Autonomous business unit
Anil K. Gupta
This article reviews the historical origins of the concept of ‘‘business unit’’ and present a synop sis of what theoretical and empirical research tells us about the implications of granting higher vs. lower levels of autonomy to a business unit.
Origins of the Concept of Business Unit
The concept of ‘‘business unit’’ – more specific ally, ‘‘strategic business unit’’ (SBU)1– is gener ally believed to have been invented at General Electric (GE) in 1957, although the company waited until a 1969 consulting study by McKin sey and Co. to implement it. At that time, for strategic planning and control purposes, GE was organized into 10 groups, 46 divisions, and over 190 departments. Fred Borch, GE’s CEO from 1963 to 1972, made the following observations on the McKinsey study (Aguilar and Hamer mesh, 1981: 3):
One [of their recommendations] was that we recognize that our departments were not really businesses. We had been saying that they were the basic building blocks of the company for many years, but they weren’t. They were fractionated and they were parts of larger businesses. The thrust of the recommendation was that we reorganize the company . . . and create . . . Strategic Business Units the terminology stolen from a study we made back in 1957. They gave certain criteria for these and in brief what this amounted to were reasonably self-sufficient businesses that did not meet head-on with other strategic business units in making the major management decisions necessary. They also recommended as part of this that the 33 or 35 or 40 strategic business units report directly to the CEO regardless of the size of the business or the present level in the organization.
Following GE’s creation of strategic business units and then treating these as the building blocks for strategic planning and control, this concept has been adopted by other organizations and is now used widely by most medium to large sized enterprises across the world. In the early 1990s, even the US Central Intelligence Agency was reported to have reorganized itself 4 autonomous business unit along clearly defined ‘‘business units’’! The lit erature and business experience suggest that there are multiple advantages that can poten tially accrue from organizing any enterprise along distinct but reasonably self sufficient business units: superior strategies, reduced intra corporate conflicts, reduced organizational barriers to acquiring or adding new businesses as well as divesting or spinning off existing ones, increased ability to pursue distinctly different strategies across SBUs, increased ability to adopt different but tailored control mechanisms for each SBU, and so forth (Gupta and Govin darajan, 1984; Gupta, 1987).
How Autonomous Should A Business Unit Be?
Considerable research has been devoted to the question of how much autonomy should be granted to individual business units. In general, the theoretical arguments as well as empirical findings have been that the greater the autonomy granted to a business unit, the more innovative and entrepreneurial it tends to be (Govindara jan, 1986). At first glance, this might lead to the conclusion that the more autonomy, the better. In fact, the very notion of defining business units in terms of self sufficient businesses suggests that all business units should have a high degree of decision making autonomy in virtually all key functions.
The reality, however, is that, in most com panies, it is either infeasible or uneconomical to make every business unit completely self suffi cient in terms of needed resources such as pro duction facilities, research centers, sales and distribution networks, technologies, and other types of know how. Consider the case of Procter and Gamble (P&G). The disposable diapers business constitutes one of P&G’s largest global business units. Yet many raw materials are common to disposable diapers as well as other paper businesses of P&G, such as paper towels, toilet paper, feminine hygiene products, etc.; thus, there potentially exist large economies of scale in coordinated raw material sourcing. Also, research in absorbency is fungible across many of these business units, thereby suggesting po tential scale economies from partly centralized R&D. Finally, large and powerful customers such as Wal Mart demand that, when deciding what and how much to buy from P&G and at what prices, they negotiate with the entire com pany as one entity, rather than separately with each of P&G’s many business units.
In short, given an increasingly competitive environment, companies are realizing that the internal and external imperatives to facilitate sharing of valuable and fungible resources across different business units are simply too strong to ignore. As Porter (1985) argued two decades ago, the competitive advantage of any individual SBU may well depend crucially, although not exclusively, on its ability to leverage comple mentary resources of peer SBUs. A recent but perhaps controversial example of this argument would be the overthrow by Microsoft’s Internet Explorer of Netscape Navigator in the web browser segment; most analysts have attributed Explorer’s success to its ability to leverage the established dominance of Microsoft Windows, a peer business unit. At the corporate level, the salience of resource sharing among SBUs is demonstrated persuasively by the large number of studies that have reported that ‘‘related’’ di versified firms generally outperform ‘‘unre lated’’ diversified firms (see Ramanujam and Varadarajan, 1989, for a review). Even at GE, the original incubator of the SBU concept, cre ating a ‘‘boundary less corporation’’ where SBUs would be eager to share ideas and re sources with each other was one of the central ideas to stimulate innovation and productivity that was pushed by Jack Welch, who served as the company’s highly successful CEO for nearly two decades from 1981 onwards.
In summary, in deciding how much decision making autonomy they should grant to an in dividual SBU, corporate executives find them selves sitting on the proverbial horns of a dilemma. Greater autonomy has the potential to foster innovation and entrepreneurship at the business unit level, while dramatically cut ting down on the costs of corporate bureaucracy. However, what if these benefits are more than negated by the opportunity costs of large but unrealized cross business synergies? In other words, might an intermediate level of autonomy be the optimal solution for most business units? As we argue next, not necessarily so.
Current thinking in both academic as well as corporate circles is to search for organizational autonomous business unit 5 mechanisms that would induce vigorous and self directed pursuit of cross business synergies by business units that generally operate with a high degree of decision making autonomy. If such mechanisms can be identified and imple mented, then one can eliminate the need for suboptimal compromises. Two key mechanisms that many corporations are utilizing or experi menting with are: (1) the use of high powered incentives that are tied partly to the success of the entire corporation rather than solely to that of the focal business unit, and (2) the establish ment and fostering of horizontal formal and informal networks among the people working in different but related business units. The first mechanism helps build the necessary motiv ational context for business unit managers to become eager to search for synergies; on the other hand, the second mechanism helps build the necessary enabling links that would increase the effectiveness and reduce the bureaucratic costs of searching for and realizing the potential synergies.
Nucor Steel provides a persuasive example of using incentives to foster a self driven search for synergies (Gupta and Govindarajan, 2000). Over the last three decades, Nucor has been the most efficient and profitable steel producer in the United States, even though it has no proprietary advantages in terms of raw materials, technolo gies, distribution channels, or brand image. What has distinguished Nucor is its ability to obtain significantly greater efficiencies from inputs that are equally available to competitors. Nucor has done this through a variety of mech anisms, including an unusual incentive system. At every level of the company, incentives are solely team based and very high powered. At the business unit level, Nucor has about 25 busi ness units, each with a general manager. Annu ally, each general manager has the potential to earn a bonus up to 4–5 times his or her base salary. Yet this bonus is based on the financial performance of the entire company, rather than the focal business unit. The rather large and totally variable nature of this bonus creates a situation whereby it is considered enlightened self interest for any general manager to eagerly look for opportunities where their business unit could either provide help to or get help from peer business units. Other general managers simply have no basis to say, ‘‘Don’t bother me. Go mind your own business.’’ Historically, the use of stock options in many high technology companies has served a similar purpose.
As an example of establishing horizontal mechanisms in order to ensure direct linkages between relevant business units, take the case of Intel Capital, the corporate venture capital arm of Intel Corporation. Among high techno logy companies in particular (and, perhaps, all companies across industries), Intel Corporation has been the most aggressive in making venture capital investments in start up companies whose technologies or products might be synergistic with Intel’s. Yet Intel Capital has a rule. It will not invest in any new venture if one of Intel’s existing business units is not willing to become a sponsor and champion of such an investment. This requirement reduces the need for corporate headquarters to invest in costly and bureaucratic coordination and control mechanisms while, at the same time, giving a relatively high degree of decision making autonomy to the existing unit as well as the new venture.
As we look ahead at the future of business units, I would predict that the concept will con tinue to thrive. Further, as managers become more sophisticated in the design of incentive systems and the cultivation of formal and infor mal horizontal networks among peer units, there will be less reason to think of decision making autonomy and pursuit of cross business syner gies as mutually incompatible.
Note
1 Consistent with the strategy and organization theory literature, as well as practice within companies, I use the terms ‘‘business unit’’ and ‘‘strategic business unit’’ synonymously.
Bibliography
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