Att. Mertalp YILDIRIM

The Impact of Strategy on the Business Structure and The Emergence of the Hierarchy System in Multinational Enterprises

 

The main characteristic feature that defines the multinational enterprises (“MNEs”)  is that the MNEs are composed of several units operating in different environments. As the number of units and operations increase, the necessity of amendments in the structure in terms of control and locus of decision-making come to surface as well. Since what defines MNEs is their multi country structure, the changes in the organizational form are inevitable.[1] Because of this internalization, the emergence of the hierarchy system started in the 1920s with pursuance of diversification strategy in some the biggest US firms. Most of these firms were structured functionally but the diversification and expansion in the firms led to serious problems related to coordination and resource allocation. As the firms started expanding abroad through acquisitions or greenfield investments during the 1900s, the problem of distant management arose. The poor quality of communication and monitoring of operations abroad made the expansion impractical.[2] Due to these reasons, the need to have a top decision making manager within a centralized structure where there is no requirement of communication or interaction in between other units arose rapidly. This structure also enabled to lower the costs of unnecessary communication, decreased the level of complexity while making a strategic decision and accelerated the decision making process.

In order to understand the emergence of the hierarchy model, it is important to touch upon Chandler’s strategy and structure thesis.[3] According to Chandler, market conditions are the factors that lead the MNEs when choosing their organization form. Strategy was determined in terms of the market expansion whereas structure was mostly characterized by the diversity of their departments and control mechanism. For a specific strategy that a firm has, limited number of appropriate structures can be chosen.[4] Chandler further suggested that the growth in the firm’s operational areas affect the different organizational structures of the company. It is crystal clear that this growth would require a reorganization in the locus of decision-making since staying stabile would jeopardize the financial status of the company. Consequently, it became of essence to define the lines between management’s responsibility and governance and the interaction between the headquarters of the company and its regional offices, branches and operating units.[5] This relationship between the expansion of the firms and the divisionalization have formed Chandler’s dictum that structure follows strategy.[6]

In general terms, the hierarchical system can be defined as a system in which there exists only one decision maker at the top and all the other people underneath must report everything to the top manager and do not have the right to make any decisions.[7] According to Ho, there are two assumptions for the formation of the business structures of MNEs. The first one is that MNEs in the beginning use a pyramidal structure that consists of strict lines between parent and subsidiary, which is an example of the principal-agent theory. In this assumption, the subsidiary governance is not valuable since the strategy and the final decision is concluded by the ultimate player, which is the parent. Thus, MNE can be deemed as a unitary organization with a centralized structure. The second assumption suggests that principal-agent theory is the most applicable explanation for the internal governance. Because all the subsidiaries are under the rule of the parent, as long as the legal identity of the subsidiaries are renown and respected by the parent and appropriate supervision is in place to reduce the agency costs, there are no issues that MNEs should be worried about.[8] As discussed in an article in the Economist, this centralized structure where there is only one man capable of decision-making over multi divisions has been stated to be a comfortable structure for the ‘organization man’.[9] This structure is explained to have a number of different units operating in the same way but separately and the system was structured in a way that everyone knew their place to stand and showed a transparent corporate hierarchy.

As mentioned in the above paragraphs, the MNEs were initially organized in a centralized unitary structure, “U form” with different departments but a central management at the top.[10] This adopted model can also be affected by the nationality and the business structure of the parent and may show some differences within each firm. Muchlinski gives an example to this statements that the studies show the number of US firm using a hierarchy model to be higher than non US firms and further suggests that the geographical features of the host nation, the age and the size of the subsidiaries, the governmental demands in the host country and the method of entry are factors that can diversify the level of centralization with an MNE., Dunning states that in areas where the parent company is more dominant and operations are more related to the substantial issues which does not interfere with the host nation’s policies, it is more likely that the MNE will have a more centralized structure whereas decision that require some sensitivity and local knowledge might be made under a more relaxed structure. [11]

 

Once an enterprise has reached a sufficient growth rate to establish a hierarchical structure, two main forms can be adopted within this structure. The first one is the functional organization, which is composed of different departments, which are structured for specific functions and report to a chief executive. Amore upgraded organization of the functional is called the multidivisional organization. In this system, there are two or more functional organization, which are under the dominance of a single manager. The functional organization is based on a specific expertise of that department. Every individual of these departments focus on their own assignments and avoid any unnecessary communication with the other departments. The main feature of the functional organization is that it aims to be as good and efficient as possible at only one thing. The multidivisional organization in time evolved into a more complex structure, which was diverse in terms of geography, production and marketing. As a result, one department was not sufficient to complete all the tasks within the enterprise.[12]

 

Even though there can be some exceptions to the strict hierarchy system, the system is essentially based on the governance of a single man. The model has not always been accepted as a perfect solution and obviously had caused some problems within the management. The concentration of a single man at the central level eventually pushed the MNEs into a management overload and a high level of responsibility that one manager cannot overcome by himself.[13] The larger and more complex the MNEs became, the hierarchy system started to be less efficient and become closer to failing. As a response, the head of the firms such as DuPont and General Motors followed the road of creating multidivisional organization structure.[14] This structure as stated above, can be described as an upgraded version of the hierarchy model where the divisions could make small and less important decisions and the main strategic decisions were still under the dominance of the headquarters.[15]

 

 

[1] D. Eleanor Westney and Srilata Zaheer, 'The Multinational Enterprise as an Organization', in Anonymous (, Oxford, Oxford University Press, 2001) p 350.

[2] Geoffrey Jones, 'Multinationals and Global Capitalism: From the Nineteenth to the Twenty First Century', Anonymous Translator(, Oxford, Oxford University Press, 2004) p 167.

[3] Alfred D Chandler, 1918-2007. (Alfred Dupont). , 'Strategy and Structure: Chapters in the History of the Industrial Enterprise', Anonymous Translator(, Cambridge, Mass;London;, M.I.T. Press, 1962) p 3.

[4]Danny Miller. 'Configurations of Strategy and Structure: Towards a Synthesis: Summary', Strategic Management Journal (1986-1998), vol. 7/no. 3, (1986), p. 233.

[5] John H. Dunning and Sarianna M. Lundan, 'Multinational Enterprises and the Global Economy', Anonymous Translator(2nd edn, Northampton, MA;Cheltenham, UK;, Edward Elgar, 2008) p. 233.

[6] Miller n (17) p. 247.

[7] Jullian M Birkinshaw, Allen J Morrison, Configurations of Strategy and Structure in Subsidiaries of Multinational Corporations p 737

[8] Virginia E Harper Ho, ‘Team Production & the Multinational Enterprise’, Seattle University Law Review Vol 38:499, (2014) p 508.

[9] Tim Hindle, 'The New Organisation: A Survey of the Company', The Economist, vol. 378/no. 8461, (2006) p 2,

[10] Ho n(21) 510.

[11] Muchlinski n(1) 51.

[12] Richard E. Caves, 'Multinational Enterprise and Economic Analysis', Anonymous Translator(3rd;3; edn, Cambridge; New York;, Cambridge University Press, 2007) p. 78.

[13] Ho n (21) 510.

[14] Bala Chakravarthy and James Henderson. 'From a Hierarchy to a Heterarchy of Strategies: Adapting to a Changing Context', Management Decision, vol. 45/no. 3, (2007), pp. 643.

[15] Ho n(21) 510.