a contingency approach to strategy

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A Contingency Approach to Strategy Implementation at the Business-Unit Level: IntegratingAdministrative Mechanisms with Strategy

Author(s): Vijay GovindarajanSource: The Academy of Management Journal, Vol. 31, No. 4 (Dec., 1988), pp. 828-853Published by: Academy of ManagementStable URL: http://www.jstor.org/stable/256341.

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? Academy of Management Journal1988, Vol. 31, No. 4, 828-853.

A CONTINGENCY APPROACH TO STRATEGYIMPLEMENTATION AT THE BUSINESS-UNITLEVEL: INTEGRATING ADMINISTRATIVEMECHANISMS WITH STRATEGY

VIJAY GOVINDARAJANDartmouth CollegeThis study focused on what is perhaps the most critical aspect of strat-egy implementation in large, multibusiness organizations:recognizingthat different business units within the same corporationoften pursuedifferentstrategiesand that the administrative mechanismsthat corpo-rate headquarters use to manage those businesses should differ. Thisstudy compared the results of bivariate and systems approaches to fit.Implicationsof the results fortheory developmentand managerialprac-tice are discussed.

It is currently accepted in the strategic management literature that diver-sified corporations segment themselves into several strategic business units(SBUs) and typically assign different strategies to the individual SBUs(Henderson, 1979; Porter, 1980; Rothschild, 1979). One implication of such apractice is that the chief executive of a diversified firm has to implementmultiple strategies within the same firm. Most of the prior research studies onthe management of diversified firms have addressed only the subject ofstrategy formulation and not that of its implementation. The concern,therefore, has been only with how appropriate strategic choices are made forvarious businesses (Miles & Snow, 1978; Porter, 1980). Limited researchattention has focused on the design of differentiated administrative systemsthat can facilitate the implementation of the variety of SBU strategies beingpursued by diversified corporations. It is this broad topic that is the subjectmatter of this study.An overall model of strategy implementation was developed, based onthe following set of arguments: (1) The strategy chosen by an organizationdetermines to a large extent the uncertainty with which the organization

The research leading to this article was supported by the Amos Tuck School of BusinessAdministration, Dartmouth College. Thanks are due to Bob Anthony, Rich Bettis, Richard Daft,Gregory Dess, Anil Gupta, Don Hambrick, Kathy Harrigan, Dave Jemison, Bob Kaplan, RaymondMiles, Gordon Shillinglaw, and Chuck Snow for their guidance prior to data collection. Re-search assistance provided by Fred Beuthel, Steve Socolof, and Rick Von Gnechten is gratefullyacknowledged. The author wishes to acknowledge the useful comments provided by Sue Ashford,Joe Fisher, Jody Fry, Anil Gupta, Danny Miller, Vasu Ramanujam, Arnon Riechers, DavidRubinstein, John Slocum, N. Venkatraman, Jim Walsh, and two anonymous reviewers on earlierdrafts of this paper.

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1988 Govindarajan 829must cope (Chandler, 1962; Gupta & Govindarajan, 1984a; Miles & Snow,1978). (2) Different administrative mechanisms are available to help organiza-tions cope with uncertainty (Galbraith, 1973; Lorsch & Allen, 1973; Lorsch &Morse, 1974; Tushman & Nadler, 1978). (3) Thus, matching administrativemechanisms with strategy is likely to be associated with superior performance.Prior research supports the notion that there is a strong associationbetween strategic choice and level of uncertainty. Here, the notion ofuncertainty includes dimensions of both unpredictability and complexity(Lawrence, 1981). Chandler (1962) argued that the greater a firm's product-market diversity, the greater would be the environmental complexity and theresultant uncertainty for the firm. Miles and Snow (1978) found that unitsfollowing a prospector strategy faced a more unpredictable and uncertaintask environment than units following a defender strategy. Govindarajan(1986b) argued that build strategies are associated with greater unpredictabil-ity and uncertainty than harvest strategies. More recently, Gupta (1987) ar-gued that the choice of a differentiation strategy rather than a low-cost strat-egy would increase the uncertainty in a focal unit's task environment, withthe uncertainty arising out of both unpredictability and complexity.It follows that coping with uncertainty is the fundamental problem ineffectively implementing strategies (March &Simon, 1958; Thompson, 1967).Past studies have identified three key administrative mechanisms that firmscan use to cope with uncertainty: design of organizational structure (Chandler,1962; Galbraith, 1973; Tushman &Nadler, 1978), design of control systems(Hayes, 1977; Hirst, 1983; Lorsch &Allen, 1973), and selection of managers(Gupta &Govindarajan, 1984a; Lorsch &Morse, 1974; Miller, Kets de Vries, &Toulouse, 1982). Studies linking organizational structure to uncertainty haveused information processing as a mediating variable (Ford & Slocum, 1977;Tushman & Nadler, 1978). The literature on control systems has expressedthe view that as tasks vary in uncertainty, the behaviors necessary for effec-tive performance also vary; further, since different control systems inducedifferent behaviors, superior performance can best be achieved by tailoringcontrol systems to task uncertainty (Govindarajan, 1984; Hayes, 1977; Hirst,1983). Studies on managers have found that different managerial characteris-tics are systematically related to organizational requirements for dealingwith different levels of uncertainties and contingencies in task environments(Gupta & Govindarajan, 1984a; Lorsch & Morse, 1974).Thus, matching strategy with organizational structure, control systems,and managers' characteristics is expected to be associated with superiorperformance. As a preliminary test of this model at the SBU level, this studyexamined how to differentiate three administrative mechanisms-budgetevaluative style, a control system variable; decentralization, an organiza-tional structure variable; and the locus of control of an SBU's general manager,a managerial-characteristic variable-in accordance with differences in SBUcompetitive strategies.A few studies have examined effective ways to implement diverse strate-gies at the SBU level (Govindarajan & Gupta, 1985; Gupta & Govindarajan,



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830 Academy of Management Journal December1984a,b). Although building on those studies, this study made several newcontributions to that line of research. First, prior studies have focused oneither managerial selection (Gupta & Govindarajan, 1984a) or control sys-tems design (Govindarajan & Gupta, 1985). This study took an integratedlook at important elements of all three key administrative mechanisms: or-ganizational structure, control systems, and managers. Second, prior studieshave examined the need to tie administrative mechanisms to the mission of abusiness unit, usually expressed in terms of building, holding, or harvestingmarket share. This study examined the implications of matching administra-tive mechanisms to the competitive strategy being followed by a businessunit. Finally, unlike prior studies that have exclusively used bivariateanalyses, this study also included multivariate analyses that examined thejoint linkage between the three administrative mechanisms and strategy.

CHARACTERIZING COMPETITIVE STRATEGYAND ADMINISTRATIVE MECHANISMSCompetitive Strategy

This study used Porter's (1980) strategy framework, since that conceptu-alization is academically well accepted and internally consistent (Dess &Davis, 1984; Hambrick, 1983). Porter (1980, 1985) identified two genericways in which an SBU can gain a sustainable competitive advantage overother firms in its industry: low cost and differentiation. A low-coststrategy emphasizes the need to incur the lowest costs in an industry; Com-modore exemplifies this strategy in business machines. This strategy requiresaggressive construction of efficient-scale facilities, vigorous pursuit of costreductions from experience, tight cost and overhead control, avoidance ofmarginal customer accounts and cost minimization in area like R&D, service,sales force, advertising, and so on (Porter, 1980: 35). In a differentiationstrategy, a firm seeks to be unique in its industry along dimensions that arewidely valued by buyers; Mercedes exemplifies this strategy in automobiles.Under this strategy, a firm selects one or more attributes that many buyersin an industry perceive as important, and uniquely positions itself to meetthose needs. It is rewarded for its uniqueness with a premium price (Porter,1985: 14).The fact that an SBU is pursuing a low-cost strategy does not imply thatit can ignore quality, service, features, or other bases for differentiation.Similarly, an SBU pursuing a differentiation strategy cannot ignore costs. I'oquote Porter: [A strategy of differentiation] does not allow the firm to ignorecosts, but rather they are not the primary strategic target (1980: 37) and [Astrategy of low cost implies that] low cost relative to competitors becomesthe running theme through the entire strategy, though quality, service, andother areas cannot be ignored (1980: 35). Thus, following Porter, I measuredcompetitive strategy in terms of SBUs' intended trade-offs between becom-ing the cost leader and achieving differentiation.



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1988 Govindarajun 831Administrative Mechanisms

Budget evaluative style. The focus on budget evaluative style is highlyrelevant, given the central place performance evaluation systems occupy inthe accounting and control literature (Govindarajan, 1984; Hayes, 1977; Hirst,1983; Hopwood, 1972; Otley, 1978). SBU general managers' performance canbe evaluated on the basis of several types of data, both quantitative andqualitative. This study focused on the role played by one such type of data-the profit budget. A profit budget represents the annual profit goals (salesrevenues less expenses) of an SBU expressed in monetary terms. FollowingOtley (1978), 1viewed budget evaluative style as a continuous variable whosevalues depend on the amount of emphasis that meeting budgetary goalsreceives during the ongoing process of evaluating the performance of anSBtJ's general manager. At one end of the spectrum are situations in whichbudgetary information plays a relatively unimportant part in a superior'sevaluation of an SBU general manager's performance. At the other end aresituations in which an SBU general manager's performance is primarilyevaluated on the basis of ability to continually meet the budget and in whichthe manager receives an unfavorable performance evaluation if unfavorablebudget variances occur, regardless of any mitigating circumstances.Decentralizatlon. Previous research supports the choice of decentraliza-tion as an important structural mechanism to facilitate effective strategyimplementation (Chandler, 1962; Rumelt, 1974; Vancil, 1980). FollowingFord and Slocum (1977), I viewed decentralization as the amount of decision-making authority that is delegated to an SBU's general manager by corporatesuperiors. Decentralization between a corporate office and general managerwas considered, but decentralization within an SBU was not considered.Locus of control. Prior research suggests that the association between ageneral manager's locus of control and strategy holds much promise forexplaining organizational performance (Miller et al., 1982; Miller &Toulouse,1986). The underlying concept, that of internal versus external control ofreinforcement, has evolved out of social learning theory (Rotter, 1966). Inter-nal control refers to an individual's perceiving events, whether positive ornegative, as a consequence of his or her own actions and thereby as poten-tially under personal control. External control refers to perceiving positiveand negative events as unrelated to personal behavior and therefore beyondpersonal control.

THEORETICAL BACKGROUND AND HYPOTHESESRelating Competitive Strategy to Uncertainty

Govindarajan (1986b) and Gupta (1987) supplied the following theoreti-cal arguments in support of the position that the choice of a differentiationstrategy rather than a low-cost strategy would increase uncertainty in anSBU's task environment. First, product innovation is likely to be more criti-cal for SBUs employing a differentiation strategy than for those employing alow-cost strategy (Dess &Davis, 1984; Hambrick, 1983; Porter, 1980). That is



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832 Academy of Management Journal Decemberpartly because a low-cost SBU, with its primary emphasis on cost reduction,prefers to keep its product offerings stable over time, whereas a differentia-tion SBU, with its primary focus on uniqueness and exclusivity, is likely toengage in product innovation. As Biggadike (1979) found, an SBU with astrong emphasis on new product activities will face high uncertainty since itis betting on products that have not yet crystalized.Second, SBUs employing a low-cost strategy typically tend to have nar-row product lines in order to minimize inventory carrying costs as well as tobenefit from scale economies (Gupta, 1987; Hambrick, 1983; Porter, 1985).On the other hand, SBUs employing differentiation tend to have a broad setof products in order to create uniqueness (Hambrick, 1983; Gupta, 1987).Previous researchers have argued that product breadth is associated with highenvironmental complexity and, consequently, with uncertainty (Chandler,1962; Gupta, 1987).Budget Evaluative Style

The greater the uncertainty, the more difficult it is for superiors to regardtheir subordinates' budget targets as firm commitments and consider unfavor-able budget variances as clear indicators of poor performance (Govindarajan,1984; Hayes, 1977; Hirst, 1983; Keeley, 1977). There are several reasons: (1)To arrive at a priori budget targets that can serve as valid standards forsubsequent performance appraisal, an individual must be able to predict theconditions that will exist during a coming year. It is possible to predict thoseconditions more accurately under stable environmental conditions than un-der uncertain environmental conditions (Galbraith, 1977: 36). Thus, givenhigh uncertainty, managers are likely to be motivated and might react indysfunctional ways when forced to meet budgetary goals. (2) Efficiency re-fers to amount of input per unit of output (Anthony, Dearden, & Bedford,1984). An evaluation of managerial efficiency using a budget would, therefore,depend on a detailed knowledge of outcomes associated with given manage-rial actions or, in other words, knowledge of cause-effect relationships.Thompson (1967) argued that complete knowledge of cause-effect relation-ships exists under stable conditions and incomplete knowledge exists underuncertain conditions. (3) The emphasis of a budget is on outcome rather thanon process. Managers may have control over their actions but not over thecircumstances that combine with their actions to result in outcomes. In asituation with high uncertainty, budget information alone would not,therefore, adequately reflect managerial performance.The link between budget evaluative style and uncertainty, in the contextof the link between uncertainty and competitive strategy, led to the follow-ing hypothesis:

Hypothesis 1: For SBUs employing a strategy of differen-tiation, deemphasizing budgetary goals during perfor-mance evaluations is likely to be associated with highSBU effectiveness. For SBUs employing a strategy of lowcost, emphasizing budgetary goals during performance



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1988 Govindarajan 833evaluations is likely to be associated with high SBUeffectiveness.

The following additionalarguments,not related to uncertainty,also sup-port Hypothesis 1: (1) Most of the factors that make an SBU pursuing astrategyof differentiation successful cannot be fully captured by a budget.Such factors are generally difficult to quantify in any type of meaningful waybecause their benefits are not only difficult of quantify,but often even diffi-cult to identify. For example, many SBUs pursuing differentiationare verysuccessful because they are known for producing the highest-quality prod-ucts available. Certainly the costs requiredto achieve such a level of qualitycan be determined. However, the benefits that accrue to an SBU because ofits reputation are difficult to measure, except to say that without its qualityimage, the SBU would probably not be enjoying a position of profitabilityand growth.Brand image and rapid delivery would also fall in this category.(2) Amounts spent on differentiatingfactors (advertising,high quality, fastdelivery,product R&D, tc.) have generallybeen categorizedas discretionaryexpenditures and are usually the first victims of cost-cutting measures. Totightly hold an SBU managerto budgetarygoals is to place such factors atrisk (Hayes&Abernathy,1980; Richardson&Gordon,1980;Sata &Maidique,1980). (3) Low-cost SBUs generally have lower margins than differentiationSBUs and make their profit on volume ratherthan on high profit margins.Those conditions imply that low-cost producers have very little room forerror.Managersof such SBUs must, therefore,be encouragedto meet theirbudgets.Decentralization

Prior research has found that high decentralization is an appropriateresponse to increased uncertainty (Burns &Stalker, 1961; Galbraith,1973;Govindarajan,1986a; Lawrence &Lorsch, 1967; Tushman &Nadler, 1978).According to that line of research, as a task environment becomes moreuncertain,there will be need for more information.Centralization s possibleat low levels of uncertaintybecause the informationprocessed does not over-burdenan organization'shierarchy.However,as uncertainty increases,moreexceptions arise that must be referred upward in the hierarchy. As moreexceptions are referredupward, the hierarchybecomes overloaded. Seriousdelays develop between the upward transmission of information about newsituationsand a response to that informationdownward.An effective way todeal with such a situation is to move the level of decision makingto whereinformationexists ratherthan to bringit upwardin the hierarchy, suggestingdecentralizationin decision making as a response to increased uncertainty.Thus,

Hypothesis 2: For SBUs employing a strategy of differen-tiation, increase in decentralization is likely to be associ-ated with high SBU effectiveness. For SBUs employing astrategy of low cost, increase in centralization is likely tobe associated with high SBU effectiveness.



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834 Academy of Management Journal DecemberThe following argument, not rooted in uncertainty, provides additionalsupport for Hypothesis 2. Gupta and Govindarajan (1986b) found that inter-dependence with other business units was more beneficial for a low-cost

SBU than for a differentiation SBU, since sharing activities helps to mini-mize overall cost, which is more critical for a low-cost unit. Prior researchhas concluded that with high degrees of interdependence, centralized deci-sion making improves performance because the effects that one manager'sdecisions have on the performance of other units lead to the need for effec-tive coordination and joint problem solving (Lorsch &Allen 1973; Thompson,1967; Vancil, 1980).Locus of Control

Results from two groups of studies have led to the conclusion that peo-ple with an internal locus of control perform better than those with anexternal locus of control under conditions of high uncertainty. The firstgroup of studies deals with an individual's ability to acquire and useinformation. In particular, they have found that (1) people with an internallocus seek task-relevant information more actively than those with an exter-nal locus (Davis & Phares, 1967; Organ &Greene, 1974; Pines &Julian, 1972)and (2) the first group is more efficient in the utilization of information thanthe second (Phares, 1968; Spector, 1982; Wolk & DuCette, 1974). The logicbehind the greater information processing capability of people with an inter-nal locus is based on the presumed construct properties of the internal-external dimension. People with an internal locus, having a high generalizedexpectancy that rewards are a function of their own efforts, should seektask-related information actively and use that information well, since theyare likely to see acquisition and utilization of relevant information as apathway toward reinforcement. People with an external locus, on the otherhand, possessing the generalized expectancy that their own efforts are notcrucial in attaining rewards, would not actively seek and use information.Galbraith (1973) argued that the greater the uncertainty, the greaterthe amountof information that has be be processed. Thus, individuals with an internallocus can be expected to deal with uncertainty more effectively than thosewith an external locus.The second group of studies (Anderson, Hellriegel, & Slocum, 1977;Gore &Rotter, 1963; Mitchell, Smyser, &Weed, 1975) addresses the relation-ship between uncertainty and locus of control more directly by providingevidence that those with an internal locus of control adapt to environmentalchanges better than those with an external locus. Thus,

Hypothesis 3: For SBUs employing a strategy of differen-tiation, greater internal locus of control on the part of anSBU general manager is likely to be associated with highSBU effectiveness. For SBUs employing a strategy of lowcost, greater external locus of control on the part of anSBU general manager is likely to be associated with highSBU effectiveness.



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1988 Govindarajan 835Systems Approach to Fit

The first three hypotheses are of the bivariate interaction type. That is,each focuses on the relationship between competitive strategy and one spe-cific administrative mechanism and their interactive effects on performance.In addition to such bivariate analyses, multivariate analyses that examinethe joint linkage between administrative mechanisms and strategy are useful.I chose to use bivariate as well as systemic interactions since, as Drazin andVan de Ven (1985) argued, those two approaches provide both unique andcomplementary information. Exclusive reliance on either approach is likelyto result in loss of information.Given the theoretical arguments advanced in support of Hypotheses 1,2,and 3, it follows logically that if an SBU has appropriately matched all threeadministrative mechanisms simultaneously to its strategy, it will operate athigher levels of effectiveness than otherwise. The following hypothesis cap-tures this systems approach to fit.

Hypothesis 4: An appropriate match of all three key admin-istrative mechanisms (budget evaluative style, decentrali-zation, and locus of control) with strategy will be associ-ated with high SBU effectiveness. A mismatch will beassociated with low effectiveness.Figure 1 summarizes the nature and form of the four contingency hypothe-ses tested in this study. Previous studies have indicated that differences inperformance are associated with differences in subunit size (Cummins &King, 1973) as well as with differences in firm size (Weiner & Mahoney,1981). Thus, I tested all hypotheses after controlling for the confoundingeffects of firm and SBU size on performance.

FIGURE 1Contingency Hypotheses TestedApproach Nature of Relationship Hypothesized Form of the Hypotheses

One administrative mechanism Hypotheses 1, 2, and 3 focus onthe relationship between com-Bivariate petitive strategy arid one specificinteraction SBU performance administrative Imnechanismapproach (budget evaluative style, decen-tralization, or locus of control)and their interactive effects on

SBU competitive strategy performance.Multiple administrative mechanisms Hypothesis 4 argues that perfor-mance is a function of the inter-

Systems action between competitiveapproach- SBU performance strategy and the system ofto fit multiple administrative mecha-nisms (budget evaluative style,decentralization, and locus ofSBU competitive strategy control).



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836 Academy of Management Journal DecemberMETHODS

Data were collected from SBU general managers and their superiors at 24firms on the Fortune 500 list (sales range: $450 million to $37 billion). Thefirms represented both growing and mature industries, including theautomotive, petroleum, food products, chemical production, aerospace,electronics, consumer durables, clothing manufacture and retail, and vari-ous consumer nondurables industries.A questionnaire was the principal means of data collection. The question-naire was developed and refined on the basis of several sources; (1) fieldinterviews with corporate-level executives in 14 Fortune 500 firms (none ofwhich were included in the final study) to identify the salient issues, (2)review of previous research to locate questionnaire instruments appropriatefor this study, (3) discussions of the preliminary drafts of the questionnairewith scholars, to assess content validity, and (4) pretesting the questionnairewith ten SBU managers for clarity and relevance.The chief executive officer of each of the 24 firms designated a contactperson1 who selected about six SBUs for participation in the study andensured that a mix of SBU strategies was represented and that each SBU'sgeneral manager had held that position for at least one year. Cover lettersfrom me and from the contact executives were sent explaining the purpose ofthe study and assuring confidentiality. Respondents received return enve-lopes with which to send the completed questionnaires directly back to me,in order to minimize response bias. Of the 145 SBU general managers whoreceived questionnaires, 134 (93%) responded, of which 121 (84%) caseswere usable (SBUs per firm = 2 - 8). On the average, the respondents were 50years old, had worked for their present employers for 18 years, and had heldtheir present position for 6 years.Out of the 121 usable responses, the contact executives provided thenames of SBU general managers' superiors for 88 SBUs. I mailed a secondquestionnaire, a cover letter ensuring confidentiality, and a preaddressedstamped envelope to those individuals. A total of 75 superiors returned thequestionnaires for a response rate of 85 percent. SBU general managers'responses were used in data analysis, whereas their superiors' responseswere primarily used for testing the validity of the measured variables.Measurements

The Appendix describes the scales and response formats for the vari-ables measured. Table 1 contains summary statistics as well as the matrix ofzero-order correlation coefficients for all variables.SBU effectiveness. This variable was measured using the instrumentdeveloped by Gupta and Govindarajan (1984a,b; 1988b). They measuredSBU effectiveness along a multiplicity of dimensions rather than on anysingle dimension and, in arriving at a measure of overall effectiveness, usedthe degrees of importance of each dimension for an SBU as weights. Further,

1 The contact executives did not serve as respondents.



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1988 Govindarajan 837

TABLE1

Response

StructureofAll

Variables

Zero-Order

Correlation

Coefficientsa

Correlations

Between

Superiors'

Variables

Meanss.d.

1

2

3

4

5

6

and

Subordinates'

Responsesb

Alpha

1.

Effectiveness

4.701.03

.60***

.81

2.

Competitive

strategyc

4.630.79

.17

.71***

.68

3.

Locusof

control

18.283.98

.02

-.23**

.69

4.

Budget

evaluativestyle

2.890.91

.12

.10

-.02

.41***

5.

Decentralization

5.870.93

.15

.13*

-.01

-.09

.85

6.

Company

7.521.13

.15

-.22**

.03

-.04

-.18

7.SBUsize

6.511.45

.21*

-.03

-.07

-.01

-.02

.50***

aN=121.

b

Correlations

between

superiors'and

subordinates'

responsesontheten

individual

performance

dimensionswere

positiveand

significant

for(1)the

effectiveness

ratings,(2)forthemostpart,the

criterion

weights,and(3)

effectiveness

ratings

multipliedby

criterion

weights.N=75.

cHigh=

differentiation

strategy;low=

low-cost

strategy.

*p

a contingency approach to strategy

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