Chapter 7 analyzed the strategic management of time. Chapter 8 looked at risk assessment. Chapter 9 analyzed business planning and forecasting as a pre-requisite to the strategy process. Chapter 11 defined the concepts of mission, objective, and strategy; and analyzed their purpose. Chapter 12 looked at the impact of ethical issues and values on the establishment of enterprise mission, objectives, and strategy. Chapter 13 dealt with issues of financial strategy and management.
This chapter looks at the issue of who formulates objectives and strategy, and who makes decisions. It analyzes how strategies are formulated, and looks at the generation of strategic alternatives. It looks at process issues associated with strategy formulation. It describes a variety of decision-making roles. It deals with issues of strategic fit or congruence. It comments on target or expected level of achievement. And it summarizes the process of allocating resources that follows the making of enterprise decisions.
Strategy Formulation, Governance, and Decision-Making
The process of strategic management does not “just happen”. Someone has to decide what is best for the enterprise. There may be agreement about what is the best way to proceed; or there may be disagreement. Someone has to identify the alternative strategies and courses of action that are available to the organization to help it achieve its objectives. Someone has to decide whether the enterprise is capable of doing what is being proposed. There may be a consensus about all of these things, or everything may have to be subject to negotiation. There may be conflicts amongst decision-makers, and there may even be “battles in the boardroom”. But in the end, somebody or some group of people has to exercise leadership, to make the decisions, and to take responsibility for them.
Who Formulates Strategy?
There will be a relationship between the type of enterprise and the people who formulate the strategic component of the strategy hierarchy described in Chapter 11. The process of strategy formulation depends, in part, on the type of organization in which it is taking place, thus:
The small to medium sized enterprise (SME) – typically owned and controlled by an entrepreneur as proprietor. Strategy formulation and decision-making are in the hands of the owner, and derive from his or her objectives for the business.
The partnership – in which strategy formulation and decision-making are jointly the responsibility of the partners. Strategy formulation will therefore depend on the interpersonal processes used by the partners to establish agreement among themselves. The prior joint agreement on the strategies to be pursued by the enterprise may be an essential pre-requisite to management harmony in a UK partnership, given the legal condition that the actions of any one partner are binding on the others.
Partnership as a legal form of enterprise is mandatory in the UK for professional organizations such as legal, accountancy, medical, and some types of consulting organizations.
The private company – in which control is vested in the hands of a relatively small (or restricted) number of shareholders, trustees, or their representatives. Private companies often develop out of successful sole traderships or partnerships; and are a common form for family businesses to adopt. Strategy formulation and decision-making are likely to be controlled by dominant shareholders or family representatives. Ownership, strategy formulation, and operational control are likely to be closely linked.
Private or family companies are a common feature of the business environments in Europe and South East Asia. The Chinese family business (CFB) is a predominant enterprise form world-wide amongst the overseas Chinese.
The public company or shareholder corporation – in which there is commonly the separation of ownership from the processes of strategy formulation and management. A chief executive officer (CEO) or president, and a board of directors (perhaps comprising “executive” and “nonexecutive” directors) or management board nominally elected by the shareholders, direct and control the affairs of the company. The board may contain employee representatives and people from outside bodies, depending on local company law. One of its main responsibilities is the establishment of the corporate mission, objectives, and strategy described in Chapter 11.
A key issue for a public company is how strategy is to be established, and who is to be involved in the process. In many public companies, for instance, professional managers who do not necessarily hold shares are often involved in the process of strategy formulation. At the same time, there has in recent years been increasing shareholder pressure on Anglo-Saxon companies, through the “corporate governance” movement, to allow independent or non-executive directors (who directly represent the interests of shareholders as key stakeholders and primary beneficiaries) a greater influence on the establishment of corporate objectives and strategies. The corporate governance movement is primarily concerned to increase the shareholder value represented by the investment in the enterprise; and typically focuses on short-term profitability and growth in share value. Corporate governance is described in a later section of this chapter.
Co-operatives and commonwealth organizations – as quasi-democratic bodies, members of the co-operative or commonwealth (or their representatives) are to some degree entitled to have a say in the direction of its affairs. For instance, Lessem and Neubauer (1994) describe the workings of the general assembly and general councils of the Mondragon co-operatives in Spain, and the rights of worker-members to be involved in management processes and strategy formulation there. Members of the UK John Lewis Partnership are called “partners” and are represented through branch and central councils in the management of that company’s affairs.
In the UK, however, there appears to have been an increasing trend towards the employment of professional managers in co-operatives and commonwealths, and the establishment of professionalized management boards responsible for strategic decision-making within the organization.
Building societies and mutual companies – building societies and mutual companies are legally owned by their members or trustees, and the process of strategy formulation and decision-making is normally the responsibility of an elected management board. This board must seek a mandate from the membership before major strategic initiatives can be undertaken. Nevertheless, as with co-operatives and commonwealths in the UK, the processes of strategic management are becoming increasingly professionalized.
- elected representatives.
- appointed officers.
- appointed management boards.
- central, federal, provincial, or local government representatives.
- representatives of regulatory authorities (such as the UK’s OFTEL, OFWAT, or the Regulator of Railways).
- employee representatives.
- representatives of stakeholders such as customers, clients, or subcontractors (etc).
- professional managers or administrators.
Strategy formulation and decision-making in such institutions may be highly politicized. Strategic management outcomes will be a function of the process issues described in a later section of this chapter.
The Influence of Founder and Family
Goldsmith and Clutterbuck (1985) argue that founder or family may have considerable influence on objective setting, strategy formulation, and strategic decision-making. The founder of the enterprise shapes the initial perspective and vision of the organization, and sets the tone for much of what is to follow.
- provide continuity – family members grow up with the business and understand it intimately. Those that go into it and rise to positions of authority have charge of the family’s most important asset. They are likely to wish to maintain the value and standing of that business for the benefit of future generations. The business is the family’s most important inheritance.
- provide a long-term perspective – which it may be difficult for the professional manager from outside to give. One of Goldsmith and Clutterbuck’s respondents notes that ‘the founder takes a longer view than the professional manager’ (p. 133). This longer term view is, of course, helped where private company status or dominant family shareholdings mean that strategy formulation is not subject to the short-term rigours of annual stock market expectations. This year’s dividend may be a less pressing issue, and longer-term attitudes to investment, innovation, and staff development may characterize the strategy hierarchy.
Long-term perspective and continuity has been a hallmark of some of the large South Korean conglomerates (the chaebol) which remain family controlled.
- have room for wider values than might otherwise be possible – for instance, when it comes to providing extra employee benefits or staff development opportunities. These, in turn, make the company an attractive employer and may reinforce team spirit and staff loyalty.
- may be able to establish a public identity that reinforces product, service, and brand image – private or family companies may be able to avoid appearing “faceless” or “uncaring”. Goldsmith and Clutterbuck quote the UK example of HP Bulmer; other examples might be Richard Branson’s Virgin Group or Paterson and Zochonis (Cussons).
- competence issues – Goldsmith and Clutterbuck comment on ‘the potential for disaster that comes from allowing incompetent family members to assume positions of responsibility’ (p. 135). There may be a need for (and the willpower to carry out) the “sidelining” of incompetent family members before they can do any lasting damage to the enterprise. Otherwise the business may experience what is known in the world of the Chinese family business as the “three generation” syndrome. The family business may go “from shirtsleeves back to shirtsleeves” in three generations, the final (third) generation ultimately ruining the success that had taken the two preceding generations to put together!
Goldsmith and Clutterbuck note of their sample companies that ‘most of our successful companies seem to have overcome this by being more severe in their demands of family recruits into management than they are towards outsiders ... (the incompetents) ... are weeded out at an early stage and promotion depends heavily on ability’.
- □ succession issues – the private or family enterprise may be confronted by the problem of succession between generations. The search for a successor may reveal a lack of competence or willpower on the part of the available candidates. Or the wealth created by the founder’s dynamic efforts may have so corrupted the family’s offspring that there is no motivation to carry on the hard work involved in running the business: wealthy entrepreneurs may create “playboy” children whose idleness or fecklessness contrasts starkly with what went before! There may instead simply be no-one to take over the reins of the business.
Succession issues in Italian or South Korean family enterprises are for example widely documented. Able children may be expensively (and internationally) educated and ruthlessly prepared for succession. The prevailing culture will then ensure that they recognize and come to fulfil their duty to others! At the same time, the necessary marriages for the children will be arranged; future heirs will be expected; and family networks proactively reinforced.
- □ internal rivalries – a variety of authorities for instance note of the South Korean chaebol the incidence of family infighting over control, succession issues, and inheritance. Such internal rivalries may be impossible to deal with, and may have devastating effects on the strategic management process and on management continuity. Family members may not be able to separate their business activities from the interpersonal dynamics (or “stew”) of family relationships. Feuds may spill over from one to the other.
- □ the potential for catastrophic mistakes – entrepreneurial, family, or private businesses characterized by a concentration of power may operate in an environment where there is no outside or “objective” sanction to the use of that centralized power. The use of unchecked authority (perhaps exacerbated by the existence of a dominant individual or clique, or “groupthink” amongst decision-makers) may lead to the making of catastrophic mistakes that may threaten the continued existence of the enterprise.
- □ the need to accommodate to professional management – even where the private or family business recognizes the need to bring in professional management from outside, there may be a lengthy period of accommodation and uncertainty associated with the process of professionalization. There will have to be a necessary delegation and devolution of authority to the newcomers; and a recognition that they must eventually be drawn into the most confidential activities of the enterprise. A changed culture, open communications, and a new trust of “outsiders” will have to be developed before the process of professionalization may succeed.
The concept of “corporate governance” is not new. It may be dated back to the time in the eighteenth and nineteenth centuries when the incorporation of business companies with limited liability became available. A corporation is a legal entity. It is separate and distinct from its owners and managers. Governance issues arise when such a corporation acquires a life of its own, that is, whenever ownership of the entity is separated from its management and control. A change in ownership structure for instance from family or private to public company status (with the opportunity to raise capital through the external sale of stock), separates the owner from the functions of leadership and management. The role of owner may ultimately change from active participant to passive observer.
The Separation of Ownership and Control in Business Enterprises
Thus, one major issue of corporate governance is the separation in business companies of equity holders and owners (as the primary beneficiaries described in Chapter 11) from those who lead and control these business enterprises. The separation of ownership from control, and the wide dispersion of equity ownership amongst shareholders means that the latter may no longer be able to control the leadership and direction of the corporation of which they are the owners. Control shifts to the hands of executives responsible as “agents” or “stewards” for the assets of the shareholders. The rise of professional directors and managers acquiring wide powers in shaping the future strategic direction of the corporation then means that there may be a large body of shareholders who exercise little or no control over the wealth of the enterprise that they own.
The Definition of Corporate Governance
Corporate governance may generally be defined as a process whose purpose is to shape, to direct, and to supervise the actions of an organization. This definition may be applied to any kind of organization; and comprises:
- the setting of strategic intent, purpose, and direction, as described in Chapter 11.
- the selection, development, and compensation of senior management.
- the supervision of leadership and managerial action, for instance in the strategic management process.
- the evaluation of the capability, competence, and leadership record of decision-makers and managers. Performance evaluation is dealt with in Chapter 16. Leadership and strategy are analyzed in Chapter 17.
- the creation and guarantee of corporate accountability variously to primary beneficiaries such as owners, the providers of finance described in Chapter 13, or other key stakeholders so that the interests of all are properly safeguarded.
The governance role is not concerned directly with the operations of the organization, but instead focuses (i) on the process by which directors or governors (etc) give leadership and direction; (ii) on overseeing and controlling the executive actions of management in achieving enterprise objectives; and (iii) on satisfying the legitimate expectations of shareholders, stakeholders, or other interests within or beyond the boundaries of the corporation for regulation and accountability, as described in Chapters 11 and 12. Corporate governance may in this sense be regarded as a means of safeguarding the interests of, or balancing the relationships between the corporation’s constituents, namely the shareholders, banks, other sources of finance, or the representatives of taxpayers; directors, governors, and management; employees; customers, clients, or patients (etc); suppliers and creditors; and other stakeholders including the state and the general public.
The Organization for Economic Co-operation and Development (OECD) defines corporate governance in business organizations as ‘the system by which business corporations are directed and controlled. The corporate governance structure specifies the distribution of rights and responsibilities among different participants in the corporation ... and spells out the rules and procedures for making decisions on corporate affairs. By doing this it provides the structure through which the company objectives are set, and the means of attaining those objectives and monitoring performance’ (1999).
In addition, the need for the proper co-ordination and integration of the affairs of the organization is seen as a further reason for the presence of an accountable authority and control. Corporate governance may be concerned to ensure that this necessary co-ordination takes place in order to prevent fragmentation and the risk of loss of shareholder or stakeholder value it may represent. This risk was graphically illustrated by the unco-ordinated US public sector response to Hurricane Katrina in New Orleans during August and September 2005, which resulted in severe and long-term losses of a human, social, and financial nature.
Corporate Governance and Stakeholder Interests
The concept of the stakeholder organization or stakeholder corporation is defined to provide for, and to balance the interests of a broad spectrum of stakeholders as beneficiaries. These beneficiaries may include owners, shareholders, taxpayers or their representatives; the relevant sources of finance; appointed officials, decision-makers, or the management of the organization; employees; customers, clients, patients, or voters; suppliers and creditors; the state, and the wider community or its environment (etc). The governance of the public, the educational, and maybe the healthcare sectors in any one country may be characterized by the use of such stakeholder-oriented organizations. The success of such institutions in achieving their objectives may therefore be judged by the degree to which the required service outcomes can be achieved whilst harmonizing or balancing stakeholder interests within the relevant financial and time-related constraints.
Corporate Governance and Shareholder Value
Corporate governance in this case is rooted in the concept of profit maximization for shareholders. Corporate governance in a shareholder corporation may be defined in terms of strategic decision-making that is based on the relationship between the investor, the board of directors of a company, and the management team. Decision-making is founded on the requirement for an accountability towards shareholders that requires the enterprise to focus primarily on maximizing shareholder welfare. This may be described in terms of a model of managerial discipline in which the single most important responsibility of company directors is to ensure that managerial behaviour conforms to the wishes of the company’s shareholders. Shareholder value is defined in terms of company earnings, dividend payments, and share price. Its may also mean, controversially, that directors may be discouraged from forestalling a takeover from which shareholders as owners would benefit financially. These issues are dealt with in detail in Chapters 13 and 27.
Governance in a shareholder corporation therefore deals with the ways in which shareholders as the providers of finance assure themselves of getting a return on their investment. Indeed, one view of corporate governance is defined in terms of how investors persuade managers to give them back their money with an added return. This raises the question of how far the performance of a firm should reflect the nature of the capital structure described in Chapter 13. Corporate governance is also understood in this context as a means of dealing with business risk (Chapter 8) for investors, whose interests may not be protected by lenders, suppliers, and customers.
Some International Comparisons of the Corporate Governance of Business Organizations
Significant differences in structures of corporate ownership may be found between different countries. Culture, history, and the legal systems of countries have led to different approaches to corporate governance. In this sense, the concept of corporate governance may be regarded as equifinal in nature. This equifinal view states that there is no one “best” system of corporate governance. Each system exists in a different social, political, and legal environment. Each has its own advantages and disadvantages.
Corporate governance systems may differ in the following ways. They may concentrate power in the hands of just a few; or instead distribute influence among several stakeholder groups. They may provide stakeholders with few instruments of influence; or instead provide many such mechanisms. And they may distribute those instruments of influence in a way which is (i) consistent with, or (ii) inconsistent with other factors such as the distribution of power and influence in the organization; prevailing regulation; or perceived needs for the ethical, environmental, or social responsibility described in Chapter 12.
International differences may be illustrated by assigning alternative forms of corporate governance into one or other of two categories. The first category is the “insider system”, which is characterized by a high level of ownership concentration, non-liquid capital markets, and a high degree of the close or cross-holding of shares described in Chapter 13. The second is the “outsider system”, which is characterized by widely dispersed ownership; liquid stock markets; a low or non-existent level of close or cross-holdings of shares; and an active, competitive, or contestable market for corporate control.
The Anglo-Saxon – this is typically an outsider-controlled and shareholder-oriented system. Historically, Anglo-Saxon countries have tended to adopt a unitary board comprising both executive and non-executive directors. In a unitary board the responsibility for all management and control activities is handled by one single governance body. In the Anglo-Saxon model the interests of shareholders are paramount and the role of corporate governance is to ensure that the defined degree of shareholder value is generated. It is however recognised that shareholder value may only be achieved through the directors having proper regard to the architecture and trust on which company success depends. This architecture includes employees, customers, suppliers, the state, and the community. The Anglo-Saxon model also points to the significance of, and the impact of business decisions on the company’s reputation in its relevant environments. Companies in the UK have traditionally resisted mechanisms of co-determination such as supervisory boards or works councils.
The USA – US boards of directors predominantly represent the interests of the owners, and act in the best interest of shareholders to deliver shareholder value. The board of directors of a listed company must consist of a majority of independent directors, and certain committees must consist only of independent directors. Historically US citizens have relied on external regulation and legislation enforced by the state to resolve controversial issues of governance, business ethics, social responsibility, stakeholder interest, and strategic choice. It is unusual to have employee representation on boards of directors.
Japan – the annual general meeting (AGM) and the board of directors may be regarded as ceremonial institutions. Many Japanese companies are not represented on stock exchanges and tend to have few non-executive directors. The system is collegiate, with shareholdings being held by families, or being held by core banks in the keiretsu business groupings, or being mutually cross-held by group members or other companies. Chen (1995) notes that ‘a Japanese company tends to select shareholders that it wants to acquire its shares. Usually, shares are mutually held among companies and financial institutions that have business relationships ... unless ... two companies which cross-own each other’s shares intend to end their relationship, they show little interest in the management of the other company. This practice is a de facto ... separation of management from the wishes of the owners ... the management does not have to worry about the interference of the shareholders, and thereby enjoys a high degree of autonomy’ (pp. 182-183).
The interests of employees and customers are likely to be rated above those of shareholders for the reason that the system of shareholding means that management does not have to be so concerned with shareholder value issues, or the threat of hostile take over as in the Anglo-Saxon model. Chen notes that ‘dividends are paid not as a percent of earnings but as a percent of the par value of shares ... consequently, dividend yields as a percentage of market value ... are relatively low.since dividends are paid as a percent of the par value of shares, a highly profitable company can easily meet its dividend requirements with a small percentage of total earnings. Therefore, the bulk of its earnings can be utilised for reinvestment’ (pp. 182-183).
Managerial discipline, decision-making, and control is internalized within the structure of the company. Chen comments that ‘as long as the ... shareholders are satisfied with a return on their investment they have very little power in meddling in the company’s affairs. The majority of the board of directors ... is made up of inside members, ie the members are selected from the senior executives of the company. As career employees, they become board members as they move up in the executive hierarchy and closely identify themselves with the company ... in cases where the companies are either members of large business groups or (are) heavily indebted to commercial banks, outside directors may be appointed to represent the solidarity of the group or to protect the interests of the bank. Nevertheless, outside directors can neither function as real outsiders ... nor can they constitute a majority’ (pp. 182-183).
Germany – the German corporate governance system has traditionally been regarded as a representative example of a stakeholder-oriented and insider-controlled system. As in countries such as France and the Netherlands, companies in Germany are customarily seen as having a social as well as an economic purpose. However, as compared with some other European countries the legal framework (the grundgesetz and the handelsgesetzbuch) in which German companies operate is highly specific and is strongly enforced.
There is a two-tier system of governance, in which supervisory and control functions are separated. German stock corporations are governed by three separate bodies. These are the shareholders’ meeting, the supervisory board, and the management board.
The shareholders’ meeting controls the actions of the supervisory and management boards; decides the amount of the annual dividend; appoints the independent auditors; carries out certain significant corporate transactions; and elects the members of the supervisory board.
The supervisory board (aufsichtsrat) appoints (and as necessary removes) the members of the management board and oversees the management of the corporation. The supervisory board is concerned with the interests of the owners and the employees, and is responsible for the long-term well-being of the enterprise. Its objective has not traditionally been to maximize shareholder value, but rather to ensure the stability and growth of the enterprise.
The management board (vorstand) manages the business of the corporation and represents it in dealings with third parties.
Under German law, simultaneous membership of the supervisory board and the board of management is not permitted so as to separate the supervising and executing components of an enterprise.
The German corporate governance system is based on the premise that it is necessary to involve lenders and employees in the decision-making and strategic management of business organizations. Firstly, banks play an important role in Germany. Borrowing has historically proved more important than equity as a source of external finance. Banks are often represented on the supervisory boards and own large amounts of equity in many listed companies. Secondly, employees are given significant influence in the supervisory board. Employees have rights of co-determination (mitbestimmung) in corporate governance as well as the owners or the representatives of banks. Depending on the size of the company, up to 50 percent of the members of the supervisory board may be nominated by employees or their unions.
Typically, the chairperson of the supervisory board, who has a second vote in the case of a tie, will be a representative of the owner or the bank, while his or her deputy will come from the employee side.
In the past, however, investor protection was given lower priority in Germany than for instance in the USA or in Anglo-Saxon countries. This is in part explained by the long-standing dislike of the “speculation” that Germans associate with the buying and selling of company shares as a source of trading profit.
In the past decade there has however been a wave of developments shifting the general structure of German corporate governance towards the Anglo-Saxon model. Germany is adopting elements of US capital market regulation, and there is a trend towards common accounting standards and greater information transparency. There is improved investor protection and stronger monitoring of management performance, for instance in terms of profitability and cost.
However, significant differences between the German and the Anglo-Saxon model remain, for instance in the extent of employee representation on company boards; the role of large or institutional shareholders as compared with banks in corporate governance; and the extent to which stock options and performance-oriented financial incentives (which remain unpopular) are used to motivate managers and employees.
How Strategies May Be Formulated
There are a number of methods by which strategies may be formulated, and strategic decisions made within the enterprise. Any combination of the following may be used:
- appraisal and analysis – of the results of the processes of the strategic analysis, forecasting, and business planning described in detail in Part One and Part Two of this book; or more generally of emergent gaps, opportunities, and threats that have been identified.
- stakeholder analysis – by which the requirements of corporate governance described above, and the potential influence of the stakeholders described in Chapters 11 and 13 are incorporated into the process of objective setting and strategy formulation.
- the identification and solution of specific issues and problems – as identified through processes of scanning, forecasting, appraisal, monitoring, and feedback.
- scenario analysis – as described in Chapter 9 of this book.
- modelling and synthesis – for instance using sensitivity or “what if?” analysis of emergent issues or forecast scenarios.
- simplification – by which unnecessary complications or redundant variables (however these are to be defined) are eliminated from the processes of conceptualization and formulation of the issue at hand. This process of simplification is sometimes described in terms of the application of “Occam’s razor”. Occam’s razor may be used to cut away irrelevant external variations or surface “window dressing” to reveal the heart of the matter that lies within, and about which the decision must really be concerned. The process of simplification may also be used to eliminate the syndrome of paralysis by analysis (or “analysis-paralysis”) by which the issue of concern is rendered so complex that decision-makers are unable or unwilling to act. Decision-makers are literally “frozen” into a state of confusion, indecision, and incapacity.
- limited experimentation – by which the enterprise implements a limited programme of trial and test in order to further develop and understand the type and range of strategies from which it may make an eventual choice.
- consultation – for instance by taking “expert advice”, seeking trade opinion, or employing consultants to identify and specify options and alternatives. The use of a process of consultation assumes that decision-makers are “open” or “sympathetic” to a variety of views rather than just their own.
- participation – by which any or all of directors, managers, stakeholder representatives, employees, customer representatives, and other value chain constituents are to some degree involved in the process of objective setting and strategy formulation. This would assume a high level of enterprise openness, a low power distance, a low degree of uncertainty avoidance, high levels of trust, open communication networks, and a high level of risk tolerance. Decision-makers would have culturally to be prepared to have their decisions questioned and criticized; and perceived “mistakes” openly discussed and challenged by others.
Participative influences on strategy formulation and decision-making may imply the use of the high trust cultures described by Fukuyama (1995), and analyzed in Chapter 18. Or they may imply the use of consensus based cultures such as those found in Japanese keiretsu companies, or those described by Ouchi (1981) as “Theory Z” in character.
- prescription or command – by which objective setting and strategy formulation is centralized to the locus of dominant power in the enterprise. Prescriptive or “top down” approaches are typical of entrepreneurial or family type enterprises; or of those enterprises run by a strongly authoritarian leader or “taipan”. Prescription or command are features of high power distance and low trust.
- negotiation – by which strategic choice and strategic management result from negotiations between stakeholders and the relevant sources of power within (and external to) the enterprise.
- compromise – by which the form of enterprise strategic choice and strategic management is shaped by the perspectives, positioning, parameters, and values upon which most of the participants to the decision-making process can agree. Compromise outcomes are often characteristic of the strategic management of public sector and not-forprofit organizations. The resultant compromise may (or may not) then be relevant to dealing with the conditions faced by the organization.
- vote or quasi-democracy – by which objective setting or strategic choice are determined by processes which are more or less democratic in form. Such processes may be subject to compromise; or may instead be subject to:-
- lobbying, “persuasion”, and politicized processes – for which the development of the relevant political and lobbying skills may be needed by leaders and decision-makers. This issue was described in Chapters 4 and 11.
Generating Strategic Alternatives
Strategy formulation also depends on the identification of appropriate strategic alternatives or choices. E.R. Alexander (1979) suggests for instance that the range and quality of the alternatives or options generated by the strategy process may be a function of two inter-related variables of the search process being used to identify them. These variables are shown in Figure 14.1.
The first variable is the degree to which the search process is systematic and creative in character. This is shown on the vertical axis of Figure 14.1 as “search-type, creativity mix”. Alexander suggests that search processes have two dimensions. The first dimension is the level of creativity inherent in the process. The second dimension is the type of search, which may range between:
- the systematic and comprehensive (e.g “leave no stone unturned”).
- the pragmatic, heuristic, or situational (e.g. “do the best you can under the circumstances”).
- being based on precedent (e.g. “this is how we always do it”).
- being reactive or passive (e.g. “but what, if anything, can we do about it?”).
The second variable is the degree to which the search process is open, preempted, or “closed”. This is shown on the horizontal axis of Figure 14.1. The variable indicates the extent to which the process of generating strategic alternatives is an open or restricted one. For instance, classic sources of closure (restrictions on the type, range, or novelty of the alternatives generated or permitted) include:
- high power distance, authoritarianism, and the centralization of power (“the boss decides what we do round here; it’s up to him”).
- low trust of other people or ideas (“well, the ... would say that, wouldn’t they. But their funny ideas won’t work here!”).
- negative or hostile value judgements (“it’s simply inappropriate; we most certainly can’t do that”).
- negative or hostile cultural features (“it’s not the way we do things here”).
- strong or hostile professional, political, or ideological forces (“it’s unacceptable! How can you even think of suggesting it?!”).
- strong uncertainty avoidance and a high level of risk aversion (“it’s too risky for us”).
- short-termism (“it won’t pay back quickly enough”).
- complacency, inertia, and the desire to maintain the status quo (“we’ve never done things that way; why change now? And besides, it’s too much like hard work ... how about a nice lunch and a bottle of wine, eh!”).
- fear of new ideas or the need for change (“if it ain’t broke why fix it?”).
- the “not invented here” syndrome (“we didn’t invent it, so it can’t be any good”!).
- the “we have nothing to learn from them” syndrome (“we know better than them!”).
A classic analysis of the closure process is given by Rosabeth Moss Kanter in the 1985 book The Change Masters (Routledge).
Alexander suggests that the “best case” is located at the upper left quadrant of the matrix shown in Figure 14.1. Here there is a minimum of preemption, coupled with a systematic and creative search process. Alexander suggests that the “worst case” is located at the bottom right quadrant of the matrix. Here there are severe constraints on the type or range of alternatives that it is permissible to identify. At the same time, the search process is reactive or passive and non-creative.
Strategy Formulation: Process Issues
The process of strategy formulation and decision-making may be influenced by such variable factors as:
The composition of the decision-making group – the stronger, the more culturally similar, and the more cohesive this group perceives itself to be, the more confident it may be in taking major decisions and risks. Decision-makers who are at the same time owners, key stakeholders, and primary beneficiaries are likely in particular to exercise a dominant influence on decision-making.
Boards of appointed directors or managers may be less sure of their position relative to owners or stakeholders, especially where they perceive themselves to be culturally or functionally varied in outlook, and where they do not enjoy a significant degree of security of tenure in the job. They may feel constrained and risk-averse as decision-makers; and in consequence adopt “conservative”, low risk, or short-term policies. This issue is related to:-
The relative organizational power and status of the members of the decision-making group – power and status may be correlated with ownership or a stakeholder role; or with the degree of strength of tenure of an appointed manager or official. Owners, stakeholders, or expert appointees are in a strong position to determine strategy.
The appointed managing director, university vice-chancellor, or health service administrator may instead find that he or she enjoys no such clarity of role, being subject to pressures from institutional investors, nonexecutive directors, political masters, powerful boards of governors, trade unions, or influential pressure groups. Appointed managers must wait to see whether they can always rely on the unequivocal backing and support of those who were responsible for making the decision to recruit them in the first place (eg “we have every confidence in the manager!”).
The role of functional specialists or “strategic planners” – the use of functionally specialised strategic planners to create objectives and strategy, and to determine the allocation of resources within the enterprise, was widespread in large Anglo-Saxon companies until relatively recently. They are still to be found for instance in public sector and healthcare bodies, for example in the UK. However, the concept of strategic or corporate planning as a functional speciality is now out of fashion in Anglo-Saxon companies; and the process of strategic management (at least at the level of the business unit, as described in Chapter 11) is typically delegated to divisional or business unit managers.
Strategic planners as functional specialists are still influential, however, in French and South Korean companies. High prestige and status attaches to the role of strategic planner in French organizations. Chen (1995) notes that ‘an outstanding organizational feature of Korean companies is that their vertical and hierarchical control is supported by strong functional control from departments like planning, finance and personnel. Korean companies attach great importance to functional specialization, allowing the planning and finance departments to exercise significant functional control under the leadership of the chief executive. Many chaebols have a planning and co-ordination office under the group chairman, which is responsible for allocating major internal resources within the group’ (p. 214). The issue of enterprise “planning style” is dealt with in Chapter 15.
The nature of the prevailing political or negotiative process – the processes of establishing objectives and formulating strategy will in part be shaped by the nature of political and negotiative processes within the internal and external architecture of the organization. This point has already been made above. The more politicized the process, the greater may be the need for negotiation, compromise, or mutual adjustment; and the more uncertain or unsatisfactory may be the outcome. At worst, a compromise could result that satisfies none of the parties.
Information flow issues – the process of objective setting and strategy formulation will depend upon the availability, quality, quantity, and distribution of the necessary information. The quality of the process will also depend on the relevance and accuracy of the information that is available. Similarly, the more restricted is the access to the necessary information, the more centralized and “top down” will be the planning style. “Top-down” planning styles are analyzed in Chapter 15.
Time scale, priority, and urgency – the nature of the strategy process and of strategic management may be contingent upon relative priority and the time scale in consideration. This issue was also dealt with in Chapters 7 and 8. The shorter the time scale, or the more urgent the matter, the more that a clear, simple, and decisive outcome is likely to be expected from decision-makers. The longer the time scale, the more it may be assumed that the outcome will be carefully prepared and researched, and consensus about it obtained amongst all the parties involved. This is related to:-Stakeholder expectations of decision-makers – given any particular contingency that affects the enterprise, decision-makers will have to understand what are the expectations of stakeholders for action, and how strong these expectations may be. For instance, are decision-makers expected to show decisive behaviour in a crisis, being seen to make whatever decisions they deem necessary (however unpopular)? Or should they instead adopt a consultative stance, being seen to listen to as many views as possible before making a “consensus decision”? How opportunistic or entrepreneurial should decision-makers be; and to what extent should they always take into account the prevailing level of risk aversion of dominant stakeholders? Indeed, to what extent should decision-makers within the enterprise take a proactive stance towards their stakeholders, attempting to shape and influence the values and expectations which provide the context within which decisions are made?
The Entrepreneurial Role
In this role the decision-maker specifies and initiates strategic action or change. So, for instance, the decision-maker will respond to the process of strategic analysis (and to stakeholder expectations) by positively seeking opportunities which the enterprise can use its sources of value addition or competitive advantage to exploit; and will implement strategies which “best fit” the capability and resources upon which strategy formulation is to be based. The entrepreneurial role is used to shape the perspective, the pattern, the positioning, and the ploys that underpin strategic choice (whether the basis of that choice is perceived to be required, self-imposed, rationalistic, deliberate, logically incremental, emergent, or opportunistic; as described in Chapter 11).
Example: Alan Sugar’s decision to enter, redefine, and develop the market for home and small business personal computers (PCs). This emerging market was largely ignored during the 1980s by existing computer manufacturers. It also caught the manufacturers of typewriters unawares. IBM’s electro-mechanical “golf ball” typewriters for instance cost in excess of £3000 each at the time in the UK. Office word processors cost £10,000 each. Very soon Amstrad’s low-cost computers and word processors (introduced at prices between £500 and £1000 each) had established a position of market leadership. Typewriters became obsolete. And the proprietors of small businesses had reorganized their paperwork around an Amstrad system.
The Disturbance Handler Role
Whereas the entrepreneurial role uses self-initiated or voluntary action to bring about activity or change, the disturbance handler role deals with involuntary or unpredictable events (or the crises described in Chapter 10) whose origin and timing are beyond the control of the enterprise. These events are judged to require decision-making and action, for instance in terms of:
- changing plans, pattern, and positioning.
- changing ploys.
- using power.
- engaging in lobbying or political behaviour.
- conflicts internal to the organization, or associated with its stakeholders.
- changes in the dynamics of the relationship between the enterprise and other organizations within its architecture or its environment with which it must deal. Disturbances may come from the inter-relationship with customers, competitors, suppliers and partners within the value chain, or from legislative institutions and regulatory bodies (etc).
- direct threats of resource loss, or actual reductions in the enterprise asset base.
- risks posed by crisis conditions.
Example: the management of the delays and cost overruns associated with the construction and commissioning of the Anglo-French Channel Tunnel; and the re-financing that was necessary to complete the project.
The Resource Allocator Role
As resource allocator, the decision-maker has the authority to commit the resources of the enterprise (and in consequence holds the corresponding responsibility for the proper use of those resources, for which he or she may be held to account). Resource allocation is a function of perspective, plan, pattern, and the use of power. It implies:
- putting in place the necessary resource base (whatever this is judged to be), on the best available terms and conditions (for instance as described in Chapter 13).
- establishing resource allocation priorities, so as to make the best use of those resources for instance in terms of opportunity cost.
- authorizing resource disbursement and expenditure.
- scheduling time as a critical success factor and constraint.
- scheduling work and the programming of tasks and achievement.
- monitoring and controlling enterprise activity.
- presenting performance-based evidence of the results of resource investment and use to stakeholders (for example as described in Chapter 16).
Example: management decisions about the allocation of hospital budgets in the current resource-constrained context in which the UK National Health Service (NHS) operates. Who is to get what money (and for how long)? Does a healthcare service concentrate its expenditure on treatment? Or should it emphasize prevention (it is much cheaper to stop people becoming ill, or needing to go into hospital). Should you for instance put in place expensive campaigns to discourage smoking and the excessive consumption of alcohol; and what will be the reaction of tobacco and drinks companies (who provide much of any government’s revenues) to this threat?
Resource allocation issues are also dealt with in the final section of this chapter.
The Negotiator Role
The enterprise may find itself involved in major, non-routine negotiations with powerful individuals, stakeholders, and other organizations. Such negotiations might for instance result in the signing of major commercial contracts associated with building construction developments or the purchase of a ship; or establish new industry standards through EU or NAFTA institutions. Decision-makers will have to take on representative and persuasive roles in carrying out these negotiations. Such roles may include:
- acting as negotiator and spokesperson.
- providing information and expertize relevant to the negotiation.
- adding “weight”, credibility, and prestige to the negotiating position of the enterprise.
- persuasion, selling, and the use of interpersonal skills; attempting to shape the outcome of the negotiation in the interests of the enterprise.
- “selling the deal” to the enterprise and its stakeholders, and creating commitment to it.
The negotiator role may be concerned with any or all of strategy perspective, plan, pattern, and position. It is likely to involve the use of power and political behaviour by the organization.
Example: the negotiation of major capital or defence contracts. High level political and bargaining skills are crucial to the survival of such companies as ABB Asea Brown Boveri Ltd, British Aerospace plc, or the US GE Corporation, who supply large scale capital or defence items to governments, utility companies, and so on.
Example: negotiations between pharmaceutical companies, and the National Health Service as the primary buyer of prescription drugs in the UK, as to what should (and should not) be on the list of drugs from which practitioners may choose when prescribing to patients.
Strategic Fit or Congruence
The process of strategy formulation and strategic decision-making is likely to have to take into account the issue of fit, match, or congruence. Firstly, enterprise strategic choice and decision-making should, to the necessary degree, fit, or be congruent with:
- the critical success factors that the enterprise has identified for itself (Chapter 4).
- the internal corporate and financial condition of the enterprise (Chapters 2, 3 and Chapters 13), for instance as described by its strengths, weaknesses, and financial capability.
- the findings of gap analysis (Chapter 2).
- the enterprise resource base (Chapters 4, 19, Chapters 20 and Chapters 21).
- enterprise capability and capacity (Chapter 4, Chapters 19, Chapters 20 and Chapters 21).
- enterprise sources of value generation (Chapter 4).
- enterprise sources of comparative or competitive advantage (Chapter 4).
- the relevant contingencies and constraints (Chapter 4).
- limiting factors (Chapter 4).
- time factors (Chapter 7).
- risk factors (Chapter 8).
- the relevant or necessary issues of financial management (Chapter 13).
- the chosen or required performance indicators (Chapter 16).
- the findings of competitive analysis (Chapter 5).
- the findings of external environmental analysis (Chapter 6).
- the apparent opportunities, risks, and threats extant in the external and competitive environments (Chapters 5, 6, Chapters 8 and Chapters 10).
- the findings of the business planning and forecasting process (Chapter 9).
Example: an enterprise that operates in a high-technology market characterized by a turbulent external environment, rapid rates of technological and market change, short product life cycles, and competitive international markets will need to put in place strategies which can adapt the enterprise to rapidly emerging or changing opportunities and threats. The enterprise will have to develop and exploit a capability to put in place the new technologies, new processes, or new products that it will require to survive in such hostile conditions.
Target or Expected Levels of Achievement
The process of strategy formulation may be based on target or expected levels of achievement. These levels of achievement will be used to provide a benchmark against which the performance measurement and evaluation standards described in Chapter 16 may be set. A number of levels of achievement may be identified. These are listed below.
- on the basis of expectations that are benchmarked against the world’s best in the sector (that is, they are “excellent” or “world class”).
- by the use of the systematic “resource optimizing models” of operations management, Six Sigma, or linear programming. These are typically applied to the functions of operations or quality management, manufacturing, supply chain management, logistics, or distribution.
Zero base – which was described in Chapter 3 as looking at each activity as if it were being performed for the first time, that is, from a zero base. Target levels of achievement are based on:-
- current perceptions of priority (“what is important now?”).
- perceptions of what is now desirable relative to current external or competitive benchmarks.
- current opportunity cost (“should we be in this business at all?”).
- activities which make the best current use of the “core competencies” of the enterprise (core competencies are described in Chapter 20).
Satisficing – by which “adequate” or “acceptable” levels of performance are deemed satisfactory. Such levels of performance may for instance (i) be benchmarked against competitors in the sector – whatever the competition achieves will be deemed as the necessary standard of performance; or (ii) be based upon the minimum level of provision or service that it is thought that customers can be persuaded to accept.
The concept of satisficing, however, does not fit easily with current demands for the optimization or “excellence” of product or service quality; the achievement of “world class” status described above; or the “stretching” of resource use described in Chapter 21.
Compromise or negotiated outcome – by which performance levels are established on the basis of what can be agreed between the parties to the process of strategy formulation. This has often been the tradition of strategy formulation in public sector bodies. There is no guarantee that compromise or negotiated outcomes will necessarily be the most desirable or the best available; they simply represent the ground upon which at least a minimum level of agreement can be reached.
Muddling through – by which target or expected levels of achievement are established on a reactive basis, responding to events as they occur. Muddling through is not a systematic process; and will depend for its effectiveness on luck. Muddling through cannot be used for dealing with long-term performance issues. It is also useless in dealing with strategic management situations that are characterized by an ongoing need systematically to deal at the same time with a large number of inter-related issues or variables (such as the inter-connected issues of UK school leaver qualifications; the access of people with “non-standard” or “access-level” entry qualifications and prior work experience to university places in the UK; university entrance requirements and tuition fees; the appropriateness of vocational and non-vocational degree courses; employer attitudes to graduates and the institutions from which they come; and graduate employment prospects in the UK).
Muddling through is often evident in SMEs where the proprietor is unwilling to delegate and is suffering from work and information overloads.
An end product of the strategy hierarchy described in Chapter 11, and of the process of strategy formulation and strategic decision-making being analyzed in this chapter will be the allocation of finance, people, leadership, willpower, and resources to those activities by which the enterprise implements its strategies and attempts to achieve its objectives. The processes by which resources are allocated include:
Business planning – by which the annual business plans described in Chapter 9 are drawn up for individual units and functions. These are detailed statements of the objectives to be achieved, the strategies to be employed, the resource requirements for implementation, and the forecasted or proposed outcomes for the planning period ahead. Business plans will show quantifications of forecast sales or market performance, customer or client service activity, revenues, resource requirements, costs, margins, profitability or other value outcomes. They may contain indications as to how the business plan for this year incorporates feedback from last year’s performance, or how it improves upon it. The business planning process includes any or all of the following:-Budgetary plans – described in Chapter 9 as budgetary allocations that relate the responsibilities of departments and individuals to the requirements of strategies and plans. The budgetary control process then monitors actual performance within the planning period and compares it with budgeted targets, so that these targets may be achieved or amendments instead be made to the objectives upon which they were based.
Capital budgets – by which capital expenditure is planned and financed. The available financial resources are compared with the demand for capital investment, either or both at the corporate or the business unit level. The capital budgeting process is usually associated with:-
Return targets or thresholds – which represent the cost of capital to the enterprise, and which capital investments must equal or exceed. Chapter 13 noted that return targets or thresholds usually provide the basis for:-Investment appraisal techniques – whether time-related (payback); or discounted cash flow-based, using DCF or internal rate of return (IRR) computations. Investment appraisal techniques were analyzed in Chapter 13.
The post audit of capital investments – by which actual capital investment performance is monitored and compared with the desired or forecasted outcomes on the basis of which the investment proposal was made. The post audit of capital investments will usually include the use of the investment appraisal techniques described immediately above.
Zero basing – by which resources are applied to an activity as if it were being performed for the first time, that is from a zero base. The resource allocation process may ignore existing resource commitments or methods of operation. This radical approach underlies the re-engineering of strategic management resource allocation that has been dominant in Anglo-Saxon organizations during recent years.
The process of allocating resources may be based upon any of the formulation methods analyzed immediately above. In Anglo-Saxon organizations these processes tend at least to some degree to be dominated by:
- competitive bidding in which the demand for capital and other resources exceeds the available supply, such that managers are motivated by necessity to put forward strong “business cases” in order to have any chance of making a successful bid.
- the formal presentation and discussion of resource commitment proposals at corporate or board level. This will involve the arguing or making of business cases and the use of persuasive communication methods, requiring the development of the appropriate communication skills on the part of the presenting managers.
- negotiation amongst those who control the allocation of resources and those who seek to invest them. Typically this negotiative behaviour also leads to:-
- political or politicized behaviour amongst those who control the allocation of resources and those who seek to use or invest them. The use of power and politics within the strategic management context is analyzed at various points in this book, as well as in preceding sections of this chapter.
The development by an individual leader or manager of the requisite resource allocation process skills may be of fundamental importance within the broader context of the strategic management processes and competencies being described in this book.
Who is involved in the process of strategy formulation within the enterprise?
In what ways may founder or family influence strategy formulation or strategic decision-making?
What is corporate governance?
How are strategies formulated? By what means may strategic alternatives be most effectively generated?
What process issues influence the outcomes of strategy formulation and strategic decision-making?
Compare and contrast Mintzberg’s four decision roles.
Compare and contrast some of the alternative conceptualizations of target or expected levels of enterprise achievement.
Techniques of Case Study and Analysis
Identify who the decision-makers appear to be in the case company.
Identify the key influences on corporate governance, strategy formulation, and strategic decision-making. What are the critical success factors?
Identify the target or expected levels of achievement (if any) that are evident from the case study.
Identify how strategies appear to be formulated in the case company.
Identify how decisions are made in the case company.
Identify and analyze the nature of the resource allocation process in the case company or organization, if information is available.
Using available data or key informant interviews, describe the process by which objectives are established, strategies are formulated, and decisions made in an organization of interest to you.