Is organisational inertia in SMEs resolved by better management

while the incompetent get weeded out?

Stephen Herman23rd January 2013

Adaptation v selectionSummary of the debate-1

• For the strategy school (Cyert and March, 1963; Child, 1972; Chandler, 1977; Pfeffer and Salancik,1978; Miles and Snow, 1978; Porter, 1980, Levinthal, 1991) , organisational inertia is a management problem that, though not easy to solve, does get resolved by better managers, while incompetent management gets weeded out

Adaptation v selectionSummary of the debate-2

• In the organisational ecology paradigm,(Hannan and Freeman 1977, 1984, 1989), firms fail not because of bad management but because the effort to overcome inertia involves trade-offs to the key survivability markers of accountability and reliability such that better management cannot actually deal with the structural problem

Neoclassical economics

• The neoclassical view of firm survival and industrial change is the survival of the fittest leading to equilibrium market outcomes (Friedman, 1953)

• The focus is on market structure as a proxy for the degree of competition, with whatever is inside the ‘black box’ of the firm as a side issue

Organisation science v. organisational ecology

• The conversation between organisation science and organisational ecology is sparse because:

• Differences in theoretical and empirical approaches

• Use of different datasets and firm sizes• The differences in granularity make it hard for

strategists to see the relevance of organisational ecology to their work if there is no role for management choice

Adaptation v selectionEvolutionary perspective

• Adaptation and selection are neither opposite processes nor are they mutually exclusive

• Adaptation is an essential an unavoidable part of any relevant evolutionary process

• Any evolutionary process that involves selection must also involve adaptation as well and adaptation matters with regard to selection

Does it matter?

• Government policy is focused on high-growth firms

• Evolutionary economics, encompassing both adaptability and inertia, can shed further light on the issues

• Methodology – large-scale cross industry study

• SMEs are not adequately studied

Why SMEs?• UK economy has 4.3 million businesses, of

which:• 1.2 million have employees• only 26,000 (0.6 per cent) were classified as

medium-sized (50–249 employees)• only 6,000 (0.1 per cent) were classified as

large (250+ employees).• 99.3 per cent were small (0–49 employees)

Agenda• Look at the issues of adaptability and survival from an

evolutionary perspective

• Present recent research findings on the adaptability/inertia/survival nexus as it relates to the SME market

• Challenge any exclusive role of selection in explaining industry attributes. Even if selection generates larger industry-level outcomes, adaptability is still important

• In a sharp recession, however, only the firms with more potential to adapt their output have an advantage relative to their rivals that can confer relatively greater longevity and survivability

Terms – 1

• Adaptation - some structure or behaviour that makes it more likely a firm will survive in its environment(Maynard-Smith,1976) . A firm that is adapted displays fit with the demands of its environment (Toulmin,1981)

• Adaptability - the potential to adjust to changing circumstances in a way that is relevant. Adaptability is about the capacity to respond to changes in the selection environment

Terms - 2

• Stability - the state or quality of being stable, with the strength to stand without being moved or overthrown

• Inertia - the inability to move or, more weakly, an inability to shift from current momentum

Terms-3

• Routines - dispositions or capacities that shape the way various overlapping cohorts within the firm actually proceed in response to a series of signals to act, rather than actual processes (Hodgson, 2004, 2007)

• Organisational adaptability is then specifically defined as: – the capacity of an organisation to change its strategies,

structures, procedures or other core attributes, in anticipation of, or in response to, a change in its environment, including changes in relations with other organisations

Evolutionary economics -1• Darwinian notions of evolution and ideas of non-equilibrium through

inheritance, variation and selection

• More generally, variation and selection act on different entities, variation on the replicator (genotype/‘routines’) and selection on the interactor (phenotype/the firm). If the entity or organism survives to reproduce, the process restarts

• Evolutionary economics assumes that the adaptability of firms can be a positive source of increased survivorship

• At the same time, evolutionary economics also acknowledges stability and inertia as an integral part of the story (Simon, 1955; Nelson and Winter, 1982)

• Routines generate both adaptability and inertia and both contribute to the mechanisms of selection and retention (Hodgson, 2007)

Evo-devo

• Evo-devo - the argument that both evolutionary (evo) and developmental (devo) process are likely to be equally fundamental to understanding change in a broad range of complex systems

• Variation in genes may also arise by mutation-driven changes in gene regulation (Goodman and Cochlin, 2000)

• New features of organisms are made and run by various ‘core processes’ but used in different combinations at different times and to different extents of their output, just as a box of Lego can create a variety of different results (Gerhart and Kirschner,2007)

Evolutionary economics - 2• Selection operates on firms, which are themselves the result of

the development of progressively expressed routine behaviours over the lifetime of the firm

• The ‘routines within a firm’ framework (the replicator-interactor nexus) shows both competitive selection and developmental adaptability combining to explain industrial change

• Given that Darwinian evolution is all about populations of entities rather than the study of single developing entities, then the replicator and interactor concepts provide a good link for understanding the development of both individual entities and the evolution of whole populations (Hodgson and Knudsen, 2007, 2010)

Lamarckian’ adaptability and ‘Darwinian’ selection.

• Darwinism is a causal theory of evolution that requires the inheritance of genetic guidelines, variation of those genotypes (replicators/routines) and the subsequent selection of the resulting phenotype (interactor/firm)

• Lamarckism is the inheritance within the genome of characteristics acquired by the phenotype/firm interacting with its environment. Lamarckism proposes that physical changes lead to changes in the genetic coding and that these changes are inherited

• Organisational scientists expresses the ability of firms to change both their routines and structures so as to avoid being selected out, whereas organisational organisational ecologists insist that most firms have a negligible zone of strategic discretion to avoid being selected out

• Lamarckian inheritance, within a Darwinian framework, implies that some development in a phenotype impacts on its own genotype in some epigenetic fashion

Methodology• Concentration on the four constituent areas of any firm: sales and marketing,

production, administration and human resources, and corporate strategy

• Examined not the quantities of operation in routines but the levels of adaptability firms perceive they actually achieve or believe they would experience in the face of both continuous and discontinuous internal and external change

• The adaptability instrument is the composite measure of the potential to adapt routines across the four constituent areas, capturing a picture of the interactions between the strategies, structures and procedures within the firm

• A relatively large sample of observations of a representative set of small and

medium-sized enterprises (909)

• Re-sample respondents in the depths of recession 18 months on to look at the relationship between previously calculated adaptability and the subsequent degree of survival

Results - 1• Older firms more adaptable than younger• No relationship between adaptability and

revenues, profits and employees• Higher congruence of routines associated with

higher adaptability• No relationship between adaptability and

levels of formal procedures• Higher adaptability associated with

implementation of innovation

Results - 2

• Higher adaptability associated with flexibility of senior team and willingness to use external consultants

• Adaptability not associated with number of new managers in last 5 years

• No relationship with competitive advantage• No relationship between adaptability and

dynamic or price competition

Recession survey results -1

• Survivability not related to overall adaptability

• Survivability associated with adaptability in production

• Survivability related to % change in revenues

• Survivability not related to % change in profits

Survey of those gone out of business

• Fatal hazard of a rapid and significant loss in revenues for whatever reason in firms that were unable to adjust their cost of sales and/or had relatively high fixed costs to variable costs

• Flexibility in managing output more important than attempting ambidextrous strategies?

• Not cash flow problem initially caused by withdrawal of banking facilities. This followed as a result of a significantly reduced trading position and the likelihood firm it would not survive in the short or medium term

• There were also no reports that bad debts or late payments by customers caused problems and there were no significant non-financial effects contributing to business failure, other than the unhelpful fall in the value of sterling for importers

Conclusions - 1

• Both competitive selection and developmental adaptability combine to explain industrial change and differences in adaptability between firms are of significance. Routines can be observed and measured even when defined as behavioural tendencies

• In a sharp recession, only those with more adaptability in outputs have an advantage relative to their rivals that can confer relatively greater longevity and survivability. At the population level, the effects of structural inertia that hinder adaptation when the environment changes are magnified and the mollifying effects of adaptability are reduced

Conclusions - 2

• Merit in a different theoretical framework from textbook economics, strategy-choice theory and organisational ecology in which to view adaptability in the economic analysis of the firm

• This is one based on operationalising the context-specific mechanisms of evolutionary economics under the umbrella of Darwinian evolutionary principles

• Suggests further research that blends the abstract framework of evolutionary economics with an empirical look at the detailed processes of routines in real firms

Thank you

Discussion /Questions