Another Reorganization? What to Expect, What to Avoid

http://knowledge.wharton.upenn.edu/print_version.cfm?articleid=811&catid=2

It’s a familiar scenario: A company brings in a new department head who immediately decides that the way to show leadership is to reorganize. And then a new division head comes on board, or a new CEO, and there are more reorganizations, restructurings or reengineerings. Employees can find themselves reorganized several times in one month.

Frequent reorganizations “are like doctors treating patients with antibiotics,” says Peter Cappelli , director of Wharton’s Center for Human Resources. The medication might work short-term, but “long-term it can be harmful. The constant churning caused by these reorganizations generates costs and develops long-term cynicism about why they are done and what they mean.”

No one, of course, would argue against the need for organizational restructuring, especially as companies become more global and expand into new products and markets. And few would argue against the long-held belief that corporate strategy and structure must be aligned in a way that allows the company to manage change efficiently

The problems arise when reorganizations are undertaken for the wrong reason, are poorly implemented or fail to understand particular constraints of either the company or the market in which it operates

“Deciding on the right strategy for the company is key,” says John Paul MacDuffie , co-director of Wharton’s Jones Center for Management Policy, Strategy and Organization. “Strategy-making processes done hastily and based on the wrong assumptions can mean moving the boxes around on the org chart without thinking through all the consequences.”

How you get to the right place depends on your perspective. “The resource capabilities view of strategy says it ought to grow organically out of a clear-eyed perception of what the company’s capabilities are and how readily they can be developed,” MacDuffie says, “as opposed to strategy-making occurring in a vacuum or from an externally focused competitive analysis that is naïve about how malleable the organization is” to change

Whatever approach reorganizations take, they need to be more than symbolic, says Cappelli. “Changing company structure – such as who reports to whom – won’t accomplish much and can be very disruptive. A reorganization has to aim for something bigger – such as changing the culture, incentives and values of the organization – and trying to get people to behave differently. This could mean creating new compensation and promotion systems, developing different competencies among employees, committing to more retraining, and so forth. The usual model of work restructuring is that there are many different levers you can pull. But if all you are changing is just one lever, it won’t be very effective.”

Creating a Customer-centric View

In a recent article entitled “Organizing to Deliver Solutions,” Jay Galbraith, an organization design expert and former Wharton faculty member, talks about a trend in business strategy that involves offering solutions to customers instead of only stand-alone products – i.e. bundling products together and adding software and services in ways that integrate customer needs and increase customer value

“Companies always underestimate how difficult this process is largely because it means creating a customer-centric view,” Galbraith notes. “That is, if you are going to combine products and services for the benefit of the customer, you have to know a lot about who that customer is.”

IBM, for example, integrates its growing service business with its software and hardware products into solutions for customers – like a supply chain management information system or computer aided design for new product development, says Galbraith. Nokia is another example. The Finland-based cell phone manufacturer has created a customer-centric front end unit – where specific customer strategies are formulated – and added it to the product-centric units at the back end of the company. Galbraith calls it a “front-back hybrid model.”

His article discusses the processes required to link the “back-end product units to the customer-facing solutions units.” But even well-managed companies, he notes, have trouble achieving this solutions approach. “It requires much more than bundling and cross-selling products.” It requires major organizational change, including, for example, a new structure, new management processes, new measurement systems, new talent and new reward systems.

It also requires leadership that can interact with multiple product and customer unit managers as opposed to handling one business unit at a time. These are “tension-filled processes,” Galbraith says, defining solutions strategy as both a “team sport and a conflict-resolving sport.” Even IBM, which is a success story in this hybrid solutions approach, “still has to confront its mainframe people, software programmers and web designers, all of whose lives revolve around their own separate products. Part of the issue is getting all of the products to work together.”

Citigroup reorganized its commercial and investment banking part of the business during the mid-1980s to 1995 and “from 1995 on, it integrated with Travelers and made a successful transition to global industry groups and customers,” says Galbraith. Less successful, he adds, has been Motorola, which added a global solutions unit that was not supported by the product units, and AOL Time Warner, whose efforts to integrate products and services didn’t create enough added value for its customers. Sun Microsystems has been partially successful in creating solutions for portals and payment systems.

Organizing by Product Line, not Geography

Galbraith and others note two recent trends in organizational restructuring. The first is the rise of dispersed headquarters, which Galbraith describes as “a tendency to put power and responsibility into whatever part of the world has the leading edge in a particular activity.” Citigroup’s foreign exchange business, for example, is headquartered and managed out of London , the world’s largest foreign exchange market. Private banking is headquartered in Zurich , derivatives in New York City.

“There are more and more countries around the world where you find advanced forms of knowledge, not just in your own country,” says Galbraith. “Telecom is really driven by the Scandinavians and the Japanese, not by the U.S. Depending on what business you are in, there is always some place in the world that has to lead, and you need to be there.”

A second trend is the move away from companies organized by geography in favor of organization by product line, with power shifting to those individuals responsible for global, rather than local, business units or functions. Also, with the rise of the global customer, account management requires greater cross-border coordination than was necessary in the past.

“Suppose I am a manager in a New York-based multinational bank in the early 1990s and I am trying to serve key global accounts like General Motors or General Electric,” says Nathaniel Foote, a consultant at the Center for Organizational Fitness in Waltham , Ma. “But under the company’s current structure, all the power resides in the country managers, who are probably asking themselves why they should serve GM when their local clients are much more important and the margins are higher. From my perspective in New York , I now realize we have a structure in which the roles of our country managers are misaligned. Their incentives are to serve their local customers at the expense of global customers. That means I have to take away profit reporting from the country managers and shift it around to products and customers. Otherwise we would continue to have a blockage in the system that would prevent implementation of our global strategy.”

However, as Foote and others acknowledge, the choice between organizing your company by geography or by product line (including the creation of global business units) – is rarely clear-cut. An article two years ago in the Wall Street Journal Europe followed the path of Exide, the world’s largest producer of automotive and industrial batteries, as it tried to reorganize in the face of heavy losses and increased competition.

According to the Journal article, Robert Lutz, CEO of Exide at the time, held five retreats between June 1999 and January 2000 in which he asked the company’s top executives how they thought Exide should be organized. After much debate Lutz made the decision to “form six global business units primarily around its product lines. Most of its remaining country managers were demoted to the post of local coordinators ... About half the company’s top European managers resigned.”

But, as the Journal reports, the new structure was short-lived, primarily because Exide bought an international battery maker and Lutz was afraid one of the newly-acquired company’s top executives would leave if his operation became part of the new global business units. “Instead, Mr. Lutz tilted the structural balance back somewhat toward a geographic model” and the re-reorganization eventually became one of “blending the geography and product-line models.”

In addition to Exide, companies including NCR, Ford Motor, and Procter & Gamble “have spent fortunes transforming themselves from” a structure based on geography to one based on product line, and most have ended up with a hybrid of the two,” according to the Journal.

Opting for Targeted, not Sweeping, Change

Management experts also caution against focusing too much on structure rather than on processes, or as Foote puts it, “over leading with structure” in the hope that it will suggest progress. “Structure – including reporting relationships, employee roles and responsibilities, authority over resources, etc. – is just one dimension of an organization,” says Foote. “Within the existing structure, you can change people’s incentives, offer retraining, adopt new information systems and work-flow processes, strengthen people’s networks and so forth. It doesn’t involve reorganizing but instead involves working to improve performance.”

Foote uses the analogy of building a university, or any place that has multiple buildings. “You can either put all the paths down in advance, or you can have people walk and show you where the paths should be, and then lay the concrete.”

Adds MacDuffie: “Processes can provide guidance as to what kind of structural change may be needed. The compelling concreteness of an org chart can be deceiving while a processes approach tends to be less rigid and may provide an opportunity for learning and adapting as you go along. At some point the need for a change in the formal organization might be revealed but by then there are formal relationships in place to move that change forward.”

MacDuffie cites the case of one multinational durable goods company headquartered in Japan that was feeling pressure from managers to open a North American headquarters as well. The company resisted, MacDuffie says, opting instead to put a number of horizontal processes in place rather than a major reorganization. “That way the company could get procedures going that might at some point reveal the need for bigger changes, but in the meantime would allow new relationships to form and problem areas to clearly emerge. In other words, the company made some targeted changes rather than a big sweeping structural one.”

It’s also important, when considering reorganizations, that companies “know their products and their markets,” adds MacDuffie. “One of the things we concluded about the auto industry is that centralized R&D still makes a lot of sense. It’s a very capital intensive business and involves sophisticated technical expertise. It’s not so easy to just have European, U.S. and Asian R&D facilities that are as capable as a centralized one. But if you are Nestle, or a similar consumer products company, and you have global brands but many local brands as well, then you probably want to have some functions on a decentralized basis because that is the only way to really fit the local market.”

Indeed, a recent article in the McKinsey Quarterly makes that point using GE as an example. “All too often, companies that reorganize merely copy the organizational charts of successful companies without recognizing that they may be operating under completely different conditions,” the authors write. “The much admired flat organizational structure of GE, for example, is tailored to its strategy of operating only in mature and stable industries in which execution is the key to success.  As a result, GE doesn’t need a central R&D department or other central resources that often imply larger and more complex corporate structures.”

But the article goes on to say that GE’s model would be “quite wrong for a company pursuing a business idea in an innovation-driven industry such as high-technology or telecommunications, in which a powerful central R&D unit is essential to capture economies of scale and ensure that technology platforms are consistent across the company.”

Another example is Hewlett-Packard, says Michael Useem , director of Wharton’s Center for Leadership & Change Management. While the jury is still out on the long-term success of its merger with Compaq, Useem credits HP CEO Carly Fiorina with “extremely detailed pre-merger integration” during which the HP and Compaq teams spent “thousands of hours deciding what lines would be dropped, what positions would be changed and so forth. It’s not that companies can’t learn from each other’s experiences,” Useem says. “It’s that smart leaders customize the reorganization to fit their own situation.”

The same type of tailored approach to restructuring was evident in General Motors, IBM and American Express, all of which brought in new management in the early 1990s. “Each of those new management teams went through significant restructuring and all have come out well,” Useem says, “but if another company tried to replicate exactly what Jack Smith did at GM, or what Lou Gerstner and Harvey Golub did at IBM and American Express,” they would have no such guarantee of success.

Losing Shared Knowledge

Donna Goss was a senior consultant with Bethlehem Steel before leaving 18 months ago to become co-director of the leadership development institute at Northampton Community College in Bethlehem ,Pa. During her 29 years at Bethlehem Steel (which was recently acquired by Ohio-based International Steel Group) she went through 10 major reorganizations.

“ The piece that always seemed to get put on the back burner” during the reorganizations, she said, “was the people part, the culture ... The products and processes get all the attention and energy. I once told a company president that every single time he ran into a problem in his unit I could trace it back” to a people issue ... That’s where reorganizations tend to fall apart.”

Goss and others cite a number of ways in which the human costs of reorganizations are ignored. Leaders, for example, don’t take the time to explain why a reorganization is taking place, what the goal is, how it will change the jobs of the people involved. “Those who [implemented reorganizations] well at Bethlehem Steel were very intentional about how they and their team interacted with other employees,” Goss says. “They spent time being visible. They understood that employees are losing their identity as a group and that this creates anxiety and uncertainty. Managers who didn’t do this well stayed in their offices and commanded from the bridge.”

Part of the trauma associated with reorganization stems from a change over the past decade in the traditional understanding between employers and employees. According to Cappelli, IBM in the 1980s “used to reorganize all the time. But the company also offered employment security, which meant that an employee might be asked to change locations or move to a different part of the organization, but he kept his job and his salary. Consequently employees tended not to resist these changes. Now, however, companies reorganize in ways that threaten people. Employees might not just be assigned to some other job, they might lose that job or be demoted. There are all kinds of negative consequences. It reflects a change in the way companies do business and the fact that they are not particularly inclined to protect employees.”

Foote also talks about the knowledge that is lost through reorganizations. If a single employee leaves a company, some knowledge goes out the door with him or her, but a reorganization means that “collectively everybody has to change. So the knowledge of how to work together also gets lost. That knowledge has to be rebuilt, especially in companies that depend on the capacity of people to work together in horizontal ways as opposed to vertical ways. Suppose you are an R&D company, like a pharmaceutical, or a product development company, like Microsoft; you have to be careful that a reorganization doesn’t disrupt these horizontal collaborations.”

When disruptions do occur, Foote adds, “it’s like taking people who were playing soccer and suddenly telling them to play football. An employee has to learn a new position and all the rules and regulations that go with it.”

Often reorganizations “are done in the name of taking out layers, and then perhaps putting in new layers,” says MacDuffie. “There may be some efficiency-based gains but you are also destroying some of the relationship networks that were already in place. Forcing the creation of new networks causes cynicism and risk aversion among employees who may feel it’s not worth it to invest in another set of relationships only to have everything change once again.”

Changing the Culture

On Oct. 15, 1997 , Charles Schwab CEO David Pottruck took his top 150 managers out to the Golden Gate Bridge , had them walk across it and then gave some speeches to rev up their enthusiasm for the company’s wholesale move onto the Internet. “It was an attempt to engage people’s emotions,” says Useem.

Reorganizations, Useem adds, are frequently difficult in part because of deep-seated  cultural attitudes in the company that are hard to change. One way to make progress is to “reach into employees’ hearts, as Pottruck did. Another is to take a thousand small tactical steps – hiring people with a commitment to the new model or design, firing a few key people who are standing in the way, repeating over and over again why and how things are now different. After six months employees begin to realize that the company is serious about these changes.”

IBM’s Lou Gerstner has commented in speeches and in his book that the main point of restructuring the company was to establish a new culture, to change the way 300,000 employees viewed their jobs, says Useem . H-P’s Fiorina, he adds, said several months ago that part of the reason for announcing the Compaq acquisition was to facilitate a shakeup of the H-P culture so that the kind of reorganization that was required could go forward, whether the merger went through or not.

In reorganizations, which include power shifts, “there are always people who lose,” adds Galbraith. The trend now is to include more and more employees in the strategy-making process. Nokia, for example, had “250 people working quarter time for six months to create a new strategy for their mobile phone business,” Galbraith notes. Those 250 brought in others, so the company ended up having 500-600 people meet for two days to discuss different approaches. It means “using mechanisms that compress the time frame yet also allow you to get large numbers of people involved. Some individuals may not like the outcome of the meetings but at least they get a voice in the process.”

Assuming a company wants to implement the solutions orientation described earlier, “there are two ways to do this,” says Foote. “One is to come in and do a dramatic reorganization from the top, which generates all kinds of resistance and becomes a high-profile high-risk effort. Or a leader can come in and decide what works with the current organization and what doesn’t work. Perhaps he or she picks five important customers and puts together special teams, staffed by senior level people, to meet with these customers to tailor superior solutions. Then you expand the focus to another 10 or 20 customers, until at some point you decide the overall structure needs to be changed. In this way you have allowed the organization to learn rather than issued a top-down mandate that looks only at structural change.

“Organizations have to be dynamic and people’s roles are always going to shift,” Foote adds. “The challenge is to be thoughtful about how and why you reorganize. Done well, it’s a process of ongoing dynamic alignment.”

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