Week 7: Quality and Control in Organisations

Students’ Learning Outcomes

● Assess the performance outcomes of different strategies in terms of direct economic

outcomes and overall organisational effectiveness.

● Assess performance and the need for new strategies using gap analysis.

● Employ three success criteria for evaluating strategic options for Suitability,
Acceptability, and Feasibility.

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Introduction

This week is about assessing organisational performance and evaluating different strategic options.
Managers must assess how well their existing strategies are performing and evaluate alternatives. This
week focuses on systematic criteria and techniques from a rational ‘Design’ perspective, in terms of the
Strategy Lenses. Figure 7.1 organises the key elements of this week in a logical flow. Here managers first
assess performance; next, they identify the extent of any gap between desired and actual or projected
performance; finally, they assess the strategic options for filling any such gap. The adopted options
themselves eventually feedback into performance in the future.

Figure 7.1 Evaluating strategies (source: Johnson et al., 2014, p. 367)

Organisational Performance

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 There are many ways by which to measure organisational performance, with none having clear
superiority. This section introduces a range of criteria, both direct economic measures and broader
effectiveness measures. It goes on to consider the various comparisons against which performance may
be assessed. It finally discusses gap analysis.

Performance measures

We can distinguish between two basic approaches to performance: direct economic performance and
overall organisational effectiveness (Richard et al., 2009):

• Economic performance refers to direct measures of success in terms of economic outcomes. These
economic outcomes have three main dimensions. First, there is the performance in product
markets: for example, sales growth or market share. Second, there are accounting measures of
profitability, such as profit margin or return on capital employed. Finally, economic performance
may be reflected in financial market measures such as movements in the share price. These
economic measures may seem objective, but they can be conflicting and need careful
interpretation.
• Effectiveness refers to a broader set of performance criteria than just economic, for example,
measures reflecting internal operational efficiency or measures relevant to stakeholders such as
employees and external communities. One important broad measure of effectiveness is the
balanced scorecard, which considers four perspectives on performance simultaneously (Kaplan
and Norton, 2007). Thus the balanced scorecard considers the customer perspective, using
measures such as customer satisfaction or product quality; the internal business perspective, for
instance, productivity measures or project management measures; the innovation and learning
perspective, measuring new product introductions or employee skills, for example; and finally the
financial perspective, focused typically on profitability or share price performance. Another
similarly broad measure of performance is the triple bottom line, which pays explicit attention to
corporate social responsibility and the environment. Thus the triple bottom line has three
dimensions: economic measures of performance such as sales, profits and share price; social
measures, such as employee training, health and safety and contributions to the local community;
and finally environmental measures such as pollution, recycling and wastage targets. Both the
balanced scorecard and the triple bottom line share a view that overall effectiveness depends not
only on economic performance but on a range of factors that support the long-term prosperity of
the organisation.
Performance comparisons

When considering performance, it is important to be clear about what you measure against: in other
words, performance relative to what? There are three main comparisons to consider:

• Organisational targets: a key set of performance criteria are management’s own targets, whether
expressed in terms of overall vision and mission or more specific objectives, for instance,
economic outcomes such as sales growth or profitability.

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 • Trends over time: investors and other stakeholders are concerned about whether performance is
improving or declining over time. Improvement may suggest good strategy and increasing
momentum into the future. The decline may suggest poor strategy and the need for change.
• Comparator organisations: the final comparison is performance relative to other comparable
organisations, as in benchmarking. Comparators are typically competitors, but where there are no
competitors, or where it is useful to encourage new approaches, comparators can be other
organisations doing equivalent things (e.g. a utility company might compare its efficiency in
billing and customer service with an insurance company).
Gap analysis

Gap analysis compares achieved or projected performance with desired performance (Cohen and Cyert,
1973). It is particularly useful for identifying performance shortfalls (‘gaps’) and, when involving
projections, can help in anticipating future problems. The size of the gap provides a guide to the extent
to which strategy needs to be changed. Figure 7.2 shows a gap analysis where the vertical axis is some
measure of performance (e.g. sales growth or profitability) and the horizontal axis shows time, both up
to ‘today’ and into the future. The upper line represents the organisation’s desired performance, perhaps
a set of targets or the standard set by competitor organisations. The lower line represents both achieved
performances to today and projected performance based on a continuation of the existing strategy into
the future (this is necessarily an estimate). In Figure 7.2, there is already a gap between achieved and
desired performance: performance is unsatisfactory. However, the gap in Figure 7.2 is projected to
become even bigger on the basis of the existing strategy. Assuming ongoing commitment to the desired
level of performance, the organisation needs to adjust its existing strategy in order to close the gap.

Figure 7.2 Gap analysis (source: Johnson et al., 2014, p. 370)

Suitability

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 The previous section identified gap analysis as a means for considering the extent of new initiatives
required to meet desired performance targets. The rest of this week discusses means for evaluating
possible new initiatives using the SAFe evaluation criteria of suitability, acceptability, and feasibility: see
Table 7.1. This section deals with suitability.

Suitability is concerned with assessing which proposed strategies address the key opportunities and
threats an organisation faces through an understanding of the strategic position of an organisation. In
essence, it is, therefore, concerned with the overall rationale of a strategy. However, at the most basic
level, a suitability analysis involves assessing the extent to which a proposed strategy:

• exploits the opportunities in the environment and avoids the threats;

• capitalises on the organisation’s strengths and avoids or remedies the weaknesses.

Table 7.1 The SAFe criteria and techniques of evaluation (source: Johnson et al., 2014, p. 372)

Lifecycle analysis

A lifecycle analysis assesses whether a strategy is likely to be appropriate given the stage of the industry
life cycle. Table 7.2 shows a matrix with two dimensions. The industry situation is described in five
stages, from development to decline. The competitive position has three categories ranging from weak to
strong. The purpose of the matrix is to establish the appropriateness of particular strategies in relation to
these two dimensions. The consultancy firm Arthur D. Little suggests a number of criteria for establishing
where an organisation is positioned on the matrix and what types of strategy are most likely to be suitable:

• Strong competitive position: generally strong competitors should consider aggressive strategies
throughout the life cycle. Early on, that implies rapid growth, for instance, reinforcing cost
advantages through experience curve effects, or extending advantages by broadening scope. Later,
strong competitors may take advantage of their relative strength to drive out weaker competitors
by aggressive pricing or innovation, plus acquisitions where appropriate. In maturity, harvesting

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 any weaker activities in the portfolio – through closure or perhaps sale – becomes important.
Investment in innovation and differentiation may be less important. In the final stage, strong
competitors might aim to be the last remaining player, leaving them the chance to exploit market
power through high prices.
• Middling competitive position: early in the life cycle, middling competitors should generally be
considering urgent steps either to strengthen their overall position (perhaps by mergers or
alliances) or to find a relatively protected niche. Later, competitors still with a middling position
should take seriously the option of selling the business to a stronger rival.
• Weak competitive position: for those competitors with a weak competitive position, the options
facing middling competitors are accelerated. If weak competitors cannot rapidly transform their
position or find a protected niche, they should promptly consider closure or sale to a stronger
competitor.
Table 7.2 The industry lifecycle/portfolio matrix (source: Johnson et al., 2014, p. 378)

While this matrix is of use in providing general guidance for evaluating possible strategies over the life
cycle, it does not, of itself, provide directive answers. Each organisation must make decisions on its own
merits according to its precise individual circumstances. Organisations should beware too that the
lifecycle stages are not irreversible.

Acceptability

Acceptability is concerned with whether the expected performance outcomes of a proposed strategy meet
the expectations of stakeholders. These can be of three types, the ‘3 Rs’: Risk, Returns and Reaction of
stakeholders. It is sensible to use more than one approach in assessing the acceptability of a strategy.

Risk

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 The first R is the risk an organisation faces in pursuing a strategy. Risk concerns the extent to which
strategic outcomes are unpredictable, especially with regard to possible negative outcomes. It is important
to be sensitive to the downside. Risk can be high for organisations with major long-term programmes of
innovation, or where high levels of uncertainty exist about key issues in the environment, or where there
are high levels of public concern about new developments – such as genetically modified crops (Frigo
and Anderson, 2011). A key issue is to establish the acceptable level of risk for the organisation. Is the
organisation prepared to ‘bet the company’ on a single strategic initiative, risking total destruction, or
does it prefer a more cautious approach of maintaining several less unpredictable and lower-stakes
initiatives? Formal risk assessments are often incorporated into business plans as well as the investment
appraisals of major projects. Chosen strategies should be within the limits of acceptable risk for the
organisation. Young entrepreneurs may have a higher tolerance for risk than established family
businesses, for example. Importantly, risks other than ones with immediate financial impact should be
included, such as risk to corporate reputation or brand image. Developing a good understanding of an
organisation’s strategic position is at the core of good risk assessment. However, the following tools can
also be helpful in a risk assessment.

Returns

The second R is returns. These are a measure of the financial effectiveness of a strategy. In the private
sector, shareholders expect a financial return on their investment. In the public sector, funders (typically
government departments) are likely to measure returns in terms of the ‘value for money’ of services
delivered. Measures of return are a common way of assessing proposed new ventures or major projects
within businesses. An assessment of the financial effectiveness of any specific strategy should be a key
criterion of acceptability.

Reaction of stakeholders

The third R is the likely reaction of stakeholders to a proposed strategy. There are many situations where
stakeholder reactions could be crucial. For example:

• Owners’ (e.g. shareholders, family owners, the state) financial expectations must be taken into
account, and the extent to which these are met will influence the acceptability of a strategy.
• Bankers and other providers of interest-bearing loans are concerned about the risk attached to
their loans and the competence with which this is managed. It is likely they will manage this risk
through taking securities against it. None the less a good track record in managing that risk could
be regarded (in itself) as a reason for bankers to invest further with some companies and not
others. The extent to which a proposed strategy could affect the capital structure of the company
could also be important.
• Regulators are important stakeholders in industries such as telecommunications, financial
services, pharmaceuticals, and power. They may have what amounts to decision-making powers
over aspects of an organisation’s strategy, such as price or geographic expansion.
• Employees and unions may resist strategic moves such as relocation, outsourcing, or divestment
if they see them as likely to result in job losses.

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 • The local community will be concerned about jobs but also with the social cost of an
organisation’s strategies, such as pollution or reputation loss – an issue of growing concern
• Customers may also object to a strategy. Their sanction is to cease buying from the company,
perhaps switching to a competitor
Overall, there is a need to be conscious of the impact on the various stakeholders of the strategic options
being considered. Managers also need to understand how the capability to meet the varied expectations
of stakeholders could enable the success of some strategies while limiting the ability of an organisation
to succeed with other strategies.

Feasibility

Feasibility is concerned with whether a strategy could work in practice: in other words, whether an
organisation has the capabilities to deliver a strategy. An assessment of feasibility is likely to involve two
key questions: (i) do the resources and competencies currently exist to implement a strategy effectively?
And (ii) if not, can they be obtained? These questions can be applied to any resource area that has a
bearing on the viability of a proposed strategy. Here the focus is on three areas, however: finance, people
(and their skills) and the importance of resource integration.

Financial feasibility

A central issue in considering a proposed strategy is the funding required for it. It is, therefore, important
to forecast the cash-flow implications of the strategy. The need is to identify the cash required for a
strategy, the cash generated by following the strategy and the timing of any new funding requirements.
This then informs consideration of the likely sources for obtaining funds. Managers need to be familiar
with different sources of funds as well as the advantages and drawbacks of these. This is well explained
in standard financial texts (Atrill, 2005). This is a matter not only of the feasibility of a strategy, but also
its acceptability to different stakeholders, not least those providing the funds. A useful way of considering
funding is in terms of which financial strategies might be needed for different ‘phases’ of the life cycle
of a business (as opposed to an industry life cycle): see Table 7.3. In turn, this raises the question as to
whether such sources of finance are available and, if not, whether the proposed strategy is both feasible
and acceptable.

• Start-up businesses are high-risk businesses (Nofsinger and Wang, 2011). They are at the
beginning of their life cycle and are not yet established in their markets; moreover, they are likely
to require substantial investment. A standalone business in this situation might, for example, seek
to finance such growth from specialists in this kind of investment, such as venture capitalists who,
themselves, seek to offset risk by having a portfolio of such investments. Schemes for private
investors (so-called ‘business angels’) have also become popular. Providers of such funds are,
however, likely to be demanding, given the high business risk. Thus, venture capitalists or
business angels typically require a high proportion of the equity ownership in exchange for even
quite small injections of funds.
• Growth businesses may remain in a volatile and highly competitive market position. The degree
of business risk may therefore remain high, as will the cost of capital in such circumstances.

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 However, if a business in this phase has begun to establish itself in its markets, perhaps as a market
leader in a growing market, then the cost of capital may be lower. In either case, since the main
attractions to investors here are the product or business concept and the prospect of future
earnings, equity capital is likely to be appropriate, perhaps by public flotation.
• Mature businesses are those operating in mature markets, and the likelihood is that funding
requirements will decline. If such a business has achieved a strong competitive position with a
high market share, it should be generating regular and substantial surpluses. Here the business
risk is lower and the opportunity for retained earnings is high. In these circumstances, if funding
is required, it may make sense to raise this through debt capital as well as equity, since reliable
returns can be used to service such debt. Provided increased debt (gearing or leverage) does not
lead to an unacceptable level of risk; this cheaper debt funding will increase the residual profits
achieved by a company in these circumstances.
• Declining businesses are likely to find it difficult to attract equity finance. However, borrowing
may be possible if secured against residual assets in the business. At this stage, the emphasis in
the business will likely be on cost-cutting, and it could well be that the cash flows from such
businesses are quite strong. Risk is medium, especially if decline looks to be gradual. However,
there is the chance of sudden shake-out with battles for survival.
This lifecycle framework does not, however, always hold. For example, a company seeking to develop
new and innovative businesses on a regular basis might, in effect, be acting as its own venture capitalist,
accepting high risk at the business level and seeking to offset such risk by ‘cash cows’ in its portfolio. Or
some companies may need to sell off businesses as they mature to raise capital for further investment in
new ventures.

Table 7.3 Financial strategy and the business lifecycle (source: Johnson et al., 2014, p. 391)

References

Atrill, P. (2005). Financial management for decision makers. Pearson Education.

Cohen, K. J., & Cyert, R. M. (1973). Strategy: Formulation, implementation, and monitoring. The Journal
of Business, 46(3), 349-367.

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 Frigo, M. L., & Anderson, R. J. (2011). Strategic risk management: A foundation for improving enterprise
risk management and governance. Journal of Corporate Accounting & Finance, 22(3), 81-88.

Johnson, G., Whittington, R., Scholes, K., Angwin, D., and Regnér, P. (2014). Exploring Corporate
Strategy: Text & Cases, 10th Edition. Pearson education.

Kaplan, R. S., & Norton, D. P. (2007). Using the balanced scorecard as a strategic management
system. Harvard business review, 85(7-8), 150-+.

Nofsinger, J. R., & Wang, W. (2011). Determinants of start-up firm external financing
worldwide. Journal of Banking & Finance, 35(9), 2282-2294.

Richard, P. J., Devinney, T. M., Yip, G. S., & Johnson, G. (2009). Measuring organizational performance:
Towards methodological best practice. Journal of management, 35(3), 718-804.

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