the organization of international business introduction, architecture, structure

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Introduction

Organizational ArchitectureOrganizational StructureVertical Differentiation:Centralization andDecentralizationHorizontal Differentiation: TheDesign of StructureIntegrating MechanismsControl Systems and IncentivesTypes of Control SystemsIncentive SystemsControl Systems, Incentives,and Strategy in theInternational BusinessProcessesOrganizational CultureHow Is Organizational CultureCreated and Maintained?Organizational Culture andPerformance in theInternational BusinessSynthesis: Strategy andArchitectureMultidomestic FirmsInternational FirmsGlobal FirmsTransnational FirmsEnvironment, Strategy,Architecture, andPerformanceOrganizational ChangeOrganizational InertiaImplementing OrganizationalChangeClosing Case: OrganizationalChange at Royal Dutch/Shell

Organizational Change at UnileverUnilever is one of the world’s oldest multinational corporationswith extensive product offerings in the food, detergent, andpersonal care businesses. It generates annual revenues in excess

of $50 billion and sells more than 1,000 branded products invirtually every country. Detergents, which account for about 25percent of corporate revenues, include well-known names suchas Omo, which is sold in over 50 countries. Personal careproducts, which account for about 15 percent of sales, includeCalvin Klein Cosmetics, Pepsodent toothpaste brands, Fabergehair care products, and Vaseline skin lotions. Food productsaccount for the remaining 60 percent of sales and include strongofferings in margarine (where Unilever’s market share in mostcountries exceeds 70 percent), tea, ice cream, frozen foods, andbakery products.Historically, Unilever was organized on a decentralized basis.Subsidiary companies in each major national market wereresponsible for the production, marketing, sales, and distribu-tion of products in that market. In Europe the company had17 subsidiaries in the early 1990s, each focused on a differentnational market. Each was a profit center and each was heldaccountable for its own performance. This decentralization wasviewed as a source of strength. The structure allowed localmanagers to match product offerings and marketing strategy tolocal tastes and preferences and to alter sales and distributionstrategies to fit the prevailing retail systems. To drive thelocalization, Unilever recruited ‘local managers to run localorganizations; the U.S. subsidiary (Lever Brothers) was run byAmericans, the Indian subsidiary by Indians, and so on.To knit together the decentralized organization, Unileverworked to build a common organizational culture among itsmanagers. For years, the company recruited people with similarbackgrounds, values, and interests. The stated preference wasfor individuals with high Levels of “sociability” who embracethe company’s values, which emphasize cooperation andconsensus building among managers. It is said that thecompany has been so successful at this that Unilever executivesrecognize one another at airports even when they have nevermet before. Unilever’s senior management believes this corps oflikeminded people is the reason its employees work so welltogether, despite their national diversity.Unilever has also worked hard to periodically bring thesemanagers together. Annual conferences on company strategyand executive education sessions at Unilever’s managementtraining center outside of London help establish connectionsbetween managers. The idea is to build an informal network ofequals who know one another well and usually continue tomeet and exchange experiences. Unilever also moves its youngmanagers frequently, across borders, products, and division.This policy starts Unilever relationships early as well as increasesknow-how.By the mid-1990s, the decentralized structure was increasinglyout of step with a rapidly changing competitive environment.Unilever’s global competitors, which include the Swiss firmNestle and Procter & Gamble from the United States, had been

LESSON 6THE ORGANIZATION OF INTERNATIONAL

BUSINESS-INTRODUCTION, ARCHITECTURE, STRUCTURE

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more successful than Unilever on several fronts-building globalbrands, reducing cost structure by consolidating manufacturingoperations at a few choice locations, and executing simultaneousproduct launches in several national markets. Unilever’sdecentralized structure worked against efforts to build global orregional brands. It also meant lots of duplication, particularly inmanufacturing, a lack of scale economies, and a high coststructure. Unilever also found that it was falling behind rivals inthe race to bring new products to market. In Europe, forexample, while Nestle and Procter & Gamble moved towardpan-European product launches, it could take Unilever four tofive years to “persuade” its 17 European operations to adopt anew product.Unilever began to change all this in the mid-1990s. In 1996, itintroduced a new structure based on regional business groups.Within each business group are a number of divisions, eachfocusing on a specific category of products, Thus, within theEuropean Business Group is a division focusing on detergents,another on ice cream and frozen foods, and so on. Thesegroups and divisions have been given the responsibility forcoordinatil1g the activities of national subsidiaries within theirregion to drive down operating costs and speed up the processof developing and introducing new products.“Lever Europe” was established to consolidate the company’sdetergent operations. The 17 European companies now reportdirectly to Lever Europe. Using its newfound organizationalclout, Lever Europe consolidates the production of detergentsin Europe in a few key locations to reduce costs and speed upnew product introduction. Implicit in this new approach is abargain: the 17 companies relinquished autonomy in theirtraditional markets in exchange for opportunities to helpdevelop and execute a unified pan-European strategy. Thenumber of European plants manufacturing soap has been cutfrom 10 to 2, and some new products will be manufactured atonly one site. Product sizing and packaging are harmonized tocut purchasing costs and to accommodate unified pan-Euro-pean advertising. By taking these steps, Unilever estimates it hassaved as much as $400 million a year in its European detergentoperations.Lever Europe is also attempting to speed development of newproducts and to synchronize the launch of new productsthroughout Europe. Nonetheless, history still imposesconstraints. While Procter & Gamble’s leading laundry detergentcarries the same brand name across Europe, Unilever sells itsproduct under a variety of names. The company has no plansto change this. Having spent 100 years building these brandnames, it believes it would be foolish to scrap them in theinterest of pan-European standardization.Source: Guy de Jonquieres. “Unilever Adopts a Clean SheetApproach,” Financial Times, October 21 1991, po 13; C, A.Bartlett and S. Ghoshal, Managing across Borders (Boston:Harvard Business School Press, 1989) H. Connon, “Unilever’sGot the Nineties Licked,” The Guardian, May 24,1998, p. 5;“Unilever: A Networked Organization,” Harvard BusinessReview, November-December 1996, p. 138; and C. Christensen,and J. Zobel, “Unilever’s Butter Beater: Innovation for Global

Diversity, “ Harvard Business School Case # 9-698-O17, March1998.

IntroductionThis chapter identifies the organizational architecture thatinternational business use to manage and direct their globaloperations. By organizational architecture we mean the totalityof a firm’s organization, including formal organizationstructure, control systems and incentives, processes, organiza-tional culture, and people. The core argument outlined in thischapter is that superior enterprise profitability requires threeconditions to be fulfilled. First, the different elements of afirm’s organizational architecture must be internally consistent.For example, the control and incentive systems used, in the firmmust be consistent with the structure of the enterprise, Second,the organizational architecture must match or fit the strategy ofthe firm-strategy and architecture must be, consistent. Forexample, if firm is pursuing global strategy but it has the wrongkind of architecture, in place, it is unlikely that it will be able toexecute that strategy effectively, and poor performance mayresult. Third, the strategy and architecture of the firm must notonly be consistent with each other, but they also must beconsistent with competitive conditions prevailing in the firm’smarkes-strategy, architecture, and competitive environmentmust all be consistent. For example, a firm pursuing amultidomestic strategy might have the right king of organiza-tional architecture in place. However, if it competes in marketswhere cost pressures are intense and demands for local respon-siveness are low, it will still have inferior performance because aglobal strategy is more appropriate in such an environment.The opening case on Unilever touches on some of the impor-tant issues here. Historically Unilever has competed in marketswhere local responsiveness has been very important. Theproduction and marketing of food, detergent, and personal careproducts have traditionally been tailored to the tastes andpreferences of consumers in different nations. Unilever-satisfiedthis environmental demand for local responsiveness bypursuing a, multidomestic strategy. Its organizational architec-ture reflected this strategy. Unilever operated with a decentralizedstructure that delegated responsibility for production, market-ing, sales, and distribution decisions to autonomous nationaloperating companies. This allowed local managers to configureproduct offerings, and marketing and sales activities, to theconditions prevailing in a particular nation. For a long time, thisfit between strategy and architecture served Unilever well,helping it to become a dominant consumer products enterprise.However, by the early 1990s the competitive environment waschanging. Trade barriers between countries were falling, particu-larly in the European Union following the creation of a singlemarket in 1992. This made it possible to manufacture certainitems such as detergents and margarine at favorable centrallocations in order to realize the benefits associated with locationand experience curve economies. Also, new products in areassuch as frozen foods and margarine were gaining regional oreven global acceptance. Unfortunately for Unilever, some of itsglobal competitors moved more rapidly to exploit this changein the competitive environment. Unilever found itself disad-vantaged by a high cost structure (caused by the duplication of


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Tmanufacturing operations) and an inability to introduce newproducts in several national markets at once. In other words,the competitive environment changed, but Unilever did notchange with it. By the mid-1990s, Unilever had recognized itsproblems and changed both its strategy and its organizationalarchitecture so that it better matched the new competitiverealities. Unilever began to adopt a transnational strategicorientation, seeking to balance local responsiveness in marketingand sales with the centralization of manufacturing and productdevelopment activities to realize scale economies and executepan-regional product launches. To implement this strategy,Unilever introduced a new organizational architecture based on’regional business groups, each of which contained productdivisions. These divisions were given the responsibility forcentralizing manufacturing and product development activities,which implied a reduction in the autonomy traditionally grantedto operating subsidiaries. To reestablish a fit between strategy,architecture, and environment, Unilever had to embrace thedifficult process of strategic and organizational change.To explore the issues illustrated by Cases such as Unilever’s, weopen the current chapter by discussing in more detail theconcepts of organizational architecture and fit. Next we turn toa more detailed exploration of various components ofarchitecture structure, control systems and incentives, organiza-tion culture, and processes-and explain how these componentsmust be internally consistent. After reviewing’ the variouscomponents of architecture, we look at the ways in whicharchitecture can be matched to strategy and the competitiveenvironment to achieve high performance. The chapter closeswith a discussion of organizational change, for as the Unilevercase illustrates; periodically firms have to change their organiza-tion so that it matches new strategic and competitive realities.

Organizational ArchitectureAs noted in the introduction, the term organizational architec-ture refers to the totality of a firm’s organization, includingformal organizational structure, control systems and incentives,organizational culture, processes, and people} Figure 3.1illustrates these different elements. By organizational structure,we mean three things: First, the formal division of the organi-zation into subunits such as product divisions, nationaloperations, and functions (most organizational charts displaythis aspect of structure); second, the location of decision-making responsibilities within that structure (e.g., centralized ordecentralized); and third, the establishment of integratingmechanisms to coordinate the activities of subunits includingcross functional teams and or panregional committees.Control systems are the metrics used to measure the perfor-mance of subunits and make judgments about how wellmanagers are running those subunits. For example, historicallyUnilever measured the performance of national operatingsubsidiary companies according to profitability-profitability wasthe metric. Incentives are the devices used to reward appropriatemanagerial behavior.

Figure 3.1 Organization Architecture

Incentives are very closely tied to performance metrics. Forexample, the incentives of a manager in charge of a nationaloperating subsidiary might be linked to the performance of thatcompany. Specifically, she might receive a bonus if her subsidiaryexceeds its performance targets.Processes are the manner in which decisions are made and workis performed within the organization. Examples are theprocesses for formulating strategy, for deciding how to allocateresources within a firm, or for evaluating the performance ofmanagers and giving feedback. Processes are conceptuallydistinct from the location of decision-making responsibilitieswithin an organization, although both involve decisions. Whilethe CEO might have ultimate responsibility for deciding whatthe strategy of the firm should be (i.e., the decision-makingresponsibility is centralized), the process he or she uses to makethat decision might include the solicitation of ideas andcriticism from lower-level managers. Organizational culture is the norms and value systems that areshared among the employees of an organization. Lusts associeties have cultures, so do organizations. Organizations aresocieties of individuals who come together to perform collectivetasks. They have their own distinctive patterns of culture andsub, culture. As we shall see, organizational culture can have aprofound impact on how a firm performs. Finally, by people wemean not just the employees of the organization, but also thestrategy used to recruit, compensate, and retain those individu-als and the type of people that they are in terms of their skills,values, and orientation.As illustrated by the arrows in Figure 3.1 the various compo-nents of an organization’s architecture are not independent ofeach other: Each component shapes, and is shaped by, othercomponents of architecture. An obvious example is the strategyregarding people. This can be used proactively to hire individu-als whose internal values are consistent with those that the firmwishes to emphasize in its organization culture. Thus, thepeople component of architecture can be used to reinforce (ornot) the prevailing culture of the organization. This seems tohave been the practice at Unilever, where an effort was made tohire individuals who were sociable and placed a high value on

Structure

ProcessesCulture

People

Controls andIncentives


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consensus and cooperation, values that the enterprise wished toemphasize in its own culture.If a firm to going to maximize its profitability, it must pay closeattention to achieving internal consistency between the variouscomponents of its architecture. Let us look at how structureand control systems might be inconsistent with each other.Figure 3.2 shows an organizational chart for how Unilver’sEuropean operations might be structured (this chart is hypo-thetical). Note that there are several country subsidiaries, one forFrance, one for Germany, one for Spain, and so on, eachreporting to the European Business Group. There are alsoseveral pan-European product divisions, one for detergents,one for frozen food, one for margarine, and so on, again eachreporting to the European Business Group. Within thisstructure, responsibility for marketing, sales, and distributiondecisions might be given to the country subsidiaries, whileresponsibility for product manufacturing might be given to theproduct divisions. As for control systems, imagine thatprofitability is the metric used to evaluate the performance ofthe country subsidiaries.One problem with this set of arrangements is that the profit-ability of the country subsidiaries depends on manufacturingcosts and new product development, and yet the managersrunning the various country subsidiaries are not responsible forthose important functions-responsibility resides in the productdivisions! Thus, if the managers of the product divisions donot do their job properly, production costs may rise and theprofitability of the country subsidiaries might fall. In otherwords, the managers of the country subsidiaries are beingevaluated according to a metric over which they do not havetotal control.Figure 3.2 Fictional organizational Structure at Unilever

If the performance of a subsidiary declines, they may argue thatthis is not their fault; it was due to the inability of the managersin the panEuropean product divisions to drive down manufac-turing costs. Thus, there is a potential conflict between structureand the control systems used; they are potentially inconsistent.Some inconsistency is a fact of life in organizations. Perfectionin the design of organization architecture is very difficult toachieve. Nevertheless, the inconsistency between differentcomponents of an organization’s architecture can be minimizedthrough intelligent design. In the example just given, if the

performance of each product division were assessed on thebasis of manufacturing costs, it would give the managers of theproduct division the incentive to optimize manufacturingefficiency. The problem might be further alleviated if the headsof both the country subsidiaries and the European productdivisions were rewarded according to the profitability of theentire European Business Group (for example, by having theirbonus pay linked to the profitability of the entire group). Thiswould give the heads of the divisions a further reason to reducemanufacturing costs, and it would create an incentive for theheads of each subsidiary and division to share any best practicesdeveloped in their operation with colleagues across Europe tothe betterment of the entire European Business Group.Internal consistency is a necessity but not a sufficient conditionfor high performance. Consistency between architecture and thestrategy of the organization is also required; architecture mustfit strategy. When Unilever began to emphasize cost reductionas a major strategic goal, the firm had to change its architectureto match this new strategic reality. It had to move away from astructure based primarily on standalone operating subsidiariesin each country and toward one that looks more like thestructure depicted in Figure 3.2. Unilever had to create someentity, in this case the product divisions, that could reduce theduplication of manufacturing operations across countrysubsidiaries and consolidate manufacturing at a few choicelocations. Such change is easier said than done. It is relativelyeasy for senior managers to announce a radical change instrategy, but it is much harder to actually put that change intoaction. Doing so requires a change in architecture. Strategy isimplemented through architecture, and changing architecture ismuch more difficult than announcing a change in strategy. Weshall discuss why it is hard to change architecture later in thischapter. As we shall see, a prime reason is that organizationstend to be relative inert; they are by nature difficult to change.Even with internal consistency and a fit between strategy andarchitecture, high performance is not guaranteed. The firm mustalso ensure that the fusion between its strategy and architectureis consistent with the competitive demands of the market, ormarkets, in which the firm competes. In the 1980s Unilever hada good fit between its strategy and architecture-it was pursuing amultidomestic strategy. A decentralized architecture composedof self-contained country subsidiaries was well suited toimplementing this strategy. However, by the 1990s the strategyno longer made much sense due to a change in the competitiveenvironment. Trade barriers between nations had fallen andmore efficient global competitors were emerging. Unilever’sstrategy no longer fit the environment in which it competed, soit had to change both its strategy and architecture to match thenew reality. This type of organizational challenge is not unusual;markets rarely stand still, and firms often have to adjust theirstrategy and architecture to match new competitive realities.

Organizational StructureOrganizational structure means three things: (1) the formaldivision of the organization into subunits, which we shall referto as horizontal differentiation;(2) the location of decision-making responsibilities within that structure, which we shallrefer to as vertical differentiation; and (3) the establishment of


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Tintegrating mechanisms. We begin by discussing verticaldifferentiation, then horizontal differentiation, and thenintegrating mechanisms.

Vertical Differentiation: Centralization andDecentralizationA firm’s vertical differentiation determines where in its hierarchythe decision-making power is concentrated. Are production andmarketing decisions centralized in the offices of upper-levelmanagers, or are they decentralized to lower-level managers?Where does the responsibility for R&D decisions lie? Arestrategic and financial control responsibilities pushed down tooperating units, or are they concentrated in the hands of topmanagement? And so on. There are arguments for centraliza-tion and other arguments for decentralization.

Arguments for CentralizationThere are four main arguments for centralization. First,centralization can facilitate coordination. For example, consider afirm that has a component manufacturing operation in Taiwanand an assembly operation in Mexico. The activities of thesetwo operations may need to be coordinated to ensure a smoothflow of products from the component operation to theassembly operation. This might be achieved by centralizingproduction scheduling at the firm’s head office. Second,centralization can help ensure that decisions are consistent withorganizational objectives. When decisions are decentralized tolower-level managers, those managers may make decisions atvariance with top management’s goals. Centralization ofimportant decisions minimizes the change of this occurring.Third, by concentrating power and authority in one individualor a management team, centralization can give top-levelmanagers the means to bring about needed major organiza-tional changes. Fourth, centralization can avoid the duplicationof activities that occurs when similar activities are carried on byvarious subunits within the organization. For example, manyinternational firms centralize their R&D functions at one or twolocations to ensure that R&D work is not duplicated. Produc-tion activities may be centralized at key locations for the samereason.

Arguments for DecentralizationThere are five main arguments for decentralization. First, topmanagement can become overburdened when decision-makingauthority is centralized, and this can result in poor decisions.Decentralization gives top management time to focus on criticalis sues by delegating more routine issues to lower-levelmanagers. Second, motivational research favors decentralization.Behavioral scientists have long argued that people are willing togive more to their jobs when they have a greater degree ofindividual freedom and control over their work. Third,decentralization permits greater flexibility more rapid responseto environmental changes-because decisions do not have to be“referred” up the hierarchy” unless they are exceptional innature. Fourth, decentralization can result in better decisions. Ina decentralized structure, decisions are made closer to the spotby individuals who (presumably) have better information thanmanagers several levels up in a hierarchy. Fifth, decentralizationcan increase control. Decentralization can be used to establishrelatively autonomous, self-contained subunits within an

organization. Subunit managers can then be held accountablefor subunit performance. The more responsibility subunitmanagers have for decisions that impact subunit performance,the fewer alibis they have for poor performance.

Strategy and Centralization in an InternationalBusinessThe choice between centralization and decentralization is notabsolute. Frequently it makes sense to centralize some decisionsand to decentralize others, depending on the type of decisionand the firm’s strategy. Decisions regarding overall firm strategy,major financial expenditures, financial objectives, and the like aretypically centralized at the firm’s headquarters. However,operating decisions, such as those relating to production,marketing, R&D, and human resource management, mayor maynot be centralized depending on the firm’s internationalstrategy.Consider firms pursuing a global strategy. They must decidehow to disperse the various value creation activities around theglobe so location and experience economies can be realized. Thehead office must make the decisions about where to locateR&D, production, marketing, and so on. In addition, theglobally dispersed web of value creation activities that facilitatesa global strategy must be coordinated. All of this createspressures for centralizing some operating decisions.In contrast, the emphasis on local responsiveness inmultidomestic firms creates strong pressures for decentralizingoperating decisions to foreign subsidiaries. In the classicmultidomestic firm, foreign subsidiaries have autonomy inmost production and marketing decisions. International firmstend to maintain centralized control over their core competencyand to decentralize other decisions to foreign subsidiaries. Thistypically centralizes control over R&D and/or marketing in thehome country and decentralizes operating decisions to theforeign subsidiaries. For example, Microsoft Corporation,Which fits the international mode, centralizes its productdevelopment activities (where its core competencies lie) at theRedmond, Washington, headquarters and decentralizesmarketing activity to various foreign subsidiaries. Thus, whileproducts are developed at home, managers in the variousforeign subsidiaries have significant latitude for formulatingstrategies to market those products in their particular settings.The situation in transnational firms is more complex. The needto realize location and experience curve economies requiressome degree of centralized control over global productioncenters (as it does in global firms). However, the need for localresponsiveness dictates the decentralization of many operatingdecisions, particularly for marketing, to foreign subsidiaries.Thus, in transnational firms, some operating decisions arerelatively centralized, while others are relatively decentralized. Inaddition, global learning based on the multidirectional transferof skills between subsidiaries and between subsidiaries and thecorporate center, is a central feature of a firm pursuing atransnational strategy. The concept of global learning ispredicated on the notion that foreign subsidiaries within amultinational firm have significant freedom to develop theirown skills and competencies. Only then can these be leveragedto benefit other parts of the organization. A substantial degree


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of decentralization is required if subsidiaries are going to havethe freedom to do this. For this reason too, the pursuit of atransnational strategy requires a high degree of decentralization.

Horizontal Differentiation: The Design of StructureHorizontal differentiation is concerned with how the firmdecides to divide itself into subunits. The decision is normallymade on the basis of function, type of business or geographicalarea. In many firms, just one of these predominates, but morecomplex solutions are adopted in others. This is particularlylikely in the case of international firms, where the conflictingdemands to organize the company around different products(to realize location and experience curve economies) anddifferent national markets (to remain locally responsive) mustbe reconciled. One solution to this dilemma is to adopt amatrix structure that divides the organization on the basis ofboth products and national markets (as Unilever apparently didin Europe). In this section we look at different ways firmsdivide themselves into subunits.

The Structure of Domestic FirmsMost firms begin with no formal structure and are run by asingle entrepreneur or a small team of individuals. As theygrow, the demands of management become too great for oneindividual or a small team to handle. At this point the organiza-tion is split into functions reflecting the firm’s value creationactivities (e.g., production, marketing, R&D, sales). Thesefunctions are typically coordinated and controlled by topmanagement (see Figure 3.3). Decision making in this func-tional structure tends to be centralized.Further horizontal differentiation may be required if the firmsignificantly diversifies its product offering, which takes the firminto different business areas. For example, Dutch multinationalPhilips NY began as a lighting company, but diversificationtook the company into consumer electronics (e.g., visual andaudio equipment), industrial electronics (integrated circuits andother electronic components), and medical systems (CTscanners and ultrasound systems).In such circumstances, afunctional structure can be too clumsy. Problems of coordina-tion and control arise when different business areas aremanaged within the framework of a functional structure. Forone thing, it becomes difficult to identify the profitability ofeach distinct business area. For another, it is difficult to run afunctional department, such as production or marketing, if it issupervising the value creation activities of several business areas.To solve the problems of coordination and control, at thisstage most firms switch to a product divisional structure (seeFigure 3.4). With a product divisional structure, each division isresponsible for a distinct product line (business area). Thus,Philips created divisions for lighting, consumer electronics,industrial electronics, and medical systems. Each productdivision is set up as a self-contained, largely autonomous entitywith its own functions.

Figure 3.3 A typical Functional Structure

The responsibility for operating decisions is typically decentral-ized to product divisions, which are then held accountable fortheir performance. Headquarters is responsible for the overallstrategic development of the firm and for the financial controlof the various divisions.Figure 3.4 A Typical Product Divisional Structure

Buying Units Plants Branch Sales Units Accounting Units

The International DivisionWhen firms initially expand abroad, they often group all-theirinternational activities into an international division. This hastended to be the case for firms organized on the basis offunctions and for firms organized on the basis of productdivisions. Regardless of the firm’s domestic structure, itsinternational division tends to be organized on geography.Figure3.5 illustrates this for a firm whose domestic organizationis based on product divisions.Many manufacturing firms expanded internationally byexporting the product manufactured at home to foreignsubsidiaries to sell. Thus, in the firm illustrated in Figure 3.5,the subsidiaries in Countries 1 and 2 would sell the productsmanufactured by Divisions A, B, and C. In time, however, itmight prove viable to manufacture the product in each country,and so production facilities would be added on a country-bycountry basis. For firms with a functional structure at home,this might mean replicating the functional structure in everycountry in which the firm does business. For firms with a

Headquarters

Division product line A Division Product Line B Division Product Line C

Department Purchasing

Department Manufacturing

Department Marketing

Department Finance


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Tdivisional structure, this might mean replicating the divisionalstructure in every country in which the firm does business.This structure has been widely used; according to a Harvardstudy, 60 percent of all firms that have expanded internationallyhave initially adopted it. Nonetheless, it gives rise to problems.The dual structure it creates contains inherent potential forconflict and coordination problems between domestic andforeign operations. One problem with the structure is that theheads of foreign subsidiaries are not given as much voice in theorganization as the heads of domestic functions (in the case offunctional firms) or divisions (in the case of divisional firms).Rather, the head of the international division is presumed to beable to represent the interests of all countries to headquarter.This effectively relegates each country’s manager to the secondtier of the firm’s hierarchy, which is inconsistent with a strategyof trying to expand internationally and build a true multina-tional organization.Another problem is the implied lack of coordination betweendomestic operations and, foreign operations, which are isolatedfrom each other in separate parts of the structural hierarchy.This can inhibit the worldwide introduction of new products,the transfer of core competencies between domestic and foreignoperations, and the consolidation of global production at keylocations so as to realize location and experience curve econo-mies. These problems are illustrated in the Management Focusthat looks at the experience of Abbott Laboratories with aninternational divisional structure.

Figure 3.5One Company’s International Divisional Structure

As a result of such problems, most firms that continue toexpand international abandon this structure and adopt one ofthe worldwide structures we discuss next. The two initialchoices are a worldwide product divisional structure, whichtends to be adopted by diversified firms that have domesticproduct divisions, and a worldwide area structure, which tendsto be adopted by undiversified firms whose domestic structuresare based on functions. These two alternative paths of develop-ment are illustrated in Figure 3.6. The model in the figure isreferred to as the international structural stages model and wasdeveloped by John Stopford and Louis Wells.

Worldwide Area StructureA worldwide area structure tends to be favored by firms with alow degree of diversification and a domestic structure based onfunction (see Figure 3.7). Under this structure, the world isdivided into geographic areas. An are may be a country (if themarket is large enough) or a group of countries. Each area tendsto be a self-contained, largely autonomous entity with its ownset of value creation activities (e.g., its own production,marketing, R&D, human resources, and finance functions).Operations authority and strategic decision relating to each ofthese activities are typically decentralized to each area, withheadquarters retaining authority of all overall strategic directionof the firm and financial control.

Headquarters

Domestic Division General Manager Product Line A

Domestic Division General Manager Product Line B

Domestic Division General Manager Product Line C

International Division General Manager Area line

Country 1 General Manager (Product A, B, C)

Country 2 General Manager (Product A, B, C)

Functional units

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This structure facilitates local responsiveness. Because decision-making responsilities are decentralized, each area can customizeproduct offerings, marketing strategy, and business strategy tothe local conditions. However, this structure encouragesfragmentation of the organization into highly autonomousentities. This can make it difficult to transfer core competenciesand skills between areas and to realize location and experiencecurve economies. In other words, the structure is consistentwith a multidomestic strategy but with little else. Firmsstructured on this basis may encounter significant problems iflocal responsiveness is less critical than reducing costs ortransferring core competencies for establishing a competitiveadvantage.Figure 3.6 The International Structural Stage ModelSource: Adapted from John M.Stopford and Louis T. Wells,Strategy and Structure of the Multinational Enterprise (NewYork: Basic Books, 1972).

Figure 3.7 A Worldwide area structure

The international Division at Abbott LaboratoriesWith sales of about $14 billion in 2000, Abbott Laboratories isone of the world’s largest health care companies. The companysplit itself into three divisions-pharmaceuticals, hospitalproducts, and nutritional products—in the 1960s, a structurethat still exists. Each division operates as a profit center, andeach is relatively autonomous and self-contained, with its ownR&D, manufacturing, and marketing functions. By the late1960s Abbott’s foreign sales were growing rapidly; the companyadded an international division to handle the firm’s non-U.S.operations on geographic rather than product lines.

Alongside these four divisions, however, a new business hasgrown up that is organized differently. Abbott’s diagnosticsbusiness was established in the 1970s and became a worldleader with global sales of $3 billion in 2000. Unlike the otherdivisions, the diagnostics business is organized on a globalbasis, operating in foreign countries through its own staff,rather than through the international division. Thus, Abbotthandles global sales in two different ways-through an interna-tional division and through a global product division (thediagnostics business organization). The company is debatingthe best way of organizing international operations.This debate is being informed by two changes occurring inAbbott’s environment, changes that are pulling the company indifferent directions. One change is a shift toward global productdevelopment in the health care industry. To quickly recapture thecosts of developing new products, which for pharmaceuticalscan sometimes top $500 million, companies are trying tointroduce new products as rapidly as possible worldwide.Abbott has found that developing products first for the U.S.market and then modifying those products for foreign custom-ers is a slow and expensive process. Instead, across all four ofthe company’s businesses, Abbott is trying to build globalproducts that can be launched simultaneously around theworld. This change is pulling Abbott toward adopting globalproduct divisions for all four of its businesses. Some argue thatonly global product divisions would give Abbott the tightcontrol over product development and product launch strategythat is deemed necessary.On the other hand, bigger organizations with greater purchas-ing leverage, such as large hospital groups and healthmaintenance organizations, are coordinating their buying acrossa rang of product lines in both the United States and elsewhere.These powerful customers prefer to have a single contact pointat Abbott. Abbott develops stronger relations with keycustomers by having a single marketing organization in eachcountry in which the company does businesses. This organiza-tion sells the products from each of Abbott’s four productdivisions.Executives at Abbott’s international division support maintain-ing the geographic organization, while the heads of the productdivisions favor a shift toward four global product divisions,Top management seems to have decided there is no perfectsolution to the company’s organizational problems, and thatimperfect as the current structure is, it works too well tocontemplate a major change.Sources: R. Walters, “Two’s Company,” Financial Times, July 7,1995, p, 12; Abbott Laboratories 2000 Annual Report; and M.Santoli, “Patient Reviving,” Barron’s, February 28, 2000, pp, 24-26.

Worldwide Product Divisional StructureA worldwide product division structure tends to be adopted byfirms-that are reasonably diversified and, accordingly, originallyhad domestic structures based on product divisions. As withthe domestic product divisional structure, each division is a self-contained, largely autonomous entity with full responsibility forits own value creation activities. The headquarters retains


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Tresponsibility for the overall strategic development and financialcontrol of the firm (see Figure3.8).Underpinning the organization is a belief that the value creationactivities of each product division should be coordinated bythat division worldwide. Thus, the worldwide productdivisional structure is designed to help overcome the coordina-tion problems that arise with the international division andworldwide area structures (see the Management Focus onAbbott Laboratories for a detailed example). This structureprovides an-organizational context that enhances the consolida-tion of value creation activities at key locations- necessary forrealizing location and experience curve economies. It alsofacilitates the transfer of core competencies within a division’sworldwide operations and the simultaneous worldwideintroduction of new products. The main problem with thestructure is the limited voice it gives to area of country m-anagers, since they are seen as subservient to product divisionmanagers. The result can be a lack of local responsiveness.

Global Matrix StructureBoth the worldwide area structure and the worldwide productdivisional structure have strengths and weaknesses. Theworldwide area structure facilitates local responsiveness, but itcan inhibit the realization of location and experience curveeconomies and the transfer of core competencies between areas.The worldwide product division structure provides a betterframework for pursuing location and experience curve econo-mies and for transferring core competencies, but it is weak inlocal responsiveness. Other things being equal, this suggeststhat a worldwide area structure is more approiate if the firm’sstrategy is multidomestic, while a worldwide product divisionalstructure is more appropriate for firms pursuing global orinternational strategies. However, other things are not equal. AsBartlett and Ghoshal have argued, to survive in some indus-tries, firms must adopt a transnational strategy. That is, theymust focus simultaneously on realizing location and experiencecurve economies, on local responsiveness, and on the internaltransfer of core competencies (worldwide learning).

Figure 3.8 A Worldwide Product Division Structure

Figure 3.9 A Global Matrix Structure

Headquarters

Area 1 Area 2 Area 3

Product Division A

Product Division B

Product Division C

Many firms have attempted to cope with the conflictingdemands of a transnational strategy by using a matrix structure(see Figure 3.2). In the classic global matrix structure, horizontaldifferentiation proceeds along two dimensions: productdivision and geographic area (see Figure 3.9). The philosophy isthat responsibility for operating decisions pertaining to aparticular product should be shared by the product division andthe various areas of the firm. Thus, the nature of the productoffering, the marketing strategy, and the business strategy to bepursued in Area 1 for the products pr0duced by Division A aredetermined by conciliation between Division A and Area 1management. It is believed that this dual decision-makingresponsibility should enable the firm to simultaneously achieveits particular objectives. In a classic matrix structure, givingproduct divisions and geographical areas equal status within theorganization reinforces the idea of dual responsibility. Indi-vidual managers thus belong to two hierarchies (a divisionalhierarchy and an area hierarchy) and have two bosses (a di-visional boss and an area boss).The reality of the global matrix structure is that it often doesnot work anywhere near as well as the theory predicts. Inpractice, the matrix often is clumsy and bureaucratic. It canrequire so many meetings that it is difficult to get any workdone. The need to get an area and a product division to reach adecision can slow decision making and produce an inflexibleorganization unable to respond quickly to market shifts or toinnovate. The dual-hierarchy structure can lead to conflict andperpetual power struggles between the areas and the productdivisions, catching many managers in the middle. To makematters worse, it can prove difficult to ascertain accountability inthis structure. When all critical decisions are the product ofnegotiation between divisions and areas, one side can alwaysblame the other when things go wrong. As a manager in oneglobal matrix structure, reflecting on a failed product launch,said, to the author, “Had we been able to do things our way,instead of having to accommodate those guys from theproduct division, this would never have happened.” (Amanager in the product division expressed similar sentiments.)The result of such finger-pointing can be that accountability is

Headquarters

Worldwide Product Group or Division A

Worldwide Product Group or Division B

Worldwide Product Group or Division C

Area 1 (Domestic)

Area 2 (International)

Functional Units Functional Units

Manager HereBelongs toDivision andArea 2


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compromised, conflict is enhanced, and headquarters losescontrol over the organization.In light of these problems, many transnational firms are nowtrying to build “flexible” matrix structures based more onfirmwide networks and a shared culture and vision than on arigid hierarchical arrangement. Dow Chemical, profiled in thataccompanying Management Focus, is one such firm. Withinsuch companies the informal structure plays a greater role thanthe formal structure. We discuss this issue when we considerinformal integrating mechanisms in the next section.

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the organization of international business introduction, architecture, structure

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