Marketing

MANAGEMENT CONTROL SYSTEMS DURING EARLY LIFE CYCLE PHASES

MANAGEMENT CONTROL SYSTEMS DURING EARLY LIFE CYCLE PHASES (A CASE STUDY IN THE SOCIAL AND HEALTHCARE SERVICES SECTOR)

Abstract

The objective of this study is to investigate how and why an organisation’s management control systems (MCS) package evolves during the birth and growth life cycle phases. As an organisation grows, its administrative task becomes greater, and thus its control needs are expected to increase. This thesis will provide a holistic view of the changes in each element of the MCS package while also examining their interdependence. It will employ a life cycle perspective to capture the dynamic nature of organisational life.

Introduction

Organizations consist of groups of people working together towards common goals. Managers need to ensure that the behavior of subordinates is beneficial to the organization so that these goals are attained. Management control systems (MCS) are various tools that managers can use for this purpose. The interdependency between various MCS has been identified by numerous researchers, and because of this, it is often recommended that MCS should be studied as a package (Ferreira and Otley 2009, Malmi and Brown 2008, Flamholtz 1983, Otley 1980). Despite this, many studies have only focused on parts of the MCS package, or on individual elements, such as budgeting, in isolation (Bedford and Malmi 2015, Chenhall 2003, Dent1990) . This may be due to the fact that the data required to study an entire MCS package can be very extensive and thus difficult to gather and analyze (Ferreira and Otley 2009), particularly because the various interdependencies between control elements can be difficult to determine through, for example, surveys (Malmi and Brown 2008). The problem with this is that it can potentially lead to conflicting results (Chenhall 2003). For example, in some cases budgeting might work very well as a control mechanism, and in others, it might produce unwanted behavior due to different underlying cultural controls. In the field of management accounting, researchers of ten assume a level of stability in the organizations they study and only focus on the studied phenomenon at a particular point in the life cycle of the organization (Merchant 2012). However, it is common for organizations to face both external and internal changes, and it could be argued that it is especially in these situations that organizations would require guidance from researchers or consultants as to how to best adapt to these changes. One challenge with taking into account the dynamic nature of organizations and their environments is that it increases the complexity of the study. The dynamic nature of organizations has been modeled in various life cycle models, which are based on the recognition that the various characteristics of organizations (size, age, strategy, etc.) often follow specific patterns so that it is possible to classify organizations into various life cycle phases (Moores and Yuen 2001, Miller and Friesen 1984, Quinn and Cameron 2013). There have been a few exploratory studies in which the importance and usefulness of combining life cycle models with MCS studies has been noted. Granlundand Taipaleenmäki (2005) studied management control systems in new economy firms. Their findings suggest that in these companies, time pressures within organizations cause planning to be prioritized over control. Organizations tend to develop their MCS mainly in response to expectations from venture capitalists and later on from stock market players. Davila (2005)also studied MCS from a life cycle perspective, but only focused on the human resource function. His study indicates that in human resources, size, age, venture capital, and the replacement of the original founder by a new CEO all have a positive impact on the emergence of more formal MCS. There is a definite need for more in depth studies on how MCS change over an organization’s life cycle. In particular, the view of MCS as a package and the developments in individual elements as well as their interdependency, have not yet been studied. For practitioners, this is an important topic. Various elements of MCS inevitably affect each other, so any new MCS that are added should be considered against the background of existing ones (Sandino 2007). Because of this, it would be helpful if the forthcoming requirements for MCS could be anticipated in the earlier MCS packages of organizations. This thesis will seek to address this gap in research by using the MCS package framework by Malmi and Brown (2008) and combining it with the model of an organization’s life cycle by Miller and Friesen (1984), where an organization’s life cycle is divided into five different phases: birth, growth, maturity, revival, and decline. The research question that will be addressed is:

How and why does an organization’s MCS package change during the birth and growth phases of its life cycle?” The study will focus on a single case company to provide an in depth investigation of the changes in each element of the MCS package as well as their interdependency at different phases of the organization’s life cycle. The case company is currently in the growth phase, so the empirical research will focus on how and why the case company’s MCS package has evolved from birth to growth, and what the pressures are to changing it that the company is facing.

  1. Management control systems

This section begins with an explanation of what MCS are, what they are used for, and why they should be thought of as a package. Three Frameworks of MCS are presented in detail to show the different approaches to the conceptualization of MCS, and to help understand the studies which are referenced later.

2.1. What are management control systems?

The field of MCS research has long suffered from inconsistent definitions of MCS (Malmi and Brown 2008, Chenhall 2003, Anthony 1965). Simons Defined MCS as “the formal, information based routines and procedures managers use to maintain or alter patterns in organizational activities” (1995). While this definition applies for the formal MCS, such as budgeting, there is a danger that it overlooks more informal and subtle MCS, such as cultural controls. This thesis will employ a MCS model by Malmi and Brown (2008). To ensure consistency between the model employed and the MCS definition adopted, the definition presented by the same authors will be used. They define management control systems as “those systems, rules, practices, values and other activities management put in place in order to direct employee behavior” (Ibid, 290) When these controls form a system, as opposed to simple rules, they are called MCSs.The benefit of this definition is that it does not rule out informal systems. A further complication to MCS research is the fact that there are similar terms, such as organizational control and management accounting systems, which are sometimes used interchangeably with MCS (Chenhall 2003). Because of the inconsistency of definitions, it can be difficult to compare studies by different researchers, and some articles have produced conflicting results.

2.2. Frameworks Researchers have presented many frameworks for conceptualizing MCS. There is no consensus on what the best framework

is for any given situation. Three frameworks will be discussed below, losing with an evaluation of their strengths and weaknesses with respect to the needs of this thesis. MCS represents such a broad subject that selecting a suitable framework is crucial for properly dealing with the subject (Anthony 1965, 1-2).

2.2.1. Levers of Control

One of the most popular frameworks of MCS is the levers of control framework by Simons (1995), . In the framework, MCS are divided into four categories: belief systems, boundary systems, interactive systems and diagnostic systems.

2.2. Object of control Merchant and Van der Stededivide MCS into four categories in their object of control framework. These categories are results control, action control, personnel control, and cultural control. Results control begins with the definition of the dimension in which results are expected, which is important, because if measures are selected for a different dimension than the one whose results actually matter, the effect on behavior may be minimal or even detrimental.

2.2.3. Management Control Systems as a Package

Based on an analysis of existing MCS research, Malmi and Brown (2008) have compiled a conceptual framework of MCS as a package, The framework divides MCS into five categories: cultural controls, planning, cybernetic controls, administrative controls, and reward and compensation. These are further divided into subcategories. The cultural controls define a contextual frame in which the other controls function. Administrative controls set the structure in which planning, cybernetic controls and reward and compensation are used Cultural controls

Cultural controls are divided into clans, values, and symbols. Clan controls function By establishing shared values and beliefs through the use of ceremonies and rituals of the clan Malmi and Brown 2008). Rituals consist of an organization’s traditional ways of doing things and special events, such as company picnics, retirement parties or annual meetings (Flamholtzet al.2007, 310).

The term clan control is often used synonymously with the term social control (Langfield Smith 1997). Clan controls are based on a high commitment from individuals and require them to have a deep understanding of what is considered appropriate behavior, whichis achieved by both selecting and socializing individuals so that their objectives are congruent with the organization’s (Ouchi 1979) Value based controls function on three levels (Malmi and Brown 2008). First, during recruitment individuals whose values are congruent with the organization’s values are selected. Second, individuals are socialized and their values change to match the organization’s values through the ceremonies and rituals of clan controls. Thirdly, values can be explicated and employees forced to behave in accordance with them. Often times organizations will have an official set of values, which are published, for example on the organization’s website. The real set of values which are enforced in the organization through the actions of managers and subordinates can be very different to those publicized to external parties (Flamholtzet al.2007, ). Thus, it is possible, that besides official company values, there are subtler unofficial values, which managers expect subordinates to abide by Symbols based control are those visible expressions which an organization displays to develop a particular type of culture (Malmi and Brown 2008).

The promise of a reward motivates employees to work harder to achieve targets, and receiving rewards can reinforce particular behavior (Flamholtzet al.1985).

Rewards can be classified as extrinsic or intrinsic, where extrinsic rewards are rewards that are visible to others, such as promotions or bonuses, and intrinsic rewards are those that are directly associated with doing the job, such as doing meaningful work (Mottaz 1985) .

2.4. The Social and Healthcare Services Sector

The healthcare industry is generally focused on the treatment of patients. The social services industry, on the other hand, is more focused toward providing assistance in daily activities for that in need. It includes residential care for the disabled, the elderly, and those suffering from mental health or drug abuse problems. The required level of education for employees is generally lower in social care. Healthcare facilities require doctors and nurses, whereas social care facilities use mostly practical nurses. The social services industry in Finland has recently been undergoing significant consolidation. Previously, there were many small companies in the industry, many of which owned just one care home. Recently however, a few large national and international companies have been acquiring others and increasing their market share.

3. The Organizational Life Cycle

This chapter will present the basic rationale of organizational life cycle theory as well as several models, which have been presented by researchers. A model by Miller and Friesen (1984) is selected as the most appropriate for this study. The case company of this thesis has spent much of its life cycle thus far in the growth phase, therefore, the characteristics of this phase as portrayed in existing literature are explored in greater depth. The introduction of venture capital is often an important event in an organization’s life cycle, so it is presented in its own subsection.

3.1. Life cycle models

Life cycle models are founded on the notion that as an organization develops over time, the changes in its characteristics tend to follow predictable patterns (Dodge and Robbins 1992). Researchers have used these distinct characteristics to create many conceptualizations of the organizational life cycle and its various phases.

A multitude of different models have been proposed, of which some omitcertain life cycle phases, most commonly the decline phase, and some divide phases into greater detail than others, but the basic trends in the development of organizations tend to be similar across different life cycle models (Lesteret al. 2008, Quinn and Cameron 1983).

3.2 The Growth Phase

In the growth phase, the concern for survival, which dominated in the birth phase, subsides, and is replaced by a search for expansion opportunities (Jawahar and McLaughlin 2001). Growth can be achieved either organically or through acquisitions. A study of all Swedish 20 companies with over 20 employees found that smaller and younger firms tended to grow organically, whereas large organizations grew mostly through acquisitions (Delmar and Davidsson 1998). The small and medium sized organizations which grow through acquisitions tend to have a more growth intensive strategy and have a more diversified customer basis than those which grow organically (Pasanen 2007). To finance growth, new equity investments are common in the growth phase (Jawahar and McLaughlin 2001). As companies grow it is typical for them to experience growing pains as a gap develops between the organization’s actual infrastructure and the infrastructure required (Flamholtz et al. 2007, 2). Members of the organization spend a lot of their time “putting out fires”, and feel that there is not enough time to get everything done as they would like to. There is little follow- up to plans, so things don’t get done. The organization’s sales revenues grow, but profits do not. MCS form an important part of an organization’s infrastructure that needs to develop as the organization grows. In the beginning, control can usually be maintained by the founder through day to day interaction with subordinates. As the organization grows, its control needs increase dramatically, and thus, more sophisticated control systems will need to be developed. (Flamholtz et al. 2007, 34)

3.3. The introduction of Venture Capital

The introduction of venture capital can be an important catalyst for change in organizations. Venture capitalists make an equity investment, usually with the expectation of earning an Appropriate return on their investment through a selected exit route (Mitchell et al.1995). Venture capital investments often take place during the growth phase of an organization’s life cycle (Zider 1998). During this time, the organization needs external financing to help maintain

its growth and is able to offer a potential for a significant return on investment. The level of control the venture capital investors have in the organizations in which they invest will vary depending on their equity share and presence on the organization’s Board (Kaplan and Strömberg 2003).

3.4. Previous life cycle studies on management control systems Along with his

Levers of Control framework, In the beginning, formal systems are not needed because of frequent face to face communication between subordinates and superiors, which helps to keep the purpose of the organisation clear to everyone. Only internal accounting controls are needed to ensure the security of assets and the reliability of accounting information. As the organisation grows and matures, it becomes more difficult for managers to define and communicate a unified

purpose. Diagnostic control systems are implemented in the growth phase

to cope with increased control needs arising from an increased delegation of responsibility to lower levels of the organization. Boundary systems are implemented during the growth phase as managers learn that certain activities should be forbidden. Formal beliefs systems such as official mission and vision statements are implemented as the organization approaches maturity. In more

mature firms, the top management needs to rely more on their subordinates for innovation and strategic initiatives, so they begin using some control systems interactively.



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