fair by employees.
4. Preferential treatment. These programs involve hiring a less-qualified minority candidate. Strong preferential treatment programs are illegal in most cases.
It is plausible that people who are against affirmative action programs may have unverified assumptions about the type of affirmative action program the company is using. Informing employees about the specifics of how affirmative action is being used may be a good way of dealing with any negative attitudes. In fact, a review of the past literature revealed that when specifics of affirmative action are not clearly defined, observers seem to draw their own conclusions about the particulars of the programs (Harrison et al., 2006).
In addition to employee reactions to affirmative action, there is some research indicating that affirmative action programs may lead to stigmatization of the perceived beneficiaries. For example, in companies using affirmative action, coworkers of new hires may make the assumption that the new hire was chosen due to gender or race as opposed to having the necessary qualifications. These effects may even occur in the new hires themselves, who may have doubts about the fact that they were chosen because they were the best candidate for the position. Research also shows that giving coworkers information about the qualifications and performance of the new hire eliminates these potentially negative effects of affirmative action programs (Heilman et al., 1993; Heilman, Rivero, & Brett, 1991; Heilman, Simon, & Repper, 1987; Kravitz, 2008).
OB Toolbox: Dealing with Being Different
At any time in your career, you may find yourself in a situation in which you are different from those around you. Maybe you are the only male in an organization where most of your colleagues and managers are females. Maybe you are older than all your colleagues. How do you deal with the challenges of being different?
• Invest in building effective relationships. Early in a relationship, people are more attracted to those who are demographically similar to them. This means that your colleagues or manager may never get to find out how smart, fun, or hardworking you are if you have limited interactions with them. Create opportunities to talk to them. Be sure to point out areas of commonality.
• Choose your mentor carefully. Mentors may help you make sense of the organization’s culture, give you career-related advice, and help you feel like you belong. That said, how powerful and knowledgeable your mentor is also matters. You may be more attracted to someone at your same level and who is similar to you, but you may have more to learn from someone who is more experienced, knowledgeable, and powerful than you are.
• Investigate company resources. Many companies offer networking opportunities and interest groups for women, ethnic minorities, and employees with disabilities among others. Check out what resources are available through your company.
• Know your rights. You should know that harassment based on protected characteristics such as gender, race, age, or disabilities, as well as discrimination based on these traits are illegal in the United States. If you face harassment or discrimination, you may want to notify your manager or your company’s HR department.
Key Takeaways
Organizations managing diversity effectively benefit from diversity because they achieve higher creativity, better customer service, higher job satisfaction, higher stock prices, and lower litigation expenses. At the same time, managing a diverse workforce is challenging for several key reasons. Employees are more likely to associate with those who are similar to them early in a relationship, the distribution of demographic traits could create faultlines within a group, and stereotypes may act as barriers to advancement and fair treatment of employees. Demographic traits such as gender, race, age, religion, disabilities, and sexual orientation each face unique challenges. Organizations can manage demographic diversity more effectively by building a culture of respect, making managers accountable for diversity, creating diversity-training programs, reviewing recruitment practices, and under some conditions, utilizing affirmative action programs.
Exercises
1. What does it mean for a company to manage diversity effectively? How would you know if a company is doing a good job of managing diversity?
2. What are the benefits of effective diversity management?
3. How can organizations deal with the “similarity-attraction” phenomenon? Left unchecked, what are the problems this tendency can cause?
4. What is the earnings gap? Who does it affect? What are the reasons behind the earnings gap?
5. Do you think that laws and regulations are successful in eliminating discrimination in the workplace? Why or why not?
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Learning Objectives
1. Explain what culture is.
2. Define the four dimensions of culture that are part of Hofstede’s framework.
3. Describe some ways in which national culture affects organizational behavior.
Culture refers to values, beliefs, and customs that exist in a society. In the United States, the workforce is becoming increasingly multicultural, with close to 16% of all employees being born outside the country. In addition, the world of work is becoming increasingly international. The world is going through a transformation in which China, India, and Brazil are emerging as major players in world economics. Companies are realizing that doing international business provides access to raw materials, resources, and a wider customer base. For many companies, international business is where most of the profits lie, such as for Intel Corporation, where 70% of all revenues come from outside the United States. International companies are also becoming major players within the United States. For example, China’s Lenovo acquired IBM’s personal computer business and became the world’s third largest computer manufacturer. As a result of these trends, understanding the role of national culture for organizational behavior may provide you with a competitive advantage in your career. In fact, sometime in your career, you may find yourself working as an expatriate. An expatriate is someone who is temporarily assigned to a position in a foreign country. Such an experience may be invaluable for your career and challenge you to increase your understanding and appreciation of differences across cultures.
How do cultures differ from each other? If you have ever visited a country different from your own, you probably have stories to tell about what aspects of the culture were different and which were similar. Maybe you have noticed that in many parts of the United States people routinely greet strangers with a smile when they step into an elevator or see them on the street, but the same behavior of saying hello and smiling at strangers would be considered odd in many parts of Europe. In India and other parts of Asia, traffic flows with rules of its own, with people disobeying red lights, stopping and loading passengers in highways, or honking continuously for no apparent reason. In fact, when it comes to culture, we are like fish in the sea: We may not realize how culture is shaping our behavior until we leave our own and go someplace else. Cultural differences may shape how people dress, how they act, how they form relationships, how they address each other, what they eat, and many other aspects of daily life. Of course, talking about national cultures does not mean that national cultures are uniform. In many countries, it is possible to talk about the existence of cultures based on region or geography. For example, in the United States, the southern, eastern, western, and midwestern regions of the country are associated with slightly different values.
Thinking about hundreds of different ways in which cultures may differ is not very practical when you are trying to understand how culture affects work behaviors. For this reason, the work of Geert Hofstede, a Dutch social scientist, is an important contribution to the literature. Hofstede studied IBM employees in 66 countries and showed that four dimensions of national culture explain an important source of variation among cultures. Research also shows that cultural variation with respect to these four dimensions influence employee job behaviors, attitudes, well-being, motivation, leadership, negotiations, and many other aspects of organizational behavior (Hofstede, 1980; Tsui, Nifadkar, & Ou, 2007).
Table \(1\): Hofstede’s culture framework, a useful tool to understand the systematic differences across cultures.
Individualism
Cultures in which people define themselves as individuals and form looser ties with their groups.
Collectivism
Cultures where people have stronger bonds to their group membership forms a person’s self identity.
• USA
• Australia
• UK
• Canada
• Hungary
• Guatemala
• Ecuador
• Indonesia
• Pakistan
• China
Low Power Distance
A society that views an unequal distribution of power as relatively unacceptable.
High Power Distance
A society that views an unequal distribution of power as relatively acceptable.
• Austria
• Denmark
• Israel
• Ireland
• New Zealand
• Malaysia
• Slovakia
• Philippines
• Russia
• Mexico
Low Uncertainty Avoidance
Cultures in which people are comfortable in unpredictable situations and have high tolerance for ambiguity.
High Uncertainty Avoidance
Cultures in which people prefer predictable situations and have low tolerance for ambiguity.
• Denmark
• Jamaica
• Singapore
• China
• Sweden
• Belgium
• El Salvador
• Greece
• Guatemala
• Portugal
Masculinity
Cultures in which people value achievement and competitiveness, as well as acquisition of money and other material objects.
Femininity
Cultures in which people value maintaining good relationships, caring for the weak, and quality of life.
• Slovakia
• Japan
• Hungary
• Austria
• Venezuela
• Norway
• Netherlands
• Sweden
• Costa Rica
• Chile
Source: Adapted from information in Geert Hofstede cultural dimensions. Retrieved November 12, 2008, from www.geert-hofstede.com/hofstede_dimensions.php.
Individualism-Collectivism
Individualistic cultures are cultures in which people define themselves as an individual and form looser ties with their groups. These cultures value autonomy and independence of the person, self-reliance, and creativity. Countries such as the United States, United Kingdom, and Australia are examples of individualistic cultures. In contrast, collectivistic cultures are cultures where people have stronger bonds to their groups and group membership forms a person’s self identity. Asian countries such as China and Japan, as well as countries in Latin America are higher in collectivism.
In collectivistic cultures, people define themselves as part of a group. In fact, this may be one way to detect people’s individualism-collectivism level. When individualists are asked a question such as “Who are you? Tell me about yourself,” they are more likely to talk about their likes and dislikes, personal goals, or accomplishments. When collectivists are asked the same question, they are more likely to define themselves in relation to others, such as “I am Chinese” or “I am the daughter of a doctor and a homemaker. I have two brothers.” In other words, in collectivistic cultures, self identity is shaped to a stronger extent by group memberships (Triandis, McCusker, & Hui, 1990).
In collectivistic societies, family bonds are more influential in people’s daily lives. While individualists often refer to their nuclear family when thinking about their families, collectivists are more likely to define family in a broader sense, including cousins, uncles, aunts, and second cousins. Family members are more involved in each others’ lives. For example, in societies such as Iran, Greece, and Turkey, extended family members may see each other several times a week. In many collectivistic societies, the language reflects the level of interaction among extended family members such that there may be different words used to refer to maternal versus paternal grandparents, aunts, or uncles. In addition to interacting with each other more often, family members have a strong sense of obligation toward each other. For example, children often expect to live with their parents until they get married. In collectivistic countries such as Thailand, Japan, and India, choosing a career or finding a spouse are all family affairs. In these cultures, family members feel accountable for each others’ behavior such that one person’s misbehavior may be a cause of shame for the rest of the family (Hui & Triandis, 1986). Understanding the importance of family in collectivistic cultures is critical to understanding their work behaviors. For example, one multinational oil company in Mexico was suffering from low productivity. When the situation was investigated, it became clear that the new manager of the subsidiary had gotten rid of a monthly fiesta for company employees and their families under the assumption that it was a waste of time and money. Employees had interpreted this to mean that the company no longer cared about their families (Raphael, 2001). In India, companies such as Intel organize “take your parents to work day” and involve parents in recruitment efforts, understanding the role of parents in the career and job choices of prospective employees (Frauenheim, 2005).
Collectivists are more attached to their groups and have more permanent attachments to these groups. Conversely, individualists attempt to change groups more often and have weaker bonds to them. It is important to recognize that to collectivists the entire human universe is not considered to be their in-group. In other words, collectivists draw sharper distinctions between the groups they belong to and those they do not belong to. They may be nice and friendly to their in-group members while acting much more competitively and aggressively toward out-group members. This tendency has important work implications. While individualists may evaluate the performance of their colleagues more accurately, collectivists are more likely to be generous when evaluating their in-group members. Freeborders, a software company based in San Francisco, California, found that even though it was against company policy, Chinese employees were routinely sharing salary information with their coworkers. This situation led them to change their pay system by standardizing pay at job levels and then giving raises after more frequent appraisals (Fruenheim, 2005; Hui & Triandis, 1986; Javidan & Dastmalchian, 2003; Gomez, Shapiro, & Kirkman, 2000).
Collectivistic societies emphasize conformity to the group. The Japanese saying “the nail that sticks up gets hammered down” illustrates that being different from the group is undesirable. In these cultures, disobeying or disagreeing with one’s group is difficult and people may find it hard to say no to their colleagues or friends. Instead of saying no, which would be interpreted as rebellion or at least be considered rude, they may use indirect ways of disagreeing, such as saying “I have to think about this” or “this would be difficult.” Such indirect communication prevents the other party from losing face but may cause misunderstandings in international communications with cultures that have a more direct style. Collectivist cultures may have a greater preference for team-based rewards as opposed to individual-based rewards. For example, in one study, more than 75% of the subjects in Philippines viewed team-based pay as fair, while less than 50% of the U.S.-based subjects viewed team-based rewards as fair (Kirkman, Gibson, & Shapiro, 2001).
Power Distance
Power distance refers to the degree to which the society views an unequal distribution of power as acceptable. Simply put, some cultures are more egalitarian than others. In low power distance cultures, egalitarianism is the norm. In high power distance cultures, people occupying more powerful positions such as managers, teachers, or those who are older are viewed as more powerful and deserving of a higher level of respect. High power distance cultures are hierarchical cultures where everyone has their place. Powerful people are supposed to act powerful, while those in inferior positions are expected to show respect. For example, Thailand is a high power distance culture and, starting from childhood, people learn to recognize who is superior, equal, or inferior to them. When passing people who are more powerful, individuals are expected to bow, and the more powerful the person, the deeper the bow would be (Pornpitakpan, 2000). Managers in high power distance cultures are treated with a higher degree of respect, which may surprise those in lower power distance cultures. A Citibank manager in Saudi Arabia was surprised when employees stood up every time he passed by (Denison, Haaland, & Goelzer, 2004). Similarly, in Turkey, students in elementary and high schools greet their teacher by standing up every time the teacher walks into the classroom. In these cultures, referring to a manager or a teacher with their first name would be extremely rude. High power distance within a culture may easily cause misunderstandings with those from low power distance societies. For example, the limp handshake someone from India may give or a job candidate from Chad who is looking at the floor throughout the interview are in fact showing their respect, but these behaviors may be interpreted as indicating a lack of confidence or even disrespect in low power distance cultures.
One of the most important ways in which power distance is manifested in the workplace is that in high power distance cultures, employees are unlikely to question the power and authority of their manager, and conformity to the manager will be expected. Managers in these cultures may be more used to an authoritarian style with lower levels of participative leadership demonstrated. People will be more submissive to their superiors and may take orders without questioning the manager (Kirkman, Gibson, & Shapiro, 2001). In these cultures, people may feel uncomfortable when they are asked to participate in decision making. For example, peers are much less likely to be involved in hiring decisions in high power distance cultures. Instead, these cultures seem to prefer paternalistic leaders—leaders who are authoritarian but make decisions while showing a high level of concern toward employees as if they were family members (Javidan & Dastmalchian, 2003; Ryan et al., 1999).
Uncertainty Avoidance
Uncertainty avoidance refers to the degree to which people feel threatened by ambiguous, risky, or unstructured situations. Cultures high in uncertainty avoidance prefer predictable situations and have low tolerance for ambiguity. Employees in these cultures expect a clear set of instructions and clarity in expectations. Therefore, there will be a greater level of creating procedures to deal with problems and writing out expected behaviors in manuals.
Cultures high in uncertainty avoidance prefer to avoid risky situations and attempt to reduce uncertainty. For example, one study showed that when hiring new employees, companies in high uncertainty avoidance cultures are likely to use a larger number of tests, conduct a larger number of interviews, and use a fixed list of interview questions (Ryan et al., 1999). Employment contracts tend to be more popular in cultures higher in uncertainty avoidance compared to cultures low in uncertainty avoidance (Raghuram, London, & Larsen, 2001). The level of change-oriented leadership seems to be lower in cultures higher in uncertainty avoidance (Ergeneli, Gohar, & Temirbekova, 2007). Companies operating in high uncertainty avoidance cultures also tend to avoid risky endeavors such as entering foreign target markets unless the target market is very large (Rothaermel, Kotha, & Steensma, 2006).
Germany is an example of a high uncertainty avoidance culture where people prefer structure in their lives and rely on rules and procedures to manage situations. Similarly, Greece is a culture relatively high in uncertainty avoidance, and Greek employees working in hierarchical and rule-oriented companies report lower levels of stress (Joiner, 2001). In contrast, cultures such as Iran and Russia are lower in uncertainty avoidance, and companies in these regions do not have rule-oriented cultures. When they create rules, they also selectively enforce rules and make a number of exceptions to them. In fact, rules may be viewed as constraining. Uncertainty avoidance may influence the type of organizations employees are attracted to. Japan’s uncertainty avoidance is associated with valuing job security, while in uncertainty-avoidant Latin American cultures, many job candidates prefer the stability of bigger and well-known companies with established career paths.
Masculinity–Femininity
Masculine cultures are cultures that value achievement, competitiveness, and acquisition of money and other material objects. Japan and Hungary are examples of masculine cultures. Masculine cultures are also characterized by a separation of gender roles. In these cultures, men are more likely to be assertive and competitive compared to women. In contrast, feminine cultures are cultures that value maintaining good relationships, caring for the weak, and emphasizing quality of life. In these cultures, values are not separated by gender, and both women and men share the values of maintaining good relationships. Sweden and the Netherlands are examples of feminine cultures. The level of masculinity inherent in the culture has implications for the behavior of individuals as well as organizations. For example, in masculine cultures, the ratio of CEO pay to other management-level employees tends to be higher, indicating that these cultures are more likely to reward CEOs with higher levels of pay as opposed to other types of rewards (Tosi & Greckhamer, 2004). The femininity of a culture affects many work practices, such as the level of work/life balance. In cultures high in femininity such as Norway and Sweden, work arrangements such as telecommuting seem to be more popular compared to cultures higher in masculinity like Italy and the United Kingdom.
OB Toolbox: Prepare Yourself for a Global Career
With the globalizing economy, boundaries with respect to careers are also blurring. How can you prepare yourself for a career that crosses national boundaries?
• Learn a language. If you already know that you want to live in China after you finish school, now may be the time to start learning the language. It is true that business is often conducted in English, but it is becoming increasingly ethnocentric to speak only one language while many in the rest of the world can speak two or more. For example, only 9% of those living in the United States can speak their native language plus another language fluently, as opposed to 53% of Europeans (National Virtual Translation Center, 2009). Plus, even if business is conducted in English, your adaptation to a different society, making friends, and leading a satisfying life will be much easier if you can speak the language.
• Immerse yourself in different cultures. Visit different cultures. This does not mean visiting five countries in 5 days. Plan on spending more time in one locale, and get to know, observe, and understand the culture.
• Develop an openness to different experiences. Be open to different cuisines, different languages, and different norms of working and living. If you feel very strongly that your way of living and working is the right way, you will have a hard time adjusting to a different culture.
• Develop a strong social support network. Once you arrive in the culture you will live in, be proactive in making friends. Being connected to people in a different culture will have an influence on your ability to adjust to living there. If you are planning on taking family members with you, their level of readiness will also influence your ability to function in a different culture.
• Develop a sense of humor. Adjusting to a different culture is often easier if you can laugh at yourself and the mistakes you make. If you take every mistake too personally, your stay will be less enjoyable and more frustrating.
• Plan your return. If you have plans to come back and work in your home country, you will need to plan your return in advance. When people leave home for a long time, they often adapt to the foreign culture they live in and may miss many elements of it when they go back home. Your old friends may have moved on, local employers may not immediately appreciate your overseas experience, and you may even find that cultural aspects of your home country may have changed in your absence. Be ready for a reverse culture shock!
Suggestions for Managing Cultural Diversity
With the increasing importance of international business as well as the culturally diverse domestic workforce, what can organizations do to manage cultural diversity?
Help Employees Build Cultural Intelligence
Cultural intelligence is a person’s capability to understand how a person’s cultural background influences one’s behavior. Developing cultural intelligence seems important, because the days when organizations could prepare their employees for international work simply by sending them to long seminars on a particular culture are gone. Presently, international business is not necessarily conducted between pairs of countries. A successful domestic manager is not necessarily assigned to work on a long-term assignment in China. Of course such assignments still happen, but it is more likely that the employees will continually work with others from diverse cultural backgrounds. This means employees will not necessarily have to become experts in one culture. Instead, they should have the ability to work with people from many diverse backgrounds all at the same time. For these types of assignments, employees will need to develop an awareness of overall cultural differences and learn how to recognize cultural principles that are operating in different situations. In other words, employees will need to be selected based on cultural sensitivity and understanding and trained to enhance such qualities (Earley & Mosakowski, 2004). For example, GlobeSmart by Aperian Global is an online tool that helps employees learn how to deal with people from around the world. The process starts by completing a survey about your cultural values, and then these values are compared to those of different cultures. The tool provides specific advice about interpersonal interactions with these cultures (Hamm, 2008).
Avoid Ethnocentrism
Ethnocentrism is the belief that one’s own culture is superior to other cultures one comes across. Ethnocentrism leads organizations to adopt universal principles when doing business around the globe and may backfire. In this chapter, we highlighted research findings showing how culture affects employee expectations of work life such as work–life balance, job security, or the level of empowerment. Ignoring cultural differences, norms, and local habits may be costly for businesses and may lead to unmotivated and dissatisfied employees. Successful global companies modify their management styles, marketing, and communication campaigns to fit with the culture in which they are operating. For example, Apple Inc.’s famous PC versus Mac advertising campaign was reshot in Japan and the United Kingdom using local actors. The American ads were found to be too aggressive for the Japanese culture, where direct product comparisons are rare and tend to make people uncomfortable. The new ads feature more friendly banter and are subtler than the U.S. ads. For the British market, the advertisers localized the humor (Fowler, Steinberg, & Patrick, 2007).
Listen to Locals
When doing cross-cultural business, locals are a key source of information. To get timely and accurate feedback, companies will need to open lines of communication and actively seek feedback. For example, Convergys, a Cincinnati-based call-center company, built a cafeteria for the employees in India. During the planning phase, the Indian vice president pointed out that because Indian food is served hot and employees would expect to receive hot meals for lunch, building a cafeteria that served only sandwiches would create dissatisfied employees. By opening the lines of communication in the planning phase of the project, Convergys was alerted to this important cultural difference in time to change the plans (Fisher, 2005).
Recognize That Culture Changes
Cultures are not static—they evolve over the years. A piece of advice that was true 5 years ago may no longer hold true. For example, showing sensitivity to the Indian caste system may be outdated advice for those internationals doing business in India today.
Do Not Always Assume That Culture Is the Problem
When doing business internationally, failure may occur due to culture as well as other problems. Attributing all misunderstandings or failures to culture may enlarge the cultural gap and shift the blame to others. In fact, managing people who have diverse personalities or functional backgrounds may create misunderstandings that are not necessarily due to cultural differences. When marketing people from the United States interact with engineers in India, misunderstandings may be caused by the differences in perceptions between marketing and engineering employees. While familiarizing employees about culture, emphasizing the importance of interpersonal skills regardless of cultural background will be important.
Key Takeaways
With the increasing prevalence of international business as well as diversification of the domestic workforce in many countries, understanding how culture affects organizational behavior is becoming important. Individualism-collectivism, power distance, uncertainty avoidance, and masculinity–femininity are four key dimensions in which cultures vary. The position of a culture on these dimensions affects the suitable type of management style, reward systems, employee selection, and ways of motivating employees.
Exercises
1. What is culture? Do countries have uniform national cultures?
2. How would you describe your own home country’s values on the four dimensions of culture?
3. Reflect on a time when you experienced a different culture or interacted with someone from a different culture. How did the cultural differences influence your interaction?
4. How does culture influence the proper leadership style and reward system that would be suitable for organizations?
5. Imagine that you will be sent to live in a foreign country different from your own in a month. What are the types of preparations you would benefit from doing? | textbooks/biz/Management/Organizational_Behavior/02%3A_Managing_Demographic_and_Cultural_Diversity/02.3%3A_Cultural_Diversity.txt |
Learning Objectives
1. Consider the role of diversity for ethical behavior.
2. Consider the role of national culture on diversity.
Diversity and Ethics
When managing a diverse group of employees, ensuring the ethicality of organizational behavior will require special effort. This is because employees with different backgrounds or demographic traits may vary in their standards of ethics. For example, research shows that there are some gender differences when it comes to evaluating the degree of ethicality of hypothetical scenarios, with women utilizing higher standards. Men and women seem to have similar standards when judging the ethicality of monetary issues but differ on issues such as the ethicality of breaking organizational rules. Interestingly, gender differences seem to disappear as people grow older. Age is another demographic trait that influences the standards of ethics people use, with older employees being bothered more by unethical behaviors compared to younger employees. Similarly, one study showed that older respondents found some questionable negotiation behaviors such as misrepresenting information and bluffing to be more unethical compared to younger respondents (Deshpande, 1997; Franke, Crown, & Spake, 1997; Peterson, Rhoads, & Vaught, 2001; Volkema, 2004).
In addition to demographic diversity, cultural diversity introduces challenges to managing ethical behavior, given that cultures differ in the actions they view as ethical. Cultural differences are particularly important when doing cross-cultural business. For example, one study compared Russian and American subjects on their reactions to ethics scenarios. Americans viewed scenarios such as an auditing company sharing information regarding one client with another client as more unethical compared to how Russian subjects viewed the same scenarios (Beekun et al., 2003). A study comparing U.S., Korean, and Indian managers found differences in attitudes toward business ethics, particularly with Koreans thinking that being ethical was against the goal of being profitable. Indian and Korean subjects viewed questionable practices such as software piracy, nepotism, or the sharing of insider information as relatively more ethical compared to subjects in the United States. At the same time, Korean and Indian subjects viewed injury to the environment as more unethical compared to the U.S. subjects (Christie et al., 2003). In other words, the ethical standards held in different societies may emphasize different behaviors as ethical or unethical.
When dealing with unethical behavior overseas, companies will need to consider the ethical context. Having internal reporting mechanisms may help, but research shows that in very high power distant societies, these mechanisms often go unused (MacNab et al., 2007). Even when a multinational company has ethical standards that are different from local standards, using the headquarters’ standards in all cross-cultural interactions will not be possible or suitable. The right action often depends on the specifics of the situation and a consideration of the local culture. For example, in the 1990s, Levi-Strauss & Company found that some of its contractors in Bangladesh were using child labor consisting of children under 14 years old in its factories. One option they had was to demand that their contractors fire those children immediately. Yet, when they looked at the situation more closely, they found that it was common for young children to be employed in factories, and in many cases these children were the sole breadwinners in the family. Firing these children would have caused significant hardship for the families and could have pushed the children into more dangerous working conditions. Therefore, Levi-Strauss reached an agreement to send the children back to school while continuing to receive their wages partly from the contractor companies and partly from Levi-Strauss. The school expenses were met by Levi-Strauss and the children were promised work when they were older. In short, the diverse ethical standards of the world’s cultures make it unlikely that one approach can lead to fair outcomes in all circumstances.
Diversity Around the Globe
Demographic diversity is a fact of life in the United States. The situation is somewhat different in other parts of the world. Attitudes toward gender, race, disabilities, or sexual orientation differ around the world, and each country approaches the topic of diversity differently.
As a case in point, Japan is a relatively homogeneous society that sees the need to diversify itself. With the increasing age of the population, the country expects to lose 650,000 workers per year. At the same time, the country famously underutilizes female employees. Overt sexism is rampant, and stereotypes about female employees as unable to lead are part of the culture. While there is antidiscrimination legislation and the desire of the Japanese government to deal with this issue, women are seriously underrepresented in management. For example, while 25% of all Hewlett-Packard Development Company managers in the United States are female, in Japan this number is around 4%. Some companies such as Sanyo Electric Co. Ltd. have female CEOs, but these companies are generally considered exceptions. Because of the labor shortage, the country is attracting immigrants from South America, thereby increasing the level of diversity of the country and increasing awareness of diversity-related issues (Kelly, 2008; Woods, 2005).
Attitudes toward concepts such as affirmative action are also culturally determined. For example, France experiences different employment situations for employees with different backgrounds. According to one study conducted by a University of Paris professor in which fake résumés were sent to a large number of companies, even when all qualifications were the same, candidates with French-sounding names were three times more likely to get a callback compared to those with North African–sounding names. However, affirmative action is viewed as unfair in French society, leaving the situation in the hands of corporations. Some companies such as PSA Peugeot Citroën started utilizing human resource management systems in which candidate names are automatically stripped from résumés before HR professionals personally investigate them (Valla, 2007). In summary, due to differences in the legal environment as well as cultural context, “managing diversity effectively” may carry a different meaning across the globe.
Key Takeaways
Ethical behavior is affected by the demographic and cultural composition of the workforce. Studies indicate that men and women, as well as younger and older employees, differ in the types of behaviors they view as ethical. Different cultures also hold different ethical standards, which become important when managing a diverse workforce or doing business within different cultures. Around the globe, diversity has a different meaning and different overtones. In addition to different legal frameworks protecting employee classes, the types of stereotypes that exist in different cultures and whether and how the society tackles prejudice against different demographic categories vary from region to region.
Exercises
1. Do you believe that multinational companies should have an ethics code that they enforce around the world? Why or why not?
2. How can organizations manage a workforce with diverse personal ethical values? | textbooks/biz/Management/Organizational_Behavior/02%3A_Managing_Demographic_and_Cultural_Diversity/02.4%3A_The_Role_of_Ethics_and_National_Culture.txt |
Figure 2.11
When you are a company that operates in over 170 countries with a workforce of over 398,000 employees, understanding and managing diversity effectively is not optional—it is a key business priority. A company that employs individuals and sells products worldwide needs to understand the diverse groups of people that make up the world.
Starting from its early history in the United States, IBM Corporation (NYSE: IBM) has been a pioneer in valuing and appreciating its diverse workforce. In 1935, almost 30 years before the Equal Pay Act guaranteed pay equality between the sexes, then IBM president Thomas Watson promised women equal pay for equal work. In 1943, the company had its first female vice president. Again, 30 years before the Family and Medical Leave Act (FMLA) granted women unpaid leave for the birth of a child, IBM offered the same benefit to female employees, extending it to one year in the 1960s and to three years in 1988. In fact, the company ranks in the top 100 on Working Mother magazine’s “100 Best Companies” list and has been on the list every year since its inception in 1986. It was awarded the honor of number 1 for multicultural working women by the same magazine in 2009.
IBM has always been a leader in diversity management. Yet, the way diversity was managed was primarily to ignore differences and provide equal employment opportunities. This changed when Louis Gerstner became CEO in 1993.
Gerstner was surprised at the low level of diversity in the senior ranks of the company. For all the effort being made to promote diversity, the company still had what he perceived a masculine culture.
In 1995, he created eight diversity task forces around demographic groups such as women and men, as well as Asians, African Americans, LGBT (lesbian, gay, bisexual, and transgender) individuals, Hispanics, Native Americans, and employees with disabilities. These task forces consisted of senior-level, well-respected executives and higher-level managers, and members were charged with gaining an understanding of how to make each constituency feel more welcome and at home at IBM. Each task force conducted a series of meetings and surveyed thousands of employees to arrive at the key factors concerning each particular group. For example, the presence of a male-dominated culture, lack of networking opportunities, and work-life management challenges topped the list of concerns for women. Asian employees were most concerned about stereotyping, lack of networking, and limited employment development plans. African American employee concerns included retention, lack of networking, and limited training opportunities. Armed with a list of priorities, the company launched a number of key programs and initiatives to address these issues. As an example, employees looking for a mentor could use the company’s Web site to locate one willing to provide guidance and advice. What is probably most unique about this approach is that the company acted on each concern whether it was based on reality or perception. They realized that some women were concerned that they would have to give up leading a balanced life if they wanted to be promoted to higher management, whereas 70% of the women in higher levels actually had children, indicating that perceptual barriers can also act as a barrier to employee aspirations. IBM management chose to deal with this particular issue by communicating better with employees as well as through enhancing their networking program.
The company excels in its recruiting efforts to increase the diversity of its pool of candidates. One of the biggest hurdles facing diversity at IBM is the limited minority representation in fields such as computer sciences and engineering. For example, only 4% of students graduating with a degree in computer sciences are Hispanic. To tackle this issue, IBM partners with colleges to increase recruitment of Hispanics to these programs. In a program named EXITE (Exploring Interest in Technology and Engineering), they bring middle school female students together for a weeklong program where they learn math and science in a fun atmosphere from IBM’s female engineers. To date, over 3,000 girls have gone through this program.
What was the result of all these programs? IBM tracks results through global surveys around the world and identifies which programs have been successful and which issues no longer are viewed as problems. These programs were instrumental in more than tripling the number of female executives worldwide as well as doubling the number of minority executives. The number of LBGT executives increased sevenfold, and executives with disabilities tripled. With growing emerging markets and women and minorities representing a \$1.3 trillion market, IBM’s culture of respecting and appreciating diversity is likely to be a source of competitive advantage.
Discussion Questions
1. IBM has been championed for its early implementation of equality among its workforce. At the time, many of these policies seemed radical. To IBM’s credit, the movement toward equality worked out exceptionally well for them. Have you experienced policy changes that might seem radical? Have these policies worked out? What policies do you feel are still lacking in the workforce?
2. If you or your spouse is currently employed, how difficult would it be to take time off for having a child?
3. Some individuals feel that so much focus is put on making the workplace better for underrepresented groups that the majority of the workforce becomes neglected. Do you feel this was the case at IBM? Why or why not? How can a company ensure that no employee is neglected, regardless of demographic group?
4. What types of competitive advantages could IBM have gained from having such a diverse workforce? | textbooks/biz/Management/Organizational_Behavior/02%3A_Managing_Demographic_and_Cultural_Diversity/02.5%3A_Managing_Diversity_for_Success%3A_The_Case_of_IBM.txt |
In conclusion, in this chapter we reviewed the implications of demographic and cultural diversity for organizational behavior. Management of diversity effectively promises a number of benefits for companies and may be a competitive advantage. Yet, challenges such as natural human tendencies to associate with those similar to us and using stereotypes in decision making often act as barriers to achieving this goal. By creating a work environment where people of all origins and traits feel welcome, organizations will make it possible for all employees to feel engaged with their work and remain productive members of the organization.
02.7: Exercises
Ethical Dilemma
You are working for the police department of your city. When hiring employees, the department uses a physical ability test in which candidates are asked to do 30 push-ups and 25 sit-ups, as well as climb over a 4-foot wall. When candidates take this test, it seems that about 80% of the men who take the test actually pass it, while only 10% of the female candidates pass the test. Do you believe that this is a fair test? Why or why not? If you are asked to review the employee selection procedures, would you make any changes to this system? Why or why not?
Individual Exercise
A colleague of yours is being sent to India as a manager for a call center. She just told you that she feels very strongly about the following issues:
• Democratic leaders are the best leaders because they create a more satisfied workforce.
• Employees respond best to individual-based pay incentives and bonuses as tools for motivation.
• Employees should receive peer feedback about their performance level so that they can get a better sense of how well they are performing.
After doing some research on the business environment and national culture in India, how would you advise your colleague to behave? Should she try to transfer these three managerial practices to the Indian context? Why or why not?
Group Exercise
Diversity Dilemmas
Imagine that you are working in the HR department of your company. You come across the following scenarios in which your input has been sought. Discuss each scenario and propose an action plan for management.
1. Aimee is the mother of a newborn. She is very dedicated to her work but she used to stay for longer hours at work before she had her baby. Now she tries to schedule her work so that she leaves around 5:00 p.m. Her immediate manager feels that Aimee is no longer dedicated or committed to her work and is considering passing her over for a promotion. Is this decision fair?
2. Jack is a married male, while John is single. Your company has an assignment in a branch in Mexico that would last a couple of years. Management feels that John would be better for this assignment because he is single and is free to move. Is this decision fair?
3. A manager receives a request from an employee to take off a Wednesday for religious reasons. The manager did not know that this employee was particularly religious and does not believe that the leave is for religious reasons. The manager believes that the employee is going to use this day as a personal day off. Should the manager investigate the situation?
4. A sales employee has painful migraines intermittently during the work day. She would like to take short naps during the day as a preventative measure and she also needs a place where she can nap when a migraine occurs. Her immediate manager feels that this is unfair to the rest of the employees.
5. A department is looking for an entry-level cashier. One of the job applicants is a cashier with 30 years of experience as a cashier. The department manager feels that this candidate is overqualified for the job and is likely to be bored and leave the job in a short time. Instead, they want to pursue a candidate with 6 months of work experience who seems like a better fit for the position. | textbooks/biz/Management/Organizational_Behavior/02%3A_Managing_Demographic_and_Cultural_Diversity/02.6%3A_Conclusion.txt |
When people think about entrepreneurship, they often think of Guy Kawasaki (http://www.guykawasaki.com), who is a Silicon Valley venture capitalist and the author of nine books as of 2010, including The Art of the Start and The Macintosh Way. Beyond being a best-selling author, he has been successful in a variety of areas, including earning degrees from Stanford University and UCLA; being an integral part of Apple’s first computer; writing columns for Forbes and Entrepreneur Magazine; and taking on entrepreneurial ventures such as cofounding Alltop, an aggregate news site, and becoming managing director of Garage Technology Ventures. Kawasaki is a believer in the power of individual differences. He believes that successful companies include people from many walks of life, with different backgrounds and with different strengths and different weaknesses. Establishing an effective team requires a certain amount of self-monitoring on the part of the manager. Kawasaki maintains that most individuals have personalities that can easily get in the way of this objective. He explains, “The most important thing is to hire people who complement you and are better than you in specific areas. Good people hire people that are better than themselves.” He also believes that mediocre employees hire less-talented employees in order to feel better about themselves. Finally, he believes that the role of a leader is to produce more leaders, not to produce followers, and to be able to achieve this, a leader should compensate for their weaknesses by hiring individuals who compensate for their shortcomings.
In today’s competitive business environment, individuals want to think of themselves as indispensable to the success of an organization. Because an individual’s perception that he or she is the most important person on a team can get in the way, Kawasaki maintains that many people would rather see a company fail than thrive without them. He advises that we must begin to move past this and to see the value that different perceptions and values can bring to a company, and the goal of any individual should be to make the organization that one works for stronger and more dynamic. Under this type of thinking, leaving a company in better shape than one found it becomes a source of pride. Kawasaki has had many different roles in his professional career and as a result realized that while different perceptions and attitudes might make the implementation of new protocol difficult, this same diversity is what makes an organization more valuable. Some managers fear diversity and the possible complexities that it brings, and they make the mistake of hiring similar individuals without any sort of differences. When it comes to hiring, Kawasaki believes that the initial round of interviews for new hires should be held over the phone. Because first impressions are so important, this ensures that external influences, negative or positive, are not part of the decision-making process.
Many people come out of business school believing that if they have a solid financial understanding, then they will be a successful and appropriate leader and manager. Kawasaki has learned that mathematics and finance are the “easy” part of any job. He observes that the true challenge comes in trying to effectively manage people. With the benefit of hindsight, Kawasaki regrets the choices he made in college, saying, “I should have taken organizational behavior and social psychology” to be better prepared for the individual nuances of people. He also believes that working hard is a key to success and that individuals who learn how to learn are the most effective over time.
If nothing else, Guy Kawasaki provides simple words of wisdom to remember when starting off on a new career path: do not become blindsided by your mistakes, but rather take them as a lesson of what not to do. And most important, pursue joy and challenge your personal assumptions.
Discussion Questions
1. Describe how self-perception can positively or negatively affect a work environment?
2. What advice would you give a recent college graduate after reading about Guy Kawasaki’s advice?
3. What do you think about Kawasaki’s hiring strategy?
4. How would Kawasaki describe a “perfect” boss?
5. How would you describe a “perfect” boss? | textbooks/biz/Management/Organizational_Behavior/03%3A_Understanding_People_at_Work%3A_Individual_Differences_and_Perception/03.1%3A_Advice_for_Hiring_Successful_Employees%3A_The_Case_of_Guy_Kawasaki.txt |
Learning Objectives
1. Differentiate between person–organization and person–job fit.
2. Understand the relationship between person–job fit and work behaviors.
3. Understand the relationship between person–organization fit and work behaviors.
Individual differences matter in the workplace. Human beings bring in their personality, physical and mental abilities, and other stable traits to work. Imagine that you are interviewing an employee who is proactive, creative, and willing to take risks. Would this person be a good job candidate? What behaviors would you expect this person to demonstrate?
The question posed above is misleading. While human beings bring their traits to work, every organization is different, and every job within the organization is also different. According to the interactionist perspective, behavior is a function of the person and the situation interacting with each other. Think about it. Would a shy person speak up in class? While a shy person may not feel like speaking, if the individual is very interested in the subject, knows the answers to the questions, and feels comfortable within the classroom environment, and if the instructor encourages participation and participation is 30% of the course grade, regardless of the level of shyness, the person may feel inclined to participate. Similarly, the behavior you may expect from someone who is proactive, creative, and willing to take risks will depend on the situation.
When hiring employees, companies are interested in assessing at least two types of fit. Person–organization fit refers to the degree to which a person’s values, personality, goals, and other characteristics match those of the organization. Person–job fit is the degree to which a person’s skill, knowledge, abilities, and other characteristics match the job demands. Thus, someone who is proactive and creative may be a great fit for a company in the high-tech sector that would benefit from risk-taking individuals, but may be a poor fit for a company that rewards routine and predictable behavior, such as accountants. Similarly, this person may be a great fit for a job such as a scientist, but a poor fit for a routine office job. The opening case illustrates one method of assessing person–organization and person–job fit in job applicants.
The first thing many recruiters look at is the person–job fit. This is not surprising, because person–job fit is related to a number of positive work attitudes such as satisfaction with the work environment, identification with the organization, job satisfaction, and work behaviors such as job performance. Companies are often also interested in hiring candidates who will fit into the company culture (those with high person–organization fit). When people fit into their organization, they tend to be more satisfied with their jobs, more committed to their companies, and more influential in their company, and they actually remain longer in their company (Anderson, Spataro, & Flynn, 2008; Cable & DeRue, 2002; Caldwell & O’Reilly, 1990; Chatman, 1991; Judge & Cable, 1997; Kristof-Brown, Zimmerman, & Johnson, 2005; O’Reilly, Chatman, & Caldwell, 1991; Saks & Ashforth, 2002). One area of controversy is whether these people perform better. Some studies have found a positive relationship between person–organization fit and job performance, but this finding was not present in all studies, so it seems that fitting with a company’s culture will only sometimes predict job performance (Arthur et al., 2006). It also seems that fitting in with the company culture is more important to some people than to others. For example, people who have worked in multiple companies tend to understand the impact of a company’s culture better, and therefore they pay more attention to whether they will fit in with the company when making their decisions (Kristof-Brown, Jansen, & Colbert, 2002). Also, when they build good relationships with their supervisors and the company, being a misfit does not seem to lead to dissatisfaction on the job (Erdogan, Kraimer, & Liden 2004).
Key Takeaways
While personality traits and other individual differences are important, we need to keep in mind that behavior is jointly determined by the person and the situation. Certain situations bring out the best in people, and someone who is a poor performer in one job may turn into a star employee in a different job.
Exercises
1. How can a company assess person–job fit before hiring employees? What are the methods you think would be helpful?
2. How can a company determine person–organization fit before hiring employees? Which methods do you think would be helpful?
3. What can organizations do to increase person–job and person–organization fit after they hire employees? | textbooks/biz/Management/Organizational_Behavior/03%3A_Understanding_People_at_Work%3A_Individual_Differences_and_Perception/03.2%3A_The_Interactionist_Perspective%3A_The_Role_of_Fit.txt |
Learning Objectives
1. Understand what values are.
2. Describe the link between values and individual behavior.
3. Identify the major personality traits that are relevant to organizational behavior.
4. Explain the link between personality, work behavior, and work attitudes.
5. Explain the potential pitfalls of personality testing.
Values
Values refer to stable life goals that people have, reflecting what is most important to them. Values are established throughout one’s life as a result of the accumulating life experiences and tend to be relatively stable (Lusk & Oliver, 1974; Rokeach, 1973). The values that are important to people tend to affect the types of decisions they make, how they perceive their environment, and their actual behaviors. Moreover, people are more likely to accept job offers when the company possesses the values people care about (Judge & Bretz, 1992; Ravlin & Meglino, 1987). Value attainment is one reason why people stay in a company, and when an organization does not help them attain their values, they are more likely to decide to leave if they are dissatisfied with the job itself (George & Jones, 1996).
What are the values people care about? There are many typologies of values. One of the most established surveys to assess individual values is the Rokeach Value Survey (Rokeach, 1973). This survey lists 18 terminal and 18 instrumental values in alphabetical order. Terminal values refer to end states people desire in life, such as leading a prosperous life and a world at peace. Instrumental values deal with views on acceptable modes of conduct, such as being honest and ethical, and being ambitious.
According to Rokeach, values are arranged in hierarchical fashion. In other words, an accurate way of assessing someone’s values is to ask them to rank the 36 values in order of importance. By comparing these values, people develop a sense of which value can be sacrificed to achieve the other, and the individual priority of each value emerges.
Figure 3.2 Sample Items From Rokeach (1973) Value Survey
Terminal Values Instrumental Values
A world of beauty
An exciting life
Family security
Inner harmony
Self respect
Broad minded
Clean
Forgiving
Imaginative
Obedient
Where do values come from? Research indicates that they are shaped early in life and show stability over the course of a lifetime. Early family experiences are important influences over the dominant values. People who were raised in families with low socioeconomic status and those who experienced restrictive parenting often display conformity values when they are adults, while those who were raised by parents who were cold toward their children would likely value and desire security (Kasser, Koestner, & Lekes, 2002).
Values of a generation also change and evolve in response to the historical context that the generation grows up in. Research comparing the values of different generations resulted in interesting findings. For example, Generation Xers (those born between the mid-1960s and 1980s) are more individualistic and are interested in working toward organizational goals so long as they coincide with their personal goals. This group, compared to the baby boomers (born between the 1940s and 1960s), is also less likely to see work as central to their life and more likely to desire a quick promotion (Smola & Sutton, 2002).
The values a person holds will affect his or her employment. For example, someone who has an orientation toward strong stimulation may pursue extreme sports and select an occupation that involves fast action and high risk, such as fire fighter, police officer, or emergency medical doctor. Someone who has a drive for achievement may more readily act as an entrepreneur. Moreover, whether individuals will be satisfied at a given job may depend on whether the job provides a way to satisfy their dominant values. Therefore, understanding employees at work requires understanding the value orientations of employees.
Personality
Personality encompasses the relatively stable feelings, thoughts, and behavioral patterns a person has. Our personality differentiates us from other people, and understanding someone’s personality gives us clues about how that person is likely to act and feel in a variety of situations. In order to effectively manage organizational behavior, an understanding of different employees’ personalities is helpful. Having this knowledge is also useful for placing people in jobs and organizations.
If personality is stable, does this mean that it does not change? You probably remember how you have changed and evolved as a result of your own life experiences, attention you received in early childhood, the style of parenting you were exposed to, successes and failures you had in high school, and other life events. In fact, our personality changes over long periods of time. For example, we tend to become more socially dominant, more conscientious (organized and dependable), and more emotionally stable between the ages of 20 and 40, whereas openness to new experiences may begin to decline during this same time (Roberts, Walton, & Viechtbauer, 2006). In other words, even though we treat personality as relatively stable, changes occur. Moreover, even in childhood, our personality shapes who we are and has lasting consequences for us. For example, studies show that part of our career success and job satisfaction later in life can be explained by our childhood personality (Judge & Higgins, 1999; Staw, Bell, & Clausen, 1986).
Is our behavior in organizations dependent on our personality? To some extent, yes, and to some extent, no. While we will discuss the effects of personality for employee behavior, you must remember that the relationships we describe are modest correlations. For example, having a sociable and outgoing personality may encourage people to seek friends and prefer social situations. This does not mean that their personality will immediately affect their work behavior. At work, we have a job to do and a role to perform. Therefore, our behavior may be more strongly affected by what is expected of us, as opposed to how we want to behave. When people have a lot of freedom at work, their personality will become a stronger influence over their behavior (Barrick & Mount, 1993).
Big Five Personality Traits
How many personality traits are there? How do we even know? In every language, there are many words describing a person’s personality. In fact, in the English language, more than 15,000 words describing personality have been identified. When researchers analyzed the terms describing personality characteristics, they realized that there were many words that were pointing to each dimension of personality. When these words were grouped, five dimensions seemed to emerge that explain a lot of the variation in our personalities (Goldberg, 1990). Keep in mind that these five are not necessarily the only traits out there. There are other, specific traits that represent dimensions not captured by the Big Five. Still, understanding the main five traits gives us a good start for describing personality. A summary of the Big Five traits is presented in Figure 3.4 “Big Five Personality Traits”.
Figure 3.4 Big Five Personality Traits
Trait Description
O
penness
Being curious, original, intellectual, creative, and open to new ideas.
C
onscientiousness
Being organized, systematic, punctual, achievement oriented, and dependable.
E
xtraversion
Being outgoing, talkative, sociable, and enjoying social situations.
A
greeableness
Being affable, tolerant, sensitive, trusting, kind, and warm.
N
euroticism
Being anxious, irritable, temperamental, and moody.
Openness is the degree to which a person is curious, original, intellectual, creative, and open to new ideas. People high in openness seem to thrive in situations that require being flexible and learning new things. They are highly motivated to learn new skills, and they do well in training settings (Barrick & Mount, 1991; Lievens et al., 2003). They also have an advantage when they enter into a new organization. Their open-mindedness leads them to seek a lot of information and feedback about how they are doing and to build relationships, which leads to quicker adjustment to the new job (Wanberg & Kammeyer-Mueller, 2000). When supported, they tend to be creative (Baer & Oldham, 2006). Open people are highly adaptable to change, and teams that experience unforeseen changes in their tasks do well if they are populated with people high in openness (LePine, 2003). Compared to people low in openness, they are also more likely to start their own business (Zhao & Seibert, 2006).
Conscientiousness refers to the degree to which a person is organized, systematic, punctual, achievement oriented, and dependable. Conscientiousness is the one personality trait that uniformly predicts how high a person’s performance will be, across a variety of occupations and jobs (Barrick & Mount, 1991). In fact, conscientiousness is the trait most desired by recruiters and results in the most success in interviews (Dunn et al., 1995; Tay, Ang, & Van Dyne, 2006). This is not a surprise, because in addition to their high performance, conscientious people have higher levels of motivation to perform, lower levels of turnover, lower levels of absenteeism, and higher levels of safety performance at work (Judge & Ilies, 2002; Judge, Martocchio, & Thoresen, 1997; Wallace & Chen, 2006; Zimmerman, 2008). One’s conscientiousness is related to career success and being satisfied with one’s career over time (Judge & Higgins, 1999). Finally, it seems that conscientiousness is a good trait to have for entrepreneurs. Highly conscientious people are more likely to start their own business compared to those who are not conscientious, and their firms have longer survival rates (Certo & Certo, 2005; Zhao & Seibert, 2006).
Extraversion is the degree to which a person is outgoing, talkative, and sociable, and enjoys being in social situations. One of the established findings is that they tend to be effective in jobs involving sales (Barrick & Mount, 1991; Vinchur et al., 1998). Moreover, they tend to be effective as managers and they demonstrate inspirational leadership behaviors (Bauer et al., 2006; Bono & Judge, 2004). Extraverts do well in social situations, and as a result they tend to be effective in job interviews. Part of their success comes from how they prepare for the job interview, as they are likely to use their social network (Caldwell & Burger, 1998; Tay, Ang, & Van Dyne, 2006). Extraverts have an easier time than introverts when adjusting to a new job. They actively seek information and feedback, and build effective relationships, which helps with their adjustment (Wanberg & Kammeyer-Mueller, 2000). Interestingly, extraverts are also found to be happier at work, which may be because of the relationships they build with the people around them and their relative ease in adjusting to a new job (Judge et al., 2002). However, they do not necessarily perform well in all jobs, and jobs depriving them of social interaction may be a poor fit. Moreover, they are not necessarily model employees. For example, they tend to have higher levels of absenteeism at work, potentially because they may miss work to hang out with or attend to the needs of their friends (Judge, Martocchio, & Thoresen, 1997).
Agreeableness is the degree to which a person is nice, tolerant, sensitive, trusting, kind, and warm. In other words, people who are high in agreeableness are likeable people who get along with others. Not surprisingly, agreeable people help others at work consistently, and this helping behavior is not dependent on being in a good mood (Ilies, Scott, & Judge, 2006). They are also less likely to retaliate when other people treat them unfairly (Skarlicki, Folger, & Tesluk, 1999). This may reflect their ability to show empathy and give people the benefit of the doubt. Agreeable people may be a valuable addition to their teams and may be effective leaders because they create a fair environment when they are in leadership positions (Mayer et al., 2007). At the other end of the spectrum, people low in agreeableness are less likely to show these positive behaviors. Moreover, people who are not agreeable are shown to quit their jobs unexpectedly, perhaps in response to a conflict they engage with a boss or a peer (Zimmerman, 2008). If agreeable people are so nice, does this mean that we should only look for agreeable people when hiring? Some jobs may actually be a better fit for someone with a low level of agreeableness. Think about it: When hiring a lawyer, would you prefer a kind and gentle person, or a pit bull? Also, high agreeableness has a downside: Agreeable people are less likely to engage in constructive and change-oriented communication (LePine & Van Dyne, 2001). Disagreeing with the status quo may create conflict and agreeable people will likely avoid creating such conflict, missing an opportunity for constructive change.
How Accurately Can You Describe Your Big Five Personality Factors?
Go to http://www.outofservice.com/bigfive/ to see how you score on these factors.
Neuroticism refers to the degree to which a person is anxious, irritable, aggressive, temperamental, and moody. These people have a tendency to have emotional adjustment problems and experience stress and depression on a habitual basis. People very high in neuroticism experience a number of problems at work. For example, they are less likely to be someone people go to for advice and friendship (Klein et al., 2004). In other words, they may experience relationship difficulties. They tend to be habitually unhappy in their jobs and report high intentions to leave, but they do not necessarily actually leave their jobs (Judge, Heller, & Mount, 2002; Zimmerman, 2008). Being high in neuroticism seems to be harmful to one’s career, as they have lower levels of career success (measured with income and occupational status achieved in one’s career). Finally, if they achieve managerial jobs, they tend to create an unfair climate at work (Mayer et al., 2007).
Myers-Briggs Type Indicator
Aside from the Big Five personality traits, perhaps the most well-known and most often used personality assessment is the Myers-Briggs Type Indicator (MBTI). Unlike the Big Five, which assesses traits, MBTI measures types. Assessments of the Big Five do not classify people as neurotic or extravert: It is all a matter of degrees. MBTI on the other hand, classifies people as one of 16 types (Carlyn, 1977; Myers, 1962). In MBTI, people are grouped using four dimensions. Based on how a person is classified on these four dimensions, it is possible to talk about 16 unique personality types, such as ESTJ and ISTP.
MBTI was developed in 1943 by a mother–daughter team, Isabel Myers and Katherine Cook Briggs. Its objective at the time was to aid World War II veterans in identifying the occupation that would suit their personalities. Since that time, MBTI has become immensely popular, and according to one estimate, around 2.5 million people take the test annually. The survey is criticized because it relies on types as opposed to traits, but organizations who use the survey find it very useful for training and team-building purposes. More than 80 of the Fortune 100 companies used Myers-Briggs tests in some form. One distinguishing characteristic of this test is that it is explicitly designed for learning, not for employee selection purposes. In fact, the Myers & Briggs Foundation has strict guidelines against the use of the test for employee selection. Instead, the test is used to provide mutual understanding within the team and to gain a better understanding of the working styles of team members (Leonard & Straus, 1997; Shuit, 2003).
Figure 3.6 Summary of MBTI Types
Dimension Explanation
EI Extraversion: Those who derive their energy from other people and objects. Introversion: Those who derive their energy from inside.
SN Sensing: Those who rely on their five senses to perceive the external environment. Intuition: Those who rely on their intuition and huches to perceive the external environment.
TF Thinking: Those who use their logic to arrive at solutions. Feeling: Those who use their values and ideas about what is right an wrong to arrive at solutions.
JP Judgment: Those who are organized, systematic, and would like to have clarity and closure. Perception: Those who are curious, open minded, and prefer to have some ambiguity.
Positive and Negative Affectivity
You may have noticed that behavior is also a function of moods. When people are in a good mood, they may be more cooperative, smile more, and act friendly. When these same people are in a bad mood, they may have a tendency to be picky, irritable, and less tolerant of different opinions. Yet, some people seem to be in a good mood most of the time, and others seem to be in a bad mood most of the time regardless of what is actually going on in their lives. This distinction is manifested by positive and negative affectivity traits. Positive affective people experience positive moods more frequently, whereas negative affective people experience negative moods with greater frequency. Negative affective people focus on the “glass half empty” and experience more anxiety and nervousness (Watson & Clark, 1984). Positive affective people tend to be happier at work (Ilies & Judge, 2003), and their happiness spreads to the rest of the work environment. As may be expected, this personality trait sets the tone in the work atmosphere. When a team comprises mostly negative affective people, there tend to be fewer instances of helping and cooperation. Teams dominated by positive affective people experience lower levels of absenteeism (George, 1989). When people with a lot of power are also high in positive affectivity, the work environment is affected in a positive manner and can lead to greater levels of cooperation and finding mutually agreeable solutions to problems (Anderson & Thompson, 2004).
OB Toolbox: Help, I work with a negative person!
Employees who have high levels of neuroticism or high levels of negative affectivity may act overly negative at work, criticize others, complain about trivial things, or create an overall negative work environment. Here are some tips for how to work with them effectively.
• Understand that you are unlikely to change someone else’s personality. Personality is relatively stable and criticizing someone’s personality will not bring about change. If the behavior is truly disruptive, focus on behavior, not personality.
• Keep an open mind. Just because a person is constantly negative does not mean that they are not sometimes right. Listen to the feedback they are giving you.
• Set a time limit. If you are dealing with someone who constantly complains about things, you may want to limit these conversations to prevent them from consuming your time at work.
• You may also empower them to act on the negatives they mention. The next time an overly negative individual complains about something, ask that person to think of ways to change the situation and get back to you.
• Ask for specifics. If someone has a negative tone in general, you may want to ask for specific examples for what the problem is.
Self-Monitoring
Self-monitoring refers to the extent to which a person is capable of monitoring his or her actions and appearance in social situations. In other words, people who are social monitors are social chameleons who understand what the situation demands and act accordingly, while low social monitors tend to act the way they feel (Snyder, 1974; Snyder, 1987). High social monitors are sensitive to the types of behaviors the social environment expects from them. Their greater ability to modify their behavior according to the demands of the situation and to manage their impressions effectively is a great advantage for them (Turnley & Bolino, 2001). In general, they tend to be more successful in their careers. They are more likely to get cross-company promotions, and even when they stay with one company, they are more likely to advance (Day & Schleicher; Kilduff & Day, 1994). Social monitors also become the “go to” person in their company and they enjoy central positions in their social networks (Mehra, Kilduff, & Brass, 2001). They are rated as higher performers, and emerge as leaders (Day et al., 2002). While they are effective in influencing other people and get things done by managing their impressions, this personality trait has some challenges that need to be addressed. First, when evaluating the performance of other employees, they tend to be less accurate. It seems that while trying to manage their impressions, they may avoid giving accurate feedback to their subordinates to avoid confrontations (Jawahar, 2001). This tendency may create problems for them if they are managers. Second, high social monitors tend to experience higher levels of stress, probably caused by behaving in ways that conflict with their true feelings. In situations that demand positive emotions, they may act happy although they are not feeling happy, which puts an emotional burden on them. Finally, high social monitors tend to be less committed to their companies. They may see their jobs as a stepping-stone for greater things, which may prevent them from forming strong attachments and loyalty to their current employer (Day et al., 2002).
Proactive Personality
Proactive personality refers to a person’s inclination to fix what is perceived as wrong, change the status quo, and use initiative to solve problems. Instead of waiting to be told what to do, proactive people take action to initiate meaningful change and remove the obstacles they face along the way. In general, having a proactive personality has a number of advantages for these people. For example, they tend to be more successful in their job searches (Brown et al., 2006). They are also more successful over the course of their careers, because they use initiative and acquire greater understanding of the politics within the organization (Seibert, 1999; Seibert, Kraimer, & Crant, 2001). Proactive people are valuable assets to their companies because they may have higher levels of performance (Crant, 1995). They adjust to their new jobs quickly because they understand the political environment better and often make friends more quickly (Kammeyer-Mueller & Wanberg, 2003; Thompson, 2005). Proactive people are eager to learn and engage in many developmental activities to improve their skills (Major, Turner, & Fletcher, 2006). Despite all their potential, under some circumstances a proactive personality may be a liability for an individual or an organization. Imagine a person who is proactive but is perceived as being too pushy, trying to change things other people are not willing to let go, or using their initiative to make decisions that do not serve a company’s best interests. Research shows that the success of proactive people depends on their understanding of a company’s core values, their ability and skills to perform their jobs, and their ability to assess situational demands correctly (Chan, 2006; Erdogan & Bauer, 2005).
Self-Esteem
Self-esteem is the degree to which a person has overall positive feelings about his or herself. People with high self-esteem view themselves in a positive light, are confident, and respect themselves. On the other hand, people with low self-esteem experience high levels of self-doubt and question their self-worth. High self-esteem is related to higher levels of satisfaction with one’s job and higher levels of performance on the job (Judge & Bono, 2001). People with low self-esteem are attracted to situations in which they will be relatively invisible, such as large companies (Turban & Keon, 1993). Managing employees with low self-esteem may be challenging at times, because negative feedback given with the intention to improve performance may be viewed as a judgment on their worth as an employee. Therefore, effectively managing employees with relatively low self-esteem requires tact and providing lots of positive feedback when discussing performance incidents.
Self-Efficacy
Self-efficacy is a belief that one can perform a specific task successfully. Research shows that the belief that we can do something is a good predictor of whether we can actually do it. Self-efficacy is different from other personality traits in that it is job specific. You may have high self-efficacy in being successful academically, but low self-efficacy in relation to your ability to fix your car. At the same time, people have a certain level of generalized self-efficacy and they have the belief that whatever task or hobby they tackle, they are likely to be successful in it.
Research shows that self-efficacy at work is related to job performance (Bauer et al., 2007; Judge et al., 2007; Stajkovic & Luthans, 1998). This relationship is probably a result of people with high self-efficacy setting higher goals for themselves and being more committed to these goals, whereas people with low self-efficacy tend to procrastinate (Phillips & Gully, 1997; Steel, 2007; Wofford, Goodwin, & Premack, 1992). Academic self-efficacy is a good predictor of your GPA, whether you persist in your studies, or drop out of college (Robbins et al., 2004).
Is there a way of increasing employees’ self-efficacy? Hiring people who are capable of performing their tasks and training people to increase their self-efficacy may be effective. Some people may also respond well to verbal encouragement. By showing that you believe they can be successful and effectively playing the role of a cheerleader, you may be able to increase self-efficacy. Giving people opportunities to test their skills so that they can see what they are capable of doing (or empowering them) is also a good way of increasing self-efficacy (Ahearne, Mathieu, & Rapp, 2005).
OB Toolbox: Ways to Build Your Self-Confidence
Having high self-efficacy and self-esteem are boons to your career. People who have an overall positive view of themselves and those who have positive attitudes toward their abilities project an aura of confidence. How do you achieve higher self-confidence?
• Take a self-inventory. What are the areas in which you lack confidence? Then consciously tackle these areas. Take part in training programs; seek opportunities to practice these skills. Confront your fears head-on.
• Set manageable goals. Success in challenging goals will breed self-confidence, but do not make your goals impossible to reach. If a task seems daunting, break it apart and set mini goals.
• Find a mentor. A mentor can point out areas in need of improvement, provide accurate feedback, and point to ways of improving yourself.
• Don’t judge yourself by your failures. Everyone fails, and the most successful people have more failures in life. Instead of assessing your self-worth by your failures, learn from mistakes and move on.
• Until you can feel confident, be sure to act confident. Acting confident will influence how others treat you, which will boost your confidence level. Pay attention to how you talk and behave, and act like someone who has high confidence.
• Know when to ignore negative advice. If you receive negative feedback from someone who is usually negative, try to ignore it. Surrounding yourself with naysayers is not good for your self-esteem. This does not mean that you should ignore all negative feedback, but be sure to look at a person’s overall attitude before making serious judgments based on that feedback.
Locus of Control
Locus of control deals with the degree to which people feel accountable for their own behaviors. Individuals with high internal locus of control believe that they control their own destiny and what happens to them is their own doing, while those with high external locus of control feel that things happen to them because of other people, luck, or a powerful being. Internals feel greater control over their own lives and therefore they act in ways that will increase their chances of success. For example, they take the initiative to start mentor-protégé relationships. They are more involved with their jobs. They demonstrate higher levels of motivation and have more positive experiences at work (Ng, Soresen, & Eby, 2006; Reitz & Jewell, 1979; Turban & Dougherty, 1994). Interestingly, internal locus is also related to one’s subjective well-being and happiness in life, while being high in external locus is related to a higher rate of depression (Benassi, Sweeney, & Dufour, 1988; DeNeve & Cooper, 1998). The connection between internal locus of control and health is interesting, but perhaps not surprising. In fact, one study showed that having internal locus of control at the age of 10 was related to a number of health outcomes, such as lower obesity and lower blood pressure later in life (Gale, Batty, & Deary, 2008). It is possible that internals take more responsibility for their health and adopt healthier habits, while externals may see less of a connection between how they live and their health. Internals thrive in contexts in which they have the ability to influence their own behavior. Successful entrepreneurs tend to have high levels of internal locus of control (Certo & Certo, 2005).
Understand Your Locus of Control by Taking a Survey at the Following Web Site:
discoveryhealth.queendom.com/...c_short_1.html
Personality Testing in Employee Selection
Personality is a potentially important predictor of work behavior. Matching people to jobs matters, because when people do not fit with their jobs or the company, they are more likely to leave, costing companies as much as a person’s annual salary to replace them. In job interviews, companies try to assess a candidate’s personality and the potential for a good match, but interviews are only as good as the people conducting them. In fact, interviewers are not particularly good at detecting the best trait that predicts performance: conscientiousness (Barrick, Patton, & Haugland, 2000). One method some companies use to improve this match and detect the people who are potentially good job candidates is personality testing. Companies such as Kronos and Hogan Assessment Systems conduct preemployment personality tests. Companies using them believe that these tests improve the effectiveness of their selection and reduce turnover. For example, Overnight Transportation in Atlanta found that using such tests reduced their on-the-job delinquency by 50%–100% (Emmet, 2004; Gale, 2002).
Yet, are these methods good ways of selecting employees? Experts have not yet reached an agreement on this subject and the topic is highly controversial. Some experts believe, based on data, that personality tests predict performance and other important criteria such as job satisfaction. However, we must understand that how a personality test is used influences its validity. Imagine filling out a personality test in class. You may be more likely to fill it out as honestly as you can. Then, if your instructor correlates your personality scores with your class performance, we could say that the correlation is meaningful. In employee selection, one complicating factor is that people filling out the survey do not have a strong incentive to be honest. In fact, they have a greater incentive to guess what the job requires and answer the questions to match what they think the company is looking for. As a result, the rankings of the candidates who take the test may be affected by their ability to fake. Some experts believe that this is a serious problem (Morgeson et al., 2007; Morgeson et al., 2007). Others point out that even with faking, the tests remain valid—the scores are still related to job performance (Barrick & Mount, 1996; Ones et al., 2007; Ones, Viswesvaran, & Reiss, 1996; Tell & Christiansen, 2007). It is even possible that the ability to fake is related to a personality trait that increases success at work, such as social monitoring. This issue raises potential questions regarding whether personality tests are the most effective way of measuring candidate personality.
Scores are not only distorted because of some candidates faking better than others. Do we even know our own personality? Are we the best person to ask this question? How supervisors, coworkers, and customers see our personality matters more than how we see ourselves. Therefore, using self-report measures of performance may not be the best way of measuring someone’s personality (Mount, Barrick, & Strauss, 1994). We all have blind areas. We may also give “aspirational” answers. If you are asked if you are honest, you may think, “Yes, I always have the intention to be honest.” This response says nothing about your actual level of honesty.
There is another problem with using these tests: How good a predictor of performance is personality anyway? Based on research, not a particularly strong one. According to one estimate, personality only explains about 10%–15% of variation in job performance. Our performance at work depends on so many factors, and personality does not seem to be the key factor for performance. In fact, cognitive ability (your overall mental intelligence) is a much more powerful influence on job performance, and instead of personality tests, cognitive ability tests may do a better job of predicting who will be good performers. Personality is a better predictor of job satisfaction and other attitudes, but screening people out on the assumption that they may be unhappy at work is a challenging argument to make in the context of employee selection.
In any case, if you decide to use these tests for selection, you need to be aware of their limitations. Relying only on personality tests for selection of an employee is a bad idea, but if they are used together with other tests such as tests of cognitive abilities, better decisions may be made. The company should ensure that the test fits the job and actually predicts performance. This process is called validating the test. Before giving the test to applicants, the company could give it to existing employees to find out the traits that are most important for success in the particular company and job. Then, in the selection context, the company can pay particular attention to those traits. The company should also make sure that the test does not discriminate against people on the basis of sex, race, age, disabilities, and other legally protected characteristics. Rent-A-Center experienced legal difficulties when the test they used was found to be a violation of the Americans with Disabilities Act (ADA). The test they used for selection, the Minnesota Multiphasic Personality Inventory, was developed to diagnose severe mental illnesses and included items such as “I see things or people around me others do not see.” In effect, the test served the purpose of a clinical evaluation and was discriminating against people with mental illnesses, which is a protected category under ADA (Heller, 2005).
Key Takeaways
Values and personality traits are two dimensions on which people differ. Values are stable life goals. When seeking jobs, employees are more likely to accept a job that provides opportunities for value attainment, and they are more likely to remain in situations that satisfy their values. Personality comprises the stable feelings, thoughts, and behavioral patterns people have. The Big Five personality traits (openness, conscientiousness, extraversion, agreeableness, and neuroticism) are important traits that seem to be stable and can be generalized to other cultures. Other important traits for work behavior include self-efficacy, self-esteem, social monitoring, proactive personality, positive and negative affectivity, and locus of control. It is important to remember that a person’s behavior depends on the match between the person and the situation. While personality is a strong influence on job attitudes, its relation to job performance is weaker. Some companies use personality testing to screen out candidates. This method has certain limitations, and companies using personality tests are advised to validate their tests and use them as a supplement to other techniques that have greater validity.
Exercises
1. Think about the personality traits covered in this section. Can you think of jobs or occupations that seem particularly suited to each trait? Which traits would be universally desirable across all jobs?
2. What are the unique challenges of managing employees who have low self-efficacy and low self-esteem? How would you deal with this situation?
3. What are some methods that companies can use to assess employee personality?
4. Have you ever held a job where your personality did not match the demands of the job? How did you react to this situation? How were your attitudes and behaviors affected?
5. Can you think of any limitations of developing an “ideal employee” profile and looking for employees who fit that profile while hiring? | textbooks/biz/Management/Organizational_Behavior/03%3A_Understanding_People_at_Work%3A_Individual_Differences_and_Perception/03.3%3A_Individual_Differences%3A_Values_and_Personality.txt |
Learning Objectives
1. Understand the influence of self in the process of perception.
2. Describe how we perceive visual objects and how these tendencies may affect our behavior.
3. Describe the biases of self-perception.
4. Describe the biases inherent in perception of other people.
5. Explain what attributions mean, how we form attributions, and their consequences for organizational behavior.
Our behavior is not only a function of our personality, values, and preferences, but also of the situation. We interpret our environment, formulate responses, and act accordingly. Perception may be defined as the process with which individuals detect and interpret environmental stimuli. What makes human perception so interesting is that we do not solely respond to the stimuli in our environment. We go beyond the information that is present in our environment, pay selective attention to some aspects of the environment, and ignore other elements that may be immediately apparent to other people. Our perception of the environment is not entirely rational. For example, have you ever noticed that while glancing at a newspaper or a news Web site, information that is interesting or important to you jumps out of the page and catches your eye? If you are a sports fan, while scrolling down the pages you may immediately see a news item describing the latest success of your team. If you are the parent of a picky eater, an advice column on toddler feeding may be the first thing you see when looking at the page. So what we see in the environment is a function of what we value, our needs, our fears, and our emotions (Higgins & Bargh, 1987; Keltner, Ellsworth, & Edwards, 1993). In fact, what we see in the environment may be objectively, flat-out wrong because of our personality, values, or emotions. For example, one experiment showed that when people who were afraid of spiders were shown spiders, they inaccurately thought that the spider was moving toward them (Riskin, Moore, & Bowley, 1995). In this section, we will describe some common tendencies we engage in when perceiving objects or other people, and the consequences of such perceptions. Our coverage of biases and tendencies in perception is not exhaustive—there are many other biases and tendencies on our social perception.
Visual Perception
Our visual perception definitely goes beyond the physical information available to us. First of all, we extrapolate from the information available to us. Take a look at the following figure. The white triangle you see in the middle is not really there, but we extrapolate from the information available to us and see it there (Kellman & Shipley, 1991).
Our visual perception is often biased because we do not perceive objects in isolation. The contrast between our focus of attention and the remainder of the environment may make an object appear bigger or smaller. This principle is illustrated in the figure with circles. Which of the middle circles is bigger? To most people, the one on the left appears bigger, but this is because it is surrounded by smaller circles. The contrast between the focal object and the objects surrounding it may make an object bigger or smaller to our eye.
How do these tendencies influence behavior in organizations? You may have realized that the fact that our visual perception is faulty may make witness testimony faulty and biased. How do we know whether the employee you judge to be hardworking, fast, and neat is really like that? Is it really true, or are we comparing this person to other people in the immediate environment? Or let’s say that you do not like one of your peers and you think that this person is constantly surfing the Web during work hours. Are you sure? Have you really seen this person surf unrelated Web sites, or is it possible that the person was surfing the Web for work-related purposes? Our biased visual perception may lead to the wrong inferences about the people around us.
Self-Perception
Human beings are prone to errors and biases when perceiving themselves. Moreover, the type of bias people have depends on their personality. Many people suffer from self-enhancement bias. This is the tendency to overestimate our performance and capabilities and see ourselves in a more positive light than others see us. People who have a narcissistic personality are particularly subject to this bias, but many others are still prone to overestimating their abilities (John & Robins, 1994). At the same time, other people have the opposing extreme, which may be labeled as self-effacement bias. This is the tendency for people to underestimate their performance, undervalue capabilities, and see events in a way that puts them in a more negative light. We may expect that people with low self-esteem may be particularly prone to making this error. These tendencies have real consequences for behavior in organizations. For example, people who suffer from extreme levels of self-enhancement tendencies may not understand why they are not getting promoted or rewarded, while those who have a tendency to self-efface may project low confidence and take more blame for their failures than necessary.
When perceiving themselves, human beings are also subject to the false consensus error. Simply put, we overestimate how similar we are to other people (Fields & Schuman, 1976; Ross, Greene, & House, 1977). We assume that whatever quirks we have are shared by a larger number of people than in reality. People who take office supplies home, tell white lies to their boss or colleagues, or take credit for other people’s work to get ahead may genuinely feel that these behaviors are more common than they really are. The problem for behavior in organizations is that, when people believe that a behavior is common and normal, they may repeat the behavior more freely. Under some circumstances this may lead to a high level of unethical or even illegal behaviors.
Social Perception
How we perceive other people in our environment is also shaped by our values, emotions, feelings, and personality. Moreover, how we perceive others will shape our behavior, which in turn will shape the behavior of the person we are interacting with.
One of the factors biasing our perception is stereotypes. Stereotypes are generalizations based on group characteristics. For example, believing that women are more cooperative than men, or men are more assertive than women, is a stereotype. Stereotypes may be positive, negative, or neutral. Human beings have a natural tendency to categorize the information around them to make sense of their environment. What makes stereotypes potentially discriminatory and a perceptual bias is the tendency to generalize from a group to a particular individual. If the belief that men are more assertive than women leads to choosing a man over an equally (or potentially more) qualified female candidate for a position, the decision will be biased, potentially illegal, and unfair.
Stereotypes often create a situation called a self-fulfilling prophecy. This cycle occurs when people automatically behave as if an established stereotype is accurate, which leads to reactive behavior from the other party that confirms the stereotype (Snyder, Tanke, & Berscheid, 1977). If you have a stereotype such as “Asians are friendly,” you are more likely to be friendly toward an Asian yourself. Because you are treating the other person better, the response you get may also be better, confirming your original belief that Asians are friendly. Of course, just the opposite is also true. Suppose you believe that “young employees are slackers.” You are less likely to give a young employee high levels of responsibility or interesting and challenging assignments. The result may be that the young employee reporting to you may become increasingly bored at work and start goofing off, confirming your suspicions that young people are slackers!
Stereotypes persist because of a process called selective perception. Selective perception simply means that we pay selective attention to parts of the environment while ignoring other parts. When we observe our environment, we see what we want to see and ignore information that may seem out of place. Here is an interesting example of how selective perception leads our perception to be shaped by the context: As part of a social experiment, in 2007 the Washington Post newspaper arranged Joshua Bell, the internationally acclaimed violin virtuoso, to perform in a corner of the Metro station in Washington DC. The violin he was playing was worth \$3.5 million, and tickets for Bell’s concerts usually cost around \$100. During the rush hour in which he played for 45 minutes, only one person recognized him, only a few realized that they were hearing extraordinary music, and he made only \$32 in tips. When you see someone playing at the metro station, would you expect them to be extraordinary? (Weingarten, 2007)
Our background, expectations, and beliefs will shape which events we notice and which events we ignore. For example, the functional background of executives affects the changes they perceive in their environment (Waller, Huber, & Glick, 1995). Executives with a background in sales and marketing see the changes in the demand for their product, while executives with a background in information technology may more readily perceive the changes in the technology the company is using. Selective perception may perpetuate stereotypes, because we are less likely to notice events that go against our beliefs. A person who believes that men drive better than women may be more likely to notice women driving poorly than men driving poorly. As a result, a stereotype is maintained because information to the contrary may not reach our brain.
Let’s say we noticed information that goes against our beliefs. What then? Unfortunately, this is no guarantee that we will modify our beliefs and prejudices. First, when we see examples that go against our stereotypes, we tend to come up with subcategories. For example, when people who believe that women are more cooperative see a female who is assertive, they may classify this person as a “career woman.” Therefore, the example to the contrary does not violate the stereotype, and instead is explained as an exception to the rule (Higgins & Bargh, 1987). Second, we may simply discount the information. In one study, people who were either in favor of or opposed to the death penalty were shown two studies, one showing benefits from the death penalty and the other discounting any benefits. People rejected the study that went against their belief as methodologically inferior and actually reinforced the belief in their original position even more (Lord, Ross, & Lepper, 1979). In other words, trying to debunk people’s beliefs or previously established opinions with data may not necessarily help.
One other perceptual tendency that may affect work behavior is that of first impressions. The first impressions we form about people tend to have a lasting impact. In fact, first impressions, once formed, are surprisingly resilient to contrary information. Even if people are told that the first impressions were caused by inaccurate information, people hold onto them to a certain degree. The reason is that, once we form first impressions, they become independent of the evidence that created them (Ross, Lepper, & Hubbard, 1975). Any information we receive to the contrary does not serve the purpose of altering the original impression. Imagine the first day you met your colleague Anne. She treated you in a rude manner and when you asked for her help, she brushed you off. You may form the belief that she is a rude and unhelpful person. Later, you may hear that her mother is very sick and she is very stressed. In reality she may have been unusually stressed on the day you met her. If you had met her on a different day, you could have thought that she is a really nice person who is unusually stressed these days. But chances are your impression that she is rude and unhelpful will not change even when you hear about her mother. Instead, this new piece of information will be added to the first one: She is rude, unhelpful, and her mother is sick. Being aware of this tendency and consciously opening your mind to new information may protect you against some of the downsides of this bias. Also, it would be to your advantage to pay careful attention to the first impressions you create, particularly during job interviews.
OB Toolbox: How Can I Make a Great First Impression in the Job Interview?
A job interview is your first step to getting the job of your dreams. It is also a social interaction in which your actions during the first 5 minutes will determine the impression you make. Here are some tips to help you create a positive first impression.
• Your first opportunity to make a great impression starts even before the interview, the moment you send your résumé. Be sure that you send your résumé to the correct people, and spell the name of the contact person correctly! Make sure that your résumé looks professional and is free from typos and grammar problems. Have someone else read it before you hit the send button or mail it.
• Be prepared for the interview. Many interviews have some standard questions such as “tell me about yourself” or “why do you want to work here?” Be ready to answer these questions. Prepare answers highlighting your skills and accomplishments, and practice your message. Better yet, practice an interview with a friend. Practicing your answers will prevent you from regretting your answers or finding a better answer after the interview is over!
• Research the company. If you know a lot about the company and the job in question, you will come out as someone who is really interested in the job. If you ask basic questions such as “what does this company do?” you will not be taken as a serious candidate. Visit the company’s Web site as well as others, and learn as much about the company and the job as you can.
• When you are invited for an office interview, be sure to dress properly. Like it or not, the manner you dress is a big part of the impression you make. Dress properly for the job and company in question. In many jobs, wearing professional clothes, such as a suit, is expected. In some information technology jobs, it may be more proper to wear clean and neat business casual clothes (such as khakis and a pressed shirt) as opposed to dressing formally. Do some investigation about what is suitable. Whatever the norm is, make sure that your clothes fit well and are clean and neat.
• Be on time to the interview. Being late will show that you either don’t care about the interview or you are not very reliable. While waiting for the interview, don’t forget that your interview has already started. As soon as you enter the company’s parking lot, every person you see on the way or talk to may be a potential influence over the decision maker. Act professionally and treat everyone nicely.
• During the interview, be polite. Use correct grammar, show eagerness and enthusiasm, and watch your body language. From your handshake to your posture, your body is communicating whether you are the right person for the job!
Attributions
Your colleague Peter failed to meet the deadline. What do you do? Do you help him finish up his work? Do you give him the benefit of the doubt and place the blame on the difficulty of the project? Or do you think that he is irresponsible? Our behavior is a function of our perceptions. More specifically, when we observe others behave in a certain way, we ask ourselves a fundamental question: Why? Why did he fail to meet the deadline? Why did Mary get the promotion? Why did Mark help you when you needed help? The answer we give is the key to understanding our subsequent behavior. If you believe that Mark helped you because he is a nice person, your action will be different from your response if you think that Mark helped you because your boss pressured him to.
An attribution is the causal explanation we give for an observed behavior. If you believe that a behavior is due to the internal characteristics of an actor, you are making an internal attribution. For example, let’s say your classmate Erin complained a lot when completing a finance assignment. If you think that she complained because she is a negative person, you are making an internal attribution. An external attribution is explaining someone’s behavior by referring to the situation. If you believe that Erin complained because finance homework was difficult, you are making an external attribution.
When do we make internal or external attributions? Research shows that three factors are the key to understanding what kind of attributions we make.
Consensus: Do other people behave the same way?
Distinctiveness: Does this person behave the same way across different situations?
Consistency: Does this person behave this way in different occasions in the same situation?
Let’s assume that in addition to Erin, other people in the same class also complained (high consensus). Erin does not usually complain in other classes (high distinctiveness). Erin usually does not complain in finance class (low consistency). In this situation, you are likely to make an external attribution, such as thinking that finance homework is difficult. On the other hand, let’s assume that Erin is the only person complaining (low consensus). Erin complains in a variety of situations (low distinctiveness), and every time she is in finance, she complains (high consistency). In this situation, you are likely to make an internal attribution such as thinking that Erin is a negative person (Kelley, 1967; Kelley, 1973).
Interestingly though, our attributions do not always depend on the consensus, distinctiveness, and consistency we observe in a given situation. In other words, when making attributions, we do not always look at the situation objectively. For example, our overall relationship is a factor. When a manager likes a subordinate, the attributions made would be more favorable (successes are attributed to internal causes, while failures are attributed to external causes) (Heneman, Greenberger, & Anonyou, 1989). Moreover, when interpreting our own behavior, we suffer from self-serving bias. This is the tendency to attribute our failures to the situation while attributing our successes to internal causes (Malle, 2006). | textbooks/biz/Management/Organizational_Behavior/03%3A_Understanding_People_at_Work%3A_Individual_Differences_and_Perception/03.4%3A_Perception.txt |
Learning Objectives
1. Consider the role of individual differences for ethical behavior.
2. Consider the role of national culture on individual differences.
Individual Differences and Ethics
Our values and personality influence how ethical we behave. Situational factors, rewards, and punishments following unethical choices as well as a company’s culture are extremely important, but the role of personality and personal values should not be ignored. Research reveals that people who have an economic value orientation, that is, those who value acquiring money and wealth, tend to make more unethical choices. In terms of personality, employees with external locus of control were found to make more unethical choices (Hegarty & Sims, 1978; Hegarty & Sims, 1979; Trevino & Youngblood, 1990).
Our perceptual processes are clear influences on whether or not we behave ethically and how we respond to other people’s unethical behaviors. It seems that self-enhancement bias operates for our ethical decisions as well: We tend to overestimate how ethical we are in general. Our self-ratings of ethics tend to be higher than how other people rate us. This belief can create a glaring problem: If we think that we are more ethical than we are, we will have little motivation to improve. Therefore, understanding how other people perceive our actions is important to getting a better understanding of ourselves.
How we respond to unethical behavior of others will, to a large extent, depend on the attributions we make. If we attribute responsibility to the person in question, we are more likely to punish that person. In a study on sexual harassment that occurred after a workplace romance turned sour, results showed that if we attribute responsibility to the victim, we are less likely to punish the harasser (Pierce et al., 2004). Therefore, how we make attributions in a given situation will determine how we respond to others’ actions, including their unethical behaviors.
Individual Differences Around the Globe
Values that people care about vary around the world. In fact, when we refer to a country’s culture, we are referring to values that distinguish one nation from others. In other words, there is systematic variance in individuals’ personality and work values around the world, and this variance explains people’s behavior, attitudes, preferences, and the transferability of management practices to other cultures.
When we refer to a country’s values, this does not mean that everyone in a given country shares the same values. People differ within and across nations. There will always be people who care more about money and others who care more about relationships within each culture. Yet there are also national differences in the percentage of people holding each value. A researcher from Holland, Geert Hofstede, conducted a landmark study covering over 60 countries and found that countries differ in four dimensions: the extent to which they put individuals or groups first (individualism), whether the society subscribes to equality or hierarchy among people (power distance), the degree to which the society fears change (uncertainty avoidance), and the extent to which the culture emphasizes acquiring money and being successful (masculinity) (Hofstede, 2001). Knowing about the values held in a society will tell us what type of a workplace would satisfy and motivate employees.
Are personality traits universal? Researchers found that personality traits identified in Western cultures translate well to other cultures. For example, the five-factor model of personality is universal in that it explains how people differ from each other in over 79 countries. At the same time, there is variation among cultures in the dominant personality traits. In some countries, extraverts seem to be the majority, and in some countries the dominant trait is low emotional stability. For example, people from Europe and the United States are characterized by higher levels of extraversion compared to those from Asia and Africa. There are many factors explaining why some personality traits are dominant in some cultures. For example, the presence of democratic values is related to extraversion. Because democracy usually protects freedom of speech, people may feel more comfortable socializing with strangers as well as with friends, partly explaining the larger number of extraverts in democratic nations. Research also shows that in regions of the world that historically suffered from infectious diseases, extraversion and openness to experience was less dominant. Infectious diseases led people to limit social contact with strangers, explaining higher levels of introversion. Plus, to cope with infectious diseases, people developed strict habits for hygiene and the amount of spice to use in food, and deviating from these standards was bad for survival. This explains the lower levels of openness to experience in regions that experienced infectious diseases (McCrae & Costa, 1997; McCrae et al., 2005; Schaller & Murray, 2008).
Is basic human perception universal? It seems that there is variation around the globe in how we perceive other people as well as ourselves. One difference is the importance of the context. Studies show that when perceiving people or objects, Westerners pay more attention to the individual, while Asians pay more attention to the context. For example, in one study, when judging the emotion felt by the person, the Americans mainly looked at the face of the person in question, while the Japanese also considered the emotions of the people surrounding the focal person. In other words, the Asian subjects of the experiment derived meaning from the context as well as by looking at the person (Masuda et al., 2008).
There seems to be some variation in the perceptual biases we commit as well. For example, human beings have a tendency to self-enhance. We see ourselves in a more positive light than others do. Yet, the traits in which we self-enhance are culturally dependent. In Western cultures, people may overestimate how independent and self-reliant they are. In Asian cultures, such traits are not necessarily desirable, so they may not embellish their degree of independence. Yet, they may overestimate how cooperative and loyal to the group they are because these traits are more desirable in collectivistic cultures (Sedikides, Gaertner, & Toguchi, 2003; Sedikides, Gaertner, & Vevea, 2005).
Given the variation in individual differences around the globe, being sensitive to these differences will increase our managerial effectiveness when managing a diverse group of people.
Personality Around the Globe
Which nations have the highest average self-esteem? Researchers asked this question by surveying almost 17,000 individuals across 53 nations, in 28 languages.
Based on this survey, these are the top 10 nations in terms of self-reported self-esteem.
1. Serbia
2. Chile
3. Israel
4. Peru
5. Estonia
6. United States
7. Turkey
8. Mexico
9. Croatia
10. Austria
The 10 nations with the lowest self-reported self-esteem are the following:
• South Korea
• Switzerland
• Morocco
• Slovakia
• Fiji
• Taiwan
• Czech Republic
• Bangladesh
• Hong Kong
• Japan
Key Takeaways
There is a connection between how ethically we behave and our individual values, personality, and perception. Possessing values emphasizing economic well-being predicts unethical behavior. Having an external locus of control is also related to unethical decision making. We are also likely to overestimate how ethical we are, which can be a barrier against behaving ethically. Culture seems to be an influence over our values, personality traits, perceptions, attitudes, and work behaviors. Therefore, understanding individual differences requires paying careful attention to the cultural context.
Exercises
1. If ethical decision making depends partially on personality, what can organizations do to increase the frequency of ethical behaviors?
2. Do you think personality tests used in Western cultures in employee selection can be used in other cultures? | textbooks/biz/Management/Organizational_Behavior/03%3A_Understanding_People_at_Work%3A_Individual_Differences_and_Perception/03.5%3A_The_Role_of_Ethics_and_National_Culture.txt |
Figure 3.10
You are interviewing a candidate for a position as a cashier in a supermarket. You need someone polite, courteous, patient, and dependable. The candidate you are talking to seems nice. But how do you know who is the right person for the job? Will the job candidate like the job or get bored? Will they have a lot of accidents on the job or be fired for misconduct? Don’t you wish you knew before hiring? One company approaches this problem scientifically, saving companies time and money on hiring hourly wage employees.
Retail employers do a lot of hiring, given their growth and high turnover rate. According to one estimate, replacing an employee who leaves in retail costs companies around \$4,000. High turnover also endangers customer service. Therefore, retail employers have an incentive to screen people carefully so that they hire people with the best chance of being successful and happy on the job. Unicru, an employee selection company, developed software that quickly became a market leader in screening hourly workers. The company was acquired by Massachusetts-based Kronos Inc. (NASDAQ: KRON) in 2006 and is currently owned by a private equity firm.
The idea behind the software is simple: If you have a lot of employees and keep track of your data over time, you have access to an enormous resource. By analyzing this data, you can specify the profile of the “ideal” employee. The software captures the profile of the potential high performers, and applicants are screened to assess their fit with this particular profile. More important, the profile is continually updated as new employees are hired. As the database gets larger, the software does a better job of identifying the right people for the job.
If you applied for a job in retail, you may have already been a part of this database: the users of this system include giants such as Universal Studios, Costco Wholesale Corporation, Burger King, and other retailers and chain restaurants. In companies such as Albertsons or Blockbuster, applicants use a kiosk in the store to answer a list of questions and to enter their background, salary history, and other information. In other companies, such as some in the trucking industry, candidates enter the data through the Web site of the company they are applying to. The software screens people on basic criteria such as availability in scheduling as well as personality traits.
Candidates are asked to agree or disagree with statements such as “I often make last-minute plans” or “I work best when I am on a team.” After the candidates complete the questions, hiring managers are sent a report complete with a color-coded suggested course of action. Red means the candidate does not fit the job, yellow means proceed with caution, and green means the candidate can be hired on the spot. Interestingly, the company contends that faking answers to the questions of the software is not easy because it is difficult for candidates to predict the desired profile. For example, according to their research, being a successful salesman has less to do with being an extraverted and sociable person and more to do with a passion for the company’s product.
Matching candidates to jobs has long been viewed as a key way of ensuring high performance and low turnover in the workplace, and advances in computer technology are making it easier and more efficient to assess candidate–job fit. Companies using such technology are cutting down the time it takes to hire people, and it is estimated that using such technologies lowers their turnover by 10%–30%.
Discussion Questions
1. Why is it so expensive for companies to replace workers?
2. In modern times it is possible that an employee could have a number of different jobs in a short amount of time. Do you think this frequent job changing could skew results for this type of “ideal” employee selection? Do you think potential candidates can use these screening mechanisms to their advantage by making themselves seem like perfect candidates when in fact they are not?
3. What personality traits may not seem like a good fit based on an initial screening but in fact would make a good employee?
4. Do you feel that hard work and dedication could overcome a person-job mismatch? | textbooks/biz/Management/Organizational_Behavior/03%3A_Understanding_People_at_Work%3A_Individual_Differences_and_Perception/03.6%3A_Using_Science_to_Match_Candidates_to_Jobs%3A_The_Case_of_Kronos.txt |
In conclusion, in this chapter we have reviewed major individual differences that affect employee attitudes and behaviors. Our values and personality explain our preferences and the situations we feel comfortable with. Personality may influence our behavior, but the importance of the context in which behavior occurs should not be neglected. Many organizations use personality tests in employee selection, but the use of such tests is controversial because of problems such as faking and low predictive value of personality for job performance. Perception is how we interpret our environment. It is a major influence over our behavior, but many systematic biases color our perception and lead to misunderstandings.
03.8: Exercises
Ethical Dilemma
You are applying for the job of sales associate. You have just found out that you will be given a personality assessment as part of the application process. You feel that this job requires someone who is very high in extraversion, and someone who can handle stress well. You are relatively sociable and can cope with some stress but honestly you are not very high in either trait. The job pays well and it is a great stepping-stone to better jobs. How are you going to respond when completing the personality questions? Are you going to make an effort to represent yourself as how you truly are? If so, there is a chance that you may not get the job. How about answering the questions to fit the salesperson profile? Isn’t everyone doing this to some extent anyway?
Discussion Questions
1. What are the advantages and disadvantages of completing the questions honestly?
2. What are the advantages and disadvantages of completing the questions in a way you think the company is looking for?
3. What would you really do in a situation like this?
Individual Exercise
Changing Others’ Perceptions of You
How do other people perceive you? Identify one element of how others perceive you that you are interested in changing. It could be a positive perception (maybe they think you are more helpful than you really are) or a negative perception (maybe they think you don’t take your studies seriously).
• What are the reasons why they formed this perception? Think about the underlying reasons.
• What have you done to contribute to the development of this perception?
• Do you think there are perceptual errors that contribute to this perception? Are they stereotyping? Are they engaging in selective perception?
• Are you sure that your perception is the accurate one? What information do you have that makes your perceptions more valid than theirs?
• Create an action plan about how you can change this perception.
Group Exercise
Selecting an Expatriate Using Personality Tests
Your department has over 50 expatriates working around the globe. One of the problems you encounter is that the people you send to other cultures for long-term (2- to 5-year) assignments have a high failure rate. They either want to return home before their assignment is complete, or they are not very successful in building relationships with the local employees. You suspect that this is because you have been sending people overseas solely because of their technical skills, which does not seem to be effective in predicting whether these people will make a successful adjustment to the local culture. Now you have decided that when selecting people to go on these assignments, personality traits should be given some weight.
1. Identify the personality traits you think might be relevant to being successful in an expatriate assignment.
2. Develop a personality test aimed at measuring these dimensions. Make sure that each dimension you want to measure is captured by at least 10 questions.
3. Exchange the test you have developed with a different team in class. Have them fill out the survey and make sure that you fill out theirs. What problems have you encountered? How would you feel if you were a candidate taking this test?
4. Do you think that prospective employees would fill out this questionnaire honestly? If not, how would you ensure that the results you get would be honest and truly reflect their personality?
5. How would you validate such a test? Describe the steps you would take. | textbooks/biz/Management/Organizational_Behavior/03%3A_Understanding_People_at_Work%3A_Individual_Differences_and_Perception/03.7%3A_Conclusion.txt |
Who are your best customers? Which customers are bringing you the most profits and which are the least profitable? Companies are increasingly relying on complicated data mining software to answer these and other questions. More than 92% of the top 100 companies on the Fortune Global 500 list are using software developed by SAS Institute Inc., the world’s largest privately held software company, for their business intelligence and analytical needs. The Cary, North Carolina, company is doing extremely well by any measure. They have over 10,000 employees worldwide, operate in over 100 countries, and reported \$2.31 billion in revenue in 2009 (their 33rd consecutive year of growth and profitability). The company is quick to attribute their success to the performance and loyalty of their workforce. This is directly correlated with how they treat their employees.
SAS has perfected the art of employee management. It has been ranked on Fortune magazine’s best places to work list every year since the list was first published. Employees seem to genuinely enjoy working at SAS and are unusually attached to the company, resulting in a turnover rate that is less than 4% in an industry where 20% is the norm. In fact, when Google designed their own legendary campus in California, they visited the SAS campus to get ideas.
One thing SAS does well is giving its employees opportunities to work on interesting and challenging projects. The software developers have the opportunity to develop cutting-edge software to be used around the world. The company makes an effort to concentrate its business in the areas of analytics, which add the most value and help organizations best analyze disparate data for decision making, creating opportunities for SAS workers to be challenged. Plus, the company removes obstacles for employees. Equipment, policies, rules, and meetings that could impede productivity are eliminated.
The company has a reputation as a pioneer when it comes to the perks it offers employees, but these perks are not given with a mentality of “offer everything but the kitchen sink.” There is careful thinking and planning behind the choice of perks the company offers. SAS conducts regular employee satisfaction surveys, and any future benefits and perks offered are planned in response to the results. The company wants to eliminate stressors and anything that dissatisfies from people’s lives. To keep employees healthy and fit, there are athletic fields; a full gym; a swimming pool; and tennis, basketball, and racquetball courts on campus. Plus, the company offers free on-site health care for employees, covers dependents at their fully staffed primary medical care center, and offers unlimited sick leave. The company understands that employees have a life and encourages employees to work reasonable hours and then go home to their families. In fact, a famous motto in the company is, “If you are working for more than 8 hours, you are just adding bugs.” SAS is truly one of the industry leaders in leveraging its treatment of people for continued business success.
Discussion Questions
1. SAS is involved in cutting-edge technology. Does this give it a distinct advantage in employee retention and satisfaction over, for example, Sloan (a company that focuses on the manufacturing of toilet components)?
2. Do you feel that investing heavily in employee perks ultimately pays off for a company? Would you feel the same way during hard economic times, when the pool of highly qualified workers grows and the number of available jobs shrinks dramatically?
3. How much of an advantage does SAS have, given that the company produces analytic software to help businesses improve their functionality?
4. What do you think you’d like about working at SAS? What would you not potentially like? | textbooks/biz/Management/Organizational_Behavior/04%3A_Individual_Attitudes_and_Behaviors/04.1%3A_People_Come_First%3A_The_Case_of_SAS.txt |
Learning Objectives
1. Define “work attitudes”.
2. Describe the relationship between attitudes and behaviors.
3. Define and differentiate between job satisfaction and organizational commitment.
4. List the factors related to job satisfaction and organizational commitment.
5. Describe the consequences of job satisfaction and organizational commitment.
6. Identify the ways in which companies can track work attitudes in the workplace.
Our behavior at work often depends on how we feel about being there. Therefore, making sense of how people behave depends on understanding their work attitudes. An attitude refers to our opinions, beliefs, and feelings about aspects of our environment. We have attitudes toward the food we eat, people we interact with, courses we take, and various other things. At work, two particular job attitudes have the greatest potential to influence how we behave. These are job satisfaction and organizational commitment. Job satisfaction refers to the feelings people have toward their job. If the number of studies conducted on job satisfaction is an indicator, job satisfaction is probably the most important job attitude. Institutions such as Gallup Inc. or the Society of Human Resource Management (SHRM) periodically conduct studies of job satisfaction to track how satisfied employees are at work. According to a recent Gallup survey, 90% of the employees surveyed said that they were at least somewhat satisfied with their jobs. The recent SHRM study revealed 40% who were very satisfied (What keeps employees satisfied, 2007). Organizational commitment is the emotional attachment people have toward the company they work for. There is a high degree of overlap between job satisfaction and organizational commitment, because things that make us happy with our job often make us more committed to the company as well. Companies believe that these attitudes are worth tracking because they are often associated with important outcomes such as performance, helping others, absenteeism, and turnover.
How strong is the attitude-behavior link? First of all, it depends on the attitude in question. Your attitudes toward your colleagues may influence whether you actually help them on a project, but they may not be a good predictor of whether you will quit your job. Second, it is worth noting that attitudes are more strongly related to intentions to behave in a certain way, rather than actual behaviors. When you are dissatisfied with your job, you may have the intention to leave. Whether you will actually leave is a different story! Your leaving will depend on many factors, such as availability of alternative jobs in the market, your employability in a different company, and sacrifices you have to make while changing jobs. In other words, while attitudes give us hints about how a person might behave, it is important to remember that behavior is also strongly influenced by situational constraints.
OB Toolbox: How Can You Be Happier at Work?
• Have a positive attitude about it. Your personality is a big part of your happiness. If you are always looking for the negative side of everything, you will find it.
• A good fit with the job and company is important to your happiness. This starts with knowing yourself: What do you want from the job? What do you enjoy doing? Be honest with yourself and do a self-assessment.
• Get accurate information about the job and the company. Ask detailed questions about what life is like in this company. Do your research: Read about the company, and use your social network to understand the company’s culture.
• Develop good relationships at work. Make friends. Try to get a mentor. Approach a person you admire and attempt to build a relationship with this person. An experienced mentor can be a great help in navigating life at a company. Your social network can help you weather the bad days and provide you emotional and instrumental support during your time at the company as well as afterward.
• Pay is important, but job characteristics matter more to your job satisfaction. Don’t sacrifice the job itself for a little bit more money. When choosing a job, look at the level of challenge, and the potential of the job to make you engaged.
• Be proactive in managing organizational life. If the job is stressful, cope with it by effective time management and having a good social network, as well as being proactive in getting to the source of stress. If you don’t have enough direction, ask for it!
• Know when to leave. If the job makes you unhappy over an extended period of time and there is little hope of solving the problems, it may be time to look elsewhere.
What Causes Positive Work Attitudes?
What makes you satisfied with your job and develop commitment to your company? Research shows that people pay attention to several aspects of their work environment, including how they are treated, the relationships they form with colleagues and managers, and the actual work they perform. We will now summarize the factors that show consistent relations with job satisfaction and organizational commitment.
Personality
Can assessing the work environment fully explain how satisfied we are on the job? Interestingly, some experts have shown that job satisfaction is not purely environmental and is partially due to our personality. Some people have a disposition to be happy in life and at work regardless of environmental factors.
It seems that people who have a positive affective disposition (those who have a tendency to experience positive moods more often than negative moods) tend to be more satisfied with their jobs and more committed to their companies, while those who have a negative disposition tend to be less satisfied and less committed (Connolly & Viswesvaran, 2000; Thoresen et al., 2003). This is not surprising, as people who are determined to see the glass as half full will notice the good things in their work environment, while those with the opposite character will find more things to complain about. In addition to our affective disposition, people who have a neurotic personality (those who are moody, temperamental, critical of themselves and others) are less satisfied with their job, while those who are emotionally more stable tend to be more satisfied. Other traits such as conscientiousness, self-esteem, locus of control, and extraversion are also related to positive work attitudes (Judge et al., 2002; Judge & Bono, 2001; Zimmerman, 2008). Either these people are more successful in finding jobs and companies that will make them happy and build better relationships at work, which would increase their satisfaction and commitment, or they simply see their environment as more positive—whichever the case, it seems that personality is related to work attitudes.
Person–Environment Fit
The fit between what we bring to our work environment and the environmental demands influences our work attitudes. Therefore, person–job fit and person–organization fit are positively related to job satisfaction and commitment. When our abilities match job demands and our values match company values, we tend to be more satisfied with our job and more committed to the company we work for (Kristof-Brown, Zimmerman, & Johnson, 2005; Verquer, Beehr, & Wagner, 2003).
Job Characteristics
The presence of certain characteristics on the job seems to make employees more satisfied and more committed. Using a variety of skills, having autonomy at work, receiving feedback on the job, and performing a significant task are some job characteristics that are related to satisfaction and commitment. However, the presence of these factors is not important for everyone. Some people have a high growth need. They expect their jobs to help them build new skills and improve as an employee. These people tend to be more satisfied when their jobs have these characteristics (Loher et al., 1985; Mathieu & Zajac, 1990).
Psychological Contract
After accepting a job, people come to work with a set of expectations. They have an understanding of their responsibilities and rights. In other words, they have a psychological contract with the company. A psychological contract is an unwritten understanding about what the employee will bring to the work environment and what the company will provide in exchange. When people do not get what they expect, they experience a psychological contract breach, which leads to low job satisfaction and commitment. Imagine that you were told before being hired that the company was family friendly and collegial. However, after a while, you realize that they expect employees to work 70 hours a week, and employees are aggressive toward each other. You are likely to experience a breach in your psychological contract and be dissatisfied. One way of preventing such problems is for companies to provide realistic job previews to their employees (Premack & Wanous, 1985; Wanous et al., 1992; Zhao et al., 2007).
Organizational Justice
A strong influence over our satisfaction level is how fairly we are treated. People pay attention to the fairness of company policies and procedures, treatment from supervisors, and pay and other rewards they receive from the company (Cohen-Charash & Spector, 2001; Colquitt et al., 2001; Meyer et al., 2002).
Relationships at Work
Two strong predictors of our happiness at work and commitment to the company are our relationships with coworkers and managers. The people we interact with, their degree of compassion, our level of social acceptance in our work group, and whether we are treated with respect are all important factors surrounding our happiness at work. Research also shows that our relationship with our manager, how considerate the manager is, and whether we build a trust-based relationship with our manager are critically important to our job satisfaction and organizational commitment (Bauer et al., 2007; Gerstner & Day, 1997; Judge, Piccolo, & Ilies, 2004; Kinicki et al., 2002; Mathieu & Zajac, 1990; Meyer et al., 2002; Rhoades & Eisenberger, 2002). When our manager and upper management listen to us, care about us, and value our opinions, we tend to feel good at work. Even small actions may show employees that the management cares about them. For example, Hotel Carlton in San Francisco was recently taken over by a new management group. One of the small things the new management did created dramatic results. In response to an employee attitude survey, they replaced the old vacuum cleaners housekeepers were using and established a policy of replacing them every year. This simple act of listening to employee problems and taking action went a long way to making employees feel that the management cares about them (Dvorak, 2007).
Stress
Not surprisingly, the amount of stress present in our job is related to our satisfaction and commitment. For example, experiencing role ambiguity (vagueness in relation to what our responsibilities are), role conflict (facing contradictory demands at work), and organizational politics, and worrying about the security of our job are all stressors that make people dissatisfied. On the other hand, not all stress is bad. Some stressors actually make us happier! For example, working under time pressure and having a high degree of responsibility are stressful, but they can also be perceived as challenges and tend to be related to high levels of satisfaction (Kinicki et al., 2002; Meyer et al., 2002; Miller, Rutherford, & Kolodinsky, 2008; Podsakoff, LePine, & LePine, 2007).
Work–Life Balance
In the 1950s, people’s work was all-consuming. Employees went to work, worked long hours, and the rest of the family accepted that work came first. As society changed, the concept of always putting work first became outdated. In modern times, more employees expect to lead balanced lives, pursue hobbies, and spend more time with their children while at the same time continuing to succeed at work. The notion of work–family conflict is one cause of job dissatisfaction. This conflict can be particularly strong for women because of the time necessary for pregnancy and giving birth, but men struggle with it as well. When work life interferes with family life, we are more stressed and unhappy with our jobs. Research shows that policies that help employees achieve a balance between their work and personal lives, such as allowing telecommuting, are related to higher job satisfaction. For example, the medical resources group of the pharmaceutical company AstraZeneca International does not have fixed working hours, and employees can work any hours they choose. Motorola’s technological acceleration group also has flexible hours and can work from anywhere (home, office, or a coffee shop) at anytime (Kossek & Ozeki, 1998; Gajendran & Harrison, 2007; Shellenbarger, 2007).
Consequences of Positive Work Attitudes
Why do we care about the job satisfaction and organizational commitment of employees? What behaviors would you expect to see from someone who has more positive work attitudes?
If you say “higher performance,” you have stumbled upon one of the most controversial subjects in organizational behavior. Many studies have been devoted to understanding whether happy employees are more productive. Some studies show weak correlations between satisfaction and performance while others show higher correlations (what researchers would call “medium-sized” correlations of 0.30) (Iaffaldano & Muchinsky, 1985; Judge et al., 2001; Petty, McGee, & Cavender, 1984; Riketta, 2008). The correlation between commitment and performance tends to be even weaker (Mathieu & Zajac, 1990; Riketta, 2002; Wright & Bonnett, 2002). Even with a correlation of 0.30 though, the relationship may be lower than you may have expected. Why is this so?
It seems that happy workers have an inclination to be more engaged at work. They may want to perform better. They may be more motivated. But there are also exceptions. Think about this: Just because you want to perform, will you actually be a higher performer? Chances are that your skill level in performing the job will matter. There are also some jobs where performance depends on factors beyond an employee’s control, such as the pace of the machine they are working on. Because of this reason, in professional jobs such as engineering and research, we see a higher link between work attitudes and performance, as opposed to manual jobs such as assembly line work (Riketta, 2002). Also, think about the alternative possibility: If you don’t like your job, does this mean that you will reduce your performance? Maybe up to a certain point, but there will be factors that prevent you from reducing your performance: the fear of getting fired, the desire to get a promotion so that you can get out of the job that you dislike so much, or your professional work ethic. As a result, we should not expect a one-to-one relationship between satisfaction and performance. Still, the observed correlation between work attitudes and performance is important and has practical value.
Work attitudes are even more strongly related to organizational citizenship behaviors (behaviors that are not part of our job but are valuable to the organization, such as helping new employees or working voluntary overtime). Satisfied and committed people are absent less frequently and for shorter duration, are likely to stay with a company longer, and demonstrate less aggression at work. Just as important, people who are happy at work are happier with their lives overall. Given that we spend so much of our waking hours at work, it is no surprise that our satisfaction with our job is a big part of how satisfied we feel about life in general (Brush, Moch, & Pooyan, 1987; Carsten & Spector, 1987; Cohen, 1991; Cohen, 1993; Cohen & Hudecek, 1993; Fassina, Jones, & Uggersley, 2008; Hackett, 1989; Herschcovis et al., 2007; Kinicki et al., 2002; LePine, Erez, & Johnson, 2002; Mathieu & Zajac, 1990; Meyer et al., 2002; Organ & Ryan, 1995; Randall, 1990; Scott & Taylor, 1985; Tait, Padgett, & Baldwin, 1989; Tett & Meyer, 1993; Zimmerman, 2008). Finally, a satisfied workforce seems to be related to positive firm-level outcomes, such as customer satisfaction and loyalty, profitability, and safety in the workplace (Harter, Schmidt, & Hayes, 2002).
Assessing Work Attitudes in the Workplace
Given that work attitudes may give us clues as to who will leave or stay, who will perform better, and who will be more engaged, tracking satisfaction and commitment levels is a helpful step for companies. If there are companywide issues that make employees unhappy and disengaged, then these issues need to be resolved. There are at least two systematic ways in which companies can track work attitudes: through attitude surveys and exit interviews. Companies such as KFC Corporation and Long John Silver’s Inc. restaurants, the SAS Institute, Google, and others give periodic surveys to employees to track their work attitudes. Companies can get more out of these surveys if responses are held confidential. If employees become concerned that their individual responses will be shared with their immediate manager, they are less likely to respond honestly. Moreover, the success of these surveys depends on the credibility of management in the eyes of employees. If management periodically collects these surveys but no action comes out of them, employees may adopt a more cynical attitude and start ignoring these surveys, hampering the success of future efforts.
An exit interview involves a meeting with the departing employee. This meeting is often conducted by a member of the human resource management department. The departing employee’s manager is the worst person to conduct the interview, because managers are often one of the primary reasons an employee is leaving in the first place. If conducted well, this meeting may reveal what makes employees dissatisfied at work and give management clues about areas for improvement.
Key Takeaways
Work attitudes are the feelings we have toward different aspects of the work environment. Job satisfaction and organizational commitment are two key attitudes that are the most relevant to important outcomes. Attitudes create an intention to behave in a certain way and may predict actual behavior under certain conditions. People develop positive work attitudes as a result of their personality, fit with their environment, stress levels they experience, relationships they develop, perceived fairness of their pay, company policies, interpersonal treatment, whether their psychological contract is violated, and the presence of policies addressing work–life conflict. When people have more positive work attitudes, they may have the inclination to perform better, display citizenship behaviors, and be absent less often and for shorter periods of time, and they are less likely to quit their jobs within a short period of time. When workplace attitudes are more positive, companies benefit in the form of higher safety and better customer service, as well as higher company performance.
Exercises
1. What is the difference between job satisfaction and organizational commitment? Which do you think would be more strongly related to performance? Which would be more strongly related to turnover?
2. Do you think making employees happier at work is a good way of motivating people? When would high satisfaction not be related to high performance?
3. In your opinion, what are the three most important factors that make people dissatisfied with their job? What are the three most important factors relating to organizational commitment?
4. How important is pay in making people attached to a company and making employees satisfied?
5. Do you think younger and older people are similar in what makes them happier at work and committed to their companies? Do you think there are male–female differences? Explain your answers. | textbooks/biz/Management/Organizational_Behavior/04%3A_Individual_Attitudes_and_Behaviors/04.2%3A_Work_Attitudes.txt |
Learning Objectives
1. Define job performance, organizational citizenship, absenteeism, and turnover.
2. Explain factors associated with each type of work behavior.
One of the important objectives of the field of organizational behavior is to understand why people behave the way they do. Which behaviors are we referring to here? We will focus on four key work behaviors: job performance, organizational citizenship behaviors, absenteeism, and turnover. These are not the only behaviors OB is concerned about, but understanding what is meant by these terms and understanding the major influences over each type of behavior will give you more clarity about analyzing the behaviors of others in the workplace. We summarize the major research findings about the causes of each type of behavior in the following figure.
Figure 4.4
Job Performance Citizenship Absenteeism Turnover
General mental abilities How we are treated at work Health problems Poor performance
Howe we are treated at work Personality Work/life balance issues Positive work attitudes (-)
Stress (-) Positive work attitudes Positive work attitudes (-) Stress
Positive work attitudes Age of the employee Age of the employee (-) Personality
Personality Age and tenure of the employee (-)
Summary of Factors That Have the Strongest Influence Over Work Behaviors. Note: Negative relationships are indicated with (–).
Job Performance
Job performance, or in-role performance, refers to the performance level on factors included in the job description. For each job, the content of job performance may differ. Measures of job performance include the quality and quantity of work performed by the employee, the accuracy and speed with which the job is performed, and the overall effectiveness of the person performing the job. In many companies, job performance determines whether a person is promoted, rewarded with pay raises, given additional responsibilities, or fired from the job. Therefore, job performance is tracked and observed in many organizations and is one of the main outcomes studied in the field of organizational behavior.
What Are the Major Predictors of Job Performance?
Under which conditions do people perform well, and what are the characteristics of high performers? These questions received a lot of research attention. It seems that the most powerful influence over our job performance is our general mental ability, or cognitive abilities. Our reasoning abilities, verbal and numerical skills, analytical skills, and overall intelligence level seems to be important across most situations. It seems that general mental ability starts influencing us early in life; it is strongly correlated with measures of academic success (Kuncel, Hezlett, & Ones, 2004). As we grow and mature, cognitive ability is also correlated with different measures of job performance (Bertua, Anderson, & Salgado, 2005; Kuncel, Hezlett, & Ones, 2004; Salgado et al., 2003; Schmidt & Hunter, 2004; Vinchur et al., 1998). General mental ability is important for job performance across different settings, but there is also variation. In jobs with high complexity, it is much more critical to have high general mental abilities. In jobs such as working in sales, management, engineering, or other professional areas, this ability is much more important, whereas for jobs involving manual labor or clerical work, the importance of high mental abilities for high performance is weaker (yet still important).
How we are treated within an organization is another factor determining our performance level. When we feel that we are being treated fairly by a company, have a good relationship with our manager, have a manager who is supportive and rewards high performance, and we trust the people we work with, we tend to perform better. Why? It seems that when we are treated well, we want to reciprocate. Therefore, when we are treated well, we treat the company well by performing our job more effectively (Colquitt et al., 2001; Colquitt, Scott, & LePine, 2007; Podsakoff, MacKenzie, & Bommer, 1996).
Following the quality of treatment, the stress we experience determines our performance level. When we experience high levels of stress, our mental energies are drained. Instead of focusing on the task at hand, we start concentrating on the stressor and become distracted trying to cope with it. Because our attention and energies are diverted to deal with stress, our performance suffers. Having role ambiguity and experiencing conflicting role demands are related to lower performance (Gilboa, 2008). Stress that prevents us from doing our jobs does not have to be related to our experiences at work. For example, according to a survey conducted by Workplace Options, 45% of the respondents said that financial stress affects work performance. When people are in debt, are constantly worrying about mortgage or tuition payments, or are having trouble paying for essentials such as gas and food, their performance will suffer (Financial stress, 2008).
Our work attitudes, specifically job satisfaction, are moderate correlates of job performance. When we are satisfied with the job, we may perform better. This relationship seems to exist in jobs with greater levels of complexity and weakens in simpler and less complicated jobs. It is possible that in less complex jobs, our performance depends more on the machinery we work with or organizational rules and regulations. In other words, people may have less leeway to reduce performance in these jobs. Also, in some jobs people do not reduce their performance even when dissatisfied. For example, among nurses there seems to be a weak correlation between satisfaction and performance. Even when they are unhappy, nurses put substantial effort into their work, likely because they feel a moral obligation to help their patients (Judge et al., 2001).
Finally, job performance has a modest relationship with personality, particularly conscientiousness. People who are organized, reliable, dependable, and achievement-oriented seem to outperform others in various contexts (Barrick & Mount, 1991; Dudley et al., 2006; Vinchur et al., 1998).
Organizational Citizenship Behaviors
While job performance refers to the performance of duties listed in one’s job description, organizational citizenship behaviors involve performing behaviors that are more discretionary. Organizational citizenship behaviors (OCB) are voluntary behaviors employees perform to help others and benefit the organization. Helping a new coworker understand how things work in your company, volunteering to organize the company picnic, and providing suggestions to management about how to improve business processes are some examples of citizenship behaviors. These behaviors contribute to the smooth operation of business.
What are the major predictors of citizenship behaviors? Unlike performance, citizenship behaviors do not depend so much on one’s abilities. Job performance, to a large extent, depends on our general mental abilities. When you add the education, skills, knowledge, and abilities that are needed to perform well, the role of motivation in performance becomes more limited. As a result, someone being motivated will not necessarily translate into a person performing well. For citizenship behaviors, the motivation-behavior link is clearer. We help others around us if we feel motivated to do so.
Perhaps the most important factor explaining our citizenship behaviors is how we are treated by the people around us. When we have a good relationship with our manager and we are supported by management staff, when we are treated fairly, when we are attached to our peers, and when we trust the people around us, we are more likely to engage in citizenship behaviors. A high-quality relationship with people we work with will mean that simply doing our job will not be enough to maintain the relationship. In a high-quality relationship, we feel the obligation to reciprocate and do extra things to help those around us (Cohen-Charash & Spector, 2001; Colquitt et al., 2001; Colquitt, Scott, & LePine, 2007; Fassina, Jones, & Uggerslev, 2008; Hoffman et al., 2007; Ilies, Nahrgang, & Morgeson, 2007; LePine, Erez, & Johnson, 2002; Organ & Ryan, 1995; Podsakoff, MacKenzie, & Bommer, 1996; Riketta & Van Dick, 2005).
Our personality is yet another explanation for why we perform citizenship behaviors. Personality is a modest predictor of actual job performance but a much better predictor of citizenship. People who are conscientious, agreeable, and have positive affectivity tend to perform citizenship behaviors more often than others (Borman et al., 2001; Dalal, 2005; Diefendorff et al., 2002; Organ & Ryan, 1995).
Job attitudes are also moderately related to citizenship behaviors. People who are happier at work, those who are more committed to their companies, and those who have overall positive attitudes toward their work situation tend to perform citizenship behaviors more often than others. When people are unhappy, they tend to be disengaged from their jobs and rarely go beyond the minimum that is expected of them (Dalal, 2005; Diefendorff et al., 2002; Hoffman, 2007; LePine, Erez, & Johnson, 2002; Organ & Ryan, 1995; Riketta, 2002; Riketta & Van Dick, 2005).
Interestingly, age seems to be related to the frequency with which we demonstrate citizenship behaviors. People who are older are better citizens. It is possible that with age, we gain more experiences to share. It becomes easier to help others because we have more accumulated company and life experiences to draw from (Ng & Feldman, 2008).
Absenteeism
Absenteeism refers to unscheduled absences from work. Absenteeism is costly to companies because of its unpredictable nature. When an employee has an unscheduled absence from work, companies struggle to find replacement workers at the last minute. This may involve hiring contingent workers, having other employees work overtime, or scrambling to cover for an absent coworker. The cost of absenteeism to organizations is estimated at \$74 billion. According to a Mercer LLC human resource consulting study, 15% of the money spent on payroll is related to absenteeism (Conlin, 2007; Gale, 2003).
What causes absenteeism? First we need to look at the type of absenteeism. Some absenteeism is unavoidable and is related to health reasons. For example, reasons such as lower back pain, migraines, accidents on or off the job, or acute stress are important reasons for absenteeism (Farrell & Stamm, 1988; Martocchio, Harrison, & Berkson, 2000). Health-related absenteeism is costly, but dealing with such absenteeism by using organizational policies penalizing absenteeism is both unreasonable and unfair. A sick employee who shows up at work will infect coworkers and will not be productive. Instead, companies are finding that programs aimed at keeping workers healthy are effective in dealing with this type of absenteeism. Companies using wellness programs that educate employees about proper nutrition, help them exercise, and reward them for healthy habits are related to reduced absenteeism (Parks & Steelman, 2008).
Work–life balance is another common reason for absences. Staying home to care for a sick child or relative, attending the wedding of a friend or relative, or skipping work to study for an exam are all common reasons for unscheduled absences. Companies may deal with these by giving employees more flexibility in work hours. If employees can manage their own time, they are less likely to be absent. Organizations such as Lahey Clinic Foundation Inc. at Burlington, Massachusetts, find that instead of separating sick leave and paid time off, merging them is effective in dealing with unscheduled absences. When a company has “sick leave” but no other leave for social and family obligations, employees may fake being sick and use their “sick leave.” Instead, having a single paid time off policy would allow workers to balance work and life, and allow companies to avoid unscheduled absences. Some companies such as IBM Corporation got rid of sick leave altogether and instead allow employees to take as much time as they need, as long as their work gets done (Cole, 2002; Conlin, 2007; Baltes et al., 1999).
Sometimes, absenteeism is a form of work withdrawal and can lead to resignation from the job. In other words, poor work attitudes lead to absenteeism. When employees are dissatisfied with their work or have low organizational commitment, they are likely to be absent more often. In other words, absenteeism is caused by the desire to avoid an unpleasant work environment in addition to related factors such as problems in job design, lack of organizational justice, extreme levels of stress, and ineffective relations with coworkers and supervisors. In this case, management may deal with absenteeism by investigating the causes of dissatisfaction and dealing with them (Farrell & Stamm, 1988; Hackett, 1989; Scott & Taylor, 1985).
Are there personal factors contributing to absenteeism? Research does not reveal a consistent link between personality and absenteeism. One demographic criterion that predicts absenteeism is age. Interestingly, and counter to the stereotype that increased age would bring more health problems, research shows that age is negatively related to both frequency and duration of absenteeism. Because of reasons including higher loyalty to their company and a stronger work ethic, older employees are less likely be absent from work (Martocchio, 1989; Ng & Feldman, 2008).
OB Toolbox: Dealing with Late Coworkers
Do you have team members that are chronically late to group meetings? Are your coworkers driving you crazy because they are perpetually late? Here are some suggestions that may help.
• Try to get to the root cause and find out what is making your coworker unhappy. Often, lateness is an extension of dissatisfaction one feels toward the job or tasks at hand. If there are ways in which you can solve these issues, such as by giving the person more responsibility or listening to the opinions of the person and showing more respect, you can minimize lateness.
• Make sure that lateness does not go without any negative consequences. Do not ignore it, and do not remain silent. Mention carefully and constructively that one person’s lateness slows down everyone.
• Make an effort to schedule meetings around everyone’s schedules. When scheduling, emphasize the importance of everyone’s being there on time and pick a time when everyone can comfortably attend.
• When people are late, be sure to ask them to compensate, such as by doing extra work. Negative consequences tend to discourage future lateness.
• Shortly before the meeting starts, send everyone a reminder. Yes, you are dealing with adults and they should keep their own schedules, but some people’s schedules may be busier than others, and some are better at keeping track of their time. Reminders may ensure that they arrive on time.
• Reward timeliness. When everyone shows up on time, verbally recognize the effort everyone made to be there on time.
• Be on time yourself! Creating a culture of timeliness within your group requires everyone’s effort, including yours.
Turnover
Turnover refers to an employee leaving an organization. Employee turnover has potentially harmful consequences, such as poor customer service and poor companywide performance. When employees leave, their jobs still need to be performed by someone, so companies spend time recruiting, hiring, and training new employees, all the while suffering from lower productivity. Yet, not all turnover is bad. Turnover is particularly a problem when high-performing employees leave, while a poor performer’s turnover may actually give the company a chance to improve productivity and morale.
Why do employees leave? An employee’s performance level is an important reason. People who perform poorly are actually more likely to leave. These people may be fired or be encouraged to quit, or they may quit because of their fear of being fired. If a company has pay-for-performance systems, poor performers will find that they are not earning much, owing to their substandard performance. This pay discrepancy gives poor performers an extra incentive to leave. On the other hand, instituting a pay-for-performance system does not mean that high performers will always stay with a company. Note that high performers may find it easier to find alternative jobs, so when they are unhappy, they can afford to quit their jobs voluntarily (Williams & Livingstone, 1994).
Work attitudes are often the primary culprit in why people leave. When workers are unhappy at work, and when they are not attached to their companies, they are more likely to leave. Loving the things they do, being happy with the opportunities for advancement within the company, and being happy about pay are all aspects of work attitudes relating to turnover. Of course, the link between work attitudes and turnover is not direct. When employees are unhappy, they might have the intention to leave and may start looking for a job, but their ability to actually leave will depend on many factors such as their employability and the condition of the job market. For this reason, when national and regional unemployment is high, many people who are unhappy will still continue to work for their current company. When the economy is doing well, people will start moving to other companies in response to being unhappy. Many companies make an effort to keep employees happy because of an understanding of the connection between employee happiness and turnover. As illustrated in the opening case, at the SAS Institute, employees enjoy amenities such as a swimming pool, child care at work, and a 35-hour workweek. The company’s turnover is around 4%–5%. This percentage is a stark contrast to the industry average, which is in the range of 12%–20% (Carsten & Spector, 1987; Cohen, 1991; Cohen, 1993; Cohen, 1993; Cohen & Hudecek, 1993; Griffeth, Hom, & Gaertner, 2000; Hom et al., 1992; Karlgaard, 2005; Meyer et al., 2002; Steel & Ovalle, 1984; Tell & Meyer, 1993).
People are more likely to quit their jobs if they experience stress at work as well. Stressors such as role conflict and role ambiguity drain energy and motivate people to seek alternatives. For example, call-center employees experience a great deal of stress in the form of poor treatment from customers, long work hours, and constant monitoring of their every action. Companies such as EchoStar Corporation realize that one method for effectively retaining their best employees is to give employees opportunities to move to higher responsibility jobs elsewhere in the company. When a stressful job is a step toward a more desirable job, employees seem to stick around longer (Badal, 2006; Griffeth, Hom, & Gaertner, 2000; Podsakoff, LePine, & LePine, 2007).
There are also individual differences in whether people leave or stay. For example, personality is a factor in the decision to quit one’s job. People who are conscientious, agreeable, and emotionally stable are less likely to quit their jobs. Many explanations are possible. People with these personality traits may perform better at work, which leads to lower quit rates. Additionally, they may have better relations with coworkers and managers, which is a factor in their retention. Whatever the reason, it seems that some people are likely to stay longer at any given job regardless of the circumstances (Salgado, 2002; Zimmerman, 2008).
Whether we leave a job or stay also depends on our age and how long we have been there. It seems that younger employees are more likely to leave. This is not surprising, because people who are younger will have fewer responsibilities such as supporting a household or dependents. As a result, they can quit a job they don’t like much more easily. Similarly, people who have been with a company for a short period of time may quit more easily. New employees experience a lot of stress at work, and there is usually not much keeping them in the company, such as established bonds to a manager or colleagues. New employees may even have ongoing job interviews with other companies when they start working; therefore, they may leave more easily. For example, Sprint Nextel Corporation found that many of their new hires were quitting within 45 days of their hiring dates. When they investigated, they found that newly hired employees were experiencing a lot of stress from avoidable problems such as unclear job descriptions or problems hooking up their computers. Sprint was able to solve the turnover problem by paying special attention to orienting new hires (Cohen, 1991; Cohen, 1993; Ebeling, 2007).
OB Toolbox: Tips for Leaving Your Job Gracefully
Few people work in one company forever, and someday you may decide that your current job is no longer right for you. Here are tips on how to leave without burning any bridges.
• Don’t quit on an impulse. We all have bad days and feel the temptation to walk away from the job right away. Yet, this is unproductive for your own career. Plan your exit in advance, look for a better job over an extended period of time, and leave when the moment is right.
• Don’t quit too often. While trading jobs in an upward fashion is good, leaving one place and getting another job that is just like the previous one in pay, responsibilities, and position does not help you move forward in your career, and makes you look like a quitter. Companies are often wary of hiring job hoppers.
• When you decide to leave, tell your boss first, and be nice. Don’t discuss all the things your manager may have done wrong. Explain your reasons without blaming anyone and frame it as an issue of poor job fit.
• Do not badmouth your employer. It is best not to bash the organization you are leaving in front of coworkers. Do not tell them how happy you are to be quitting or how much better your new job looks. There is really no point in making any remaining employees feel bad.
• Guard your professional reputation. You must realize that the world is a small place. People know others and tales of unprofessional behavior travel quickly to unlikely places.
• Finish your ongoing work and don’t leave your team in a bad spot. Right before a major deadline is probably a bad time to quit. Offer to stay at least 2 weeks to finish your work, and to help hire and train your replacement.
• Don’t steal from the company! Give back all office supplies, keys, ID cards, and other materials. Don’t give them any reason to blemish their memory of you. Who knows…you may even want to come back one day.
Key Takeaways
Employees demonstrate a wide variety of positive and negative behaviors at work. Among these behaviors, four are critically important and have been extensively studied in the OB literature. Job performance is a person’s accomplishments of tasks listed in one’s job description. A person’s abilities, particularly mental abilities, are the main predictor of job performance in many occupations. How we are treated at work, the level of stress experienced at work, work attitudes, and, to a lesser extent, our personality are also factors relating to one’s job performance. Citizenship behaviors are tasks helpful to the organization but are not in one’s job description. Performance of citizenship behaviors is less a function of our abilities and more of motivation. How we are treated at work, personality, work attitudes, and our age are the main predictors of citizenship. Among negative behaviors, absenteeism and turnover are critically important. Health problems and work–life balance issues contribute to more absenteeism. Poor work attitudes are also related to absenteeism, and younger employees are more likely to be absent from work. Turnover is higher among low performers, people who have negative work attitudes, and those who experience a great deal of stress. Personality and youth are personal predictors of turnover.
Exercises
1. What is the difference between performance and organizational citizenship behaviors? How would you increase someone’s performance? How would you increase citizenship behaviors?
2. Are citizenship behaviors always beneficial to the company? If not, why not? Can you think of any citizenship behaviors that employees may perform with the intention of helping a company but that may have negative consequences overall?
3. Given the factors correlated with job performance, how would you identify future high performers?
4. What are the major causes of absenteeism at work? How can companies minimize the level of absenteeism that takes place?
5. In some companies, managers are rewarded for minimizing the turnover within their department or branch. A part of their bonus is tied directly to keeping the level of turnover below a minimum. What do you think about the potential effectiveness of these programs? Do you see any downsides to such programs? | textbooks/biz/Management/Organizational_Behavior/04%3A_Individual_Attitudes_and_Behaviors/04.3%3A_Work_Behaviors.txt |
Learning Objectives
1. Consider the role of job attitudes on ethical behavior.
2. Consider the role of national culture on job attitudes and behaviors.
Job Attitudes, Behaviors, and Ethics
People prefer to work in companies that have an ethical environment. Studies show that when an organization has a moral climate that values doing the right thing, people tend to be happier at work, more committed to their companies, and less likely to want to leave. In other words, in addition to increasing the frequency of ethical behaviors, the presence of an ethical climate will attach people to a company. An ethical climate is related to performing citizenship behaviors in which employees help each other and their supervisors, and perform many behaviors that are not part of their job descriptions (Leung, 2008; Mulki, Jaramillo, & Locander, 2006; Valentine, Greller, & Richtermeyer, 2006).
If people are happy at work and committed to the company, do they behave more ethically? This connection is not as clear. In fact, loving your job and being committed to the company may prevent you from realizing that the company is doing anything wrong. One study showed that, when people were highly committed to their company, they were less likely to recognize organizational wrongdoing and less likely to report the problem to people within the organization. Whistleblowers, or people who reported wrongdoing, were more likely to have moderate levels of commitment to the company. It is possible that those people who identify with a company are blind to its faults (Somers & Casal, 1994).
Companies trying to prevent employees from behaving unethically face a dilemma. One way of reducing unethical behaviors is to monitor employees closely. However, when people are closely monitored through video cameras, when their e-mails are routinely read, and when their online activities are closely monitored, employees are more likely to feel that they are being treated unfairly and with little respect. Therefore, high levels of employee monitoring, while reducing the frequency of unethical behaviors, may reduce job satisfaction and commitment, as well as work performance and citizenship behaviors. Instead of monitoring and punishing employees, organizations can reduce unethical behavior by creating an ethical climate and making ethics a shared value (Crossen, 1993).
Job Attitudes Around the Globe
Do the same things satisfy people around the globe? Even though many of the findings regarding satisfaction are generalizable to different cultures, some research reveals that differences may also exist. In one study comparing job satisfaction in 20 countries, work–family conflict was found to lower job satisfaction only in individualistic cultures. It is possible that in collectivistic cultures, when people have to make sacrifices for work, they may compensate by forming better relations with coworkers, which prevents employees from being dissatisfied. There is also evidence that while autonomy and empowerment are valued in the United States, Mexico, and Poland, high levels of empowerment were related to lower job satisfaction in India (Robert et al., 2000; Spector et al., 2007). Despite some variation, major factors that make people happy, such as being treated well and having good relations with others, are likely to generalize across cultures.
Culture also influences work behaviors. Behaviors regarded as a citizenship behavior in the United States or other Western cultures, such as helping a new coworker learn the job, may be viewed as part of a person’s job performance in other cultures. Research shows that managers in cultures such as Hong Kong and Japan define job performance more broadly. For example, the willingness to tolerate less than ideal circumstances within the company without complaining was viewed as part of someone’s job in Hong Kong, whereas this was viewed as more discretionary in the United States and Australia. Norms regarding absenteeism and turnover are also subject to cultural differences. One study shows that in China, absence from work because of one’s illness, stress, or depression was relatively unacceptable, while in Canada, these reasons were viewed as legitimate reasons for being absent (Johns & Xie, 1998; Lam, Hui, & Law, 1999).
Key Takeaways
There is a connection between a company’s ethics climate, work attitudes, and citizenship behaviors demonstrated by employees. A highly committed workforce may not necessarily demonstrate higher levels of ethics, because highly committed people may be less likely to notice companywide wrongdoing and, in turn, not report them. Companies have to strike a balance between reducing unethical behaviors and maintaining a highly satisfied and committed workforce. Some tactics of reducing unethical behaviors, such as close monitoring of employees, may erode trust between management and employees and lead to negative work attitudes. There are cross-cultural differences in how employee work attitudes are shaped and the work behaviors that are expected from employees. Being aware of these differences facilitates effective management of a global workforce.
Exercises
1. Which factors related to work attitudes in Western cultures should also be related to work attitudes in other cultures? Are there any that you think would not be important in a different culture you are familiar with?
2. Do you think people leave their jobs for the same reasons around the world? If not, explain why you think so. | textbooks/biz/Management/Organizational_Behavior/04%3A_Individual_Attitudes_and_Behaviors/04.4%3A_The_Role_of_Ethics_and_National_Culture.txt |
Figure 4.8
The ability to rebound professionally after a very public and humiliating dismissal from a Fortune 500 company would be a difficult task for almost anybody. Jeffrey Katzenberg was not only able to walk away from Walt Disney Studios gracefully, but he also went on to become the CEO of DreamWorks Animation (NASDAQ: DWA), a widely successful company, with 2008 revenues of \$650 million. DreamWorks has outperformed its main competitors (Pixar, Fox, and Sony) in terms of total revenue since 1995. Within his role at Walt Disney, Katzenberg was viewed as an extremely controlling manager with unwavering ambition. After his time at Disney, Katzenberg was courted by Microsoft Corporation to create a studio but decided instead to partner with Steven Spielberg and music executive David Geffen to establish DreamWorks Animation.
Today, Katzenberg maintains that the best thing that could have happened to him was being fired from Disney because many more opportunities presented themselves. Over the years, Katzenberg’s leadership style has evolved and changed. He realizes that the authoritarian decision-making style he used at Disney was not always the most productive. If you want to stay surrounded by great people, Katzenberg explains, then you have to get out of their way. He insists that the single most important leadership quality is one’s referent power, or the ability to earn the respect of people who work with you and for you, as well as your customers and your investors. The definition of a successful leader is one who earns that respect. Katzenberg acknowledges that respect is a two-way street and that a leader is only as strong as his or her followers. It is important to gain the respect of those around him and to show value and respect in return.
DreamWorks’ success is dependent on the creativity and originality of its employees. But with creativity comes a level of risk, and in today’s economic volatility people are more risk averse than ever. Katzenberg attempts to alleviate the fear of risk and to make failure acceptable in his company. He explains that to be unique and original, a requirement of success in this industry, is to be risky, and with that comes an inevitable degree of failure. He strives to make his employees feel secure in their jobs and to understand that risks are expected and encouraged. Katzenberg works hard to create strong teams, and that process begins during the initial interview process. He always asks individuals what they are best at doing and what they are worst at doing. This, he believes, forces self-reflection and a level of honesty. DreamWorks Animation believes in quality over quantity, a process Jeffrey Katzenberg is dedicated to and which is reflected in his leadership style.
Discussion Questions
1. Explain how CEO Jeffrey Katzenberg’s leadership style changed from his time at Walt Disney to his current role at DreamWorks Animation.
2. How important is the ability to change and evolve one’s own situational leadership style?
3. What possible repercussions might be associated with encouraging risk taking in an organization?
4. Is authoritarian leadership ever an appropriate leadership style? If so, in what kind of situation?
04.6: Conclusion
Work attitudes are our feelings toward our company and job. Job satisfaction and organizational commitment are related to many outcomes of interest, such as absenteeism, performance, and turnover. Therefore, companies track feelings toward work and try to create more positive attitudes. The main behaviors that contribute to organizational effectiveness are job performance, citizenship behaviors, absenteeism, and turnover. These behaviors are affected by a complex blend of personality and situational factors, and factors affecting these behaviors and work attitudes will be examined in more detail in other chapters of this book. | textbooks/biz/Management/Organizational_Behavior/04%3A_Individual_Attitudes_and_Behaviors/04.5%3A_Rebounding_from_Defeat%3A_The_Case_of_Jeffrey_Katzenberg.txt |
Ethical Dilemma
You are a department manager in an advertising agency. The employees of the department have recently completed an attitude survey. Three employees in your department reported that they were harassed by senior people in the department and they are experiencing a hostile work environment. You do not know who these people are, but you feel that you need to do something. The surveys were filled out confidentially, and employees were assured that their identities would not be revealed to management. You feel that you can identify who they are because the person in HR who administered the survey is a friend of yours and that person can tell you the demographics of the employees, which would help you identify them.
1. Should you ask for the identity-revealing information? What are the advantages and disadvantages of finding out the identity of these people?
2. How would you handle a situation like this now and in the future?
Individual Exercise
Reading and Responding to Employee Blogs
You found out that one employee from your company has created a blog about the company. Other current and ex-employees are also posting on this blog, and the picture they are painting is less than flattering. They are talking about their gripes, such as long work hours and below-market pay, and how the company’s products are not great compared to those of competitors. Worse, they are talking about the people in the company by name. There are a couple of postings mentioning you by name and calling you unfair and unreasonable.
1. What action would you take when you learn the presence of this blog? Would you take action to stop this blogger? How?
2. Would you do anything to learn the identity of the blogger? If you found out, what action would you take to have the employee disciplined?
3. What would you change within the company to deal with this situation?
4. Would you post on this blog? If so, under what name, and what comments would you post?
Group Exercise
Exit Interview Role-Play and Developing an Attitude Survey
This role-play will be played by three students. One student will be an employee from the human resources (HR) department conducting the interview, the second will be the employee who is leaving, and the third will be an observer. The HR employee and the departing employee will conduct an exit interview. At the conclusion of the interview, the observer will provide feedback to the HR employee regarding how the interview could have been improved and how the employee could have been more open.
Part 1: Role-Play
Be sure to read only the role sheet assigned to you.
Part 2
In groups of three, review the information gathered from the exit interview. Many of these problems may be affecting the rest of the employees. Develop an attitude survey to be distributed to remaining employees of this company. Develop questions based on what came out of the interview as well as other areas you feel may be important to know. Discuss how the surveys would be administered and what would be done to (a) have a high response rate and (b) ensure the accuracy of responses. | textbooks/biz/Management/Organizational_Behavior/04%3A_Individual_Attitudes_and_Behaviors/04.7%3A_Exercises.txt |
It is unique to hear about a CEO who studies happiness and motivation and builds those principles into the company’s core values or about a company with a 5-week training course and an offer of \$2,000 to quit anytime during that 5 weeks if you feel the company is not a good fit. Top that off with an on-site life coach who also happens to be a chiropractor, and you are really talking about something you don’t hear about every day. Zappos is known as much for its 365-day return policy and free shipping as it is for its innovative corporate culture. Although acquired in 2009 by Amazon (NASDAQ: AMZN), Zappos managed to move from number 23 in 2009 on Fortune magazine’s “100 Best Companies to Work For” list to 15 in 2010.
Performance is a function of motivation, ability, and the environment in which you work. Zappos seems to be creating an environment that encourages motivation and builds inclusiveness. The company delivers above and beyond basic workplace needs and addresses the self-actualization needs that most individuals desire from their work experience. CEO Tony Hsieh believes that the secret to customer loyalty is to make a corporate culture of caring a priority. This is reflected in the company’s 10 core values and its emphasis on building a team and a family. During the interview process, applicants are asked questions relating to the company’s values, such as gauging their own weirdness, open-mindedness, and sense of family. Although the offer to be paid to quit during the training process has increased from its original number of \$400, only 1% of trainees take the offer. Work is structured differently at Zappos as well. For example, there is no limit to the time customer service representatives spend on a phone call, and they are encouraged to make personal connections with the individuals on the other end rather than try to get rid of them.
Although Zappos has over 1,300 employees, the company has been able to maintain a relatively flat organizational structure and prides itself on its extreme transparency. In an exceptionally detailed and lengthy letter to employees, Hsieh spelled out what the new partnership with Amazon would mean for the company, what would change, and more important, what would remain the same. As a result of this type of company structure, individuals have more freedom, which can lead to greater satisfaction.
Although Zappos pays its employees well and offers attractive benefits such as employees receiving full health-care coverage and a compressed workweek, the desire to work at Zappos seems to go beyond that. As Hsieh would say, happiness is the driving force behind almost any action an individual takes. Whether your goals are for achievement, affiliation, or simply to find an enjoyable environment in which to work, Zappos strives to address these needs.
Discussion Questions
1. What potential organizational changes might result from the acquisition by Amazon?
2. Why do you think Zappos’ approach is not utilized more often? In other words, what are the challenges to these techniques?
3. Why do you think Zappos offers a \$2,000 incentive to quit?
4. Would you be motivated to work at Zappos? Why or why not? | textbooks/biz/Management/Organizational_Behavior/05%3A_Theories_of_Motivation/05.1%3A_A_Motivating_Place_to_Work%3A_The_Case_of_Zappos.txt |
Learning Objectives
1. Explain how employees are motivated according to Maslow’s hierarchy of needs.
2. Explain how the ERG (existence, relatedness, growth) theory addresses the limitations of Maslow’s hierarchy.
3. Describe the differences among factors contributing to employee motivation and how these differ from factors contributing to dissatisfaction.
4. Describe need for achievement, power, and affiliation, and identify how these acquired needs affect work behavior.
The earliest studies of motivation involved an examination of individual needs. Specifically, early researchers thought that employees try hard and demonstrate goal-driven behavior in order to satisfy needs. For example, an employee who is always walking around the office talking to people may have a need for companionship, and his behavior may be a way of satisfying this need. At the time, researchers developed theories to understand what people need. Four theories may be placed under this category: Maslow’s hierarchy of needs, ERG theory, Herzberg’s two-factor theory, and McClelland’s acquired-needs theory.
Maslow’s Hierarchy of Needs
Abraham Maslow is among the most prominent psychologists of the twentieth century. His hierarchy of needs is an image familiar to most business students and managers. The theory is based on a simple premise: Human beings have needs that are hierarchically ranked (Maslow, 1943; Maslow, 1954). There are some needs that are basic to all human beings, and in their absence nothing else matters. As we satisfy these basic needs, we start looking to satisfy higher order needs. In other words, once a lower level need is satisfied, it no longer serves as a motivator.
The most basic of Maslow’s needs are physiological needs. Physiological needs refer to the need for food, water, and other biological needs. These needs are basic because when they are lacking, the search for them may overpower all other urges. Imagine being very hungry. At that point, all your behavior may be directed at finding food. Once you eat, though, the search for food ceases and the promise of food no longer serves as a motivator. Once physiological needs are satisfied, people tend to become concerned about safety needs. Are they free from the threat of danger, pain, or an uncertain future? On the next level up, social needs refer to the need to bond with other human beings, be loved, and form lasting attachments with others. In fact, attachments, or lack of them, are associated with our health and well-being (Baumeister & Leary, 1995). The satisfaction of social needs makes esteem needs more salient. Esteem need refers to the desire to be respected by one’s peers, feel important, and be appreciated. Finally, at the highest level of the hierarchy, the need for self-actualization refers to “becoming all you are capable of becoming.” This need manifests itself by the desire to acquire new skills, take on new challenges, and behave in a way that will lead to the attainment of one’s life goals.
Maslow was a clinical psychologist, and his theory was not originally designed for work settings. In fact, his theory was based on his observations of individuals in clinical settings; some of the individual components of the theory found little empirical support. One criticism relates to the order in which the needs are ranked. It is possible to imagine that individuals who go hungry and are in fear of their lives might retain strong bonds to others, suggesting a different order of needs. Moreover, researchers failed to support the arguments that once a need is satisfied it no longer serves as a motivator and that only one need is dominant at a given time (Neher, 1991; Rauschenberger, Schmitt, & Hunter, 1980).
Despite the lack of strong research support, Maslow’s theory found obvious applications in business settings. Understanding what people need gives us clues to understanding them. The hierarchy is a systematic way of thinking about the different needs employees may have at any given point and explains different reactions they may have to similar treatment. An employee who is trying to satisfy esteem needs may feel gratified when her supervisor praises an accomplishment. However, another employee who is trying to satisfy social needs may resent being praised by upper management in front of peers if the praise sets the individual apart from the rest of the group.
How can an organization satisfy its employees’ various needs? In the long run, physiological needs may be satisfied by the person’s paycheck, but it is important to remember that pay may satisfy other needs such as safety and esteem as well. Providing generous benefits that include health insurance and company-sponsored retirement plans, as well as offering a measure of job security, will help satisfy safety needs. Social needs may be satisfied by having a friendly environment and providing a workplace conducive to collaboration and communication with others. Company picnics and other social get-togethers may also be helpful if the majority of employees are motivated primarily by social needs (but may cause resentment if they are not and if they have to sacrifice a Sunday afternoon for a company picnic). Providing promotion opportunities at work, recognizing a person’s accomplishments verbally or through more formal reward systems, and conferring job titles that communicate to the employee that one has achieved high status within the organization are among the ways of satisfying esteem needs. Finally, self-actualization needs may be satisfied by the provision of development and growth opportunities on or off the job, as well as by work that is interesting and challenging. By making the effort to satisfy the different needs of each employee, organizations may ensure a highly motivated workforce.
ERG Theory
ERG theory, developed by Clayton Alderfer, is a modification of Maslow’s hierarchy of needs (Alderfer, 1969). Instead of the five needs that are hierarchically organized, Alderfer proposed that basic human needs may be grouped under three categories, namely, existence, relatedness, and growth. Existence corresponds to Maslow’s physiological and safety needs, relatedness corresponds to social needs, and growth refers to Maslow’s esteem and self-actualization.
ERG theory’s main contribution to the literature is its relaxation of Maslow’s assumptions. For example, ERG theory does not rank needs in any particular order and explicitly recognizes that more than one need may operate at a given time. Moreover, the theory has a “frustration-regression” hypothesis suggesting that individuals who are frustrated in their attempts to satisfy one need may regress to another. For example, someone who is frustrated by the growth opportunities in his job and progress toward career goals may regress to relatedness need and start spending more time socializing with coworkers. The implication of this theory is that we need to recognize the multiple needs that may be driving individuals at a given point to understand their behavior and properly motivate them.
Two-Factor Theory
Frederick Herzberg approached the question of motivation in a different way. By asking individuals what satisfies them on the job and what dissatisfies them, Herzberg came to the conclusion that aspects of the work environment that satisfy employees are very different from aspects that dissatisfy them (Herzberg, Mausner, & Snyderman, 1959; Herzberg, 1965). Herzberg labeled factors causing dissatisfaction of workers as “hygiene” factors because these factors were part of the context in which the job was performed, as opposed to the job itself. Hygiene factors included company policies, supervision, working conditions, salary, safety, and security on the job. To illustrate, imagine that you are working in an unpleasant work environment. Your office is too hot in the summer and too cold in the winter. You are being harassed and mistreated. You would certainly be miserable in such a work environment. However, if these problems were solved (your office temperature is just right and you are not harassed at all), would you be motivated? Most likely, you would take the situation for granted. In fact, many factors in our work environment are things that we miss when they are absent but take for granted if they are present.
In contrast, motivators are factors that are intrinsic to the job, such as achievement, recognition, interesting work, increased responsibilities, advancement, and growth opportunities. According to Herzberg’s research, motivators are the conditions that truly encourage employees to try harder.
Hygiene Factors
• Company policy
• Supervision and relationships
• Working conditions
• Salary
• Security
Motivators
• Achievement
• Recognition
• Interesting work
• Increased responsibility
• Advancement and growth
Figure 5.5: The two-factor theory of motivation includes hygiene factors and motivators. Sources: Based on Herzberg, F., Mausner, B., & Snyderman, B. (1959). The motivation to work. New York: John Wiley and Sons; Herzberg, F. (1965). The motivation to work among Finnish supervisors. Personnel Psychology, 18, 393–402.
Herzberg’s research is far from being universally accepted (Cummings & Elsalmi, 1968; House & Wigdor, 1967). One criticism relates to the primary research methodology employed when arriving at hygiene versus motivators. When people are asked why they are satisfied, they may attribute the causes of satisfaction to themselves, whereas when explaining what dissatisfies them, they may blame the situation. The classification of the factors as hygiene or motivator is not that simple either. For example, the theory views pay as a hygiene factor. However, pay may have symbolic value by showing employees that they are being recognized for their contributions as well as communicating that they are advancing within the company. Similarly, the quality of supervision or the types of relationships employees form with their supervisors may determine whether they are assigned interesting work, whether they are recognized for their potential, and whether they take on more responsibilities.
Despite its limitations, the theory can be a valuable aid to managers because it points out that improving the environment in which the job is performed goes only so far in motivating employees. Undoubtedly, contextual factors matter because their absence causes dissatisfaction. However, solely focusing on hygiene factors will not be enough, and managers should also enrich jobs by giving employees opportunities for challenging work, greater responsibilities, advancement opportunities, and a job in which their subordinates can feel successful.
Acquired-Needs Theory
Among the need-based approaches to motivation, David McClelland’s acquired-needs theory is the one that has received the greatest amount of support. According to this theory, individuals acquire three types of needs as a result of their life experiences. These needs are the need for achievement, the need for affiliation, and the need for power. All individuals possess a combination of these needs, and the dominant needs are thought to drive employee behavior.
McClelland used a unique method called the Thematic Apperception Test (TAT) to assess the dominant need (Spangler, 1992). This method entails presenting research subjects an ambiguous picture asking them to write a story based on it. Take a look at the following picture. Who is this person? What is she doing? Why is she doing it? The story you tell about the woman in the picture would then be analyzed by trained experts. The idea is that the stories the photo evokes would reflect how the mind works and what motivates the person.
If the story you come up with contains themes of success, meeting deadlines, or coming up with brilliant ideas, you may be high in need for achievement. Those who have high need for achievement have a strong need to be successful. As children, they may be praised for their hard work, which forms the foundations of their persistence (Mueller & Dweck, 1998). As adults, they are preoccupied with doing things better than they did in the past. These individuals are constantly striving to improve their performance. They relentlessly focus on goals, particularly stretch goals that are challenging in nature (Campbell, 1982). They are particularly suited to positions such as sales, where there are explicit goals, feedback is immediately available, and their effort often leads to success. In fact, they are more attracted to organizations that are merit-based and reward performance rather than seniority. They also do particularly well as entrepreneurs, scientists, and engineers (Harrell & Stahl, 1981; Trevis & Certo, 2005; Turban & Keon, 1993).
Are individuals who are high in need for achievement effective managers? Because of their success in lower level jobs where their individual contributions matter the most, those with high need for achievement are often promoted to higher level positions (McClelland & Boyatzis, 1982). However, a high need for achievement has significant disadvantages in management positions. Management involves getting work done by motivating others. When a salesperson is promoted to be a sales manager, the job description changes from actively selling to recruiting, motivating, and training salespeople. Those who are high in need for achievement may view managerial activities such as coaching, communicating, and meeting with subordinates as a waste of time and may neglect these aspects of their jobs. Moreover, those high in need for achievement enjoy doing things themselves and may find it difficult to delegate any meaningful authority to their subordinates. These individuals often micromanage, expecting others to approach tasks a particular way, and may become overbearing bosses by expecting everyone to display high levels of dedication (McClelland & Burnham, 1976).
If the story you created in relation to the picture you are analyzing contains elements of making plans to be with friends or family, you may have a high need for affiliation. Individuals who have a high need for affiliation want to be liked and accepted by others. When given a choice, they prefer to interact with others and be with friends (Wong & Csikszentmihalyi, 1991). Their emphasis on harmonious interpersonal relationships may be an advantage in jobs and occupations requiring frequent interpersonal interaction, such as a social worker or teacher. In managerial positions, a high need for affiliation may again serve as a disadvantage because these individuals tend to be overly concerned about how they are perceived by others. They may find it difficult to perform some aspects of a manager’s job such as giving employees critical feedback or disciplining poor performers. Thus, the work environment may be characterized by mediocrity and may even lead to high performers leaving the team.
Finally, if your story contains elements of getting work done by influencing other people or desiring to make an impact on the organization, you may have a high need for power. Those with a high need for power want to influence others and control their environment. A need for power may in fact be a destructive element in relationships with colleagues if it takes the form of seeking and using power for one’s own good and prestige. However, when it manifests itself in more altruistic forms such as changing the way things are done so that the work environment is more positive, or negotiating more resources for one’s department, it tends to lead to positive outcomes. In fact, the need for power is viewed as an important trait for effectiveness in managerial and leadership positions (McClelland & Burnham, 1976; Spangler & House, 1991; Spreier, 2006).
McClelland’s theory of acquired needs has important implications for the motivation of employees. Managers need to understand the dominant needs of their employees to be able to motivate them. While people who have a high need for achievement may respond to goals, those with a high need for power may attempt to gain influence over those they work with, and individuals high in their need for affiliation may be motivated to gain the approval of their peers and supervisors. Finally, those who have a high drive for success may experience difficulties in managerial positions, and making them aware of common pitfalls may increase their effectiveness.
Key Takeaways
Need-based theories describe motivated behavior as individuals’ efforts to meet their needs. According to this perspective, the manager’s job is to identify what people need and make the work environment a means of satisfying these needs. Maslow’s hierarchy describes five categories of basic human needs, including physiological, safety, social, esteem, and self-actualization needs. These needs are hierarchically ranked, and as a lower level need is satisfied, it no longer serves as a motivator. ERG theory is a modification of Maslow’s hierarchy, in which the five needs are collapsed into three categories (existence, relatedness, and growth). The theory recognizes that when employees are frustrated while attempting to satisfy higher level needs, they may regress. The two-factor theory differentiates between factors that make people dissatisfied on the job (hygiene factors) and factors that truly motivate employees (motivators). Finally, acquired-needs theory argues that individuals possess stable and dominant motives to achieve, acquire power, or affiliate with others. The type of need that is dominant will drive behavior. Each of these theories explains characteristics of a work environment that motivates employees. These theories paved the way to process-based theories that explain the mental calculations employees make to decide how to behave.
Exercises
1. Many managers assume that if an employee is not performing well, the reason must be a lack of motivation. Do you think this reasoning is accurate? What is the problem with the assumption?
2. Review Maslow’s hierarchy of needs. Do you agree with the particular ranking of employee needs?
3. How can an organization satisfy employee needs that are included in Maslow’s hierarchy?
4. Which motivation theory have you found to be most useful in explaining why people behave in a certain way? Why?
5. Review the hygiene and motivators in the two-factor theory of motivation. Do you agree with the distinction between hygiene factors and motivators? Are there any hygiene factors that you would consider to be motivators?
6. A friend of yours demonstrates the traits of achievement motivation: This person is competitive, requires frequent and immediate feedback, and enjoys accomplishing things and doing things better than she did before. She has recently been promoted to a managerial position and seeks your advice. What would you tell her? | textbooks/biz/Management/Organizational_Behavior/05%3A_Theories_of_Motivation/05.2%3A_Need-Based_Theories_of_Motivation.txt |
Learning Objectives
1. Explain how employees evaluate the fairness of reward distributions.
2. Describe the three types of fairness that affect employee attitudes and behaviors.
3. List the three questions individuals consider when deciding whether to put forth effort at work.
4. Describe how managers can use learning and reinforcement principles to motivate employees.
A separate stream of research views motivation as something more than action aimed at satisfying a need. Instead, process-based theories view motivation as a rational process. Individuals analyze their environment, develop thoughts and feelings, and react in certain ways. Process theories attempt to explain the thought processes of individuals who demonstrate motivated behavior. Under this category, we will review equity theory, expectancy theory, and reinforcement theory.
Equity Theory
Imagine that you are paid \$10 an hour working as an office assistant. You have held this job for 6 months. You are very good at what you do, you come up with creative ways to make things easier around you, and you are a good colleague who is willing to help others. You stay late when necessary and are flexible if requested to change hours. Now imagine that you found out they are hiring another employee who is going to work with you, who will hold the same job title, and who will perform the same type of tasks. This particular person has more advanced computer skills, but it is unclear whether these will be used on the job. The starting pay for this person will be \$14 an hour. How would you feel? Would you be as motivated as before, going above and beyond your duties? How would you describe what you would be feeling?
If your reaction to this scenario is along the lines of “this would be unfair,” your behavior may be explained using equity theory (Adams, 1965). According to this theory, individuals are motivated by a sense of fairness in their interactions. Moreover, our sense of fairness is a result of the social comparisons we make. Specifically, we compare our inputs and outcomes with other people’s inputs and outcomes. We perceive fairness if we believe that the input-to-outcome ratio we are bringing into the situation is similar to the input-to-outcome ratio of a comparison person, or a referent. Perceptions of inequity create tension within us and drive us to action that will reduce perceived inequity.
What Are Inputs and Outcomes?
Inputs are the contributions people feel they are making to the environment. In the previous example, the person’s hard work; loyalty to the organization; amount of time with the organization; and level of education, training, and skills may have been relevant inputs. Outcomes are the perceived rewards someone can receive from the situation. For the hourly wage employee in our example, the \$10 an hour pay rate was a core outcome. There may also be other, more peripheral outcomes, such as acknowledgment or preferential treatment from a manager. In the prior example, however, the person may reason as follows: I have been working here for 6 months. I am loyal, and I perform well (inputs). I am paid \$10 an hour for this (outcomes). The new person does not have any experience here (referent’s inputs) but will be paid \$14 an hour. This situation is unfair.
We should emphasize that equity perceptions develop as a result of a subjective process. Different people may look at the same situation and perceive different levels of equity. For example, another person may look at the same scenario and decide that the situation is fair because the newcomer has computer skills and the company is paying extra for those skills.
Who Is the Referent?
The referent other may be a specific person as well as a category of people. Referents should be comparable to us—otherwise the comparison is not meaningful. It would be pointless for a student worker to compare himself to the CEO of the company, given the differences in the nature of inputs and outcomes. Instead, individuals may compare themselves to someone performing similar tasks within the same organization or, in the case of a CEO, a different organization.
Reactions to Unfairness
The theory outlines several potential reactions to perceived inequity. Oftentimes, the situation may be dealt with perceptually by altering our perceptions of our own or the referent’s inputs and outcomes. For example, we may justify the situation by downplaying our own inputs (I don’t really work very hard on this job), valuing our outcomes more highly (I am gaining valuable work experience, so the situation is not that bad), distorting the other person’s inputs (the new hire really is more competent than I am and deserves to be paid more), or distorting the other person’s outcomes (she gets \$14 an hour but will have to work with a lousy manager, so the situation is not unfair). Another option would be to have the referent increase inputs. If the other person brings more to the situation, getting more out of the situation would be fair. If that person can be made to work harder or work on more complicated tasks, equity would be achieved. The person experiencing a perceived inequity may also reduce inputs or attempt to increase outcomes. If the lower paid person puts forth less effort, the perceived inequity would be reduced. Research shows that people who perceive inequity reduce their work performance or reduce the quality of their inputs (Carrell & Dittrich, 1978; Goodman & Friedman, 1971). Increasing one’s outcomes can be achieved through legitimate means such as negotiating a pay raise. At the same time, research shows that those feeling inequity sometimes resort to stealing to balance the scales (Greenberg, 1993). Other options include changing the comparison person (e.g., others doing similar work in different organizations are paid only minimum wage) and leaving the situation by quitting (Schmidt & Marwell, 1972). Sometimes it may be necessary to consider taking legal action as a potential outcome of perceived inequity. For example, if an employee finds out the main reason behind a pay gap is gender related, the person may react to the situation by taking legal action because sex discrimination in pay is illegal in the United States.
Table \(1\): Potential Responses to Inequity
Reactions to inequity Example
Distort perceptions Changing one’s thinking to believe that the referent actually is more skilled than previously thought
Increase referent’s inputs Encouraging the referent to work harder
Reduce own input Deliberately putting forth less effort at work. Reducing the quality of one’s work
Increase own outcomes Negotiating a raise for oneself or using unethical ways of increasing rewards such as stealing from the company
Change referent Comparing oneself to someone who is worse off
Leave the situation Quitting one’s job
Seek legal action Suing the company or filing a complaint if the unfairness in question is under legal protection
Overpayment Inequity
What would you do if you felt you were over-rewarded? In other words, how would you feel if you were the new employee in our student-worker scenario? Originally, equity theory proposed that over-rewarded individuals would experience guilt and would increase their effort to restore perceptions of equity. However, research does not provide support for this argument. Instead, it seems that individuals experience less distress as a result of being over-rewarded (Austin & Walster, 1974). It is not hard to imagine that individuals find perceptual ways to deal with a situation like this, such as believing they have more skills and bring more to the situation compared to the referent person. Therefore, research does not support equity theory’s predictions with respect to people who are overpaid (Evan & Simmons, 1969).
Individual Differences in Reactions to Inequity
So far, we have assumed that once people feel a situation is inequitable, they will be motivated to react. However, does inequity disturb everyone equally? Researchers have identified a personality trait that explains different reactions to inequity and named this trait as equity sensitivity (Huseman, Hatfield, & Miles, 1987). Equity-sensitive individuals expect to maintain equitable relationships, and they experience distress when they feel they are over-rewarded or under-rewarded. At the same time, there are some individuals who are benevolents, those who give without waiting to receive much in return, and entitleds, who expect to receive substantial compensation for relatively little input. Therefore, the theory is more useful in explaining the behavior of equity-sensitive individuals, and organizations will need to pay particular attention to how these individuals view their relationships.
Fairness Beyond Equity: Procedural and Interactional Justice
Equity theory looks at perceived fairness as a motivator. However, the way equity theory defines fairness is limited to fairness of rewards. Starting in the 1970s, research on workplace fairness began taking a broader view of justice. Equity theory deals with outcome fairness, and therefore it is considered to be a distributive justice theory. Distributive justice refers to the degree to which the outcomes received from the organization are perceived to be fair. Two other types of fairness have been identified: procedural justice and interactional justice.
Let’s assume that you just found out you are getting a promotion. Clearly, this is an exciting outcome and comes with a pay raise, increased responsibilities, and prestige. If you feel you deserve to be promoted, you would perceive high distributive justice (your getting the promotion is fair). However, you later found out upper management picked your name out of a hat! What would you feel? You might still like the outcome but feel that the decision-making process was unfair. If so, you are describing feelings of procedural justice. Procedural justice refers to the degree to which fair decision-making procedures are used to arrive at a decision. People do not care only about reward fairness. They also expect decision-making processes to be fair. In fact, research shows that employees care about the procedural justice of many organizational decisions, including layoffs, employee selection, surveillance of employees, performance appraisals, and pay decisions (Alge, 2001; Bauer et al., 1998; Kidwell, 1995). People also tend to care more about procedural justice in situations in which they do not get the outcome they feel they deserve (Brockner & Wisenfeld, 1996). If you did not get the promotion and later discovered that management chose the candidate by picking names out of a hat, how would you feel? This may be viewed as adding insult to injury. When people do not get the rewards they want, they tend to hold management responsible if procedures are not fair (Brockner et al., 2007).
Why do employees care about procedural justice? There are three potential reasons (Cropanzano, Bowen, & Gilliland, 2007; Tyler, 1994; Tyler, Degoey, & Smith, 1996). First, people tend to believe that fairness is an end in itself and it is the right thing to do. Second, fair processes guarantee future rewards. If your name was picked out of a hat, you have no control over the process, and there is no guarantee that you will get future promotions. If the procedures are fair, you are more likely to believe that things will work out in the future. Third, fairness communicates that the organization values its employees and cares about their well-being.
Research has identified many ways of achieving procedural justice. For example, giving employees advance notice before laying them off, firing them, or disciplining them is perceived as fair (Kidwell, 1995). Advance notice helps employees get ready for the changes facing them or gives them an opportunity to change their behavior before it is too late. Allowing employees voice in decision making is also important (Alge, 2001; Kernan & Hanges, 2002; Lind, Kanfer, & Earley, 1990). When designing a performance-appraisal system or implementing a reorganization, it may be a good idea to ask people for their input because it increases perceptions of fairness. Even when it is not possible to have employees participate, providing explanations to employees is helpful in fostering procedural justice (Schaubroeck, May, & William, 1994). Finally, people expect consistency in treatment (Bauer et al., 1998). If one person is given extra time when taking a test while another is not, individuals would perceive decision making as unfair.
Now let’s imagine the moment your boss told you that you are getting a promotion. Your manager’s exact words were, “Yes, we are giving you the promotion. The job is so simple that we thought even you can handle it.” Now what is your reaction? The feeling of unfairness you may now feel is explained by interactional justice. Interactional justice refers to the degree to which people are treated with respect, kindness, and dignity in interpersonal interactions. We expect to be treated with dignity by our peers, supervisors, and customers. When the opposite happens, we feel angry. Even when faced with negative outcomes such as a pay cut, being treated with dignity and respect serves as a buffer and alleviates our stress (Greenberg, 2006).
OB Toolbox: Be a Fair Person!
• When distributing rewards, make sure you pay attention to different contribution levels of employees. Treating everyone equally could be unfair if they participated and contributed at different levels. People who are more qualified, skilled, or those who did more than others expect to receive a greater share of rewards.
• Sometimes you may have to disregard people’s contributions to distribute certain rewards. Some rewards or privileges may be better distributed equally (e.g., health insurance) or based on the particular employee’s needs (such as unpaid leave for health reasons).
• Pay attention to how you make decisions. Before making a decision, ask people to give you their opinions if possible. Explain your decisions to people who are affected by it. Before implementing a change, give people advance notice. Enforce rules consistently among employees.
• Pay attention to how you talk to people. Treat others the way you want to be treated. Be kind, courteous, and considerate of their feelings.
• Remember that justice is in the eye of the beholder. Even when you feel you are being fair, others may not feel the same way, and it is their perception that counts. Therefore, pay attention to being perceived as fair.
• People do not care only about their own justice level. They also pay attention to how others are treated as well. Therefore, in addition to paying attention to how specific employees feel, creating a sense of justice in the entire organization is important.
Employers would benefit from paying attention to all three types of justice perceptions. In addition to being the right thing to do, paying attention to justice perceptions leads to outcomes companies care about. Injustice is directly harmful to employees’ psychological health and well-being and contributes to stress (Greenberg, 2004; Tepper, 2001). High levels of justice create higher levels of employee commitment to organizations, and they are related to higher job performance, higher levels of organizational citizenship (behaviors that are not part of one’s job description but help the organization in other ways, such as speaking positively about the company and helping others), and higher levels of customer satisfaction. Conversely, low levels of justice lead to retaliation and support of unionization (Blader, 2007; Cohen-Charash & Spector, 2001; Colquitt et al., 2001; Cropanzano, Bowen, & Gilliland, 2007; Masterson, 2001; Masterson et al., 2000; Moorman, 1991; Skarlicki & Folger, 1997).
Expectancy Theory
According to expectancy theory, individual motivation to put forth more or less effort is determined by a rational calculation in which individuals evaluate their situation (Porter & Lawler, 1968; Vroom, 1964). According to this theory, individuals ask themselves three questions.
The first question is whether the person believes that high levels of effort will lead to outcomes of interest, such as performance or success. This perception is labeled expectancy. For example, do you believe that the effort you put forth in a class is related to performing well in that class? If you do, you are more likely to put forth effort.
The second question is the degree to which the person believes that performance is related to subsequent outcomes, such as rewards. This perception is labeled instrumentality. For example, do you believe that getting a good grade in the class is related to rewards such as getting a better job, or gaining approval from your instructor, or from your friends or parents? If you do, you are more likely to put forth effort.
Finally, individuals are also concerned about the value of the rewards awaiting them as a result of performance. The anticipated satisfaction that will result from an outcome is labeled valence. For example, do you value getting a better job, or gaining approval from your instructor, friends, or parents? If these outcomes are desirable to you, your expectancy and instrumentality is high, and you are more likely to put forth effort.
Expectancy theory is a well-accepted theory that has received a lot of research attention (Heneman & Schwab, 1972; Van Eerde & Thierry, 1996). It is simple and intuitive. Consider the following example. Let’s assume that you are working in the concession stand of a movie theater. You have been selling an average of 100 combos of popcorn and soft drinks a day. Now your manager asks you to increase this number to 300 combos a day. Would you be motivated to try to increase your numbers? Here is what you may be thinking:
• Expectancy: Can I do it? If I try harder, can I really achieve this number? Is there a link between how hard I try and whether I reach this goal or not? If you feel that you can achieve this number if you try, you have high expectancy.
• Instrumentality: What is in it for me? What is going to happen if I reach 300? What are the outcomes that will follow? Are they going to give me a 2% pay raise? Am I going to be named the salesperson of the month? Am I going to receive verbal praise from my manager? If you believe that performing well is related to certain outcomes, instrumentality is high.
• Valence: How do I feel about the outcomes in question? Do I feel that a 2% pay raise is desirable? Do I find being named the salesperson of the month attractive? Do I think that being praised by my manager is desirable? If your answers are yes, valence is positive. In contrast, if you find the outcomes undesirable (you definitely do not want to be named the salesperson of the month because your friends would make fun of you), valence is negative.
If your answers to all three questions are affirmative—you feel that you can do it, you will get an outcome if you do it, and you value the reward—you are more likely to be motivated to put forth more effort toward selling more combos.
As a manager, how can you motivate employees? In fact, managers can influence all three perceptions (Cook, 1980).
Influencing Expectancy Perceptions
Employees may not believe that their effort leads to high performance for a multitude of reasons. First, they may not have the skills, knowledge, or abilities to successfully perform their jobs. The answer to this problem may be training employees or hiring people who are qualified for the jobs in question. Second, low levels of expectancy may be because employees may feel that something other than effort predicts performance, such as political behaviors on the part of employees. If employees believe that the work environment is not conducive to performing well (resources are lacking or roles are unclear), expectancy will also suffer. Therefore, clearing the path to performance and creating an environment in which employees do not feel restricted will be helpful. Finally, some employees may perceive little connection between their effort and performance level because they have an external locus of control, low self-esteem, or other personality traits that condition them to believe that their effort will not make a difference. In such cases, providing positive feedback and encouragement may help motivate employees.
Influencing Instrumentality Perceptions
Showing employees that their performance is rewarded is going to increase instrumentality perceptions. Therefore, the first step in influencing instrumentality is to connect pay and other rewards to performance using bonuses, award systems, and merit pay. However, this is not always sufficient, because people may not be aware of some of the rewards awaiting high performers. Publicizing any contests or award programs is needed to bring rewards to the awareness of employees. It is also important to highlight that performance, not something else, is being rewarded. For example, if a company has an employee of the month award that is rotated among employees, employees are unlikely to believe that performance is being rewarded. This type of meritless reward system may actually hamper the motivation of the highest performing employees by eroding instrumentality.
Influencing Valence
Employees are more likely to be motivated if they find the reward to be attractive. This process involves managers finding what their employees value. Desirable rewards tend to be fair and satisfy different employees’ diverging needs. Ensuring high valence involves getting to know a company’s employees. Talking to employees and surveying them about what rewards they find valuable are some methods to gain understanding. Finally, giving employees a choice between multiple rewards may be a good idea to increase valence.
Figure 5.10: Ways in Which Managers Can Influence Expectancy, Instrumentality, and Valence
Expectancy Instrumentality Valence
• Make sure employees have proper skills, abilities, and knowledge
• Ensure that the environment facilitates performance
• Provide encouragement to make people believe that their effort makes a difference
• Reward employee performance
• Inform people in advance about the rewards
• Try to eliminate non-performance influence over rewards
• Find rewards that are desirable to employees
• Make sure that the rewards are viewed as fair
• Give employees choice over rewards
Reinforcement Theory
Reinforcement theory is based on the work of Ivan Pavlov on behavioral conditioning and the later work of B. F. Skinner on operant conditioning (Skinner, 1953). According to reinforcement theory, behavior is a function of its outcomes. Imagine that even though no one asked you to, you stayed late and drafted a report. When the manager found out, she was ecstatic and took you out to lunch and thanked you genuinely. The consequences following your good deed were favorable, and therefore you are more likely to demonstrate similar behaviors in the future. In other words, your taking initiative was reinforced. Instead, if your manager had said nothing about it and everyone ignored the sacrifice you made, you are less likely to demonstrate similar behaviors in the future.
Reinforcement theory is based on a simple idea that may be viewed as common sense. Beginning at infancy we learn through reinforcement. If you have observed a small child discovering the environment, you will see reinforcement theory in action. When the child discovers manipulating a faucet leads to water coming out and finds this outcome pleasant, he is more likely to repeat the behavior. If he burns his hand while playing with hot water, the child is likely to stay away from the faucet in the future.
Despite the simplicity of reinforcement, how many times have you seen positive behavior ignored, or worse, negative behavior rewarded? In many organizations, this is a familiar scenario. People go above and beyond the call of duty, yet their actions are ignored or criticized. People with disruptive habits may receive no punishments because the manager is afraid of the reaction the person will give when confronted. Problem employees may even receive rewards such as promotions so they will be transferred to a different location and become someone else’s problem. Moreover, it is common for people to be rewarded for the wrong kind of behavior. Steven Kerr has labeled this phenomenon “the folly of rewarding A while hoping for B” (Kerr, 1995). For example, a company may make public statements about the importance of quality. Yet, if they choose to reward shipments on time regardless of the amount of defects contained in the shipments, employees are more likely to ignore quality and focus on hurrying the delivery process. Because people learn to repeat their behaviors based on the consequences following their prior activities, managers will need to systematically examine the consequences of employee behavior and make interventions when needed.
Reinforcement Interventions
Reinforcement theory describes four interventions to modify employee behavior. Two of these are methods of increasing the frequency of desired behaviors, while the remaining two are methods of reducing the frequency of undesired behaviors.
Figure 5.11 Reinforcement Methods
Positive Reinforcement Negative Reinforcement
Positive behavior followed by positive consequences (Manager praises the employee) Positive behavior followed by removal of negative consequences (Manager stops nagging the employee)
Punishment Extinction
Negative behavior followed by negative consequences (Manager demotes the employee) Negative behavior followed by removal of positive consequences (Manager ignores the behavior)
Positive reinforcement is a method of increasing the desired behavior (Beatty & Schneier, 1975). Positive reinforcement involves making sure that behavior is met with positive consequences. For example, praising an employee for treating a customer respectfully is an example of positive reinforcement. If the praise immediately follows the positive behavior, the employee will see a link between the behavior and positive consequences and will be motivated to repeat similar behaviors.
Negative reinforcement is also used to increase the desired behavior. Negative reinforcement involves removal of unpleasant outcomes once desired behavior is demonstrated. Nagging an employee to complete a report is an example of negative reinforcement. The negative stimulus in the environment will remain present until positive behavior is demonstrated. The problem with negative reinforcement is that the negative stimulus may lead to unexpected behaviors and may fail to stimulate the desired behavior. For example, the person may start avoiding the manager to avoid being nagged.
Extinction is used to decrease the frequency of negative behaviors. Extinction is the removal of rewards following negative behavior. Sometimes, negative behaviors are demonstrated because they are being inadvertently rewarded. For example, it has been shown that when people are rewarded for their unethical behaviors, they tend to demonstrate higher levels of unethical behaviors (Harvey & Sims, 1978). Thus, when the rewards following unwanted behaviors are removed, the frequency of future negative behaviors may be reduced. For example, if a coworker is forwarding unsolicited e-mail messages containing jokes, commenting and laughing at these jokes may be encouraging the person to keep forwarding these messages. Completely ignoring such messages may reduce their frequency.
Punishment is another method of reducing the frequency of undesirable behaviors. Punishment involves presenting negative consequences following unwanted behaviors. Giving an employee a warning for consistently being late to work is an example of punishment.
Reinforcement Schedules
In addition to types of reinforcements, researchers have focused their attention on schedules of reinforcement as well (Beatty & Schneier, 1975). Reinforcement is presented on a continuous schedule if reinforcers follow all instances of positive behavior. An example of a continuous schedule would be giving an employee a sales commission every time he makes a sale. In many instances, continuous schedules are impractical. For example, it would be difficult to praise an employee every time he shows up to work on time. Fixed-ratio schedules involve providing rewards every nth time the right behavior is demonstrated. An example of this would be giving the employee a bonus for every tenth sale he makes. Variable ratio involves providing the reinforcement on a random pattern, such as praising the employee occasionally when the person shows up on time. In the case of continuous schedules, behavioral change is more temporary. Once the reward is withdrawn, the person may stop performing the desired behavior. The most durable results occur under variable ratios, but there is also some evidence that continuous schedules produce higher performance than do variable schedules (Beatty & Schneier, 1975; Cherrington & Cerrington, 1974; Saari & Latham, 1982; Yukl & Latham, 1975).
OB Toolbox: Be Effective in Your Use of Discipline
As a manager, sometimes you may have to discipline an employee to eliminate unwanted behavior. Here are some tips to make this process more effective.
• Consider whether punishment is the most effective way to modify behavior. Sometimes catching people in the act of doing good things and praising or rewarding them is preferable to punishing negative behavior. Instead of criticizing them for being late, consider praising them when they are on time. Carrots may be more effective than sticks. You can also make the behavior extinct by removing any rewards that follow undesirable behavior.
• Be sure that the punishment fits the crime. If a punishment is too harsh, both the employee in question and coworkers who will learn about the punishment will feel it is unfair. Unfair punishment may not change unwanted behavior.
• Be consistent in your treatment of employees. Have disciplinary procedures and apply them in the same way to everyone. It is unfair to enforce a rule for one particular employee but then give others a free pass.
• Document the behavior in question. If an employee is going to be disciplined, the evidence must go beyond hearsay.
• Be timely with discipline. When a long period of time passes between behavior and punishment, it is less effective in reducing undesired behavior because the connection between the behavior and punishment is weaker.
A systematic way in which reinforcement theory principles are applied is called Organizational Behavior Modification (or OB Mod) (Luthans & Stajkovic, 1999). This is a systematic application of reinforcement theory to modify employee behaviors in the workplace. The model consists of five stages. The process starts with identifying the behavior that will be modified. Let’s assume that we are interested in reducing absenteeism among employees. In step 2, we need to measure the baseline level of absenteeism. How many times a month is a particular employee absent? In step 3, the behavior’s antecedents and consequences are determined. Why is this employee absent? More importantly, what is happening when the employee is absent? If the behavior is being unintentionally rewarded (e.g., the person is still getting paid or is able to avoid unpleasant assignments because someone else is doing them), we may expect these positive consequences to reinforce the absenteeism. Instead, to reduce the frequency of absenteeism, it will be necessary to think of financial or social incentives to follow positive behavior and negative consequences to follow negative behavior. In step 4, an intervention is implemented. Removing the positive consequences of negative behavior may be an effective way of dealing with the situation, or, in persistent situations, punishments may be used. Finally, in step 5 the behavior is measured periodically and maintained.
Studies examining the effectiveness of OB Mod have been supportive of the model in general. A review of the literature found that OB Mod interventions resulted in 17% improvement in performance (Stajkovic & Luthans, 1997). Particularly in manufacturing settings, OB Mod was an effective way of increasing performance, although positive effects were observed in service organizations as well.
Key Takeaways
Process-based theories use the mental processes of employees as the key to understanding employee motivation. According to equity theory, employees are demotivated when they view reward distribution as unfair. Perceptions of fairness are shaped by the comparisons they make between their inputs and outcomes with respect to a referent’s inputs and outcomes. Following equity theory, research identified two other types of fairness (procedural and interactional) that also affect worker reactions and motivation. According to expectancy theory, employees are motivated when they believe that their effort will lead to high performance (expectancy), when they believe that their performance will lead to outcomes (instrumentality), and when they find the outcomes following performance to be desirable (valence). Reinforcement theory argues that behavior is a function of its consequences. By properly tying rewards to positive behaviors, eliminating rewards following negative behaviors, and punishing negative behaviors, leaders can increase the frequency of desired behaviors. These three theories are particularly useful in designing reward systems within a company.
Exercises
1. Your manager tells you that the best way of ensuring fairness in reward distribution is to keep the pay a secret. How would you respond to this assertion?
2. When distributing bonuses or pay, how would you ensure perceptions of fairness?
3. What are the differences between procedural, interactional, and distributive justice? List ways in which you could increase each of these justice perceptions.
4. Using examples, explain the concepts of expectancy, instrumentality, and valence.
5. Some practitioners and researchers consider OB Mod unethical because it may be viewed as a way of manipulation. What would be your reaction to such a criticism? | textbooks/biz/Management/Organizational_Behavior/05%3A_Theories_of_Motivation/05.3%3A_Process-Based_Theories.txt |
Learning Objectives
1. Consider the role of motivation for ethical behavior.
2. Consider the role of national culture on motivation theories.
Motivation and Ethics
What motivates individuals to behave unethically? Motivation theories have been applied to explain this interesting and important question. One theory that has been particularly successful in explaining ethical behavior is reinforcement theory. Just like any other behavior such as performance or cooperation, ethical behavior is one that is learned as a result of the consequences following one’s actions. For example, in an experiment simulating the job of a sales manager, participants made a series of decisions using a computer. Partway through the simulation, subjects were informed that salespeople reporting to them were giving kickbacks to customers. Subjects in this experiment were more likely to cut the kickbacks if there was a threat of punishment to the manager. On the other hand, subjects playing the sales manager were more likely to continue giving away the kickbacks if they made a profit after providing the kickbacks (Hegarty & Sims, 1978). In a separate study highlighting the importance of rewards and punishments, researchers found that the severity of expected punishment was the primary predictor of whether subjects reported inclination to behave unethically. In addition to the severity of the punishment, the perceived likelihood of punishment was also a major influence of ethical behavior (Rettig & Rawson, 1963). These findings highlight the importance of rewards and punishments for motivating unethical behaviors.
There are many organizational situations in which individuals may do unethical things but then experience positive consequences such as being awarded promotions for meeting their sales quotas. For example, in many hotels, staff members routinely receive kickbacks from restaurants or bars if they refer customers to those locations (Elliott, 2007). Similarly, sales staff rewarded with spiffs (product-specific sales incentives) may give customers advice that goes against their own personal beliefs and in this sense act unethically (Radin & Predmore, 2002). As long as unethical behavior is followed by positive consequences for the person in question, we would expect unethical behavior to continue. Thus, in order to minimize the occurrence of unethical behavior (and in some instances legal problems), it seems important to examine the rewards and punishments that follow unethical behavior and remove rewards following unethical behavior while increasing the severity and likelihood of punishment.
Motivation Around the Globe
Motivation is a culturally bound topic. In other words, the factors that motivate employees in different cultures may not be equivalent. The motivation theories we cover in this chapter are likely to be culturally bound because they were developed by Western researchers and the majority of the research supporting each theory was conducted on Western subjects.
Based on the cultural context, Maslow’s hierarchy of needs may require modification because the ranking of the needs may differ across cultures. For example, a study conducted in 39 countries showed that financial satisfaction was a stronger predictor of overall life satisfaction in developing nations compared to industrialized nations. In industrialized nations, satisfaction with esteem needs was a more powerful motivator than it was in developing nations (Oishi, Diener, & Suh, 1999).
People around the world value justice and fairness. However, what is perceived as fair may be culturally dependent. Moreover, people in different cultures may react differently to perceived unfairness (Erdogan & Liden, 2006; Mueller & Wynn, 2000). For example, in cross-cultural studies, it was found that participants in low power distance cultures such as the United States and Germany valued voice into the process (the opportunities for explanation and appealing a decision) more than those in high power distance cultures such as China and Mexico. At the same time, interactional justice was valued more by the Chinese subjects (Brockner et al., 2001; Tata, 2005). There is also some evidence indicating that equity (rewarding employees based on their contributions to a group) may be a culture-specific method of achieving fairness. One study shows that Japanese subjects viewed equity as less fair and equality-based distributions as more fair than did Australian subjects (Kashima et al., 1988). Similarly, subjects in different cultures varied in their inclination to distribute rewards based on subjects’ need or age, and in cultures such as Japan and India, a person’s need may be a relevant factor in reward distributions (Kashima et al., 1988; Murphy-Berman et al., 1984).
Key Takeaways
Motivation theories are particularly useful for understanding why employees behave unethically. Based on reinforcement theory, people will demonstrate higher unethical behaviors if their unethical behaviors are followed by rewards or go unpunished. Similarly, according to expectancy theory, if people believe that their unethical actions will be rewarded with desirable outcomes, they are more likely to demonstrate unethical behaviors. In terms of culture, some of the motivation theories are likely to be culture-bound, whereas others may more readily apply to other cultures. Existing research shows that what is viewed as fair or unfair tends to be culturally defined.
Exercises
1. What is the connection between a company’s reward system and the level of ethical behaviors?
2. Which of the motivation theories do you think would be more applicable to many different cultures? | textbooks/biz/Management/Organizational_Behavior/05%3A_Theories_of_Motivation/05.4%3A_The_Role_of_Ethics_and_National_Culture.txt |
People in Hawaiian T-shirts. Delicious fresh fruits and vegetables. A place where parking is tight and aisles are tiny. A place where you will be unable to find half the things on your list but will go home satisfied. We are, of course, talking about Trader Joe’s (a privately held company), a unique grocery store headquartered in California and located in 22 states. By selling store-brand and gourmet foods at affordable prices, this chain created a special niche for itself. Yet the helpful employees who stock the shelves and answer questions are definitely key to what makes this store unique and helps it achieve twice the sales of traditional supermarkets.
Shopping here is fun, and chatting with employees is a routine part of this experience. Employees are upbeat and friendly to each other and to customers. If you look lost, there is the definite offer of help. But somehow the friendliness does not seem scripted. Instead, if they see you shopping for big trays of cheese, they might casually inquire if you are having a party and then point to other selections. If they see you chasing your toddler, they are quick to tie a balloon to his wrist. When you ask them if they have any cumin, they get down on their knees to check the back of the aisle, with the attitude of helping a guest that is visiting their home. How does a company make sure its employees look like they enjoy being there to help others?
One of the keys to this puzzle is pay. Trader Joe’s sells cheap organic food, but they are not “cheap” when it comes to paying their employees. Employees, including part-timers, are among the best paid in the retail industry. Full-time employees earn an average of \$40,150 in their first year and also earn average annual bonuses of \$950 with \$6,300 in retirement contributions. Store managers’ average compensation is \$132,000. With these generous benefits and above-market wages and salaries, the company has no difficulty attracting qualified candidates.
But money only partially explains what energizes Trader Joe’s employees. They work with people who are friendly and upbeat. The environment is collaborative, so that people fill in for each other and managers pick up the slack when the need arises, including tasks like sweeping the floors. Plus, the company promotes solely from within, making Trader Joe’s one of few places in the retail industry where employees can satisfy their career aspirations. Employees are evaluated every 3 months and receive feedback about their performance.
Employees are also given autonomy on the job. They can open a product to have the customers try it and can be honest about their feelings toward different products. They receive on- and off-the-job training and are intimately familiar with the products, which enables them to come up with ideas that are taken seriously by upper management. In short, employees love what they do, work with nice people who treat each other well, and are respected by the company. When employees are treated well, it is no wonder they treat their customers well daily.
Discussion Questions
1. How much of Trader Joe’s success can be attributed to the fact that most larger chain grocery stores do not sell the type of food available at Trader Joe’s?
2. Is pay enough of an incentive to continue at a job you do not enjoy?
3. Trader Joe’s promotes entirely from within the organization. This means that if you are a good, dedicated worker, you can rise up within the company. Do you feel employees would be as dedicated to the company if this were not the case? Would high pay be enough to keep employees? What if the company only promoted from within but pay were not as good?
05.6: Conclusion
In this chapter we have reviewed the basic motivation theories that have been developed to explain motivated behavior. Several theories view motivated behavior as attempts to satisfy needs. Based on this approach, managers would benefit from understanding what people need so that the actions of employees can be understood and managed. Other theories explain motivated behavior using the cognitive processes of employees. Employees respond to unfairness in their environment, they learn from the consequences of their actions and repeat the behaviors that lead to positive results, and they are motivated to exert effort if they see their actions will lead to outcomes that would get them desired rewards. None of these theories are complete on their own, but each theory provides us with a framework we can use to analyze, interpret, and manage employee behaviors in the workplace. | textbooks/biz/Management/Organizational_Behavior/05%3A_Theories_of_Motivation/05.5%3A_Motivation_in_Action%3A_The_Case_of_Trader_Joes.txt |
Ethical Dilemma
Companies are interested in motivating employees: Work hard, be productive, behave ethically—and stay healthy. Health care costs are rising, and employers are finding that unhealthy habits such as smoking or being overweight are costing companies big bucks.
Your company is concerned about the rising health care costs and decides to motivate employees to adopt healthy habits. Therefore, employees are given a year to quit smoking. If they do not quit by then, they are going to lose their jobs. New employees will be given nicotine tests, and the company will avoid hiring new smokers in the future. The company also wants to encourage employees to stay healthy. For this purpose, employees will get cash incentives for weight loss. If they do not meet the weight, cholesterol, and blood pressure standards to be issued by the company, they will be charged extra fees for health insurance.
Is this plan ethical? Why or why not? Can you think of alternative ways to motivate employees to adopt healthy habits?
Individual Exercise
Your company provides diversity training programs to ensure that employees realize the importance of working with a diverse workforce, are aware of the equal employment opportunity legislation, and are capable of addressing the challenges of working in a multicultural workforce. Participation in these programs is mandatory, and employees are required to take the training as many times as needed until they pass. The training program lasts one day and is usually conducted in a nice hotel outside the workplace. Employees are paid for the time they spend in the training program. You realize that employees are not really motivated to perform well in this program. During the training, they put in the minimum level of effort, and most participants fail the exam given at the conclusion of the training program and then have to retake the training.
Using expectancy and reinforcement theories, explain why they may not be motivated to perform well in the training program. Then suggest improvements in the program so that employees are motivated to understand the material, pass the exam, and apply the material in the workplace.
Group Exercise
A Reward Allocation Decision
You are in charge of allocating a \$12,000 bonus to a team that recently met an important deadline. The team was in charge of designing a Web-based product for a client. The project lasted a year. There were five people in the team. Your job is to determine each person’s share from the bonus.
Devin: Project manager. He was instrumental in securing the client, coordinating everyone’s effort, and managing relationships with the client. He put in a lot of extra hours for this project. His annual salary is \$80,000. He is independently wealthy, drives an expensive car, and does not have any debt. He has worked for the company for 5 years and worked for the project from the beginning.
Alice: Technical lead. She oversaw the technical aspects of the project. She resolved many important technical issues. During the project, while some members worked extra hours, she refused to stay at the office outside regular hours. However, she was productive during regular work hours, and she was accessible via e-mail in the evenings. Her salary is \$50,000. She is a single mother and has a lot of debt. She has worked for the company for 4 years and worked for the project for 8 months.
Erin: Graphic designer. She was in charge of the creative aspects of the project. She experimented with many looks, and while doing that she slowed down the entire team. Brice and Carrie were mad at her because of the many mistakes she made during the project, but the look and feel of the project eventually appealed to the client, which resulted in repeat business. Her salary is \$30,000. She is single and lives to party. She has worked for the company for 2 years and worked for this project from the beginning.
Brice: Tester. He was in charge of finding the bugs in the project and ensuring that it worked. He found many bugs, but he was not very aggressive in his testing. He misunderstood many things, and many of the bugs he found were not really bugs but his misuse of the system. He had a negative attitude toward the whole project, acted very pessimistically regarding the likelihood of success, and demoralized the team. His salary is \$40,000. He has accumulated a large credit card debt. He has worked for the company for 3 years and worked for the project in the last 6 months.
Carrie: Web developer. She was in charge of writing the code. She was frustrated when Erin slowed down the entire project because of her experimentation. Carrie was primarily responsible for meeting the project deadline because she put in a lot of extra work hours. Her salary is \$50,000. Her mother has ongoing health issues, and Carrie needs money to help her. She worked for the company for the past year and was involved in this project for 6 months. | textbooks/biz/Management/Organizational_Behavior/05%3A_Theories_of_Motivation/05.7%3A_Exercises.txt |
Manufacturing steel is not a glamorous job. The industry is beset by many problems, and more than 40 steel manufacturers have filed for bankruptcy in recent years. Most young employees do not view working at a steel mill as their dream job. Yet, one company distinguished itself from all the rest by remaining profitable for over 130 quarters and by providing an over 350% return on investment (ROI) to shareholders. The company is clearly doing well by every financial metric available and is the most profitable in its industry.
How do they achieve these amazing results? For one thing, every one of Nucor Corporation’s (NYSE: NUE) 12,000 employees acts like an owner of the company. Employees are encouraged to fix the things they see as wrong and have real power on their jobs. When there is a breakdown in a plant, a supervisor does not have to ask employees to work overtime; employees volunteer for it. In fact, the company is famous for its decentralized structure and for pushing authority and responsibility down to lower levels in the hierarchy. Tasks that previously belonged to management are performed by line workers. Management listens to lower level employees and routinely implements their new ideas.
The reward system in place at Nucor is also unique, and its employees may be the highest paid steelworkers in the world. In 2005, the average Nucor employee earned \$79,000, followed by a \$2,000 bonus decided by the company’s annual earnings and \$18,000 in the form of profit sharing. At the same time, a large percentage of these earnings are based on performance. People have the opportunity to earn a lot of money if the company is doing well, and there is no upward limit to how much they can make. However, they will do much worse than their counterparts in other mills if the company does poorly. Thus, it is to everyone’s advantage to help the company perform well. The same incentive system exists at all levels of the company. CEO pay is clearly tied to corporate performance. The incentive system penalizes low performers while increasing commitment to the company as well as to high performance.
Nucor’s formula for success seems simple: align company goals with employee goals and give employees real power to make things happen. The results seem to work for the company and its employees. Evidence of this successful method is that the company has one of the lowest employee turnover rates in the industry and remains one of the few remaining nonunionized environments in manufacturing. Nucor is the largest U.S. minimill and steel scrap recycler.
Discussion Questions
1. What are some potential problems with closely tying employee pay to company performance?
2. Nucor has one of the lowest turnover rates in the industry. How much of the organization’s employee retention is related to the otherwise low pay of the steel working industry?
3. What would Nucor’s strategy look like in a nonmanufacturing environment (e.g., a bank)?
4. Would Nucor’s employee profit-sharing system work at a much larger company? At what point does a company become too large for profit sharing to make a difference in employee motivation?
5. Imagine that the steel industry is taking a major economic hit and Nucor’s profits are way down. Employees are beginning to feel the pinch of substantially reduced pay. What can Nucor do to keep its employees happy? | textbooks/biz/Management/Organizational_Behavior/06%3A_Designing_a_Motivating_Work_Environment/06.1%3A_Motivating_Steel_Workers_Works%3A_The_Case_of_Nucor.txt |
Learning Objectives
1. Learn about the history of job design approaches.
2. Consider alternatives to job specialization.
3. Identify job characteristics that increase motivating potential.
4. Learn how to empower employees.
Importance of Job Design
Many of us assume the most important motivator at work is pay. Yet, studies point to a different factor as the major influence over worker motivation—job design. How a job is designed has a major impact on employee motivation, job satisfaction, commitment to an organization, absenteeism, and turnover.
The question of how to properly design jobs so that employees are more productive and more satisfied has received attention from managers and researchers since the beginning of the 20th century. We will review major approaches to job design starting from its early history.
Scientific Management and Job Specialization
Perhaps the earliest attempt to design jobs came during the era of scientific management. Scientific management is a philosophy based on the ideas of Frederick Taylor as presented in his 1911 book, Principles of Scientific Management. Taylor’s book is among the most influential books of the 20th century; the ideas presented had a major influence over how work was organized in the following years. Taylor was a mechanical engineer in the manufacturing industry. He saw work being done haphazardly, with only workers in charge. He saw the inefficiencies inherent in employees’ production methods and argued that a manager’s job was to carefully plan the work to be performed by employees. He also believed that scientific methods could be used to increase productivity. As an example, Taylor found that instead of allowing workers to use their own shovels, as was the custom at the time, providing specially designed shovels increased productivity. Further, by providing training and specific instructions, he was able to dramatically reduce the number of laborers required to handle each job (Taylor, 1911; Wilson, 1999).
Scientific management proposed a number of ideas that have been influential in job design in the following years. An important idea was to minimize waste by identifying the most efficient method to perform the job. Using time–motion studies, management could determine how much time each task would require and plan the tasks so that the job could be performed as efficiently as possible. Therefore, standardized job performance methods were an important element of scientific management techniques. Each job would be carefully planned in advance, and employees would be paid to perform the tasks in the way specified by management.
Furthermore, job specialization was one of the major advances of this approach. Job specialization entails breaking down jobs into their simplest components and assigning them to employees so that each person would perform a select number of tasks in a repetitive manner. There are a number of advantages to job specialization. Breaking tasks into simple components and making them repetitive reduces the skill requirements of the jobs and decreases the effort and cost of staffing. Training times for simple, repetitive jobs tend to be shorter as well. On the other hand, from a motivational perspective, these jobs are boring and repetitive and therefore associated with negative outcomes such as absenteeism (Campion & Thayer, 1987). Also, job specialization is ineffective in rapidly changing environments where employees may need to modify their approach according to the demands of the situation (Wilson, 1999).
Today, Taylorism has a bad reputation, and it is often referred to as the “dark ages” of management when employees’ social motives were ignored. Yet, it is important to recognize the fundamental change in management mentality brought about by Taylor’s ideas. For the first time, managers realized their role in influencing the output levels of employees. The concept of scientific management has had a lasting impact on how work is organized. Taylor’s work paved the way to automation and standardization that is virtually universal in today’s workplace. Assembly lines where each worker performs simple tasks in a repetitive manner are a direct result of job specialization efforts. Job specialization eventually found its way to the service industry as well. One of the biggest innovations of the famous McDonald brothers’ first fast-food restaurant was the application of scientific management principles to their operations. They divided up the tasks so that one person took the orders while someone else made the burgers, another person applied the condiments, and yet another wrapped them. With this level of efficiency, customers generally received their order within 1 minute (Spake, 2001; Business heroes, 2005).
Rotation, Job Enlargement, and Enrichment
One of the early alternatives to job specialization was job rotation. Job rotation involves moving employees from job to job at regular intervals. When employees periodically move to different jobs, the monotonous aspects of job specialization can be relieved. For example, Maids International Inc., a company that provides cleaning services to households and businesses, utilizes job rotation so that maids cleaning the kitchen in one house would clean the bedroom in a different one (Denton, 1994). Using this technique, among others, the company is able to reduce its turnover level. In a supermarket study, cashiers were rotated to work in different departments. As a result of the rotation, employees’ stress levels were reduced, as measured by their blood pressure. Moreover, they experienced less pain in their neck and shoulders (Rissen et al., 2002).
Job rotation has a number of advantages for organizations. It is an effective way for employees to acquire new skills and in turn for organizations to increase the overall skill level of their employees (Campion, Cheraskin, & Stevens, 1994). When workers move to different positions, they are cross-trained to perform different tasks, thereby increasing the flexibility of managers to assign employees to different parts of the organization when needed. In addition, job rotation is a way to transfer knowledge between departments (Kane, Argote, & Levine, 2005). Rotation may also have the benefit of reducing employee boredom, depending on the nature of the jobs the employee is performing at a given time. From the employee standpoint, rotation is a benefit, because they acquire new skills that keep them marketable in the long run.
Is rotation used only at lower levels of an organization? Anecdotal evidence suggests that companies successfully rotate high-level employees to train managers and increase innovation in the company. For example, Nokia uses rotation at all levels, such as assigning lawyers to act as country managers or moving network engineers to handset design. This approach is thought to bring a fresh perspective to old problems (Wylie, 2003). Wipro Ltd., India’s information technology giant that employs about 80,000 workers, uses a 3-year plan to groom future leaders of the company by rotating them through different jobs (Ramamurti, 2001).
Job enlargement refers to expanding the tasks performed by employees to add more variety. By giving employees several different tasks to be performed, as opposed to limiting their activities to a small number of tasks, organizations hope to reduce boredom and monotony as well as utilize human resources more effectively. Job enlargement may have similar benefits to job rotation, because it may also involve teaching employees multiple tasks. Research indicates that when jobs are enlarged, employees view themselves as being capable of performing a broader set of tasks (Parker, 1998). There is some evidence that job enlargement is beneficial, because it is positively related to employee satisfaction and higher quality customer services, and it increases the chances of catching mistakes (Campion & McClelland, 1991). At the same time, the effects of job enlargement may depend on the type of enlargement. For example, job enlargement consisting of adding tasks that are very simple in nature had negative consequences on employee satisfaction with the job and resulted in fewer errors being caught. Alternatively, giving employees more tasks that require them to be knowledgeable in different areas seemed to have more positive effects (Campion & McClelland, 1993).
Job enrichment is a job redesign technique that allows workers more control over how they perform their own tasks. This approach allows employees to take on more responsibility. As an alternative to job specialization, companies using job enrichment may experience positive outcomes, such as reduced turnover, increased productivity, and reduced absences (McEvoy & Cascio, 1985; Locke, Sirota, & Wolfson, 1976). This may be because employees who have the authority and responsibility over their work can be more efficient, eliminate unnecessary tasks, take shortcuts, and increase their overall performance. At the same time, there is evidence that job enrichment may sometimes cause dissatisfaction among certain employees (Locke, Sirota, & Wolfson, 1976). The reason may be that employees who are given additional autonomy and responsibility may expect greater levels of pay or other types of compensation, and if this expectation is not met they may feel frustrated. One more thing to remember is that job enrichment is not suitable for everyone (Cherrington & Lynn, 1980; Hulin & Blood, 1968). Not all employees desire to have control over how they work, and if they do not have this desire, they may become frustrated with an enriched job.
Job Characteristics Model
The job characteristics model is one of the most influential attempts to design jobs with increased motivational properties (Hackman & Oldham, 1975). Proposed by Hackman and Oldham, the model describes five core job dimensions leading to three critical psychological states, resulting in work-related outcomes.
Skill variety refers to the extent to which the job requires a person to utilize multiple high-level skills. A car wash employee whose job consists of directing customers into the automated car wash demonstrates low levels of skill variety, whereas a car wash employee who acts as a cashier, maintains carwash equipment, and manages the inventory of chemicals demonstrates high skill variety.
Task identity refers to the degree to which a person is in charge of completing an identifiable piece of work from start to finish. A Web designer who designs parts of a Web site will have low task identity, because the work blends in with other Web designers’ work; in the end it will be hard for any one person to claim responsibility for the final output. The Web master who designs an entire Web site will have high task identity.
Task significance refers to whether a person’s job substantially affects other people’s work, health, or well-being. A janitor who cleans the floors at an office building may find the job low in significance, thinking it is not a very important job. However, janitors cleaning the floors at a hospital may see their role as essential in helping patients get better. When they feel that their tasks are significant, employees tend to feel that they are making an impact on their environment, and their feelings of self-worth are boosted (Grant, 2008).
Autonomy is the degree to which a person has the freedom to decide how to perform his or her tasks. As an example, an instructor who is required to follow a predetermined textbook, covering a given list of topics using a specified list of classroom activities, has low autonomy. On the other hand, an instructor who is free to choose the textbook, design the course content, and use any relevant materials when delivering lectures has higher levels of autonomy. Autonomy increases motivation at work, but it also has other benefits. Giving employees autonomy at work is a key to individual as well as company success, because autonomous employees are free to choose how to do their jobs and therefore can be more effective. They are also less likely to adopt a “this is not my job” approach to their work environment and instead be proactive (do what needs to be done without waiting to be told what to do) and creative (Morgeson, Delaney-Klinger, & Hemingway, 2005; Parker, Wall, & Jackson, 1997; Parker, Williams, & Turner, 2006; Zhou, 1998). The consequence of this resourcefulness can be higher company performance. For example, a Cornell University study shows that small businesses that gave employees autonomy grew four times more than those that did not (Davermann, 2006). Giving employees autonomy is also a great way to train them on the job. For example, Gucci’s CEO Robert Polet points to the level of autonomy he was given while working at Unilever PLC as a key to his development of leadership talents (Gumbel, 2008). Autonomy can arise from workplace features, such as telecommuting, company structure, organizational climate, and leadership style (Gajendran & Harrison, 2007; Garnier, 1982; Lyon & Ivancevich, 1974; Parker, 2003).
Feedback refers to the degree to which people learn how effective they are being at work. Feedback at work may come from other people, such as supervisors, peers, subordinates, and customers, or it may come from the job itself. A salesperson who gives presentations to potential clients but is not informed of the clients’ decisions, has low feedback at work. If this person receives notification that a sale was made based on the presentation, feedback will be high.
The relationship between feedback and job performance is more controversial. In other words, the mere presence of feedback is not sufficient for employees to feel motivated to perform better. In fact, a review of this literature shows that in about one-third of the cases, feedback was detrimental to performance (Kluger & DeNisi, 1996). In addition to whether feedback is present, the sign of feedback (positive or negative), whether the person is ready to receive the feedback, and the manner in which feedback was given will all determine whether employees feel motivated or demotivated as a result of feedback.
According to the job characteristics model, the presence of these five core job dimensions leads employees to experience three psychological states: They view their work as meaningful, they feel responsible for the outcomes, and they acquire knowledge of results. These three psychological states in turn are related to positive outcomes such as overall job satisfaction, internal motivation, higher performance, and lower absenteeism and turnover (Brass, 1985; Humphrey, Nahrgang, & Morgeson, 2007; Johns, Xie, & Fang, 1992; Renn & Vandenberg, 1995). Research shows that out of these three psychological states, experienced meaningfulness is the most important for employee attitudes and behaviors, and it is the key mechanism through which the five core job dimensions operate.
Are all five job characteristics equally valuable for employees? Hackman and Oldham’s model proposes that the five characteristics will not have uniform effects. Instead, they proposed the following formula to calculate the motivating potential of a given job (Hackman & Oldham, 1975):
Equation 6.1
MPS = ((Skill Variety + Task Identity + Task Significance) ÷ 3) × Autonomy × Feedback
According to this formula, autonomy and feedback are the more important elements in deciding motivating potential compared to skill variety, task identity, or task significance. Moreover, note how the job characteristics interact with each other in this model. If someone’s job is completely lacking in autonomy (or feedback), regardless of levels of variety, identity, and significance, the motivating potential score will be very low.
Note that the five job characteristics are not objective features of a job. Two employees working in the same job may have very different perceptions regarding how much skill variety, task identity, task significance, autonomy, or feedback the job affords. In other words, motivating potential is in the eye of the beholder. This is both good and bad news. The bad news is that even though a manager may design a job that is supposed to motivate employees, some employees may not find the job to be motivational. The good news is that sometimes it is possible to increase employee motivation by helping employees change their perspective about the job. For example, employees laying bricks at a construction site may feel their jobs are low in significance, but by pointing out that they are building a home for others, their perceptions about their job may be changed.
Do all employees expect to have a job that has a high motivating potential? Research has shown that the desire for the five core job characteristics is not universal. One factor that affects how much of these characteristics people want or need is growth need strength. Growth need strength describes the degree to which a person has higher order needs, such as self-esteem and self-actualization. When an employee’s expectation from his job includes such higher order needs, employees will have high-growth need strength, whereas those who expect their job to pay the bills and satisfy more basic needs will have low-growth need strength. Not surprisingly, research shows that those with high-growth need strength respond more favorably to jobs with a high motivating potential (Arnold & House, 1980; Hackman & Lawler, 1971; Hackman & Oldham, 1975; Oldham, Hackman, & Pearce, 1976). It also seems that an employee’s career stage influences how important the five dimensions are. For example, when employees are new to an organization, task significance is a positive influence over job satisfaction, but autonomy may be a negative influence (Katz, 1978).
OB Toolbox: Increase the Feedback You Receive: Seek It!
• If you are not receiving enough feedback on the job, it is better to seek it instead of trying to guess how you are doing. Consider seeking regular feedback from your boss. This also has the added benefit of signaling to the manager that you care about your performance and want to be successful.
• Be genuine in your desire to learn. When seeking feedback, your aim should be improving yourself as opposed to creating the impression that you are a motivated employee. If your manager thinks that you are managing impressions rather than genuinely trying to improve your performance, seeking feedback may hurt you.
• Develop a good relationship with your manager. This has the benefit of giving you more feedback in the first place. It also has the upside of making it easier to ask direct questions about your own performance.
• Consider finding trustworthy peers who can share information with you regarding your performance. Your manager is not the only helpful source of feedback.
• Be gracious when you receive feedback. If you automatically go on the defensive the first time you receive negative feedback, there may not be a next time. Remember, even if receiving feedback, positive or negative, feels uncomfortable, it is a gift. You can improve your performance using feedback, and people giving negative feedback probably feel they are risking your good will by being honest. Be thankful and appreciative when you receive any feedback and do not try to convince the person that it is inaccurate (unless there are factual mistakes).
Empowerment
One of the contemporary approaches to motivating employees through job design is empowerment. The concept of empowerment extends the idea of autonomy. Empowerment may be defined as the removal of conditions that make a person powerless (Conger & Kanugo, 1988). The idea behind empowerment is that employees have the ability to make decisions and perform their jobs effectively if management removes certain barriers. Thus, instead of dictating roles, companies should create an environment where employees thrive, feel motivated, and have discretion to make decisions about the content and context of their jobs. Employees who feel empowered believe that their work is meaningful. They tend to feel that they are capable of performing their jobs effectively, have the ability to influence how the company operates, and can perform their jobs in any way they see fit, without close supervision and other interference. These liberties enable employees to feel powerful (Spreitzer, 1995; Thomas & Velthouse, 1990). In cases of very high levels of empowerment, employees decide what tasks to perform and how to perform them, in a sense managing themselves.
Research has distinguished between structural elements of empowerment and felt empowerment. Structural empowerment refers to the aspects of the work environment that give employees discretion, autonomy, and the ability to do their jobs effectively. The idea is that the presence of certain structural factors helps empower people, but in the end empowerment is a perception. The following figure demonstrates the relationship between structural and felt empowerment. For example, at Harley-Davidson Motor Company, employees have the authority to stop the production line if they see a blemish on the product (Lustgarten, 2004). Leadership style is another influence over experienced empowerment (Kark, Shamir, & Chen, 2003). If the manager is controlling, micromanaging, and bossy, chances are that empowerment will not be possible. A company’s structure has a role in determining empowerment as well. Factories organized around teams, such as the Saturn plant of General Motors Corporation, can still empower employees, despite the presence of a traditional hierarchy (Ford & Fottler, 1995). Access to information is often mentioned as a key factor in empowering employees. If employees are not given information to make an informed decision, empowerment attempts will fail. Therefore, the relationship between access to information and empowerment is well established. Finally, empowering individual employees cannot occur in a bubble, but instead depends on creating a climate of empowerment throughout the entire organization (Seibert, Silver, & Randolph, 2004).
Empowerment of employees tends to be beneficial for organizations, because it is related to outcomes such as employee innovativeness, managerial effectiveness, employee commitment to the organization, customer satisfaction, job performance, and behaviors that benefit the company and other employees (Ahearne, Mathieu, & Rapp, 2005; Alge et al., 2006; Chen et al., 2007; Liden, Wayne, & Sparrowe, 2000; Spreitzer, 1995). At the same time, empowerment may not necessarily be suitable for all employees. Those individuals with low growth strength or low achievement need may not benefit as strongly from empowerment. Moreover, the idea of empowerment is not always easy to implement, because some managers may feel threatened when subordinates are empowered. If employees do not feel ready for empowerment, they may also worry about the increased responsibility and accountability. Therefore, preparing employees for empowerment by carefully selecting and training them is important to the success of empowerment interventions.
OB Toolbox: Tips for Empowering Employees
• Change the company structure so that employees have more power on their jobs. If jobs are strongly controlled by organizational procedures or if every little decision needs to be approved by a superior, employees are unlikely to feel empowered. Give them discretion at work.
• Provide employees with access to information about things that affect their work. When employees have the information they need to do their jobs well and understand company goals, priorities, and strategy, they are in a better position to feel empowered.
• Make sure that employees know how to perform their jobs. This involves selecting the right people as well as investing in continued training and development.
• Do not take away employee power. If someone makes a decision, let it stand unless it threatens the entire company. If management undoes decisions made by employees on a regular basis, employees will not believe in the sincerity of the empowerment initiative.
• Instill a climate of empowerment in which managers do not routinely step in and take over. Instead, believe in the power of employees to make the most accurate decisions, as long as they are equipped with the relevant facts and resources.
Key Takeaways
Job specialization is the earliest approach to job design, originally described by the work of Frederick Taylor. Job specialization is efficient but leads to boredom and monotony. Early alternatives to job specialization include job rotation, job enlargement, and job enrichment. Research shows that there are five job components that increase the motivating potential of a job: Skill variety, task identity, task significance, autonomy, and feedback. Finally, empowerment is a contemporary way of motivating employees through job design. These approaches increase worker motivation and have the potential to increase performance.
Exercises
1. Is job rotation primarily suitable to lower level employees, or is it possible to use it at higher levels in the organization?
2. What is the difference between job enlargement and job enrichment? Which of these approaches is more useful in dealing with the boredom and monotony of job specialization?
3. Consider a job you held in the past. Analyze the job using the framework of the job characteristics model.
4. Does a job with a high motivating potential motivate all employees? Under which conditions is the model less successful in motivating employees?
5. How would you increase the empowerment levels of employees? | textbooks/biz/Management/Organizational_Behavior/06%3A_Designing_a_Motivating_Work_Environment/06.2%3A_Motivating_Employees_Through_Job_Design.txt |
Learning Objectives
1. Describe why goal setting motivates employees.
2. Identify characteristics of a goal that make it effective.
3. Identify limitations of goals.
4. Understand how to tie individual goals to strategic goals.
Goal-Setting Theory
Goal-setting theory (Locke & Latham, 1990) is one of the most influential and practical theories of motivation. In fact, in a survey of organizational behavior scholars, it has been rated as the most important (out of 73 theories) (Miner, 2003). The theory has been supported in over 1,000 studies with employees ranging from blue-collar workers to research-and-development employees, and there is strong support that setting goals is related to performance improvements (Ivancevich & McMahon, 1982; Latham & Locke, 2006; Umstot, Bell, & Mitchell, 1976). According to one estimate, goal setting improves performance at least 10%–25% (Pritchard et al., 1988). Based on this evidence, thousands of companies around the world are using goal setting in some form, including Coca Cola Company, PricewaterhouseCoopers International Ltd., Nike Inc., Intel Corporation, and Microsoft Corporation, to name a few.
Setting SMART Goals
Are you motivated simply because you have set a goal? The mere presence of a goal does not motivate individuals. Think about New Year’s resolutions that you made but failed to keep. Maybe you decided that you should lose some weight but then never put a concrete plan in action. Maybe you decided that you would read more but didn’t. Why did your goal fail?
Accumulating research evidence indicates that effective goals are SMART. A SMART goal is a goal that is specific, measurable, aggressive, realistic, and time-bound.
Specific and Measurable
Effective goals are specific and measurable. For example, “increasing sales to a region by 10%” is a specific goal, whereas deciding to “delight customers” is not specific or measurable. When goals are specific, performance tends to be higher (Tubbs, 1986). Why? If goals are not specific and measurable, how would you know whether you have reached the goal? A wide distribution of performance levels could potentially be acceptable. For the same reason, “doing your best” is not an effective goal, because it is not measurable and does not give you a specific target.
Certain aspects of performance are easier to quantify. For example, it is relatively easy to set specific goals for productivity, sales, number of defects, or turnover rates. However, not everything that is easy to measure should be measured. Moreover, some of the most important elements of someone’s performance may not be easily quantifiable (such as employee or customer satisfaction). So how do you set specific and measurable goals for these soft targets? Even though some effort will be involved, metrics such as satisfaction can and should be quantified. For example, you could design a survey for employees and customers to track satisfaction ratings from year to year.
Aggressive
This may sound counterintuitive, but effective goals are difficult, not easy. Aggressive goals are also called stretch goals. According to a Hay Group study, one factor that distinguishes companies that are ranked as “Most Admired Companies” in Fortune magazine is that they set more difficult goals (Stein, 2000). People with difficult goals outperform those with easier goals (Mento, Steel, & Karren, 1987; Phillips & Gully, 1997; Tubbs, 1986; Yukl & Latham, 1978). Why? Easy goals do not provide a challenge. When goals are aggressive and require people to work harder or smarter, performance tends to be dramatically higher. Research shows that people who have a high level of self-efficacy and people who have a high need for achievement tend to set more difficult goals for themselves (Phillips & Gully, 1997).
Realistic
While goals should be difficult, they should also be based in reality. In other words, if a goal is viewed as impossible to reach, it will not have any motivational value. In fact, setting impossible goals and then punishing people for not reaching these goals is cruel and will demotivate employees.
Time-Bound
The goal should contain a statement regarding when the proposed performance level will be reached. For example, “increasing sales to a region by 10%” is not a time-bound goal, because there is no time limit. Adding a limiter such as “by December of the current fiscal year” gives employees a sense of time urgency.
Here is a sample SMART goal: Wal-Mart Stores Inc. recently set a goal to eliminate 25% of the solid waste from U.S. stores by the year 2009. This goal meets all the conditions of being SMART (as long as 25% is a difficult yet realistic goal) (Heath & Heath, 2008). Even though it seems like a simple concept, in reality many goals that are set within organizations may not be SMART. For example, Microsoft recently conducted an audit of its goal setting and performance review system and found that only about 40% of the goals were specific and measurable (Shaw, 2004).
Why Do SMART Goals Motivate?
There are at least four reasons why goals motivate (Latham, 2004; Seijts & Latham, 2005; Shaw, 2004). First, goals give us direction. When you have a goal of reducing shipment of defective products by 5% by September, you know that you should direct your energy toward defects. The goal tells you what to focus on. For this reason, goals should be set carefully. Giving employees goals that are not aligned with company goals will be a problem, because goals will direct employees’ energies to a certain end. Second, goals energize people and tell them not to stop until the goal is accomplished. If you set goals for yourself such as “I will have a break from reading this textbook when I finish reading this section,” you will not give up until you reach the end of the section. Even if you feel tired along the way, having this specific goal will urge you to move forward. Third, having a goal provides a challenge. When people have goals and proceed to reach them, they feel a sense of accomplishment. Finally, SMART goals urge people to think outside the box and rethink how they are working. If the goal is not very difficult, it only motivates people to work faster or longer. If a goal is substantially difficult, merely working faster or longer will not get you the results. Instead, you will need to rethink the way you usually work and devise a creative way of working. It has been argued that this method resulted in designers and engineers in Japan inventing the bullet train. Having a goal that went beyond the speed capabilities of traditional trains prevented engineers from making minor improvements and inspired them to come up with a radically different concept (Kerr & Landauer, 2004).
When Are Goals More Effective?
Even when goals are SMART, they are not always equally effective. Sometimes, goal setting produces more dramatic effects compared to other methods. At least three conditions that contribute to effectiveness have been identified (Latham, 2004; Latham & Locke, 2006).
Feedback
To be more effective, employees should receive feedback on the progress they are making toward goal accomplishment. Providing employees with quantitative figures about their sales, defects, or other metrics is useful for feedback purposes.
Ability
Employees should have the skills, knowledge, and abilities to reach their goals. In fact, when employees are lacking the necessary abilities, setting specific outcome goals has been shown to lead to lower levels of performance (Seijts & Latham, 2005). People are likely to feel helpless when they lack the abilities to reach a goal, and furthermore, having specific outcome goals prevents them from focusing on learning activities. In these situations, setting goals about learning may be a better idea. For example, instead of setting a goal related to increasing sales, the goal could be identifying three methods of getting better acquainted with customers.
Goal Commitment
SMART goals are more likely to be effective if employees are committed to the goal (Donovan & Radosevich, 1998; Klein et al., 1999; Wofford, Goodwin, & Premack, 1993). As a testament to the importance of goal commitment, Microsoft actually calls employee goals “commitments” (Shaw, 2004). Goal commitment refers to the degree to which a person is dedicated to reaching the goal. What makes people dedicated or committed to a goal? It has been proposed that making goals public may increase commitment to the goal, because it creates accountability to peers. When individuals have a supportive and trust-based relationship with managers, goal commitment tends to be higher. When employees participate in goal setting, goal commitment may be higher. Last, but not least, rewarding people for their goal accomplishment may increase commitment to future goals (Klein & Kim, 1998; Latham, 2004; Pritchard et al., 1988).
Are There Downsides to Goal Setting?
As with any management technique, there may be some downsides to goal setting (Locke, 2004; Pritchard et al., 1988; Seijts & Latham, 2005). First, as mentioned earlier, setting goals for specific outcomes may hamper employee performance if employees are lacking skills and abilities needed to reach the goals. In these situations, setting goals for behaviors and learning may be more effective than setting goals for outcomes. Second, goal setting may prevent employees from adapting and changing their behaviors in response to unforeseen threats. For example, one study found that when teams had difficult goals and employees within the team had high levels of performance expectations, teams had difficulty adapting to unforeseen circumstances (LePine, 2005). Third, goals focus employee attention on the activities that are measured. This focus may lead to sacrificing other important elements of performance. If goals are set for production numbers, quality may suffer. As a result, it is important to set goals touching on all critical aspects of performance. Finally, an aggressive pursuit of goals may lead to unethical behaviors. If employees are rewarded for goal accomplishment but there are no rewards for coming very close to reaching the goal, employees may be tempted to cheat.
Ensuring Goal Alignment Through Management by Objectives (MBO)
Goals direct employee attention toward a common end. Therefore, it is crucial for individual goals to support team goals and team goals to support company goals. A systematic approach to ensure that individual and organizational goals are aligned is Management by Objectives (MBO). First suggested by Peter Drucker (Greenwood, 1981; Muczyk & Reimann, 1989; Reif & Bassford, 1975), MBO involves the following process:
1. Setting companywide goals derived from corporate strategy
2. Determining team- and department-level goals
3. Collaboratively setting individual-level goals that are aligned with corporate strategy
4. Developing an action plan
5. Periodically reviewing performance and revising goals
A review of the literature shows that 68 out of the 70 studies conducted on this topic displayed performance gains as a result of MBO implementation (Rodgers & Hunter, 1991). It also seems that top management commitment to the process is the key to successful implementation of MBO programs (Rodgers, Hunter, & Rogers, 1993). Even though formal MBO programs have fallen out of favor since the 1980s, the idea of linking employee goals to corporate-wide goals is a powerful idea that benefits organizations.
Key Takeaways
Goal-setting theory is one of the most influential theories of motivation. In order to motivate employees, goals should be SMART (specific, measurable, aggressive, realistic, and time-bound). SMART goals motivate employees because they energize behavior, give it direction, provide a challenge, force employees to think outside the box, and devise new and novel methods of performing. Goals are more effective in motivating employees when employees receive feedback on their accomplishments, have the ability to perform, and are committed to goals. Poorly derived goals have the downsides of hampering learning, preventing adaptability, causing a single-minded pursuit of goals at the exclusion of other activities, and encouraging unethical behavior. Companies tie individual goals to company goals using management by objectives.
Exercises
1. Give an example of a SMART goal.
2. If a manager tells you to “sell as much as you can,” is this goal likely to be effective? Why or why not?
3. How would you ensure that employees are committed to the goals set for them?
4. A company is interested in increasing customer loyalty. Using the MBO approach, what would be the department- and individual-level goals supporting this organization-wide goal?
5. Discuss an experience you have had with goals. Explain how goal setting affected motivation and performance. | textbooks/biz/Management/Organizational_Behavior/06%3A_Designing_a_Motivating_Work_Environment/06.3%3A_Motivating_Employees_Through_Goal_Setting.txt |
Learning Objectives
1. Understand why companies use performance appraisals.
2. Describe basic characteristics of performance appraisals.
3. List the characteristics of an effective performance appraisal.
4. Compare the advantages and disadvantages of relative versus absolute appraisals.
5. Learn how to conduct a performance appraisal meeting.
6. Understand the biases inherent in performance appraisals.
What Is a Performance Appraisal?
When employees have goals, they tend to be more motivated if they also receive feedback about their progress. Feedback may occur throughout the workday, but many organizations also have a formal, companywide process of providing feedback to employees, called the performance appraisal. A performance appraisal is a process in which a rater or raters evaluate the performance of an employee. More specifically, during a performance appraisal period, rater(s) observe, interact with, and evaluate a person’s performance. Then, when it is time for a performance appraisal, these observations are documented on a form. The rater usually conducts a meeting with the employee to communicate performance feedback. During the meeting, the employee is evaluated with respect to success in achieving last year’s goals, and new goals are set for the next performance appraisal period.
Even though performance appraisals can be quite effective in motivating employees and resolving performance problems, in reality, only a small number of organizations use the performance appraisal process to its full potential. In many companies, a performance appraisal takes the form of a bureaucratic activity that is mutually despised by employees and managers. The problems a poor appraisal process can create may be so severe that many experts, including the founder of the total quality movement, Edward Deming, have recommended abolishing appraisals altogether (Carson & Carson, 1993). On the other hand, creating and executing an effective appraisal system actually leads to higher levels of trust in management (Mayer & Davis, 1999). Therefore, identifying ways of increasing appraisal effectiveness is important.
Giving employees feedback is not synonymous with conducting a performance appraisal, because employees may (and should) receive frequent feedback. The most effective feedback immediately follows high or low performance. Therefore, waiting for a formal process to give feedback would be misguided. A formal appraisal is often conducted once a year, even though there are some organizations that conduct them more frequently. For example, there are advantages to conducting quarterly appraisals, such as allowing managers to revise goals more quickly in the face of changing environmental demands (Odiorne, 1990). Conducting appraisals once a year has the advantage of being more convenient for managers and for effectively tying performance to annual pay raises or bonuses.
What Is the Purpose of a Performance Appraisal?
Performance appraisals can be important tools to give employees feedback and aid in their development. Yet feedback is only one reason why companies perform appraisals. In many companies, appraisals are used to distribute rewards such as bonuses, annual pay raises, and promotions. They may also be used to document termination of employees. Research shows that performance appraisals tend to be viewed as more effective when companies tie them to reward decisions and to terminate lower performers (Lawler, 2003). This is not surprising in light of motivation theories such as reinforcement theory, which indicates that behavior that is rewarded is repeated. Tying appraisal results to rewards may lead to the perception that performance is rewarded. However, if performance appraisal ratings are not accurate, it is possible for appraisals to be a major cause of reward unfairness.
Who Is the Rater?
Traditionally, the rater has been the supervisor. Supervisors have more at stake when an employee is not performing well and they have access to greater resources that can be used to improve performance. However, relying solely on supervisors may lead to a biased appraisal system. Many aspects of a person’s performance may remain hidden from managers, particularly in team-based settings or organizations where supervisors do not work in the same physical setting as the employees. Therefore, organizations are introducing additional raters into the system, such as peers, customers, and subordinates. As organizations become more flat, introducing more perspectives may provide richer feedback to employees in question. Organizations using supervisors, peers, subordinates, and sometimes even customers are using 360-degree feedback. In this system, feedback is gathered from all these sources, and shared with the employee for developmental purposes. It is important to note that 360-degree appraisals are not often used in determining pay or promotion decisions and instead are treated as feedback tools. Using 360-degree feedback in reward decisions may be problematic, because individuals may avoid giving objective feedback if it means causing a peer to lose a bonus. Since not all feedback will necessarily be positive, if competition or jealousy exists among peers, some feedback may be retaliatory and too negative. Keeping these problems in mind, organizations may benefit from using only supervisor ratings in reward decisions and using feedback from other sources for developmental purposes (Toegel & Conger, 2003).
What Makes an Effective Appraisal System?
What are the characteristics of an effective appraisal system? Research identified at least three characteristics of appraisals that increase the perception that they are fair. These characteristics include adequate notice, fair hearing, and judgment based on evidence. Adequate notice involves letting employees know what criteria will be used during the appraisal. Unfortunately, in many companies the first time employees see the appraisal form may be when they are being evaluated. Therefore, they may be rated low on something they didn’t understand was part of their performance. Fair hearing means ensuring that there is two-way communication during the appraisal process and the employee’s side of the story is heard. Judgment based on evidence involves documenting performance problems and using factual evidence as opposed to personal opinions when rating performance (Taylor et al., 1995).
Absolute Rating versus Relative Ranking Appraisals
As a student, would you rather be evaluated with respect to some objective criteria? For example, you could get an A if you correctly answer 90% of the questions in the exam, but would get a B if you answered only 80%. We are calling this type of appraisal an absolute rating because the grade you get depends only on your performance with respect to the objective criteria. The alternative to this approach is relative ranking. In this system, you would get an A if you are one of the top 10% of the students in class, but you would get a B if you are between 10% and 20%. In a relative ranking system, your rating depends on how your objective performance (test grade) compares with the rest of the students’ grades in your class.
If you say you would prefer an absolute rating, you are not alone. Research shows that ranking systems are often viewed more negatively by employees. However, many major corporations such as General Electric Company (GE), Intel, and Yahoo! Inc. are using relative rankings and truly believe in its advantages. For example, Jack Welch, the former CEO of General Electric, instituted a forced ranking system at GE in which 20% of employees would be in the top category, 70% would be in the middle, and 10% would be at the bottom rank. Employees who are repeatedly ranked at the lowest rank would be terminated. Relative rankings may create a culture of performance by making it clear that low performance is not tolerated; however, there are several downsides to rankings. First, these systems carry the danger of a potential lawsuit. Organizations such as Ford Motor Company and Microsoft faced lawsuits involving relative rankings, because employees who were older, female, or minority members were systematically being ranked in the lowest category with little justification. Second, relative rankings are also not consistent with creating a team spirit and may create a competitive, cutthroat environment. Enron Corporation was an organization that used relative rankings to its detriment. Third, relative systems have limited value in giving employees concrete feedback about what to do next year to get a better ranking. Despite their limitations, using them for a few years may help the organization become more performance-oriented and eliminate stagnation by weeding out some employees with persistent performance problems. As long as these systems fit with the company culture, are not used in a rigid manner, and are used for a short period of time, they may be beneficial to the organization (Boyle, 2001; Lawler, 2003; McGregor, 2006).
Conducting the Appraisal Meeting
A performance appraisal meeting is the most important component of a performance appraisal. After the rater uses the company’s appraisal form to evaluate the performance of the ratee, both sides meet to discuss positive and negative instances of performance. Thus, the meeting serves as the key medium through which the rater gives feedback to the ratee. The goal of providing performance feedback is to help the ratee solve performance problems and to motivate the employee to change behavior. Conducting this meeting is often stressful for both parties, and training managers in providing performance feedback may be useful to deal with the stress of the managers as well as creating a more positive experience for both parties (Davis & Mount, 1984).
In the most effective meetings, feedback is presented in a constructive manner. Instead of criticizing the person, the focus should be on discussing the performance problems and aiding the employee in resolving these problems. By moving the focus of the conversation from the person to the behaviors, employee defensiveness may be reduced. When the supervisor is constructive, employees develop a more positive view of the appraisal system. Another approach to increasing the effectiveness of appraisal meetings is to increase employee participation. When employees have the opportunity to present their side of the story, they react more positively to the appraisal process and feel that the system is fair. Finally, supervisors should be knowledgeable about the employee’s performance. When it becomes clear that the person doing the evaluation has little understanding of the job being performed by the employee, reactions tend to be more negative (Cawley, Keeping, & Levy, 1998; Cederblom 1982; Burke, Weitzel, & Weir, 1978).
OB Toolbox: Conducting an Effective Performance Appraisal Meeting
Before the meeting
• Ask the person to complete a self-appraisal. This is a great way of making sure that employees become active participants in the process and get their voice heard.
• Complete the performance appraisal form. Document your rating using many examples. Have more examples handy.
• Avoid recency bias. Be sure that your review covers the entire year’s performance, not just recent events.
• Handle the logistics. Be sure that you devote sufficient time to each meeting. If you schedule appraisals back to back, you may lose your energy in later meetings. Be sure that the physical location is conducive to a private conversation.
During the meeting
• Be sure to recognize effective performance. Give specific praise.
• Do not start the meeting with a criticism. Starting with positive instances of performance helps establish a better mood and shows that you recognize what the employee is doing right.
• Give employees lots of opportunities to talk. Ask them about their greatest accomplishments, as well as opportunities for improvement. If they touch on an area you wanted to cover, provide your thoughts.
• Show empathy and support. Remember: your job as a manager is to help the person solve performance problems. Identify areas where you can help.
• Set goals and create an action plan. The outcome of the meeting should be a written agreement about what the employee will do in the near future and how the manager will help.
After the meeting
• Continue to give the employee periodic and frequent feedback. Effective feedback immediately follows key incidents of performance. Do not wait until the next appraisal to discuss important issues.
• Follow through on the goals that were set. Provide continuous support to the employee to help him or her achieve the goals.
Managing Potential Bias in Performance Appraisals
Performance appraisal is by nature a subjective event. Unless the performance appraisal is purely relying on objective criteria such as sales, it requires one or more human beings to observe and evaluate another and arrive at a consensus. Raters, intentionally or unintentionally, make mistakes or exhibit biases. These biases trickle down into the appraisal system and can affect other decisions that are based on appraisals, such as pay and promotion. Therefore, being aware of these tendencies is the first step to managing their influence over the appraisal system.
Liking
A performance appraisal does not occur between strangers. The rater and ratee have an existing relationship. If they like or dislike each other, these feelings may bias the ratings. For example, research shows that regardless of their objective performance levels, managers give employees they have a good relationship with higher ratings (Duarte, Goodson, & Klich, 1994). It is possible that sometimes liking is not a bias and a manager likes an employee because of high performance levels (Varma, DeNisi, & Peters, 1996). Still, for some managers, liking someone may mean ignoring the faults of the person and selectively remembering the positive things that person has done. One way of dealing with this problem may be journaling. By recording positive and negative performance incidents throughout the year for each employee, managers may recall each employee’s performance more accurately (DeNisi, Robbins, & Cafferty, 1989).
Leniency
One of the common problems in appraisals is that managers give employees ratings higher than warranted. There may be many reasons for this, such as the desire to avoid confrontation with the employee, having a very agreeable personality, the desire to avoid hurting the chances of the employee to get a bonus, the desire to motivate employees by giving them high ratings, or liking the employee as a person. Regardless of the reason, leniency is a problem because it makes ratings relatively useless for determining raises, bonuses, or promotions. At the same time, leniency makes it harder for employees to change their behaviors. One way of dealing with this problem could be using relative rankings or at least giving managers a suggested distribution. If managers are asked to grade on a curve, they may end up being less lenient. Moreover, making managers accountable for the ratings they give may be a good idea. For example, if managers are evaluated based on how well they recognize different levels of performance, they may be less tempted to be lenient in appraisals (Bernardin, Cooke, & Villanova, 2000; Jawahar & Williams, 1997; Longenecker, 1989).
Stereotypes
One of the factors that create bias in appraisals is the stereotypes that raters may have regarding the gender, race, age or another characteristic of the person being rated. Beliefs about different groups may be generalized to the person in question even though they may have little basis in reality. For example, research shows that women in stereotypically male jobs were rated lower than women in stereotypically female jobs. Similarly, attractive women were rated higher if they held nonmanagement jobs, but they were rated lower if they held management jobs. When factors that have no bearing on one’s job performance are used to evaluate the person, employees, overall, will be demoralized, the appraisals will lose their effectiveness, and the company may face costly lawsuits (Heilman & Stopeck 1985; Lyness & Heilman, 2006). Understanding the importance of eliminating stereotypes from performance appraisals and training managers to accurately observe and evaluate performance may be beneficial in limiting exposure to this type of bias.
Key Takeaways
Performance appraisals involve observing and measuring an employee’s performance during an appraisal period, recording these observations, communicating results to the employee, and recognizing high performance while devising ways of improving deficiencies. Most appraisals are conducted by the supervisor, but there are many advantages to using 360-degree appraisals. Appraisals that are more effective give employees adequate notice, fair hearing, and judgment based on evidence. Some companies use relative rankings in which employees are compared to each other, but this system is not suitable to all companies. A performance appraisal meeting should be planned and executed carefully, with the supervisor demonstrating empathy and supportiveness. There are intentional and unintentional biases inherent in appraisals and being aware of them, increasing rater accountability, and training managers may be useful in dealing with some of them.
Exercises
1. What are the disadvantages of using only supervisors as the rater? What are the disadvantages of using peers, subordinates, and customers as raters?
2. Do you believe that self-appraisals are valid? Why would it be helpful to add self-appraisals to the appraisal process? Can you think of any downsides to using them?
3. Why do some managers intentionally give an employee a higher rating than deserved? What are the disadvantages of biased ratings? How could this tendency be prevented?
4. Some recommend that performance appraisals be abolished altogether. What do you think about this approach? What are the downsides of eliminating appraisals altogether?
5. If your objective is to minimize the effects of rater biases, what type of appraisal system would you design? | textbooks/biz/Management/Organizational_Behavior/06%3A_Designing_a_Motivating_Work_Environment/06.4%3A_Motivating_Employees_Through_Performance_Appraisals.txt |
Learning Objectives
1. Learn the importance of financial and nonfinancial incentives to motivate employees.
2. Understand the benefits of different types of incentive systems, such as piece rate and merit pay.
3. Learn why nonfinancial incentives can be effective motivators.
4. Understand the tradeoffs involved in rewarding individual, group, and organizational performance.
Performance Incentives
Perhaps the most tangible way in which companies put motivation theories into action is by instituting incentive systems. Incentives are reward systems that tie pay to performance. There are many incentives used by companies, some tying pay to individual performance and some to companywide performance. Pay-for-performance plans are very common among organizations. For example, according to one estimate, 80% of all American companies have merit pay, and the majority of Fortune 1000 companies use incentives (Luthans & Stajkovic, 1999). Using incentives to increase performance is a very old idea. For example, Napoleon promised 12,000 francs to whoever found a way to preserve food for the army. The winner of the prize was Nicolas Appert, who developed a method of canning food (Vision quest, 2008). Research shows that companies using pay-for-performance systems actually achieve higher productivity, profits, and customer service. These systems are more effective than praise or recognition in increasing retention of higher performing employees by creating higher levels of commitment to the company (Cadsby, Song, & Tapon, 2007; Peterson & Luthans, 2006; Salamin & Hom, 2005). Moreover, employees report higher levels of pay satisfaction under pay-for-performance systems (Heneman, Greenberger, & Strasser, 1988).
At the same time, many downsides of incentives exist. For example, it has been argued that incentives may create a risk-averse environment that diminishes creativity. This may happen if employees are rewarded for doing things in a certain way, and taking risks may negatively affect their paycheck. Moreover, research shows that incentives tend to focus employee energy to goal-directed efforts, and behaviors such as helping team members or being a good citizen of the company may be neglected (Breen, 2004; Deckop, Mengel, & Cirka, 1999; Wright et al., 1993). Despite their limitations, financial incentives may be considered powerful motivators if they are used properly and if they are aligned with companywide objectives. The most frequently used incentives are listed as follows.
Piece Rate Systems
Under piece rate incentives, employees are paid on the basis of individual output they produce. For example, a manufacturer may pay employees based on the number of purses sewn or number of doors installed in a day. In the agricultural sector, fruit pickers are often paid based on the amount of fruit they pick. These systems are suitable when employee output is easily observable or quantifiable and when output is directly correlated with employee effort. Piece rate systems are also used in white-collar jobs such as check-proofing in banks. These plans may encourage employees to work very fast, but may also increase the number of errors made. Therefore, rewarding employee performance minus errors might be more effective. Today, increases in employee monitoring technology are making it possible to correctly measure and observe individual output. For example, technology can track the number of tickets an employee sells or the number of customer complaints resolved, allowing a basis for employee pay incentives (Conlin, 2002). Piece rate systems can be very effective in increasing worker productivity. For example, Safelite AutoGlass, a nationwide installer of auto glass, moved to a piece rate system instead of paying workers by the hour. This change led to an average productivity gain of 20% per employee (Koretz, 1997).
Individual Bonuses
Bonuses are one-time rewards that follow specific accomplishments of employees. For example, an employee who reaches the quarterly goals set for her may be rewarded with a lump sum bonus. Employee motivation resulting from a bonus is generally related to the degree of advanced knowledge regarding bonus specifics.
Merit Pay
In contrast to bonuses, merit pay involves giving employees a permanent pay raise based on past performance. Often the company’s performance appraisal system is used to determine performance levels and the employees are awarded a raise, such as a 2% increase in pay. One potential problem with merit pay is that employees come to expect pay increases. In companies that give annual merit raises without a different raise for increases in cost of living, merit pay ends up serving as a cost-of-living adjustment and creates a sense of entitlement on the part of employees, with even low performers expecting them. Thus, making merit pay more effective depends on making it truly dependent on performance and designing a relatively objective appraisal system.
Sales Commissions
In many companies, the paycheck of sales employees is a combination of a base salary and commissions. Sales commissions involve rewarding sales employees with a percentage of sales volume or profits generated. Sales commissions should be designed carefully to be consistent with company objectives. For example, employees who are heavily rewarded with commissions may neglect customers who have a low probability of making a quick purchase. If only sales volume (as opposed to profitability) is rewarded, employees may start discounting merchandise too heavily, or start neglecting existing customers who require a lot of attention (Sales incentive plans, 2006). Therefore, the blend of straight salary and commissions needs to be managed carefully.
Awards
Some companies manage to create effective incentive systems on a small budget while downplaying the importance of large bonuses. It is possible to motivate employees through awards, plaques, or other symbolic methods of recognition to the degree these methods convey sincere appreciation for employee contributions. For example, Yum! Brands Inc., the parent company of brands such as KFC and Pizza Hut, recognizes employees who go above and beyond job expectations through creative awards such as the seat belt award (a seat belt on a plaque), symbolizing the roller-coaster-like, fast-moving nature of the industry. Other awards include things such as a plush toy shaped like a jalapeño pepper. Hewlett-Packard Development Company LP has the golden banana award, which came about when a manager wanted to reward an employee who solved an important problem on the spot and handed him a banana lying around the office. Later, the golden banana award became an award bestowed on the most innovative employees (Nelson, 2009). Another alternative way of recognizing employee accomplishments is awarding gift cards. These methods are more effective if employees have a choice among alternatives (such as between restaurants, or between a restaurant or a retailer). The advantage of gift cards over pay is that instead of paying for life’s necessities such as mortgage or college, employees can enjoy the gift of going out to dinner, going on a vacation to a fun place, or acquiring a cool gadget they may not have purchased with their own money. Thus, these awards may help create a sense of commitment to the company by creating positive experiences that are attributed to the company.
Team Bonuses
In situations in which employees should cooperate with each other and isolating employee performance is more difficult, companies are increasingly resorting to tying employee pay to team performance. For example, in 2007, Wal-Mart gave bonuses to around 80% of their associates based on store performance. If employees have a reasonable ability to influence their team’s performance level, these programs may be effective.
Gainsharing
Gainsharing is a companywide program in which employees are rewarded for performance gains compared to past performance. These gains may take the form of reducing labor costs compared to estimates or reducing overall costs compared to past years’ figures. These improvements are achieved through employee suggestions and participation in management through employee committees. For example, Premium Standard Farms LLC, a meat processing plant, instituted a gainsharing program in which employee-initiated changes in production processes led to a savings of \$300,000 a month. The bonuses were close to \$1,000 per person. These programs can be successful if the payout formula is generous, employees can truly participate in the management of the company, and if employees are able to communicate and execute their ideas (Balu & Kirchenbaum, 2000; Collins, Hatcher, & Ross, 1993; Imberman, 1996).
Profit Sharing
Profit sharing programs involve sharing a percentage of company profits with all employees. These programs are companywide incentives and are not very effective in tying employee pay to individual effort, because each employee will have a limited role in influencing company profitability. At the same time, these programs may be more effective in creating loyalty and commitment to the company by recognizing all employees for their contributions throughout the year.
Stock Options
A stock option gives an employee the right, but not the obligation, to purchase company stocks at a predetermined price. For example, a company would commit to sell company stock to employees or managers 2 years in the future at \$30 per share. If the company’s actual stock price in 2 years is \$60, employees would make a profit by exercising their options at \$30 and then selling them in the stock market. The purpose of stock options is to align company and employee interests by making employees owners. However, options are not very useful for this purpose, because employees tend to sell the stock instead of holding onto it. In the past, options were given to a wide variety of employees, including CEOs, high performers, and in some companies all employees. For example, Starbucks Corporation was among companies that offered stock to a large number of associates. Options remain popular in start-up companies that find it difficult to offer competitive salaries to employees. In fact, many employees in high-tech companies such as Microsoft and Cisco Systems Inc. became millionaires by cashing in stock options after these companies went public. In recent years, stock option use has declined. One reason for this is the changes in options accounting. Before 2005, companies did not have to report options as an expense. After the changes in accounting rules, it became more expensive for companies to offer options. Moreover, options are less attractive or motivational for employees when the stock market is going down, because the cost of exercising their options may be higher than the market value of the shares. Because of these and other problems, some companies started granting employees actual stock or using other incentives. For example, PepsiCo Inc. replaced parts of the stock options program with a cash incentive program and gave managers the choice of getting stock options coupled with restricted stocks (Brandes et al., 2003; Rafter, 2004; Marquez, 2005).
Key Takeaways
Companies use a wide variety of incentives to reward performance. This is consistent with motivation theories showing that rewarded behavior is repeated. Piece rate, individual bonuses, merit pay, and sales commissions tie pay to individual performance. Team bonuses are at the department level, whereas gainsharing, profit sharing, and stock options tie pay to company performance. While these systems may be effective, people tend to demonstrate behavior that is being rewarded and may neglect other elements of their performance. Therefore, reward systems should be designed carefully and should be tied to a company’s strategic objectives.
Exercises
1. Have you ever been rewarded under any of the incentive systems described in this chapter? What was your experience with them?
2. What are the advantages and disadvantages of bonuses compared to merit pay? Which one would you use if you were a manager at a company?
3. What are the advantages of using awards as opposed to cash as an incentive?
4. How effective are stock options in motivating employees? Why do companies offer them?
5. Which of the incentive systems in this section do the best job of tying pay to individual performance? Which ones do the worst job? | textbooks/biz/Management/Organizational_Behavior/06%3A_Designing_a_Motivating_Work_Environment/06.5%3A_Motivating_Employees_Through_Performance_Incentives.txt |
Learning Objectives
1. Consider the role of job design, goals, and reward systems in ethical behavior.
2. Consider the role of national culture on job design, goals, and reward systems.
Designing a Motivating Work Environment and Ethics
The design components of an organization’s internal environment, such as the presence of goal setting, performance appraisals, and the use of incentive-based reward systems, have a direct connection with the level of ethical or unethical behaviors demonstrated within a company. Although a large number of companies successfully use goal setting and rewarding employees based on goal accomplishment, there is an unintended consequence to using goals: Goal setting may lead to unethical behaviors on the part of employees. When goal accomplishment is rewarded, and when rewards are desirable, employees will have two basic options: Work hard to reach the goals, or cheat.
The connection between goal setting and unethical behaviors has been well documented. For example, teachers rewarded for their students’ success were more likely to cheat by giving the answers to students. Sanitation workers on an incentive scheme were more likely to take their trucks to the landfill with loads exceeding legal limits (Pfeffer, 2004). Salespeople working on commissions may push customers to make a purchase beyond their budget. At higher levels within companies, a CEO’s method of payment has been related to the ethical behaviors of companies. For example, when a large percentage of a CEO pay package consists of stock options, companies are more likely to misrepresent the financial situation of the company, particularly when the CEO is also the head of the board of directors (Harris & Bromiley, 2007; Priem, Coombs, & Gilley, 2006).
This does not mean that goal setting always causes unethical behavior. People who behave unethically tend to constitute a small percentage of the workforce. However, for this small percentage, goal setting and incentives act as motivation to behave unethically. The tendency to behave unethically under these systems also increases when goals are not met, but instead, employees come close to reaching them, particularly when they are competing against each other to receive the rewards (Bellizzi, 1995; Schweitzer, Ordonez, & Douma 2004). There are several ways companies can reduce the temptation to behave unethically. Specifically rewarding ethical behavior within the company is related to lower levels of unethical behaviors (Trevino & Youngblood, 1990). Also, instead of only rewarding people who reach a high goal and not giving anything to those who come close, companies may consider creating multiple levels of goals and distribute rewards corresponding to the goal that is achieved (Locke, 2004). Enforcing an ethical code of conduct and withholding rewards from those who are not demonstrating ethical behaviors are other ways of preventing goal setting from leading to unethical behaviors.
Designing a Motivating Work Environment Around the Globe
The effectiveness of methods such as job design, goal setting, performance appraisals, and the use of incentives is likely to be culturally determined. For example, research conducted in Western countries suggests that empowering employees is an effective method of motivating them. However, not all employees around the world respond favorably to concepts such as autonomy or empowerment. For example, it has been noted that the use of self-managing teams, a method of increasing employee empowerment in the workplace, is difficult to execute in Mexican companies because of the traditionally paternalistic and hierarchical nature of many Mexican organizations. In such a context, employees may not be willing or ready to take responsibility for individual action, while managers may be unwilling to share real power with employees (Nicholls, Lane, & Brechu, 1999). Researchers also found in a four-country study that while employees in the United States, Mexico, and Poland responded positively to empowerment, Indian employees were actually less satisfied when they were empowered (Robert et al., 2000). In other words, we may expect both greater levels of difficulty and potentially different reactions to empowerment depending on the cultural context.
Are all employees around the globe motivated by goal setting? Even though there is limited research in this area, existing findings point to some differences. For example, we know that American employees respond negatively to goals when these goals are perceived to be extremely difficult. However, Chinese employees actually were most motivated when the goals were very difficult. This may be because Chinese employees believe that their performance depends on their effort, and therefore, they are able to respond to goals that are very difficult with very high effort. On the other hand, there is some evidence that while specific goals motivate Western salespeople, in China goals low in specificity were more motivational (Fang, Palmatier, & Evans, 2004).
How about performance appraisals? You may predict that concepts such as 360-degree appraisal are not suitable to all cultures. The 360-degree appraisals require a climate of openness and social equality in the workplace. Therefore, countries high in power distance and authoritarianism may respond negatively to appraisal systems where lower level employees give performance feedback to their managers. Likewise, in cultures high in collectivism, using peer appraisals may not be as effective, because employees might be hesitant to give accurate performance feedback to their colleagues with the fear that negative feedback may damage interpersonal relationships.
Key Takeaways
Goal setting and reward systems influence the level of ethics in the work environment. When employees come close to reaching their goals but fall short, they are more likely to behave unethically. The type of incentive system used in a company may generate unethical behaviors. Moreover, job design, goal setting, performance appraisals, and incentives should be designed while considering the national culture context, because they may not be universally valid.
Exercises
1. Do you have any experience with goal setting leading to unethical behaviors?
2. Many observers and employees are concerned about the spread between CEO pay and average employee pay. Is it ethical for CEOs to be paid so much more than other employees? Under which conditions would it be unethical?
3. How would you determine whether a certain incentive scheme or a type of performance appraisal could be transferred to a different culture? | textbooks/biz/Management/Organizational_Behavior/06%3A_Designing_a_Motivating_Work_Environment/06.6%3A_The_Role_of_Ethics_and_National_Culture.txt |
As of 2010, Xerox Corporation (NYSE: XRX) is a \$22 billion, multinational company founded in 1906 and operating in 160 countries. Xerox is headquartered in Norwalk, Connecticut, and employs 130,000 people. How does a company of such size and magnitude effectively manage and motivate employees from diverse backgrounds and experiences? Such companies depend on the productivity and performance of their employees. The journey over the last 100 years has withstood many successes and failures. In 2000, Xerox was facing bankruptcy after years of mismanagement, piles of debt, and mounting questions about its accounting practices.
Anne Mulcahy turned Xerox around. Mulcahy joined Xerox as an employee in 1976 and moved up the corporate ladder, holding several management positions until she became CEO in 2001. In 2005, Mulcahy was named by Fortune magazine as the second most powerful woman in business. Based on a lifetime of experience with Xerox, she knew that the company had powerful employees who were not motivated when she took over. Mulcahy believed that among other key businesses changes, motivating employees at Xerox was a key way to pull the company back from the brink of failure. One of her guiding principles was a belief that in order to achieve customer satisfaction, employees must be interested and motivated in their work. Mulcahy not only successfully saw the company through this difficult time but also was able to create a stronger and more focused company.
In 2009, Mulcahy became the chairman of Xerox’s board of directors and passed the torch to Ursula Burns, who became the new CEO of Xerox. Burns became not only the first African American woman CEO to head a Standard & Poor’s (S&P) company but also the first woman to succeed another woman as the head of an S&P 100 company. Burns is also a lifetime Xerox employee who has been with the company for over 30 years. She began as a graduate intern and was hired full time after graduation. Because of her tenure with Xerox, she has close relationships with many of the employees, which provides a level of comfort and teamwork. She describes Xerox as a nice family. She maintains that Mulcahy created a strong and successful business but encouraged individuals to speak their mind, to not worry about hurting one another’s feelings, and to be more critical.
Burns explains that she learned early on in her career, from her mentors at Xerox, the importance of managing individuals in different ways and not intentionally intimidating people but rather relating to them and their individual perspectives. As CEO, she wants to encourage people to get things done, take risks, and not be afraid of those risks. She motivates her teams by letting them know what her intentions and priorities are. The correlation between a manager’s leadership style and the productivity and motivation of employees is apparent at Xerox, where employees feel a sense of importance and a part of the process necessary to maintain a successful and profitable business. In 2010, Anne Mulcahy retired from her position on the board of directors to pursue new projects.
Discussion Questions
1. How do you think Xerox was able to motivate its employees through the crisis it faced in 2000?
2. How does a CEO with such a large number of employees communicate priorities to a worldwide workforce?
3. How might Ursula Burns motivate employees to take calculated risks?
4. Both Anne Mulcahy and Ursula Burns were lifetime employees of Xerox. How does an organization attract and keep individuals for such a long period of time?
06.8: Conclusion
In this chapter, we reviewed specific methods with which companies attempt to motivate their workforce. Designing jobs to increase their motivating potential, empowering employees, setting goals, evaluating performance using performance appraisals, and tying employee pay to individual, group, or organizational performance using incentive systems are methods through which motivation theories are put into action. Even though these methods seem to have advantages, every method could have unintended consequences, and therefore, application of each method should be planned and executed with an eye to organizational fairness.
06.9: Exercises
Ethical Dilemma
James is about to conduct a performance appraisal for Maria. Maria has exhibited some performance problems in the past 6 months. She has been coming in late and leaving early, and she missed two important deadlines. At the same time, she is a very likeable and nice person who gets along well with others in the office. James also knows that Maria has a significant amount of debt and getting a bonus after this appraisal would really help her. James does not want to jeopardize his relationship with her and he does not want to prevent her from getting the bonus. Therefore, he is considering giving her a “good” rating in the appraisal. What would be your advice to James regarding this situation?
Individual Exercise
• A call center is using the metric of average time per call when rewarding employees. In order to keep their average time low, employees are hanging up on customers when they think that the call will take too long to answer.
• In a department store, salespeople are rewarded based on their sales volume. The problem is that they are giving substantial discounts and pressuring customers to make unnecessary purchases.
• All employees at a factory are receiving a large bonus if there are no reported injuries for 6 months. As a result, some employees are hiding their injuries so that they do not cause others to lose their bonus.
What are the reasons for the negative consequences of these bonus schemes? Modify these schemes to solve the problems.
Group Exercise
Performance Appraisal Role Play
This role play will involve three students. One student will be the supervisor and the second will be the subordinate. The supervisor and the subordinate will conduct a formal performance appraisal interview. The third role is of an observer who should provide feedback to both parties regarding how they could have improved their effectiveness.
Be sure to read only the role sheet assigned to you by your professor. | textbooks/biz/Management/Organizational_Behavior/06%3A_Designing_a_Motivating_Work_Environment/06.7%3A_Motivation_Key_for_Success%3A_The_Case_of_Xerox.txt |
Figure 7.1
For the third year in a row, Camden Property Trust (NYSE: CPT) has been named one of Fortune magazine’s “100 Best Companies to Work For.” In 2010, the company went from 41 on the list to number 10. Established in 1982 and headquartered in Houston, Texas, Camden Property owns and develops multifamily residential apartment buildings. With 183 properties and 63,286 apartment homes, the real estate giant focuses its development on the fastest-growing markets in the United States. But like so many organizations in the real estate industry during the 2007 and 2008 subprime mortgage crises, business took a turn for the worst, and the company was faced with a substantial slowdown.
Camden realized that cuts would be inevitable and in 2009 announced that it would be reducing the number of planned development projects, which meant a 3% reduction of overall employees and a 50% cut of development staff. Camden’s organizational culture and motto is to “have fun.” Because the company understood the importance of honesty and open communication with its staff, a strong sense of mutual respect had been developed and cultivated well before the crisis, and as a result the company was able to maintain the trust of its employees during the difficult time.
Downsizing and layoffs are two of the most prevalent forms of stress at the workplace and if not handled properly can create severe psychological strain. Part of Camden’s success during the transition was the company’s ability to give staff the necessary information about the situation. Reinforcing the culture of fun at a past annual conference, the then CEO of Camden dressed as Captain Kirk from Star Trek and referred to the tough economic times as “attacks” on the company, and then he laid out a plan of action to bring about victory. Camden has found a way to successfully relate its organizational culture through various modes of communication.
The value and respect that Camden Property shows to its employees has carried over to the way it treats its customers. The company has discovered that doing the right thing makes good business sense. With the increase in foreclosures and unemployment, Camden is marketing to individuals in tough financial situations, a segment of the population once thought of as undesirable tenets. “We’ll forgive a foreclosure, as long as they didn’t totally blow up their credit,” says Camden CEO Richard Campo. The company has also created layoff-proof leases, which grant extensions to people and allow them extra time to come up with the rent. If a resident loses his or her job, the company will let them out of their lease without penalty or try to get them into a less expensive unit. Camden’s ability to build trust with both its employees and its customers during a period of extreme emotional stress ensures that the company will have a committed organization moving forward.
Discussion Questions
1. What do you think the long-term benefits will be for Camden Property Trust and its employees as a result of the way it handled this economic downturn?
2. What other suggestions do you have for Camden in creating business opportunities during a period of economic volatility?
3. How does a company as large as Camden effectively and authentically communicate to its employees?
4. Does Camden increase or decrease its credibility to staff when the CEO dresses up as Captain Kirk?
5. What steps has Camden taken to help employees manage their stress levels? | textbooks/biz/Management/Organizational_Behavior/07%3A_Managing_Stress_and_Emotions/07.1%3A_Facing_Foreclosure%3A_The_Case_of_Camden_Property_Trust.txt |
Learning Objectives
1. Learn about the General Adaptation Syndrome.
2. Learn what stressors are.
3. Understand the outcomes of stress.
4. Understand individual differences in experienced stress.
Gravity. Mass. Magnetism. These words come from the physical sciences. And so does the term stress. In its original form, the word stress relates to the amount of force applied to a given area. A steel bar stacked with bricks is being stressed in ways that can be measured using mathematical formulas. In human terms, psychiatrist Peter Panzarino notes, “Stress is simply a fact of nature—forces from the outside world affecting the individual” (Panzarino, 2008). The professional, personal, and environmental pressures of modern life exert their forces on us every day. Some of these pressures are good. Others can wear us down over time.
Stress is defined by psychologists as the body’s reaction to a change that requires a physical, mental, or emotional adjustment or response (Dyer, 2006). Stress is an inevitable feature of life. It is the force that gets us out of bed in the morning, motivates us at the gym, and inspires us to work.
As you will see in the sections below, stress is a given factor in our lives. We may not be able to avoid stress completely, but we can change how we respond to stress, which is a major benefit. Our ability to recognize, manage, and maximize our response to stress can turn an emotional or physical problem into a resource.
Researchers use polling to measure the effects of stress at work. The results have been eye-opening. According to a 2001 Gallup poll, 80% of American workers report that they feel workplace stress at least some of the time (Kersten, 2002). Another survey found that 65% of workers reported job stress as an issue for them, and almost as many employees ended the day exhibiting physical effects of stress, including neck pain, aching muscles, and insomnia. It is clear that many individuals are stressed at work.
The Stress Process
Our basic human functions, breathing, blinking, heartbeat, digestion, and other unconscious actions, are controlled by our lower brains. Just outside this portion of the brain is the semiconscious limbic system, which plays a large part in human emotions. Within this system is an area known as the amygdala. The amygdala is responsible for, among other things, stimulating fear responses. Unfortunately, the amygdala cannot distinguish between meeting a 10:00 a.m. marketing deadline and escaping a burning building.
Human brains respond to outside threats to our safety with a message to our bodies to engage in a “fight-or-flight” response (Cannon, 1915). Our bodies prepare for these scenarios with an increased heart rate, shallow breathing, and wide-eyed focus. Even digestion and other functions are stopped in preparation for the fight-or-flight response. While these traits allowed our ancestors to flee the scene of their impending doom or engage in a physical battle for survival, most crises at work are not as dramatic as this.
Hans Selye, one of the founders of the American Institute of Stress, spent his life examining the human body’s response to stress. As an endocrinologist who studied the effects of adrenaline and other hormones on the body, Selye believed that unmanaged stress could create physical diseases such as ulcers and high blood pressure, and psychological illnesses such as depression. He hypothesized that stress played a general role in disease by exhausting the body’s immune system and termed this the General Adaptation Syndrome (GAS) (Selye, 1956; Selye, 1976).
In the alarm phase of stress, an outside stressor jolts the individual, insisting that something must be done. It may help to think of this as the fight-or-flight moment in the individual’s experience. If the response is sufficient, the body will return to its resting state after having successfully dealt with the source of stress.
In the resistance phase, the body begins to release cortisol and draws on reserves of fats and sugars to find a way to adjust to the demands of stress. This reaction works well for short periods of time, but it is only a temporary fix. Individuals forced to endure the stress of cold and hunger may find a way to adjust to lower temperatures and less food. While it is possible for the body to “adapt” to such stresses, the situation cannot continue. The body is drawing on its reserves, like a hospital using backup generators after a power failure. It can continue to function by shutting down unnecessary items like large overhead lights, elevators, televisions, and most computers, but it cannot proceed in that state forever.
In the exhaustion phase, the body has depleted its stores of sugars and fats, and the prolonged release of cortisol has caused the stressor to significantly weaken the individual. Disease results from the body’s weakened state, leading to death in the most extreme cases. This eventual depletion is why we’re more likely to reach for foods rich in fat or sugar, caffeine, or other quick fixes that give us energy when we are stressed. Selye referred to stress that led to disease as distress and stress that was enjoyable or healing as eustress.
Workplace Stressors
Stressors are events or contexts that cause a stress reaction by elevating levels of adrenaline and forcing a physical or mental response. The key to remember about stressors is that they aren’t necessarily a bad thing. The saying “the straw that broke the camel’s back” applies to stressors. Having a few stressors in our lives may not be a problem, but because stress is cumulative, having many stressors day after day can cause a buildup that becomes a problem. The American Psychological Association surveys American adults about their stresses annually. Topping the list of stressful issues are money, work, and housing (American Psychological Association, 2007). But in essence, we could say that all three issues come back to the workplace. How much we earn determines the kind of housing we can afford, and when job security is questionable, home life is generally affected as well.
Understanding what can potentially cause stress can help avoid negative consequences. Now we will examine the major stressors in the workplace.
A major category of workplace stressors are role demands. In other words, some jobs and some work contexts are more potentially stressful than others.
Role Demands
Role ambiguity refers to vagueness in relation to what our responsibilities are. If you have started a new job and felt unclear about what you were expected to do, you have experienced role ambiguity. Having high role ambiguity is related to higher emotional exhaustion, more thoughts of leaving an organization, and lowered job attitudes and performance (Fisher & Gittelson, 1983; Jackson & Shuler, 1985; Örtqvist & Wincent, 2006). Role conflict refers to facing contradictory demands at work. For example, your manager may want you to increase customer satisfaction and cut costs, while you feel that satisfying customers inevitably increases costs. In this case, you are experiencing role conflict because satisfying one demand makes it unlikely to satisfy the other. Role overload is defined as having insufficient time and resources to complete a job. When an organization downsizes, the remaining employees will have to complete the tasks that were previously performed by the laid-off workers, which often leads to role overload. Like role ambiguity, both role conflict and role overload have been shown to hurt performance and lower job attitudes; however, research shows that role ambiguity is the strongest predictor of poor performance (Gilboa et al., 2008; Tubre & Collins, 2000). Research on new employees also shows that role ambiguity is a key aspect of their adjustment, and that when role ambiguity is high, new employees struggle to fit into the new organization (Bauer et al., 2007).
Information Overload
Messages reach us in countless ways every day. Some are societal—advertisements that we may hear or see in the course of our day. Others are professional—e-mails, memos, voice mails, and conversations from our colleagues. Others are personal—messages and conversations from our loved ones and friends. Add these together and it’s easy to see how we may be receiving more information than we can take in. This state of imbalance is known as information overload, which can be defined as “occurring when the information processing demands on an individual’s time to perform interactions and internal calculations exceed the supply or capacity of time available for such processing” (Schick, Gordon, & Haka, 1990). Role overload has been made much more salient because of the ease at which we can get abundant information from Web search engines and the numerous e-mail and text messages we receive each day (Dawley & Anthony, 2003).[1] Other research shows that working in such a fragmented fashion significantly impacts efficiency, creativity, and mental acuity (Overholt, 2001).
Top 10 Stressful Jobs
As you can see, some of these jobs are stressful due to high emotional labor (customer service), physical demands (miner), time pressures (journalist), or all three (police officer).
1. Inner city high school teacher
2. Police officer
3. Miner
4. Air traffic controller
5. Medical intern
6. Stockbroker
7. Journalist
8. Customer service or complaint worker
9. Secretary
10. Waiter
Work–Family Conflict
Work–family conflict occurs when the demands from work and family are negatively affecting one another (Netemeyer, Boles, & McMurrian, 1996). Specifically, work and family demands on a person may be incompatible with each other such that work interferes with family life and family demands interfere with work life. This stressor has steadily increased in prevalence, as work has become more demanding and technology has allowed employees to work from home and be connected to the job around the clock. In fact, a recent census showed that 28% of the American workforce works more than 40 hours per week, creating an unavoidable spillover from work to family life (U.S. Census Bureau, 2004). Moreover, the fact that more households have dual-earning families in which both adults work means household and childcare duties are no longer the sole responsibility of a stay-at-home parent. This trend only compounds stress from the workplace by leading to the spillover of family responsibilities (such as a sick child or elderly parent) to work life. Research shows that individuals who have stress in one area of their life tend to have greater stress in other parts of their lives, which can create a situation of escalating stressors (Allen et al., 2000; Ford, Heinen, & Langkamer, 2007; Frone, Russell, & Cooper, 1992; Hammer, Bauer, & Grandey, 2003).
Work–family conflict has been shown to be related to lower job and life satisfaction. Interestingly, it seems that work–family conflict is slightly more problematic for women than men (Kossek & Ozeki, 1998). Organizations that are able to help their employees achieve greater work–life balance are seen as more attractive than those that do not (Barnett & Hall, 2001; Greenhaus & Powell, 2006). Organizations can help employees maintain work–life balance by using organizational practices such as flexibility in scheduling as well as individual practices such as having supervisors who are supportive and considerate of employees’ family life (Thomas & Ganster, 1995).
Life Changes
Stress can result from positive and negative life changes. The Holmes-Rahe scale ascribes different stress values to life events ranging from the death of one’s spouse to receiving a ticket for a minor traffic violation. The values are based on incidences of illness and death in the 12 months after each event. On the Holmes-Rahe scale, the death of a spouse receives a stress rating of 100, getting married is seen as a midway stressful event, with a rating of 50, and losing one’s job is rated as 47. These numbers are relative values that allow us to understand the impact of different life events on our stress levels and their ability to impact our health and well-being (Fontana, 1989). Again, because stressors are cumulative, higher scores on the stress inventory mean you are more prone to suffering negative consequences of stress than someone with a lower score.
OB Toolbox: How Stressed Are You?
Read each of the events listed below. Give yourself the number of points next to any event that has occurred in your life in the last 2 years. There are no right or wrong answers. The aim is just to identify which of these events you have experienced.
Table \(1\): Sample Items: Life Events Stress Inventory
Life event Stress points Life event Stress points
Death of spouse 100 Foreclosure of mortgage or loan 30
Divorce 73 Change in responsibilities at work 29
Marital separation 65 Son or daughter leaving home 29
Jail term 63 Trouble with in-laws 29
Death of close family member 63 Outstanding personal achievement 28
Personal injury or illness 53 Begin or end school 26
Marriage 50 Change in living location/condition 25
Fired or laid off at work 47 Trouble with supervisor 23
Marital reconciliation 45 Change in work hours or conditions 20
Retirement 45 Change in schools 20
Pregnancy 40 Change in social activities 18
Change in financial state 38 Change in eating habits 15
Death of close friend 37 Vacation 13
Change to different line of work 36 Minor violations of the law 11
Scoring:
• If you scored fewer than 150 stress points, you have a 30% chance of developing a stress-related illness in the near future.
• If you scored between 150 and 299 stress points, you have a 50% chance of developing a stress-related illness in the near future.
• If you scored over 300 stress points, you have an 80% chance of developing a stress-related illness in the near future.
The happy events in this list such as getting married or an outstanding personal achievement illustrate how eustress, or “good stress,” can also tax a body as much as the stressors that constitute the traditionally negative category of distress. (The prefix eu- in the word eustress means “good” or “well,” much like the eu- in euphoria.) Stressors can also occur in trends. For example, during 2007, nearly 1.3 million U.S. housing properties were subject to foreclosure activity, up 79% from 2006.
Downsizing
A study commissioned by the U.S. Department of Labor to examine over 3,600 companies from 1980 to 1994 found that manufacturing firms accounted for the greatest incidence of major downsizings. The average percentage of firms by industry that downsized more than 5% of their workforces across the 15-year period of the study was manufacturing (25%), retail (17%), and service (15%). A total of 59% of the companies studied fired at least 5% of their employees at least once during the 15-year period, and 33% of the companies downsized more than 15% of their workforce at least once during the period. Furthermore, during the recessions in 1985 to 1986 and 1990 to 1991, more than 25% of all firms, regardless of size, cut their workforce by more than 5% (Slocum et al., 1999). In the United States, major layoffs in many sectors in 2008 and 2009 were stressful even for those who retained their jobs.
The loss of a job can be a particularly stressful event, as you can see by its high score on the life stressors scale. It can also lead to other stressful events, such as financial problems, which can add to a person’s stress score. Research shows that downsizing and job insecurity (worrying about downsizing) is related to greater stress, alcohol use, and lower performance and creativity (Moore, Grunberg, & Greenberg, 2004; Probst et al., 2007; Sikora et al., 2008). For example, a study of over 1,200 Finnish workers found that past downsizing or expectations of future downsizing was related to greater psychological strain and absence (Kalimo, Taris, & Schaufeli, 2003). In another study of creativity and downsizing, researchers found that creativity and most creativity-supporting aspects of the perceived work environment declined significantly during the downsizing (Amabile & Conti, 1999). Those who experience layoffs but have their self-integrity affirmed through other means are less susceptible to negative outcomes (Wisenfeld et al., 2001).
Outcomes of Stress
The outcomes of stress are categorized into physiological and psychological and work outcomes.
Physiological
Stress manifests itself internally as nervousness, tension, headaches, anger, irritability, and fatigue. Stress can also have outward manifestations. Dr. Dean Ornish, author of Stress, Diet and Your Heart, says that stress is related to aging (Ornish, 1984). Chronic stress causes the body to secrete hormones such as cortisol, which tend to make our complexion blemished and cause wrinkles. Harvard psychologist Ted Grossbart, author of Skin Deep, says, “Tens of millions of Americans suffer from skin diseases that flare up only when they’re upset” (Grossbart, 1992). These skin problems include itching, profuse sweating, warts, hives, acne, and psoriasis. For example, Roger Smith, the former CEO of General Motors Corporation, was featured in a Fortune article that began, “His normally ruddy face is covered with a red rash, a painless but disfiguring problem which Smith says his doctor attributes 99% to stress” (Taylor, 1987).
The human body responds to outside calls to action by pumping more blood through our system, breathing in a more shallow fashion, and gazing wide-eyed at the world. To accomplish this feat, our bodies shut down our immune systems. From a biological point of view, it’s a smart strategic move—but only in the short term. The idea can be seen as your body wanting to escape an imminent threat, so that there is still some kind of body around to get sick later. But in the long term, a body under constant stress can suppress its immune system too much, leading to health problems such as high blood pressure, ulcers, and being overly susceptible to illnesses such as the common cold.
The link between heart attacks and stress, while easy to assume, has been harder to prove. The American Heart Association notes that research has yet to link the two conclusively. Regardless, it is clear that individuals under stress engage in behaviors that can lead to heart disease such as eating fatty foods, smoking, or failing to exercise.
Psychological
Depression and anxiety are two psychological outcomes of unchecked stress, which are as dangerous to our mental health and welfare as heart disease, high blood pressure, and strokes. The Harris poll found that 11% of respondents said their stress was accompanied by a sense of depression. “Persistent or chronic stress has the potential to put vulnerable individuals at a substantially increased risk of depression, anxiety, and many other emotional difficulties,” notes Mayo Clinic psychiatrist Daniel Hall-Flavin. Scientists have noted that changes in brain function—especially in the areas of the hypothalamus and the pituitary gland—may play a key role in stress-induced emotional problems (Mayo Clinic Staff, 2008).
Work Outcomes
Stress is related to worse job attitudes, higher turnover, and decreases in job performance in terms of both in-role performance and organizational citizenship behaviors (Mayo Clinic Staff, 2008; Gilboar et al., 2008; Podsakoff et al., 2007). Research also shows that stressed individuals have lower organizational commitment than those who are less stressed (Cropanzano, Rupp, & Byrne, 2003). Interestingly, job challenge has been found to be related to higher performance, perhaps with some individuals rising to the challenge (Podsakoff, LePine, & LePine, 2007). The key is to keep challenges in the optimal zone for stress—the activation stage—and to avoid the exhaustion stage (Quick et al., 1997).
Individual Differences in Experienced Stress
How we handle stress varies by individual, and part of that issue has to do with our personality type. Type A personalities, as defined by the Jenkins Activity Survey (Jenkins, Zyzanski, & Rosenman, 1979), display high levels of speed/impatience, job involvement, and hard-driving competitiveness. If you think back to Selye’s General Adaptation Syndrome, in which unchecked stress can lead to illness over time, it’s easy to see how the fast-paced, adrenaline-pumping lifestyle of a Type A person can lead to increased stress, and research supports this view (Spector & O’Connell, 1994). Studies show that the hostility and hyper-reactive portion of the Type A personality is a major concern in terms of stress and negative organizational outcomes (Ganster, 1986).
Type B personalities, by contrast, are calmer by nature. They think through situations as opposed to reacting emotionally. Their fight-or-flight and stress levels are lower as a result. Our personalities are the outcome of our life experiences and, to some degree, our genetics. Some researchers believe that mothers who experience a great deal of stress during pregnancy introduce their unborn babies to high levels of the stress-related hormone cortisol in utero, predisposing their babies to a stressful life from birth (BBC News, 2007).
Men and women also handle stress differently. Researchers at Yale University discovered estrogen may heighten women’s response to stress and their tendency to depression as a result (Weaver, 2004). Still, others believe that women’s stronger social networks allow them to process stress more effectively than men.[2] So while women may become depressed more often than men, women may also have better tools for countering emotion-related stress than their male counterparts.
OB Toolbox: To Cry or Not to Cry? That Is the Question…
As we all know, stress can build up. Advice that’s often given is to “let it all out” with something like a cathartic “good cry.” But research shows that crying may not be as helpful as the adage would lead us to believe. In reviewing scientific studies done on crying and health, Ad Vingerhoets and Jan Scheirs found that the studies “yielded little evidence in support of the hypothesis that shedding tears improves mood or health directly, be it in the short or in the long run.” Another study found that venting actually increased the negative effects of negative emotion (Brown, Westbrook, & Challagalla, 2005).
Instead, laughter may be the better remedy. Crying may actually intensify the negative feelings, because crying is a social signal not only to others but to yourself. “You might think, ‘I didn’t think it was bothering me that much, but look at how I’m crying—I must really be upset,’” says Susan Labott of the University of Toledo. The crying may make the feelings more intense. Labott and Randall Martin of Northern Illinois University at Dekalb surveyed 715 men and women and found that at comparable stress levels, criers were more depressed, anxious, hostile, and tired than those who wept less. Those who used humor were the most successful at combating stress. So, if you’re looking for a cathartic release, opt for humor instead: Try to find something funny in your stressful predicament.
Key Takeaways
Stress is prevalent in today’s workplaces. The General Adaptation Syndrome consists of alarm, resistance, and eventually exhaustion if the stress goes on for too long. Time pressure is a major stressor. Outcomes of stress include both psychological and physiological problems as well as work outcomes. Individuals with Type B personalities are less prone to stress. In addition, individuals with social support experience less stress.
Exercises
1. We’ve just seen how the three phases of the General Adaptation Syndrome (GAS) can play out in terms of physical stresses such as cold and hunger. Can you imagine how the three categories of this model might apply to work stress as well?
2. List two situations in which a prolonged work challenge might cause an individual to reach the second and third stage of GAS.
3. What can individuals do to help manage their time better? What works for you?
4. What symptoms of stress have you seen in yourself or your peers?
References
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Learning Objectives
1. Understand what individuals can do to manage their own stress.
2. Understand what organizations can do to help their employees avoid and manage stress.
The Corporate Athlete
Luckily, there are several ways to manage stress. One way is to harness stress’s ability to improve our performance. Jack Groppel was working as a professor of kinesiology and bioengineering at the University of Illinois when he became interested in applying the principles of athletic performance to workplace performance. Could eating better, exercising more, and developing a positive attitude turn distress into eustress? Groppel’s answer was yes. If professionals trained their minds and bodies to perform at peak levels through better nutrition, focused training, and positive action, Groppel said, they could become “corporate athletes” working at optimal physical, emotional, and mental levels.
The “corporate athlete” approach to stress is a proactive (action first) rather than a reactive (response-driven) approach. While an overdose of stress can cause some individuals to stop exercising, eat less nutritional foods, and develop a sense of hopelessness, corporate athletes ward off the potentially overwhelming feelings of stress by developing strong bodies and minds that embrace challenges, as opposed to being overwhelmed by them.
Flow
Turning stress into fuel for corporate athleticism is one way of transforming a potential enemy into a workplace ally. Another way to transform stress is by breaking challenges into smaller parts, and embracing the ones that give us joy. In doing so, we can enter a state much like that of a child at play, fully focused on the task at hand, losing track of everything except our genuine connection to the challenge before us. This concept of total engagement in one’s work, or in other activities, is called flow. The term flow was coined by psychologist Mihaly Csikszentmihalyi and is defined as a state of consciousness in which a person is totally absorbed in an activity. We’ve all experienced flow: It’s the state of mind in which you feel strong, alert, and in effortless control.
Figure 7.5
High Focus 20% of managers are disengaged at work 10% of managers engage in purposeful work
Low Focus 30% of managers are procrastinators 40% of managers are distracted at work
Low Energy High Energy
A key to flow is engaging at work, yet research shows that most managers do not feel they are engaged in purposeful work.
According to this way of thinking, the most pleasurable way for a person to work is in harmony with his or her true interests. Work is seen as more similar to playing games than most activities adults do. This is because work consists of tasks, puzzles, surprises, and potentially rewarding challenges. By breaking down a busy workday into smaller pieces, individuals can shift from the “stress” of work to a more engaged state of flow.
Designing Work That Flows
Keep in mind that work that flows includes the following:
• Challenge: the task is reachable but requires a stretch
• Meaningfulness: the task is worthwhile or important
• Competence: the task uses skills that you have
• Choice: you have some say in the task and how it’s carried out (Csikszentmihalyi, 1997)
Corporate athleticism and flow are two concepts that can help you cope with stress. Next, let us focus more on exactly how individual lifestyle choices affect our stress levels. Eating well, exercising, getting enough sleep, and employing time management techniques are all things we can affect that can decrease our feelings of stress.
Diet
Figure 7.6
Eating healthy foods such as fresh fruits and vegetables is a key to stress management.
Greasy foods often make a person feel tired. Why? Because it takes the body longer to digest fats, which means the body is diverting blood from the brain and making you feel sluggish. Eating big, heavy meals in the middle of the day may actually slow us down, because the body will be pumping blood to the stomach, away from the brain. A better choice for lunch might be fish, such as wild salmon. Fish keeps you alert because of its effect on two important brain chemicals—dopamine and norepinephrine—which produce a feeling of alertness, increased concentration, and faster reaction times (Wurtman, 1988).
Exercise
Exercise is another strategy for managing stress. The best kind of break to take may be a physically active one. Research has shown that physically active breaks lead to enhanced mental concentration and decreased mental fatigue. One study, conducted by Belgian researchers, examined the effect of breaks on workers in a large manufacturing company. One-half of the workers were told to rest during their breaks. The other half did mild calisthenics. Afterward, each group was given a battery of tests. The group who had done the mild calisthenics scored far better on all measures of memory, decision-making ability, eye–hand coordination, and fine motor control (Miller, 1986).
Strange as it may seem, exercise gives us more energy. How energetic we feel depends on our maximum oxygen capacity (the total amount of oxygen we utilize from the air we breathe). The more oxygen we absorb in each breath, the more energy and stamina we will have. Yoga and meditation are other physical activities that are helpful in managing stress. Regular exercise increases our body’s ability to draw more oxygen out of the air we breathe. Therefore, taking physically active breaks may be helpful in combating stress.
Sleep
It is a vicious cycle. Stress can make it hard to sleep. Not sleeping makes it harder to focus on work in general, as well as on specific tasks. Tired folks are more likely to lose their temper, upping the stress level of others. American insomnia is a stress-related epidemic—one-third of adults claim to have trouble sleeping and 37% admit to actually having fallen asleep while driving in the past year (Tumminello, 2007).
The work–life crunch experienced by many Americans makes a good night’s sleep seem out of reach. According to the journal Sleep, workers who suffer from insomnia are more likely to miss work due to exhaustion. These missed days ultimately cost employers thousands of dollars per person in missed productivity each year, which can total over \$100 billion across all industries.[1] As you might imagine, a person who misses work due to exhaustion will return to work to find an even more stressful workload. This cycle can easily increase the stress level of a work team as well as the overtired individual.
Create a Social Support Network
A consistent finding is that those individuals who have a strong social support network are less stressed than those who do not (Halbesleben, 2006). Research finds that social support can buffer the effects of stress (Yperfen & Hagedoorn, 2003). Individuals can help build up social support by encouraging a team atmosphere in which coworkers support one another. Just being able to talk with and listen to others, either with coworkers at work or with friends and family at home, can help decrease stress levels.
Time Management
Time management is defined as the development of tools or techniques that help to make us more productive when we work. Effective time management is a major factor in reducing stress, because it decreases much of the pressure we feel. With information and role overload it is easy to fall into bad habits of simply reacting to unexpected situations. Time management techniques include prioritizing, manageable organization, and keeping a schedule such as a paper or electronic organizing tool. Just like any new skill, developing time management takes conscious effort, but the gains might be worthwhile if your stress level is reduced.
Listen Up and Learn More
Check out this interview with Fast Company and Tony Wright, CEO of RescueTime, who has created a tool to evaluate your productivity using data from your computer.
www.fastcompany.tv/video/see-...ith-RescueTime
This software is available at http://www.RescueTime.com/ and is currently free to use.
Organizational Approaches to Managing Stress
Stress-related issues cost businesses billions of dollars per year in absenteeism, accidents, and lost productivity (Hobson, 2004). As a result, managing employee stress is an important concern for organizations as well as individuals. For example, Renault, the French automaker, invites consultants to train their 2,100 supervisors to avoid the outcomes of negative stress for themselves and their subordinates. IBM Corporation encourages its worldwide employees to take an online stress assessment that helps them create action plans based on their results. Even organizations such as General Electric Company (GE) that are known for a “winner takes all” mentality are seeing the need to reduce stress. Lately, GE has brought in comedians to lighten up the workplace atmosphere, and those receiving low performance ratings are no longer called the “bottom 10s” but are now referred to as the “less effectives” (Dispatches from the war on stress, 2007). Organizations can take many steps to helping employees with stress, including having more clear expectations of them, creating jobs where employees have autonomy and control, and creating a fair work environment. Finally, larger organizations normally utilize outside resources to help employees get professional help when needed.
Make Expectations Clear
One way to reduce stress is to state your expectations clearly. Workers who have clear descriptions of their jobs experience less stress than those whose jobs are ill defined (Jackson & Schuler, 1985; Sauter, Murphy, & Hurrell, 1990). The same thing goes for individual tasks. Can you imagine the benefits of working in a place where every assignment was clear and employees were content and focused on their work? It would be a great place to work as a manager, too. Stress can be contagious, but as we’ve seen above, this kind of happiness can be contagious, too. Creating clear expectations doesn’t have to be a top–down event. Managers may be unaware that their directives are increasing their subordinates’ stress by upping their confusion. In this case, a gentle conversation that steers a project in a clearer direction can be a simple but powerful way to reduce stress. In the interest of reducing stress on all sides, it’s important to frame situations as opportunities for solutions as opposed to sources of anger.
Give Employees Autonomy
Giving employees a sense of autonomy is another thing that organizations can do to help relieve stress (Kossek, Lautschb, & Eaton, 2006). It has long been known that one of the most stressful things that individuals deal with is a lack of control over their environment. Research shows that individuals who feel a greater sense of control at work deal with stress more effectively both in the United States and in Hong Kong (Schaubroeck, Lam, & Xie, 2000). Similarly, in a study of American and French employees, researchers found that the negative effects of emotional labor were much less for those employees with the autonomy to customize their work environment and customer service encounters (Grandey, Fisk, & Steiner, 2005). Employees’ stress levels are likely to be related to the degree that organizations can build autonomy and support into jobs.
Create Fair Work Environments
Work environments that are unfair and unpredictable have been labeled “toxic workplaces.” A toxic workplace is one in which a company does not value its employees or treat them fairly (Webber, 1998). Statistically, organizations that value employees are more profitable than those that do not (Huselid, 1995; Pfeffer, 1998; Pfeffer & Veiga, 1999; Welbourne & Andrews, 1996). Research shows that working in an environment that is seen as fair helps to buffer the effects of stress (Judge & Colquitt, 2004). This reduced stress may be because employees feel a greater sense of status and self-esteem or due to a greater sense of trust within the organization. These findings hold for outcomes individuals receive as well as the process for distributing those outcomes (Greenberg, 2004). Whatever the case, it is clear that organizations have many reasons to create work environments characterized by fairness, including lower stress levels for employees. In fact, one study showed that training supervisors to be more interpersonally sensitive even helped nurses feel less stressed about a pay cut (Greenberg, 2006).
Supervisor Support: Work-Family Conflict Survey
Think of your current or most recent supervisor and rate each of the following items in terms of this person’s behavior toward you.
Answer the following questions using 1 = not at all, 2 = somewhat, 3 = fully agree
1. _____ My supervisor is willing to listen to my problems in juggling work and nonwork life.
2. _____ My supervisor takes the time to learn about my personal needs.
3. _____ My supervisor makes me feel comfortable talking to him or her about my conflicts between work and nonwork.
4. _____ My supervisor and I can talk effectively to solve conflicts between work and nonwork issues.
5. _____ I can depend on my supervisor to help me with scheduling conflicts if I need it.
6. _____ I can rely on my supervisor to make sure my work responsibilities are handled when I have unanticipated nonwork demands.
7. _____ My supervisor works effectively with workers to creatively solve conflicts between work and nonwork.
8. _____ My supervisor is a good role model for work and nonwork balance.
9. _____ My supervisor demonstrates effective behaviors in how to juggle work and nonwork balance.
10. _____ My supervisor demonstrates how a person can jointly be successful on and off the job.
11. _____ My supervisor thinks about how the work in my department can be organized to jointly benefit employees and the company.
12. _____ My supervisor asks for suggestions to make it easier for employees to balance work and nonwork demands.
13. _____ My supervisor is creative in reallocating job duties to help my department work better as a team.
14. _____ My supervisor is able to manage the department as a whole team to enable everyone’s needs to be met.
Add up all your ratings to see how your supervisor stacks up.
Score total = _______________
Scoring:
• A score of 14 to 23 indicates low levels of supervisor support.
• A score of 24 to 33 indicates average levels of supervisor support.
• A score of 34 to 42 indicates high levels of supervisor support.
Telecommuting
Figure 7.8
Telecommuting helps employees avoid traffic jams like this one.
Telecommuting refers to working remotely. For example, some employees work from home, a remote satellite office, or from a coffee shop for some portion of the workweek. Being able to work away from the office is one option that can decrease stress for some employees. Of course, while an estimated 45 million individuals telecommute each year, telecommuting is not for everyone (WorldatWork, 2006). At Merrill Lynch & Co. Inc., those who are interested in telecommuting are put through a rigorous training program that includes 2 weeks in one of their three home office simulation labs in Florida, New Jersey, or Manhattan to see if telecommuting is a good fit for the employee. Employees must also submit photos of their home office and a work plan. AT&T Inc. estimates that nearly 55% of its U.S.-based managers telecommute at some point in the week, and this method is also popular with managers around the world (AT&T, 2004). A recent survey found that 43% of government workers now telecommute at least part time. This trend has been growing in reaction to a law passed by the U.S. Congress in 2000 requiring federal agencies to offer working from home as an option (Gross, 2008). Merrill Lynch has seen higher productivity, less stress, lower turnover, and higher job satisfaction for those who telecommute (Chadderdon, 2008). A recent meta-analysis of all the studies of telecommuting (12,883 employees) confirmed researcher findings that the higher autonomy of working from home resulted in lower work–family conflict for these employees. Even more encouraging were the findings of higher job satisfaction, better performance, and lower stress as well (Gajendran & Harrison, 2007). Of course, telecommuting can also cause potential stress. The keys to successful telecommuting arrangements are to match the right employees with the right jobs to the right environments. If any variable is not within a reasonable range, such as having a dog that barks all day when the employee is at home, productivity will suffer.
Employee Sabbaticals
Sabbaticals (paid time off from the normal routine at work) have long been a sacred ritual practiced by universities to help faculty stay current, work on large research projects, and recharge every 5 to 8 years. However, many companies such as Genentech Inc., Container Store Inc., and eBay Inc. are now in the practice of granting paid sabbaticals to their employees. While 11% of large companies offer paid sabbaticals and 29% offer unpaid sabbaticals, 16% of small companies and 21% of medium-sized companies do the same (Schwartz, 1999). For example, at PricewaterhouseCoopers International Ltd., you can apply for a sabbatical after just 2 years on the job if you agree to stay with the company for at least 1 year following your break. Time off ranges from 3 to 6 months and entails either a personal growth plan or one for social services where you help others (Sahadi, 2006).
Employee Assistance Programs
There are times when life outside work causes stress in ways that will impact our lives at work and beyond. These situations may include the death of a loved one, serious illness, drug and alcohol dependencies, depression, or legal or financial problems that are impinging on our work lives. Although treating such stressors is beyond the scope of an organization or a manager, many companies offer their employees outside sources of emotional counseling. Employee Assistance Programs (EAPs) are often offered to workers as an adjunct to a company-provided health care plan. Small companies in particular use outside employee assistance programs, because they don’t have the needed expertise in-house. As their name implies, EAPs offer help in dealing with crises in the workplace and beyond. EAPs are often used to help workers who have substance abuse problems.
Key Takeaways
There are many individual and organizational approaches to decreasing stress and avoiding negative outcomes. Individuals can control their diet, exercise, and sleep routines; build a social support network; and practice better time management. Organizations can help make expectations clear, give employees autonomy, create fair work environments, consider telecommuting, give employee sabbaticals, and utilize employee assistance programs.
Exercises
1. Have you ever been in a state of “flow” as described in this section? If so, what was special about this time?
2. Whose responsibility do you think it is to deal with employee stress—the employee or the organization? Why?
3. Do you think most organizations are fair or unfair? Explain your answer.
4. Have you ever considered telecommuting? What do you think would be the pros and cons for you personally?
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Chadderdon, L. (2007). Merrill Lynch works—at home. Fast Company. Retrieved June 1, 2008, from http://www.fastcompany.com/magazine/14/homework.html.
Csikszentmihalyi, C. (1997). Finding flow: The psychology of engagement with everyday life. New York: Basic Books.
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Grandey, A. A., Fisk, G. M., & Steiner, D. D. (2005). Must “service with a smile” be stressful? The moderating role of personal control for American and French employees. Journal of Applied Psychology, 90, 893–904.
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Pfeffer, J. (1998). The human equation: Building profits by putting people first. Boston: Harvard Business School Press.
Pfeffer, J., & Veiga, J. F. (1999). Putting people first for organizational success. Academy of Management Executive, 13, 37–48.
Sahadi, J. (2006, June 13). The corporate sabbatical isn’t just a pipe dream at a significant minority of companies. CNNMoney.com. Retrieved June 1, 2008, from http://money.cnn.com/2006/06/13/commentary/everyday/sahadi/index.htm.
Sauter S. L., Murphy L. R., & Hurrell J. J., Jr. (1990). Prevention of work-related psychological disorders. American Psychologist, 45, 1146–1158.
Schaubroeck, J., Lam, S. S. K., & Xie, J. L. (2000). Collective efficacy versus self-efficacy in coping responses to stressors and control: A cross-cultural study. Journal of Applied Psychology, 85, 512–525.
Schwartz, S. K. (1999, November 15). The corporate sabbatical. CNNMoney.com. Retrieved June 1, 2008, from http://money.cnn.com/1999/11/15/life/q_sabbatical/.
Tumminello, L. (2007, November 5). The National Sleep Foundation’s State of the States Report on Drowsy Driving finds fatigued driving to be under-recognized and underreported. Retrieved May 23, 2008, from the National Sleep Foundation Web site: www.drowsydriving.org/site/c....KtF/b.3568679/.
Van Yperfen, N. W., & Hagedoorn, M. (2003). Do high job demands increase intrinsic motivation or fatigue or both? The role of job control and job social support. Academy of Management Journal, 46, 339–348.
Webber, A. M. (1998). Danger: Toxic company. Fast Company. Retrieved June 1, 2008, from http://www.fastcompany.com/magazine/19/toxic.html?page=0%2C1.
Welbourne, T., & Andrews, A. (1996). Predicting performance of Initial Public Offering firms: Should HRM be in the equation? Academy of Management Journal, 39, 910–911.
WorldatWork. (2006). Telework trendlines for 2006 (Report). Retrieved June 1, 2008, from the WorldatWork Web site: http://www.workingfromanywhere.org/news/trendlines_2006.pdf.
Wurtman, J. (1988). Managing your mind and mood through food. New York: Harper Perennial.
1. For additional resources, go to the National Sleep Foundation Web site: www.nationalsleepfoundation.org. | textbooks/biz/Management/Organizational_Behavior/07%3A_Managing_Stress_and_Emotions/07.3%3A_Avoiding_and_Managing_Stress.txt |
Learning Objectives
1. Understand what defines emotions.
2. Identify the different types of emotions people experience.
3. Understand emotion contagion.
Types of Emotions
Financial analysts measure the value of a company in terms of profits and stock. For employees, however, the value of a job is also emotional. The root of the word emotion comes from a French term meaning “to stir up.” And that’s a great place to begin our investigation of emotions at work. More formally, an emotion is defined as a short, intense feeling resulting from some event. Not everyone reacts to the same situation in the same way. For example, a manager’s way of speaking can cause one person to feel motivated, another to feel angry, and a third to feel sad. Emotions can influence whether a person is receptive to advice, whether they quit a job, and how they perform individually or on a team (Cole, Walter, & Bruch, 2008; George & Jones, 1996; Gino & Schweitzer, 2008). Of course, as you know, emotions can be positive or negative.
Positive emotions such as joy, love, and surprise result from our reaction to desired events. In the workplace, these events may include achieving a goal or receiving praise from a superior. Individuals experiencing a positive emotion may feel peaceful, content, and calm. A positive feeling generates a sensation of having something you didn’t have before. As a result, it may cause you to feel fulfilled and satisfied. Positive feelings have been shown to dispose a person to optimism, and a positive emotional state can make difficult challenges feel more achievable (Kirby, 2001). This is because being positive can lead to upward positive spirals where your good mood brings about positive outcomes, thereby reinforcing the good mood (Frederickson & Joiner, 2002).
Emotions are also useful for creative tasks, because positive individuals tend to be more creative and open to new ideas. In addition to helping with employee creativity, companies such as Microsoft Corporation often want to understand which features of their products produce not just high ratings for usability but also high emotional ratings. Individuals with strong positive emotional reactions are more likely to use their product and recommend it to others (Weler, 2008). This is something Apple Inc. has been known for doing well, as their products tend to evoke strong positive emotions and loyalty from their users.
Negative emotions such as anger, fear, and sadness can result from undesired events. In the workplace, these events may include not having your opinions heard, a lack of control over your day-to-day environment, and unpleasant interactions with colleagues, customers, and superiors. Negative emotions play a role in the conflict process, with those who can manage their negative emotions finding themselves in fewer conflicts than those who do not.
The unwanted side effects of negative emotions at work are easy to see: An angry colleague is left alone to work through the anger; a jealous colleague is excluded from office gossip, which is also the source of important office news. But you may be surprised to learn that negative emotions can help a company’s productivity in some cases. Anger at another company’s success, for example, can spark a burst of positive effort on behalf of a competitor. Jealousy about another division’s sales figures may inspire a rival division to work harder. While negative emotions can be destructive in the workplace, they can inspire bursts of valuable individual action to change situations that aren’t working the way they should (Jordan, Lawrence, & Troth, 2006). The key is to promote the positive emotions and work to manage the negative ones so they don’t spread throughout the organization and become the norm.
Emotional Contagion
Both positive and negative emotions can be contagious, with the spillover of negative emotions lasting longer than positive emotions.[1] As you may have experienced in the past, contagion can be especially salient in a team setting. Research shows that emotions are contagious and that team members affect one another even after accounting for team performance (Ilies, Wagner, & Morgeson, 2007). One explanation for negative emotions’ tendency to linger may be a stronger connection to the fight-or-flight situations people experience. Anger, fear, and suspicion are intentionally unpleasant messages urging us to take action immediately. And to make sure we get the message, these emotions stick around.
Research shows that some people are more susceptible to emotional contagion than others (Papousek, Freudenthaler, & Schulter, 2008). But in general, when the boss is happy, the staff is happy (Bono & Ilies, 2006). We can also imagine how negative emotions can be transferred. Imagine you’re working behind the counter at a fast-food restaurant. Your mood is fine, until a customer argues with you about an order. You argue back. The customer leaves in a huff. Your anger emotions continue, turning into negative feelings that last throughout the day. As you might guess, you are more likely to make mistakes and find ordinary challenges annoying when you’re experiencing negative emotions. Unchecked, your negative emotions can spread to those around you. A negative interaction with one customer can spill over onto interactions with another customer (Pugh, 2001; Hareli & Rafaeli, 2007).
OB Toolbox: Practice Changing Your Emotions
Olympic athletes train for peak performance by stimulating their brains to believe they’ve just run a record race. You can do the same thing to experience different moods. By providing your brain with the external stimulus of happiness or sadness, you can create those feelings. Give it a try!
It’s best to practice this when you are feeling relatively calm. To give yourself a neutral starting point, close your eyes and breathe in slowly. Now, release your breath. Open your eyes and smile wide. Allow your eyes to crinkle. Now smile a bit more.
The changes you have consciously made to your expression are signaling your body that a positive event has taken place. How does this affect you emotionally?
Answer these questions to find out:
Do you feel more or less energetic as you smile? More or less calm? More or less optimistic? How does the feeling resulting from your physical changes compare with your feelings a moment before?
Now, let’s try the opposite: Close your eyes and breathe in and out slowly, as detailed above, to clear your “emotional slate.” Then open your eyes. Pull down the corners of your mouth. Open your eyes wide. You have just signaled to your body that something negative has taken place.
Note your feelings using the list above. How do these feelings compare with your feelings of “intentional happiness”?
Now consider this: Dr. Aston Trice of Mary Baldwin College in Virginia found that humor has mood-altering effects. Subjects were given a frustrating task. Then, one-half were shown cartoons. Those who had seen the cartoons overcame their frustration and attacked a new test with renewed enthusiasm and confidence, compared to those subjects who hadn’t had the humorous interlude (Colino, 2006).
Key Takeaways
Emotions serve many purposes and affect people at work. There are positive and negative emotions, and both can be helpful at motivating us to work harder. Emotions are malleable and they can also be contagious.
Exercises
1. How easy do you think it is to “manage” one’s emotions?
2. Which types of emotions are most socially accepted in the workplace? Why do you think this is?
3. What are factors that affect your emotions?
4. Share an example of either positive or negative emotional contagion. How did it start and stop?
5. What do you do, if anything, to try to change how you are feeling? How effective are your strategies?
References
Bono, J. E., & Ilies, R. (2006). Charisma, positive emotions and mood contagion. Leadership Quarterly, 17, 317–334.
Cole, M. S., Walter, F., & Bruch, H. (2008). Affective mechanisms linking dysfunctional behavior to performance in work teams: A moderated mediation study. Journal of Applied Psychology, 93, 945–958.
Colino, S. (2006, May 30). That look—it’s catching. Washington Post, p. HE01.
Frederickson, B. L., & Joiner, T. (2002). Emotions trigger upward spirals toward emotional well-being. Psychological Science, 13, 172–175.
George, J. M, & Jones, G. R. (1996). The experience of work and turnover intentions: Interactive effects of value attainment, job satisfaction, and positive mood. Journal of Applied Psychology, 81, 318–325.
Gino, F., & Schweitzer, M. E. (2008). Blinded by anger or feeling the love: How emotions influence advice taking. Journal of Applied Psychology, 93, 1165–1173.
Hareli, S., & Rafaeli, A. (2007). Emotion cycles: On the social influence of emotion in organizations. Research in Organizational Behavior, 28, 35–59.
Ilies, R., Wagner, D. T., & Morgeson, F. P. (2007). Explaining affective linkages in teams: Individual differences in susceptibility to contagion and individualism-collectivism. Journal of Applied Psychology, 92, 1140–1148.
Jordan, P. J., Lawrence, S. A., & Troth, A. C. (2006). Emotions and coping with conflict: An introduction. Journal of Management and Organization, 12, 98–100.
Kirby, L. (2001). Personality, physiology and performance: The effects of optimism on task engagement. Retrieved June 1, 2008, from University of Pennsylvania, Positive Psychology Center Web site: www.ppc.sas.upenn.edu/institute2001 shortsummaries.htm#LK.
Papousek, I., Freudenthaler, H. H., & Schulter, D. (2008). The interplay of perceiving and regulating emotions in becoming infected with positive and negative moods. Personality and Individual Differences, 45, 463–467.
Pugh, S. D. (2001). Service with a smile: Emotional contagion in the service encounter. Academy of Management Journal, 44, 1018–1027.
Weler, M. H. (2008). Microsoft gets emotional with business software upgrade. Information Week. Retrieved June 1, 2008, from www.informationweek.com/news/windows/microsoft_news/showArticle.jhtml?articleID=206903128.
1. Linguistics may be clue to emotions, according to Penn State research. (2005, January 24). Retrieved June 1, 2008, from the ScienceDaily Web site: www.sciencedaily.com_/release...0123213111.htm. | textbooks/biz/Management/Organizational_Behavior/07%3A_Managing_Stress_and_Emotions/07.4%3A_What_Are_Emotions.txt |
Learning Objectives
1. Understand Affective Events Theory.
2. Understand the influence of emotions on attitudes and behaviors at work.
3. Learn what emotional labor is and how it affects individuals.
4. Learn what emotional intelligence is.
Emotions Affect Attitudes and Behaviors at Work
Emotions shape an individual’s belief about the value of a job, a company, or a team. Emotions also affect behaviors at work. Research shows that individuals within your own inner circle are better able to recognize and understand your emotions (Elfenbein & Ambady, 2002).
So, what is the connection between emotions, attitudes, and behaviors at work? This connection may be explained using a theory named Affective Events Theory (AET). Researchers Howard Weiss and Russell Cropanzano studied the effect of six major kinds of emotions in the workplace: anger, fear, joy, love, sadness, and surprise (Weiss & Cropanzano, 1996). Their theory argues that specific events on the job cause different kinds of people to feel different emotions. These emotions, in turn, inspire actions that can benefit or impede others at work (Fisher, 2002).
For example, imagine that a coworker unexpectedly delivers your morning coffee to your desk. As a result of this pleasant, if unexpected experience, you may feel happy and surprised. If that coworker is your boss, you might feel proud as well. Studies have found that the positive feelings resulting from work experience may inspire you to do something you hadn’t planned to do before. For instance, you might volunteer to help a colleague on a project you weren’t planning to work on before. Your action would be an affect-driven behavior (Fisher, 2002). Alternatively, if you were unfairly reprimanded by your manager, the negative emotions you experience may cause you to withdraw from work or to act mean toward a coworker. Over time, these tiny moments of emotion on the job can influence a person’s job satisfaction. Although company perks and promotions can contribute to a person’s happiness at work, satisfaction is not simply a result of this kind of “outside-in” reward system. Job satisfaction in the AET model comes from the inside-in—from the combination of an individual’s personality, small emotional experiences at work over time, beliefs, and affect-driven behaviors.
Jobs that are high in negative emotion can lead to frustration and burnout—an ongoing negative emotional state resulting from dissatisfaction (Lee & Ashforth, 1996; Maslach, 1982; Maslach & Jackson, 1981). Depression, anxiety, anger, physical illness, increased drug and alcohol use, and insomnia can result from frustration and burnout, with frustration being somewhat more active and burnout more passive. The effects of both conditions can impact coworkers, customers, and clients as anger boils over and is expressed in one’s interactions with others (Lewandowski, 2003).
Emotional Labor
Negative emotions are common among workers in service industries. Individuals who work in manufacturing rarely meet their customers face-to-face. If they’re in a bad mood, the customer would not know. Service jobs are just the opposite. Part of a service employee’s job is appearing a certain way in the eyes of the public. Individuals in service industries are professional helpers. As such, they are expected to be upbeat, friendly, and polite at all times, which can be exhausting to accomplish in the long run.
Humans are emotional creatures by nature. In the course of a day, we experience many emotions. Think about your day thus far. Can you identify times when you were happy to deal with other people and times that you wanted to be left alone? Now imagine trying to hide all the emotions you’ve felt today for 8 hours or more at work. That’s what cashiers, school teachers, massage therapists, fire fighters, and librarians, among other professionals, are asked to do. As individuals, they may be feeling sad, angry, or fearful, but at work, their job title trumps their individual identity. The result is a persona—a professional role that involves acting out feelings that may not be real as part of their job.
Emotional labor refers to the regulation of feelings and expressions for organizational purposes (Grandey, 2000). Three major levels of emotional labor have been identified (Hochschild, 1983).
1. Surface acting requires an individual to exhibit physical signs, such as smiling, that reflect emotions customers want to experience. A children’s hairdresser cutting the hair of a crying toddler may smile and act sympathetic without actually feeling so. In this case, the person is engaged in surface acting.
2. Deep acting takes surface acting one step further. This time, instead of faking an emotion that a customer may want to see, an employee will actively try to experience the emotion they are displaying. This genuine attempt at empathy helps align the emotions one is experiencing with the emotions one is displaying. The children’s hairdresser may empathize with the toddler by imagining how stressful it must be for one so little to be constrained in a chair and be in an unfamiliar environment, and the hairdresser may genuinely begin to feel sad for the child.
3. Genuine acting occurs when individuals are asked to display emotions that are aligned with their own. If a job requires genuine acting, less emotional labor is required because the actions are consistent with true feelings.
Research shows that surface acting is related to higher levels of stress and fewer felt positive emotions, while deep acting may lead to less stress (Beal et al., 2006; Grandey, 2003). Emotional labor is particularly common in service industries that are also characterized by relatively low pay, which creates the added potentials for stress and feelings of being treated unfairly (Glomb, Kammeyer-Mueller, & Rotundo, 2004; Rupp & Sharmin, 2006). In a study of 285 hotel employees, researchers found that emotional labor was vital because so many employee-customer interactions involve individuals dealing with emotionally charged issues (Chu, 2002). Emotional laborers are required to display specific emotions as part of their jobs. Sometimes, these are emotions that the worker already feels. In that case, the strain of the emotional labor is minimal. For example, a funeral director is generally expected to display sympathy for a family’s loss, and in the case of a family member suffering an untimely death, this emotion may be genuine. But for people whose jobs require them to be professionally polite and cheerful, such as flight attendants, or to be serious and authoritative, such as police officers, the work of wearing one’s “game face” can have effects that outlast the working day. To combat this, taking breaks can help surface actors to cope more effectively (Beal, Green, & Weiss, 2008). In addition, researchers have found that greater autonomy is related to less strain for service workers in the United States as well as France (Grandey, Fisk, & Steiner, 2005).
Cognitive dissonance is a term that refers to a mismatch among emotions, attitudes, beliefs, and behavior, for example, believing that you should always be polite to a customer regardless of personal feelings, yet having just been rude to one. You’ll experience discomfort or stress unless you find a way to alleviate the dissonance. You can reduce the personal conflict by changing your behavior (trying harder to act polite), changing your belief (maybe it’s OK to be a little less polite sometimes), or by adding a new fact that changes the importance of the previous facts (such as you will otherwise be laid off the next day). Although acting positive can make a person feel positive, emotional labor that involves a large degree of emotional or cognitive dissonance can be grueling, sometimes leading to negative health effects (Zapf, 2006).
Emotional Intelligence
One way to manage the effects of emotional labor is by increasing your awareness of the gaps between real emotions and emotions that are required by your professional persona. “What am I feeling? And what do others feel?” These questions form the heart of emotional intelligence. The term was coined by psychologists Peter Salovey and John Mayer and was popularized by psychologist Daniel Goleman in a book of the same name. Emotional intelligence looks at how people can understand each other more completely by developing an increased awareness of their own and others’ emotions (Carmeli, 2003).
There are four building blocks involved in developing a high level of emotional intelligence. Self-awareness exists when you are able to accurately perceive, evaluate, and display appropriate emotions. Self-management exists when you are able to direct your emotions in a positive way when needed. Social awareness exists when you are able to understand how others feel. Relationship management exists when you are able to help others manage their own emotions and truly establish supportive relationships with others (Elfenbein & Ambady, 2002; Weisinger, 1998).
In the workplace, emotional intelligence can be used to form harmonious teams by taking advantage of the talents of every member. To accomplish this, colleagues well versed in emotional intelligence can look for opportunities to motivate themselves and inspire others to work together (Goleman, 1995). Chief among the emotions that helped create a successful team, Goleman learned, was empathy—the ability to put oneself in another’s shoes, whether that individual has achieved a major triumph or fallen short of personal goals (Goleman, 1998). Those high in emotional intelligence have been found to have higher self-efficacy in coping with adversity, perceive situations as challenges rather than threats, and have higher life satisfaction, which can all help lower stress levels (Law, Wong, & Song, 2004; Mikolajczak & Luminet, 2008).
Key Takeaways
Emotions affect attitudes and behaviors at work. Affective Events Theory can help explain these relationships. Emotional labor is higher when one is asked to act in a way that is inconsistent with personal feelings. Surface acting requires a high level of emotional labor. Emotional intelligence refers to understanding how others are reacting to our emotions.
Exercises
1. What is the worst job you have ever had (or class project if you haven’t worked)? Did the job require emotional labor? If so, how did you deal with it?
2. Research shows that acting “happy” when you are not can be exhausting. Why do you think that is? Have you ever felt that way? What can you do to lessen these feelings?
3. How important do you think emotional intelligence is at work? Why? | textbooks/biz/Management/Organizational_Behavior/07%3A_Managing_Stress_and_Emotions/07.5%3A_Emotions_at_Work.txt |
Learning Objectives
1. Consider the role of ethics and emotion.
2. Consider the role of national culture on stress.
Emotions and Ethics
We have seen before how a gap between our true feelings and the feelings we display at work can cause distress. What happens when there is a gap between our feelings and our true beliefs?
Joshua Greene is a philosopher and neuroscientist who uses magnetic imaging of the brain to show how our minds and bodies react to difficult questions. In one example, Greene asked a group of subjects to consider a situation in which a trolley is racing down a track, about to kill five people. The subjects have the ability to steer the trolley onto another track, where it will kill only one person. Most agree this feels like the right thing to do—the best of possible evils.
Greene then asks his subject to consider the same situation with one major shift: In this case, to save the five bystanders the subject must push a large man in front of the trolley to stop it in its tracks.
This time, Greene’s subjects felt the sacrifice was emotionally wrong. Greene’s research shows that the difference between his subjects’ valuations of life in these cases was that the second was more emotional. The thought of pushing someone to his death, understandably, had brought up strong feelings among the group. If humans were computers, one person’s death might be seen as “less bad” than the death of five. But human decisions are based on emotion. It was considered emotionally—and therefore, morally—unacceptable to push the man in front of the trolley to save five others.
Greene’s magnetic images of his subject’s brains showed that while considering the second scenario, people were using more of their brains. Greene writes, “These differences in emotional engagement affect people’s judgments” (Greene, et al., 2001).
Emotions are a powerful force in work and life. They are spontaneous and unpredictable elements of human beings that separate us from machines, and in some moments, from one another. By learning to identify and maximize the uses of our emotions at work, we can more appropriately respond to emotional situations.
Lack of Leisure Time and Stress Around the Globe
As economist Steven Landsburg notes, “Compared with Europeans, Americans are more likely to be employed and more likely to work longer hours—employed Americans put in about 3 hours more per week than employed Frenchmen. Most important, Americans take fewer (and shorter) vacations” (Landsburg, 2006). That is, if they take a vacation at all. A recent poll showed that 40% of Americans do not plan to take a vacation within the next year (Egan, 2006).
Juliet Schor, a senior lecturer in economics and director of women’s studies at Harvard University, adds to the portrait of the overworked American with a shocking statistic on Americans’ free time. According to Schor’s book, The Overworked American: The Unexpected Decline of Leisure, Americans have 16.5 hours per week of leisure time after their work and household obligations are fulfilled (Schor, 1993). This is a huge concern, as research has established that recovery is a key to well-being and that the lack of recovery can lead to health concerns associated with stress (Sonnentag & Ziljlstra, 2006). Even more challenged for leisure time are some Japanese employees, working an average of 236 more hours per year than their American counterparts and 500 more hours than employees in France or Germany (Nishiyama & Johnson, 2006). Leisure and recovery are key aspects to remaining healthy throughout one’s lifetime.
While Europeans normally plan on taking the month of August off, Americans do not have a similar ritual. PricewaterhouseCoopers became so concerned that they have instituted a 10-day shutdown as a winter break and a 5-day shutdown around July 4 so that everyone takes that time off without feeling peer pressure to work through vacations.
Key Takeaways
Emotions play a role in shaping what we feel is ethical and what is not. Leisure time is important for avoiding the exhaustion phase of the stress cycle. Countries vary a great deal in how many hours the average worker puts in at work, with Japan working the most hours, followed by those in the United States.
Exercises
1. Explain a time when you have seen emotions help someone to be more ethical than they might have otherwise been.
2. Explain a time when you have seen emotions help someone to be less ethical than they might have otherwise been.
3. Why do you think some countries have so much vacation time compared to others? In your opinion, is this a problem or not? Why? | textbooks/biz/Management/Organizational_Behavior/07%3A_Managing_Stress_and_Emotions/07.6%3A_The_Role_of_Ethics_and_National_Culture.txt |
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