MADM 760 SIA3 LSUS

Strategic Management: Theory and Practice

Strategic Control and Crisis Management

Contributors: By: John A. Parnell

Book Title: Strategic Management: Theory and Practice

Chapter Title: "Strategic Control and Crisis Management"

Pub. Date: 2014

Access Date: March 24, 2018

Publishing Company: SAGE Publications, Ltd

City: 55 City Road

Print ISBN: 9781452234984

Online ISBN: 9781506374598

DOI: http://dx.doi.org/10.4135/9781506374598.n12

Print pages: 326-352

©2014 SAGE Publications, Ltd. All Rights Reserved.

This PDF has been generated from SAGE Knowledge. Please note that the pagination of

the online version will vary from the pagination of the print book.

Strategic Control and Crisis Management

Chapter Outline

Step 1: The Focus of Strategic Control

Step 2: Strategic Control Standards (Benchmarks) Published Information for Strategic Control

Product/Service Quality

Innovation

Market Share and Relative Market Share

Steps 3 Through 5: Exerting Strategic Control Control Through the Formal and Informal Organizations

Crisis Management Prominent Crises in Recent History

Crisis Planning

Trends in Strategic Management

Summary

Key Terms

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Review Questions and Exercises

Practice Quiz

Student Study Site

Notes

The strategic management process is not complete when a strategy has been executed. It is also necessary to evaluate its success—or failure—and take steps to address any problems that may have arisen along the way. Strategic control consists of determining the extent to which the organization's strategies are successful in attaining its goals and objectives. The

execution process is tracked, and adjustments to the strategy are made as necessary.1. It is during the strategic control process that gaps between the intended and realized strategies (i.e., what was planned and what really happened) are identified and addressed. For example, Wal-Mart instituted strategic control when it cut back its plan for U.S. supercenter

expansion in the late 2000s following lower-than-expected global revenues.2.

The process of strategic control can be likened to that of steering a vehicle. After the strategy accelerator is pressed, the control function ensures that everything is moving in the right direction. When a simple steering adjustment is not sufficient to modify the course of the vehicle, the driver can resort to other means, such as applying the break or shifting gears. In a similar manner, strategic managers can steer the organization by instituting minor modifications or resort to more drastic changes, such as altering the strategic direction altogether.

The imperative for strategic control is brought about by two key factors, the first of which is the need to know how well the firm is performing. Without strategic control, there are no clear benchmarks and ultimately no reliable measurements of how the company is doing. A second key factor supporting the need for strategic control is organizational and environmental uncertainty. Because strategic managers are not always able to accurately forecast the future, strategic control serves as a means of accounting for last-minute changes during the implementation process. In addition, rivals may respond immediately to a change in strategy, requiring that managers consider additional modifications.

The focus of strategic control is both internal and external because it is top management's role to align the internal operations of the enterprise with its external environment. Relying on quantitative and qualitative performance measures, strategic control helps maintain proper alignment between the firm and its environment.

Although individual firms usually exert little or no influence over the external environment, macroenvironmental and industry forces must be continuously monitored because shifts can

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1.

2.

3.

4. 5.

greatly influence the firm. The purpose of monitoring the external environment is to determine whether the assumptions on which the strategy is based remain valid. In this context, strategic control consists of modifying the company's operations to more effectively defend itself against external threats that may arise or become known.

The notion of strategic control has recently gained a “continuous improvement” dimension, whereby strategic managers seek to improve the efficiency and effectiveness of all factors related to the strategy. In other words, control should not be seen as an action necessary only when performance declines. Rather, managers should think critically when considering strategic control and look for opportunities to enhance performance even with things seem to be going well.

Ultimately, strategic control can be exerted by the chief executive officer (CEO), the board of directors, or even individuals outside the top management team. The roles played by boards of directors, institutional investors, and shareholders who monitor firm strategies and often instigate control vary across firms. The influence of the board and others notwithstanding, ongoing strategic control is largely a function performed by the top management team. A five- step strategic control process can be employed to facilitate this process, as depicted in Figure 12.1:

Top management determines the focus of control by identifying internal factors that can serve as effective measures for the success or failure of a strategy, as well as outside factors that could trigger responses from the organization. Standards (i.e., benchmarks) are established for internal factors with which the actual performance of the organization can be compared after the strategy is implemented. Management measures, or evaluates, the company's actual performance both quantitatively and qualitatively. Performance evaluations are compared with the previously established standards. If performance meets or exceeds the standards, corrective action is usually not necessary. If performance falls below the standard, then management usually takes remedial action.

Step 1: The Focus of Strategic Control

The first step of the strategic control process is to determine the focus of the control. It is important to align the focus with the ongoing strategy to be assessed so that its success or failure can be evaluated accordingly. For example, executives in a firm emphasizing innovation may wish to focus on factors associated with research and development (R & D) and new product development. In contrast, strategic managers in a firm emphasizing cost containment might focus on factors associated with efficiency and production processes. Specifically, if the firm seeks to be the industry's low-cost producer, for example, its managers must compare its production efficiency with those of competitors and determine the extent to which the firm is attaining its goal.

This step creates the context for strategic control by concentrating management effort on areas directly linked to strategic success.

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Figure 12.1 Five-Step Strategic Control Process

Step 2: Strategic Control Standards (Benchmarks)

The second step of the strategic control process is to identify specific strategic control standards directly linked to the strategy. Here, executives are clarifying the specific performance measures that will be employed to evaluate strategic success or failure. Firm performance may be evaluated in a number of ways. Management can compare current operating results with those from the preceding quarter or year. Profitability is the most commonly utilized performance measure and is therefore a popular means of gauging performance and exerting strategic control. A number of additional financial measures may also be helpful, including return on investment (ROI), return on assets (ROA), return on sales (ROS), and return on equity (ROE), and growth in revenues. A qualitative judgment may be made about factors such as changes in product or service quality.

A key problem with measuring performance is that one measure can be pursued to the detriment of another. The common goals of growth and profitability represent an example of this phenomenon. Many firms pursue growth by investing in R & D or new product development or by slashing prices to gain customers. Either approach tends to reduce profits

—at least in the short term.3.

While control standards should be established for the internal factors identified in the previous step, the focus should not consider past performance. Doing so can be myopic because it ignores important external variables. For example, a rise in ROA from 8% to 10% may appear to be a significant improvement, but this measure must be evaluated in the context of industry trends. In a depressed industry, a 10% ROA may be considered outstanding, but that same return in a growth industry may be disappointing if the leading

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firms earn 20%. In addition, an increase in a company's ROA is less encouraging if performance continues to lag behind industry standards.

Often, strategic control standards are based on competitive benchmarking—the process of measuring a firm's performance against that of the top performers, usually in the same industry. After determining the appropriate benchmarks, a firm's managers set goals to meet or exceed them. Best practices—processes or activities that have been successful in other firms— may be adopted as a means of improving performance.

Strategic control should occur constantly at various organizational levels and within various functions of the organization. Realistic performance targets, or benchmarks, should be established for managers throughout the organization, and they should also be specific. For example, if market share is identified as a key indicator of the success or failure of a growth strategy, a specific market share should be identified, based on past performance and/or industry norms. Without specificity, it is difficult to assess the effectiveness of a strategy after it is implemented if clear targets are not identified in advance.

Control at the functional level may include factors such as the number of defects in production or composite scores on customer satisfaction surveys. Like organization-wide benchmarks, functional targets should also be specific, such as “3 defective products per 1,000 produced” or “97% customer satisfaction based on an existing survey instrument.”

Published Information for Strategic Control

Key information required to exert strategic control is not always readily available, but access has improved significantly in the past several decades. One of the first and best-known efforts to amass relevant data was known as the PIMS (profit impact of market strategy) program. PIMS is a database that contains quantitative and qualitative information on the performance of thousands of firms and more than 5,000 business units. The original PIMS survey involved about 3,000 business units in 200 firms between 1970 and 1983. Data collection continued after 1983, however, with about 4,000 businesses currently included. While PIMS continues to be recognized as a pioneering effort in strategic control, a variety of elaborate and targeted

databases have since emerged.4.

Fortune magazine annually publishes the most- and least-admired U.S. corporations with a n n u a l s a l e s o f a t l e a s t $ 5 0 0 m i l l i o n i n s u c h d i v e r s e i n d u s t r i e s a s e l e c t r o n i c s , pharmaceuticals, retailing, transportation, banking, insurance, metals, food, motor vehicles, and utilities. Corporate dimensions are evaluated along factors such as quality of products and services, innovation, quality of management, market share, financial returns and stability, social responsibility, and human resource management effectiveness. Publications such as Forbes, Industry Week, Business Week, and the Industry Standard also provide performance scorecards based on similar criteria. Although such lists generally include only large, publicly traded companies, they can offer high-quality strategic information at minimal cost to the strategic managers of all firms, regardless of size. Published information on three measures— (1) quality, (2) innovation, and (3) market share—can be particularly useful measures, and are discussed later in the chapter.

Product/Service Quality

Over the years, there has been a positive relationship between product/service quality—

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including both the conformance of a product or service to internal standards and the ultimate consumer's perception of quality—and the financial performance of those firms. Conforming to internal quality standards alone is not sufficient. Products and services must also meet the

expectations of users, including both objective and subjective measures.5.

Fortune assesses quality by asking executives, outside directors, and financial analysts to

judge outputs of the largest firms in the United States.6. Its studies consistently demonstrate a significant relationship between product/service quality and firm performance. Although the PIMS program assesses quality through judgments made by both managers and customers instead of asking executives and analysts, its findings also support a strong positive

correlation between product quality and business performance.7.

Consumer Reports is also an excellent source of product quality data, evaluating hundreds of products from cars to medications each year. Because Consumer Reports accepts no advertising, its evaluations are relatively bias free, rendering it an excellent source of product quality information for competing businesses. Even if the products of a particular business are not evaluated by this publication, that company can still gain insight on the quality of products and services produced by its competitors, suppliers, and buyers.

Specific published information may also exist for select industries. One of the best known is the “Customer Satisfaction Index” released annually by J. D. Power for the automobile industry. A survey of new car owners each year examines such variables as satisfaction with various aspects of vehicle performance; problems reported during the first 90 days of ownership; ratings of dealer service quality; and ratings of the sales, delivery, and condition of

new vehicles.8. Numerous Internet sites offer quality ratings associated with a number of industries for everything from computers to university professors.

Business publications often provide detailed assessments of firms in travel-related industries. For example, in early 2011, the Financial Times conducted an in-depth analysis of air travel worldwide, including information on fatal accidents in the 25 largest airlines, fatalities in

various parts of the world, and airlines banned for safety concerns.9. Reports such as these are not only valuable to business travelers, but executives in the industry can often use them as a means of evaluating firm performance.

Broadly speaking, the Internet serves as an excellent resource for strategic managers seeking quality assessments for its industry. For example, a number of sites (e.g., www.dealtime.com) provide consumer ratings of vendors. Although such information is not always reliable, feedback forums can provide strategic managers with valuable insight into the quality perceptions of their customers. Even Amazon.com ranks all books on sales volume and provides opportunities for readers to post comments to prospective buyers.

Innovation

Innovation is a complex process and is conceptualized, measured, and controlled through a variety of means. Some researchers use expenditures for product research and development

and process R & D as a surrogate measure.10. Expenditures on developing new or improved products and processes also tend to increase the level of innovation, a finding also supported

by PIMS data.11. However, it should not be assumed that all innovation-related expenditures yield the same payback.

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Some firms plan and control their programs for innovation very carefully. 3M, for instance, has established a standard that 25% of each business unit's sales should come from products introduced to the market within the past 5 years. Not surprisingly, 3M invests about twice as

much of its sales revenue in R & D as its competitors.12. This approach is consistent with 3M's differentiation and prospector orientation at the business level.

Market Share and Relative Market Share

Market share is a common measure of performance for a firm. As market share increases, control over the external environment, economies of scale, and profitability are all likely to be enhanced. In large firms, market share often plays an important role in managerial performance evaluations at all levels in the organization. Because market share gains ultimately depend on other strategic variables, such as consumer tastes, product quality, innovation, and pricing strategies, changes in relative market share may serve as a strategic control gauge for both internal and external factors. As discussed in Chapter 2, a firm's relative market share is its proportion of total revenues when only a select group of rivals are considered.

For successful smaller businesses, market share may serve as a strategic control barometer because some businesses may strategically plan to maintain a low market share. In this event, the strategic control of market share emphasizes variables that are not targeted at growth and includes tactics that encourage high prices and discourage price discounts. Limiting the number of product/markets in which the company competes also serves to limit small market share. A small market share combined with operations in limited product/markets may allow a company to compete in domains where its larger rivals cannot. Hence, for some companies, emphasizing increases in relative market share can trigger increases in cost or

declines in quality and can actually be counterproductive.13.

Steps 3 through 5: Exerting Strategic Control

Exerting strategic control requires that performance be measured (Step 3), compared with previously established standards (Step 4), and followed by corrective action (Step 5), if necessary. Corrective action should be taken at all levels if actual performance is less than the standard that has been established unless extraordinary causes of the discrepancy can be identified, such as a halt in production when a fire shuts down a critical supplier. It is most desirable for strategic managers to consider and anticipate possible corrective measures before a strategy is implemented whenever possible.

Top managers should monitor the price of the company's stock as relative price fluctuations suggest how investors value the performance of the firm. A sudden drop in price makes the firm a more attractive takeover target whereas sharp increases may mean that an investor or group of investors is accumulating large blocks of stock to engineer a takeover or a change in top management.

Organizational comparisons with rivals are a key basis for exerting strategic control. For example, the collective market share for cable television providers consistently declined throughout the 1990s. A number of cable customers switched to less expensive satellite providers such as DIRECTV and Dish Network. By the early 2000s, cable's competitive advantage of simplicity and complete local network programming had eroded as Dish Network

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and DIRECTV began to offer small, easy-to-install, discreet satellite dishes, including local networks as part of the service plan. As a result, a number of cable companies began cutting

rates in the early 2000s in an effort to regain lost market share.14. Today, competition between satellite television providers and cable firms remains intense.

Because individual measures of performance can provide a limited snapshot of the firm, a number of companies have begun using a balanced scorecard approach to measuring performance. When a balanced scorecard is used, performance measurement is not based on a single quantitative factor but on an array of quantitative and qualitative factors, such as

ROA, market share, customer loyalty and satisfaction, speed, and innovation.15. The key to employing a balanced scorecard is to identify a combination of performance measures tailored specifically to the firm and its strategic objectives (see Table 12.1).

Implementing a balanced scorecard approach can be challenging, however. Although the measures are surrogates of performance, some managers might focus on individual measures at the expense of overall performance. For example, if a firm emphasizes market share as a key individual measure on the scorecard, its managers might attempt to meet this objective by rushing products to market or cutting prices excessively, activities that can undermine the long-term health and profitability of the firm. Nonetheless, this approach has helped a large

number of firms better understand performance issues.16.

Table 12.1 Balanced Scorecard Strategic Objectives and Measures

Strategic Objective

Examples of Strategic Measures

Cost Leadership Annual reductions in production costs

Innovation Percentage of revenues derived from products developed during the previous 5 years

Customer Service

Percentage of customers reporting satisfaction with a product or service

Firm Growth Market share in select industries

Product Quality Percentage of products returned by retailers or by consumers for warranty service

Financial Strength

Net income, profit margin, or return on assets (ROA)

Control through the Formal and Informal Organizations

Strategic control can occur directly through the formal organization or indirectly through the informal organization. The formal organization—the official structure of relationships and procedures used to manage organizational activity—can facilitate or impede a firm's success. When an organization's structure is no longer appropriate for its mission, strategic control can initiate a change. Top managers can exert formal control through such actions as modifying the structure or changing the reward system.

Popularity has increased for a means of exerting control through the formal organization called business process reengineering—the application of technology and creativity in an effort to eliminate unnecessary operations or drastically improve those that are not performing

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well. As such, companies sought to “eliminate any process that did not add value” to the organization's goods and services. For example, many consumer goods manufacturers during this period began to rethink their packaging operations, and many of them eliminated large, cumbersome boxes in favor of less costly shrink-wrapping. Some analysts have noted a

reemer-gence of this trend in the early 2000s.17.

In the 2000s, a number of organizations shifted from functional or product divisional structures to matrix structures and experienced considerable unanticipated difficulty. Substantial structural changes cannot be easily implemented and typically require a large amount of training and development. Strategic managers at many of these firms underestimated the complications associated with transforming their organizational structures into a more complex matrix structure.

Whereas the formal organization concerns the official structure, the informal organization refers to the norms, behaviors, and expectations that evolve when individuals and groups

come into contact with one another.18. The informal organization is dynamic and flexible and does not require managerial decree to change. Simply stated, informal relationships can promote or impede strategy implementation and can play a greater role than the formal organization. Strategic control through the informal organization often involves attempts to modify the organization's culture.

When top executives use the formal organization effectively, the informal organization tends to reinforce the formal organization and promote the same values. However, when the organization's value system is unclear or even contradictory, the informal organization will ultimately develop its own, more consistent set of values and rewards. For example, every organization claims to reward high job performance. However, when promotions and pay increases go to individuals who have the greatest seniority (regardless of their level of performance), employees will lose motivation and develop their own set of informal rules concerning what will and will not be rewarded.

Management must recognize its limitations concerning the informal organization. As stressed in Chapter 11, management can influence but cannot control the informal organization. An effective means of influencing the informal organization is to develop and promote a formal organization that is consistent with the core values of the firm. The informal organization becomes dysfunctional when it develops means to address inconsistencies in the formal organization.

T h e r e l a t i o n s h i p b e t w e e n t h e f o r m a l a n d i n f o r m a l o r g a n i z a t i o n s s h o u l d n o t b e underestimated. In general, any change in structure may also necessitate an appropriate modification in the organization's reward system so that the new forms of desired behavior will be properly rewarded. When management fails to align the formal organization's reward systems with new expectations, the informal organization typically changes to counterbalance

the inconsistencies19. (see Case Analysis 12.1).

Case Analysis 12.1 Step 24: How Should the Selected Alternative(s) be Controlled?

How can one know in 1, 3, 5, or 10 years if an alternative has been successfully implemented? What should be done if sales or profits do not increase as planned? To

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answer these questions, one needs to apply the five-step control process with as much specificity as possible.

First, identify what will be measured (i.e., how one will determine the extent to which the company is successful). Second, set the standards. For example, if ROA and “number of new profitable stores” are selected in Step 1, then one might identify 15% ROA and 22 stores per year as standards or targets.

Explain how the standards were developed. Consider the industry and past performance. If the industry mean for ROA is 15%, then 15% might be an appropriate target of performance for the company. The selected strategy can also be considered. If 110 additional retail locations are planned over the next 5 years, then 22 stores per year might be an appropriate target. It is important to clearly state how the standards were derived. Identifying numbers without a clear basis is not sufficient.

After performance is measured (Step 3) and compared to the standards (Step 4), corrective action may be taken (Step 5). In the context of a case analysis, it is not p o s s i b l e t o m e a s u r e p e r f o r m a n c e a f t e r t h e s t r a t e g i c r e c o m m e n d a t i o n s a r e implemented. Therefore, one should suggest alternative courses of action that might be taken if the standards are not reached. Considering the preceding example, what changes (if any) should be made if only 15 profitable stores are opened in the first 2 years or if ROA is only 8%? What changes (if any) should be made if the company reaches its target of 22 profitable stores but ROA falls to 2%? At what point (if any) should the company consider retreating from the recommended alternative(s)? It is critical to provide considerable detail to demonstrate that all prospective future outcomes have been considered when outlining the present course of action. Of course, it is important to exert strategic control and take corrective action whenever necessary, not just at the end of a specified term.

Crisis Management

On April 20, 2010, British Petroleum's (BP) offshore drilling rig known as the Deepwater Horizon exploded in the Gulf of Mexico, triggering the largest accidental marine oil spill in history. Eleven workers were killed, and 17 others were injured in the accident. The discharge of oil that stemmed from the sea floor gusher flowed for 3 months as politicians, local communities, and the general public chastised the firm for the mistakes that led to the catastrophe. From a strategic control perspective, one must consider the appropriate steps that BP could have taken to avoid such a crisis when possible and minimize the effects

should it occur.20.

Disasters such as these are not limited to large firms. Any organization can be faced with a crisis—any substantial disruption in operations that physically affects an organization, its

basic assumptions, or its core activities.21. Such crises can include any low-probability, high- impact event that threatens the livelihood of the organization. Crises are typically characterized by ambiguity of cause, effect, and means of resolution and a belief that the

organization must respond quickly.22.Crisis management refers to the process of planning for and implementing the response to a wide range of negative events that could severely affect an organization.

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One of the most prominent examples of a crisis in recent history is the terrorist attacks on 9/11

to New York City's World Trade Center and the U.S. Pentagon in Washington, D.C.23. For some organizations, the attack resulted not only in the tragic loss of a large number of

employees but also a loss of key facilities and data.24. Terrorism, however, represents only one form of crisis events.

A number of other potential organizational crises also warrant consideration, such as fires and other natural disasters, economic crises (e.g., extortion, boycotts, bribery), and political unrest

such as urban riots.25. Even bioterrorism—the use of biological agents for terrorist purposes —has become a major concern. One recent survey reported that approximately two-thirds of executives are not confident that their organizations would be safe in the event of a biological or chemical attack, even though 80% of the organizations in question have crisis management

plans in place.26.

Some potential crisis events are more likely than others in certain types of firms. Airlines, for example, may focus crisis preparations on prospective events such as spikes in fuel prices, crashes, and hijackings whereas a small hardware store may plan for events such as the abrupt loss of a key employee or a natural disaster. Simply stated, firms can and should prepare for the ones they are most likely to face.

For one smartphone producer, crisis preparation means reducing the likelihood of a service outage and minimizing the extent of an outage should one occur. In October 2011, Research in Motion (RIM), Ltd., experienced a crisis when BlackBerry users around the world experienced the worst outage in the company's history. Disruptions in e-mail, instant messaging, and web access affected a large percentage of the company's 70 million users. An RIM spokesperson reported that a technical glitch choked off data flow and that both active and backup hardware had failed. The problem lasted several days and occurred at a time when increased competition from Apple's iPhone and Google's Android was steadily

chipping away at BlackBerry's market share.27.

Crisis preparation is especially critical when a crisis can be avoided. For example, in September 2006, the Guangdong (China) Entry-Exit Inspection and Quarantine Bureau found one type of Procter & Gamble's (P&G) SK-II line of cosmetics tainted with low levels of chromium and neodymium. These metals can cause skin diseases and have been banned from cosmetics in a number of countries, including China. This situation presented a business problem—a potential crisis—for P&G. However, the company did not address the situation effectively. P&G initially refused to suspend sales of the SK-II line and hesitated to offer refunds to customers, doing so only after metals were discovered in more SK-II products. Angry consumers broke into a P&G office in Shanghai, and negative publicity in China was

widespread.28. The progression of these events caused this business problem to escalate into a crisis for the firm.

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Mock disaster training is common preparation in the airline industry as flight attendants train to evacuate passengers in the event of a fire or other emergency. Research suggests that prompt, clear, and accurate responses are critical. A 2008 analysis of 283 accidents worldwide with fatalities found that only 31% of passengers survived. On the US Airways Hudson River landing in 2009, only about 10 of the 150 passengers grabbed a life jacket before deplaning, and only about half took a seat cushion for flotation. Experts aim to improve the survival percentage by focusing on speed. Panicking, pushing, and even fighting often occur when lives are threatened. A study of 46 evacuations found that 29% of passengers involved reported seeing others being pushed or experiencing it themselves during the crisis. A passenger who hesitates to jump down a three-story evacuation slide often gets a push from

another passenger that can easily lead to broken ankles and other injuries.29.

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A more recent area of crises relates to “information age” activities, including computer system sabotage, copyright infringement, and counterfeiting. Criminals throughout the world can extort thousands of dollars from organizations fearful of a web crash. So-called cyber- blackmailers may have the ability to disrupt or even halt Internet activity associated with

certain sites.30. The effects of crises on an organization can vary widely around the world and can be especially traumatic in emerging nations where recovery can be more difficult and

costly.31.

Prominent Crises in Recent History

A number of large firms faced major crises during the past few decades. One of the most famous cases is the Johnson & Johnson (J&J) Tylenol crisis of 1982. A number of Tylenol Extra Strength capsules were laced with deadly cyanide in West Chicago, resulting in seven deaths. Rather than blaming retailers or other factors out of the firm's control, J&J CEO James Burke accepted full responsibility for the crisis. J&J launched an immediate campaign to retrieve all of its Tylenol capsules by offering unconditional refunds to consumers. Toll-free hotlines were established, and the company worked closely with public safety officials to investigate the cause of the problem. Although the capsules were not contaminated in J&J facilities, the firm suffered a drastic loss in consumer confidence and market share, with many analysts predicting the end of the Tylenol brand. Buoyed by its forthright and assertive response, however, J&J weathered the storm and returned to the market with caplets instead of capsules. Consumers were receptive to the firm's proactive approach and Tylenol soon regained its prominence. Even today, this case represents one of the best examples of what firms should do in the event of a crisis.

Shortly after the Tylenol crisis, Union Carbide suffered a setback of its own but did not manage it properly. In 1984, gas leaked from a methyl isocyanate tank at a Union Carbide plant in Bhopal, India, killing approximately 3,800 persons and totally or partially disabling about 2,700 more. It was later learned that the leak occurred when a disgruntled employee

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sought to spoil a batch of the chemical by adding water to the storage tank. The incident was reported to officials at company headquarters in the United States after a 12-hour delay, an event that sparked a widespread view that the firm was negligent and “covering up” details. India's Supreme Court later provided a $470 million settlement for victims and their

families.32.

In 1989, the Exxon Valdez tanker hit a reef in Prince William Sound, Alaska, spilling approximately 250,000 barrels of oil. Although there was no loss of human life, the loss of animal and bird life was extensive, and negative press was daunting. The company's untested crisis management plan said such a spill could be contained in 5 hours, but the plan was not implemented for 2 days. Exxon eventually spent about $2 billion to clean up the spill and

another $1 billion to settle claims associated with the disaster.33.

In 2003, The New Delhi Center for Science and Environment published a report asserting that local samples of Pepsi and Coke products contained pesticide residues at 30 times the acceptable limits in Europe. India's Parliament stopped serving the beverages, and Indian nationalist activists in Allahabad smashed bottles and vandalized the property of a Coke distributor. Daily sales dropped by about one-third in less than 2 weeks, further curtailing efforts by the soft drink giants to spawn consumption of a product in a country where the average resident consumes less than one soft drink per month. The soft drink giants

responded by questioning the methodology and credentials of the group's laboratory.34.

In 2004, McDonald's CEO Jim Cantalupo died suddenly from a heart attack. Less than 6 hours later, McDonald's board named president and chief operating officer (COO) Charlie Bell as his successor. The board had already intended for Bell to succeed Cantalupo at some point, but its quick, decisive action quelled many fears about the future of this leading fast- food chain. This response highlights the importance not only of planning for CEO succession but also of preparing for unexpected medical emergencies. Many experts suggest that boards

should always be prepared for an unexpected loss of the top two executives in their firms.35.

MSNBC and CBS faced a publicity crisis in 2007 when radio talk show host Don Imus made disparaging and racially insensitive comments about members of the Rutgers University women's basketball team. CBS initially suspended Imus from its radio program for 2 weeks, but MSNBC followed shortly thereafter by canceling its television simulcast of the program after firms began to pull their advertisements from the show and consumers threatened boycotts of other firms and the networks. CBS Radio fired Imus from the radio show several days later. The Imus incident could be seen as an extension of an ongoing broadcasting crisis for CBS, however. With Howard Stern's departure for Sirius Satellite Radio in 2005 and the growing popularity of SiriusXM talk show personalities like Andrew Wilkow and Mike Church,

CBS is struggling to retain market share in a fiercely competitive industry.36.

Matrixx Initiatives faced a serious crisis on June 16, 2009, when U.S. Food and Drug Administration (FDA) regulators recommended that consumers stop buying the company's homeopathic cold remedy Zicam because the product can cause a permanent loss of smell. Matrixx's acting president and COO William Hemelt defended Zicam's record and called the FDA's move unwarranted. Matrixx halted Zicam shipments immediately and provided refunds to any customers seeking one. Matrixx's stock declined 70% in value the day of the

announcement.37. Matrix introduced a reformulated Zicam remedy in 2010.

On March 11, 2011, an 8.9 magnitude earthquake and ensuing tsunami struck Japan. The

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island nation endured a death toll in the thousands and a grave threat from damage to its nuclear power facilities. In addition to the national crisis, organizations there faced their own calamities. Wal-Mart shifted into crisis mode when 24 of its 414 stores close to the epicenter were trashed as goods fell off the shelves during the temblor. Two locations of Seiyu stores suffered extensive damage, and about 2,000 employees were immediately unaccounted for. Consumers stripped shelves bare in Tokyo's undamaged stores. Seiyu's supply chain was

severely interrupted across the island.38.

Japanese automakers were also affected by the earthquake. Production facilities there hold little or no inventory because of the popular “just in time” philosophy in Japan. As a result, Toyota, Honda, and Nissan experienced immediate shortages of critical parts and implemented immediate shutdowns. Automakers based in other nations including General Motors (GM), Ford, and Volkswagen (VW) also experienced difficulties because of their

reliance on parts from throughout the world.39.

On May 20, 2011, an explosion at Hon Hai Precision Industry in Chengdu, China, killed 3 workers and injured 15 others. A metal polishing shop was improperly cleaned or ventilated: dust collected and ignited. The human toll of this crisis is tragic enough, but there is also a corporate side. The shop in China produces a number of high-tech products, including iPads. Apple offshores production to China in part because of lower wages and less restrictive government regulations. Critics charge that shop conditions were overcrowded and that workers travail long hours for marginal pay. Hon Hai leaders had increased worker wages and taken public steps to improve safety shortly before the accident, arguing that its production

facility is safe and working conditions are reasonable.40.

Crises in China have not been limited to Chinese firms. Wal-Mart was fined by Chinese regulators on four different occasions in 2011, including $78,000 for deceptive pricing; $53,000 for selling expired smoked duck; and $573,000 and temporary store closures for allegedly mislabeling ordinary pork as organic. Wal-Mart and French retailer Carrefour were fined a combined $1.5 million for deceptive pricing as well. In 2011, Wal-Mart operated about 350 stores in over 120 Chinese cities, accounting for about $8 billion in annual revenue, making it the second largest big-box retailer in the country. This string of political, regulatory, and public relations missteps has challenged the firm's ability to gain a stronghold in the country,

something foreign firms typically find difficult in China.41.

Netflix faced a crisis after a substantial price jolt resulted in a stronger and more negative consumer backlash than originally anticipated. During the summer of 2011, Netflix unbundled its popular $9.99-per-month unlimited plan that allowed customers to get DVDs through the mail and stream video over the Internet. Under the new plan launched in September 2011, customers were required to purchase the unlimited mail and Internet stream options individually at $7.99 per month, constituting a 60% price increase to those who opted for both services. By mid-September, the company had suffered a significant stock price decline and a loss of 19% of its customers, more than 16,000 of which had posted negative comments on the Netflix blog. Netflix had expected to retain 3 million DVD-only customers and 9.8 million

streaming-only customers but ended up with about 2.2 million and 9.6 million respectively.42.

Netflix CEO Reed Hastings defended the move, arguing that the company had to transition away from mail to Internet streaming, the latter offering greater efficiency and flexibility. Netflix expects its DVD business to remain viable only through the mid-2020s. Hastings apologized to his customers not for raising the price but for failing to explain the need to unbundle the

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services. Unfortunately his apology came 2 months after announcing the move and only after a large number of customer defections. Although Netflix recovered much of the lost revenue by early 2012—amassing 24.4 million subscribers compared to 24.6 million before the crisis—

the growth rate in subscriptions was much lower than the firm previously experienced.43.

The Netflix crisis was about more than price. By decoupling the mail and Internet stream options, customers of both were inconvenienced by being forced to access different websites. Netflix eventually dropped its plan to separate the mail and streaming video businesses but did not rescind the pricing decision. At the time of the price hike, Netflix offered about 20,000 titles in streaming format compared to about 100,000 in DVD. Moreover, many of the streaming titles are available elsewhere. Dish Network had acquired Blockbuster earlier in the

year and was close to introducing its streaming service.44. Hence, the pricing move will inevitably have a long-term influence on the organization. Whether this influence will have an eventual positive effect—as Hastings believes—remains to be seen.

How a firm responds to a crisis can ultimately determine its survival and long-term success. Following the devastation of New Orleans from Hurricane Katrina in 2005, for example, grocer Winn-Dixie contemplated closing shop in the area where it operates about 125 stores. Because Winn-Dixie was in Chapter 11 b a n k r u p t c y , t h e f i r m c o u l d e x i t w i t h f e w e r repercussions than other grocers would face because bankruptcy protection makes it easier to cancel costly store leases. CEO Peter Lynch saw it as an opportunity, however, choosing instead to use the millions of dollars the company would receive in insurance payments to rebuild the stores to be brighter and better stocked. Instead of departing the ravaged region,

Winn-Dixie is banking on New Orleans’ strong rebound.45.

Strategy at Work 12.1. Procter & Gamble's SK-II Crisis in China46.

Although successful in the West, P&G has been experiencing a number of problems in China. In May 2005, P&G negotiated a $24,000 settlement after a consumer spent 840 Yuan ($100) on De-Wrinkle Essence, a member of its SK-II product line. The product advertisement claimed the treatment would help eliminate 47% of the deep lines and wrinkles in the first month of usage. Lu Ping, the victim in this suit, claimed the product only caused a painful allergic reaction. P&G's claims were based on a study involving 200 Japanese women, a study challenged by the Nanchang Commercial and Industrial Bureau in Jiangxi.

In June 2005, the Zhejiang Provincial Industrial and Commercial Administration (ZPICA)-a local advertising standards agency in China-ordered P&G to remove an advertisement for its Pantene V shampoo. The ZPICA challenged the ad's claim that Pantene made hair 10 times more resilient than normal. ZPICA also challenged advertisements for three other P&G products-(l) Safeguard soap, (2) Crest toothpaste, and (3) Head & Shoulders shampoo-although formal action was only taken in the case of Pantene V.

For a year, the stormy relationship between P&G and Chinese regulators seemed to subside until an incident involving the SK-II product line of cosmetics. The SK-II line is made in Japan and sold to stores in China, the United States, and several other

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nations. In the United States, the product line is available through the high-end retailer Saks Fifth Avenue. On September 14, 2006, quality authorities in South China's Guangdong Province detected chromium and neodymium in an SK-II product. These metals can cause skin irritation and disease and subsequently are banned in all cosmetics in China and many other parts of the world. P&G initially denied the charges, stating that it was working with the local Chinese authorities to verify the validity of the findings. After nine (allegedly) contaminated SK-II products were identified, the company reluctantly agreed to offer refunds to consumers. To be eligible, consumers were required to return the product to the store of purchase with no less than one-third of the product remaining. They also had to sign a form acknowledging that the product was of good quality and wait several weeks for processing

Hundreds of Shanghai women sought refunds at various P&G locations on September 21. Tempers flared, however, when they were told that their refunds would take 3 weeks to process. Citing security concerns, P&G suspended its refund operations the following day. The company also announced its intentions to discontinue sales of the SK-II line in China-at least temporarily. An angry group of consumers kicked down the front door of P&G's Shanghai office that same day, and the company's China website was hacked that weekend. Dismayed by the P&G response to the crisis, some retailers even started offering immediate cash refunds on their own.

Crisis Planning

Managing a crisis can be a complex process. Hence, it is helpful to view crisis management as a three-stage process. Before the crisis, organizations should develop a crisis management team— a cross-functional group of individuals within the organization who have been designated to develop and plan for worst-case scenarios and define standard operating procedures that should be implemented prior to any crisis event. Ideally, the team should represent all functional areas of the organization and should facilitate action necessary to prevent or minimize the effect of potential crisis events. For example, top managers anticipating labor unrest at a company facility may hire additional security guards or contract with a private agency to provide additional security. In 2008, global rice shortages prompted

Sam's Club and Costco to ration the project to prevent potential hoarding.47.

Proactive organizations that continually assess their vulnerabilities and threats and develop crisis management plans tend to be adequately equipped when a crisis occurs. Proper preparation requires research of the literature, of the industrial sector, and of the company itself. Information is needed to properly prepare for the crisis events. When managers understand which crisis events are more likely to occur, they can plan for the event more effectively and foster a business culture that is ready to meet the challenge if and when a

crisis occurs.48. Organizational crises cannot always be avoided—even with the best of planning. Nassim Taleb used the term black swan to describe a broad array of low-probability, high-impact events, including organizational crises. Taleb points out we rarely predict black swans accurately, so CEOs often spend their time, energy, and resources preparing for crises that may never occur. Because executives tend to base their predictions of the future on past events, they inevitably miss unprecedented crises such as the 9/11 attack on the World Trade

Center or the financial crisis of 2008.49. This is not to suggest that precrisis planning is not a worthwhile exercise but rather that executives need to recognize their limitations in terms of

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anticipating and preparing for the wide range of crisis events their organizations can face.

During the crisis, an organizational spokesperson should communicate effectively with the public to minimize the effect of the crisis. For example, after being unprepared when Tylenol capsules were laced with cyanide in 1982, J&J improved its preparation, responding to a 1986 lacing incident by acknowledging the crisis with the public and instructing all consumers to

return products for a refund.50. Presentations to the public should be prompt, honest, professional, and streamlined through a single person or office.

Over 14,000 infants were hospitalized and countless others treated in China after ingesting baby formula tainted with the industry chemical melamine in 2008. The formula had been manufactured by a Chinese firm, Shijiazhuang Sanlu Group. Government officials initially downplayed the crisis but became more forthcoming as time passed, seeking to provide more

accurate details and announcing plans to prevent such a crisis from recurring.51.

After the crisis, communication with the public should continue as needed, and the cause of the crisis should be uncovered. Understanding the cause can help executives minimize the

likelihood that the crisis will occur again and improve preparation for the crisis if it does.52.

Throughout these stages, three key points should be highlighted. First, organizational leaders should take crisis management seriously. Sooner or later, every organization will face a crisis, and survival may hinge on the organization's ability to manage the situation properly. Second, steps should be taken to prevent or reduce the likelihood of crisis events whenever such action is practicable. Finally, even when a crisis cannot be avoided, it should be handled appropriately. Managing a crisis requires an investment of time attending to specific activities before, during, and after a crisis. How a crisis is managed can have a tremendous effect on the organization in both the short and long term.

Unfortunately, while few executives would reject these points, many acknowledge that their firms are not as prepared as they should be. This inconsistency occurs for three reasons. First, some executives view crisis events as largely unpredictable or unavoidable and therefore not worthy of precious managerial time and resources. Second, many managers feel that they lack the time to adequately prepare for potential crises. Third, some leaders recognize the need for crisis planning and are willing to commit the time but simply lack the expertise necessary to make the appropriate preparations.

Crisis management is a key component of strategic control—and arguably the entire strategic management process. Investing sufficient time, energy, and resources into preventing crises when possible and managing them when necessary can pay dividends (see Case Analysis 12.2).

Case Analysis 12.2 Step 25: What Crisis Events Should the Firm Anticipate? What Are the Future Prospects for the Company?

Given the nature of the firm, its industry, and the recommended strategies, what crisis events are most realistic? This type of analysis varies considerably by firm and industry. Although it is impossible to anticipate and prepare for every conceivable crisis that a firm may face, attention should be placed on those that are most likely to occur,

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can be avoided or palliated, and are likely to result in substantial losses.

How do the strategic recommendations differ from the current strategy? Will the outlook for the company change as a result of these recommendations? Will the organization be successful in the coming decade? What strategic issues were not addressed in the recommendations that may become more important in the next few years? Why were they not addressed in the present analysis?

Trends in Strategic Management

Change is eminent in the business world. Indeed, several key trends in the strategic management field can be identified. First, the strategic environment has and will continue to become more global. With the “flattening” of the world and the emergence of BRIC (Brazil, Russia, India, and China) and other nations, global partnerships are becoming more common and vital to strategic success. Firms must be willing and able to work with counterparts anywhere in the world to produce higher-quality products at lower costs.

Second, the Internet's influence on business organizations has not yet been fully realized. With the continued development of social media, a growing preference for “real time” and digital over archived and print, and Internet portability through smartphones and iPads, organizations will be challenged to respond to consumer demands with greater precision and speed. Consumers expect organizations to stay abreast of this technology and will reward those that do with their business.

Third, the notion of sustainability is here to stay. Debates about social responsibility and anthropogenic climate change aside, firms must meet consumer expectations for cleaner, more efficient production processes. Organizations seen as wasteful or ignorant of their interconnect-edness with the environment are likely to suffer greatly in the marketplace.

Fourth, the low cost-differentiation dichotomy is becoming less valid as businesses seek to transcend the traditional trade-offs and sail into “blue oceans.” While preferences for either cost leadership or differentiation will continue, few firms will be able to survive by emphasizing only one dimension. Rivals competing “in the middle” are less likely to be stuck—as Porter noted—but are more likely to exert pressure on businesses at either end of the continuum. More carmakers like Hyundai, hotel chains like Hampton Inn, and fast casual restaurants like Quiznos and Panera Bread are occupying middle-ground value-oriented positions by delivering reasonable quality at low costs and affordable prices.

Finally, the growing importance of crisis management is likely to continue. Increases in globalization, technology, and speed suggest a greater incidence of organizational crises in coming years. Whether initiated internally or externally, crises no longer represent the rare events that only affect “other companies.” Firms that prepare effectively for them are more likely to thrive, while those that do not risk catastrophic downturns and even dissolution.

Summary

The strategic control process consists of determining the extent to which the company's strategies are successful in attaining its goals. This process is accomplished through five steps. First, top management must determine what serves as a measure of a strategy's success and, therefore, needs to be controlled. Next, standards of performance should be

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1. 2. 3.

4.

5.

developed. Management then measures performance along these lines both quantitatively and qualitatively and compares the actual performance to the standards. Reasons for discrepancies between actual measures and standards are analyzed, and corrective action is taken to resolve any areas where performance needs to be enhanced.

Crisis management refers to the process of planning for and implementing the response to a wide range of negative events that could severely affect an organization. Like strategic control, crisis management is an ongoing process.

Key Terms

Balanced Scorecard: An approach to measuring performance based on an array of quantitative and qualitative factors, such as ROA, market share, customer loyalty and satisfaction, speed, and innovation. Best Practices: Processes or activities that have been successful in other firms. Business Process Reengineering: The application of technology and creativity in an effort to eliminate unnecessary operations or drastically improve those that are not performing well. Competitive Benchmarking: The process of measuring a firm's performance against that of the top performers— usually in the same industry. Crisis: Any substantial disruption in operations that physically affects an organization, its basic assumptions, or its core activities. Crisis Management: The process of planning for and implementing the response to a wide range of negative events that could severely affect an organization. Crisis Management Team: A cross-functional group of individuals within the organization who have been designated to develop and plan for worst-case scenarios and define standard operating procedures that should be implemented prior to any crisis event. Formal Organization: The official structure of relationships and procedures used to manage organizational activity. Informal Organization: Interpersonal norms, behaviors, and expectations that evolve when individuals and groups come into contact with one another. PIMS (Profit Impact of Market Strategy) Program: A database that contains quantitative and qualitative information on the performance of more than 5,000 business units. Strategic Control: The process of determining the extent to which an organization's strategies are successful in attaining its goals and objectives.

Review Questions and Exercises

What are the five steps in the strategic control process? Why is it critical to identify the appropriate strategic control standards for a firm? Should corrective action always be taken when performance falls below the predetermined standard? Likewise, should corrective action never be taken when performance meets or exceeds the predetermined standard? Explain. Explain how competitive benchmarking is used in strategic control. What are some commonly used competitive benchmarks? What is crisis management, and why is it important?

Practice Quiz

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A. B. C.

D.

A. B. C. D.

A. B. C. D.

A. B. C. D.

True or False?

1. Strategic control should be ongoing and occur throughout the strategic management process. 2. The PIMS program is a government-sponsored effort to improve strategic planning effectiveness in the United States. 3. Corrective action should usually, but not always, be taken at all levels if actual performance is less than the standard that has been established. 4. Strategic control can be exerted through either the formal or informal organization. 5. Crisis management refers to efforts made to eliminate the possibility that the organization can be affected negatively by unforeseen events. 6. Crisis management involves a series of steps that can be taken before a crisis occurs, while it is occurring, and after it has passed.

Multiple Choice

7.

Strategic control is important because_______.

it is difficult to know how well the firm is performing without it the organization's environment is uncertain and always changing lower-level managers need an effective means of providing feedback to top

management A & B only

8.

The strategic control process begins by_______.

identifying appropriate performance measures establishing benchmarks measuring performance taking corrective action as needed

9.

The process of measuring a firm's performance against that of the top performers, usually in the same industry, is known as_______.

competitive positioning performance measurement benchmarking PIMS analysis

10.

Sources of published information for strategic control available to the public include all of the following except_______.

the Wall Street Journal Consumer Reports PIMS data many trade journals

11.

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A. B. C. D.

A. B. C. D.

Benchmarks should be_______.

broad, not specific associated with the strategy's success outside the firm's control all of the above

12.

Which of the following approaches bases the measurement of performance on an array of quantitative and qualitative factors instead of a single quantitative measure in the organization, such as profitability?

balanced scorecard PIMS analysis competitive benchmarking none of the above

Student Study Site

Visit the student study site at www.sagepub.com/parnell4e to access these additional materials:

Answers to Chapter 12 practice quiz questions Web quizzes SAGE journal articles Web resources eFlashcards

Notes

1. J. C. Picken and G. G. Dess, “Out of (Strategic) Control,” Organizational Dynamics 26, no. 1 (1997): 35-48.

2. G. McWilliams and J. Covert, “Wal-Mart's Strategy Spurs a Selloff,” Wall Street Journal, October 24, 2009.

3. J. B. White and N. Shirouzu, “At Ford Motor, High Volume Takes Backseat to Profits,” Wall Street Journal, May 7, 2004, A1, A12.

4. C. H. Springer, “Strategic Management in General Electric,” Operations Research 2 14. C. H. Springer, “Strategic Management in General Electric,” Operations Research 2 1 (1973): 1177-1182.

5. L. Dube, L. M. Renaghan, and J. M. Miller, “Measuring Customer Satisfaction for Strategic Management,” Cornell Hotel and Restaurant Administration Quarterly (February 1994): 39-47; J. M. Groocock, The Chain of Quality (New York: Wiley, 1986).

6. P. Wright, D. Hotard, J. Tanner, and M. Kroll, “Relationships of Select Variables with Business Performance of Diversified Corporations,” American Business Review 6 , n o . 1 (January 1988): 71-77.

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7. R. D. Buzzell and B. T. Gale, The PIMS Principles: Linking Strategy to Performance (New York: Free Press, 1987).

8. A. Taylor III, “More Power to J. D. Power,” Fortune, May 18, 1992, 103-106.

9.Financial Times, “The Final Approach,” February 8, 2011, 9.

10. R. D. Buzzell and B. T. Gale, The PIMS Principles; P. Wright, M. Kroll, C. Pringle, and J. Johnson, “Organization Types, Conduct, Profitability, and Risk in the Semiconductor Industry,” Journal of Management Systems 2, no. 2 (1990): 33-48.

11. P. Fuhrman, “No Need for Valium,” Forbes, January 31, 1994, 84-85.

12. K. Kelly, “3M Run Scared? Forget About It,” Business Week, September 16, 1991, 59.

13. W. E. Fruhan Jr., “Pyrrhic Victories in Fights for Market Share” and R. G. Hamermesh, M. J. Anderson, and J. E. Harris, “Strategies for Low Market-Share Businesses” in R. G. Hamermesh (Ed.), Strategic Management (New York: Wiley, 1983), 112-125; 126-138.

14. P. Grant, “The Cable Guy Cuts His Rates,” Wall Street Journal, September 25, 2002, D1, D2.

15. R. Kaplan and D. Norton, The Balanced Scorecard: Translating Strategy Into Action (Boston: Harvard Business School Press, 1996); R. Kaplan and D. Norton, The Strategy Focused Organization (Boston: Harvard Business School Press, 2001).

16. M. L. Frigo, “Strategy and the Balanced Scorecard,” Strategic Finance 84, no. 5 (2002): 6- 8; E. M. Olson and S. F. Slater, “The Balanced Scorecard, Competitive Strategy, and Performance,” Business Horizons 45, no. 3 (2002): 11-16.

17. N. P. Archer, “Methodologies and Tools for E-Business Change Management,” presented at the 24th Annual McMaster World Congress, Hamilton, Ontario, Canada, January 15-17, 2003; E. Abrahamson and G. Fairchild, “Management Fashion: Lifecycles, Triggers, and Collective Learning Processes,” Administrative Science Quarterly 44 (1999): 708-728.

18. D. Krackhardt and J. R. Hanson, “Informal Networks: The Company Behind the Chart,” Harvard Business Review 71, no. 4 (July-August 1993): 104-111.

19. G. A. Miller, “Culture and Organizational Structure in the Middle East: A Comparative Analysis of Iran, Jordan and the USA,” International Review of Sociology 11 (2001): 309-324; H. Kahalas, “How Competitiveness Affects Individuals and Groups Within Organizations,” Journal of Organizational Behavior 22, no. 1 (2001): 83-85.

20. P. Hart and D. McGinn, “Advice for BP's Reputation Crisis,” Wall Street Journal, May 27, 2010, A19.

21. J. Burnett, Managing Business Crises: From Anticipation to Implementation (Westport, CT: Quorum, 2002).

22. C. Pearson and J. Clair, “Reframing Crisis Management,” Academy of Management Review 23, 59-76.

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23. D. N. Greenberg, J. A. Clair, and T. L. Maclean, “Teaching Through Traumatic Events: Uncovering the Choices of Management Educators as They Respond to September 11th,” Academy of Management learning & Education Journal 1, no. 1 (2002): 38-54.

24. J. W. Greenberg, “September 11, 2001: A CEO's Story,” Harvard Business Review 80, no. 10 (2002): 58-64; P. ‘t Hart, L. Heyse, and A. Boin, “New Trends in Crisis Management Practice and Crisis Management Research: Setting the Agenda,” Journal of Contingencies & Crisis Management 9, no. 4 (2001): 181-188.

25. A. H. Miller, “The Los Angeles Riots: A Study in Crisis Paralysis,” Journal of Contingencies and Crisis Management 9, no. 4 (2001): 189-199; C. Pearson and I. Mitroff, “From Crisis Prone to Crisis Prepared: A Framework for Crisis Management,” Academy of Management Executive 7, no. 1 (1993): 48-59.

26.Business Wire, “BioTerrorism Response Plans Doubted; Organizations Feel Vulnerable Despite Contingency Planning, According to Survey at International Biosecurity Summit,” November 26, 2002.

27. W. Connors, B. Dummett, and C. Lawson, “For BlackBerry Maker, Crisis Mounts,” Wall Street Journal, October 13, 2011, A1, A2.

28. M. Fong and L. Chao, “P&G Stumbles in China,” Wall Street Journal Interactive Edition, September 25, 2006.

29. S. McCartney, “Training for a Plane Crash,” Wall Street Journal, September 29, 2011, D1, D2.

30. C. Bryan-Low, “Tech-Savvy Blackmailers Hone a New Form of Extortion,” Wall Street Journal, May 5, 2005, B1, B3.

31. A. H. Miller, “The Los Angeles Riots: A Study in Crisis Paralysis”; C. Pearson and I. Mitroff, “From Crisis Prone to Crisis Prepared.”

32.Bhopal.com Information Center, www.bhpopal.com (accessed November 26, 2002)

33. A. Tanneson and L. Weisth, “FT Report: Mastering Leadership,” Financial Times, November 22, 2002.

34. J. Slater, “Coke, Pepsi Fight Product-Contamination Charges in India,” Wall Street Journal, August 15, 2003, B1, B4.

35. C. Hymowitz and J. S. Lublin, “McDonald's CEO Tragedy Holds Lessons,” Wall Street Journal, April 20, 2004, B1, B8; R. Gibson and S. Gray, “Death of Chief Leaves McDonald's Facing Challenges,” Wall Street Journal, April 20, 2004, A1, A16.

36. B. Steinberg, B. Barnes, and E. Steel, “Facing Ad Defection, NBC Takes Don Imus Show Off TV,” Wall Street Journal, April 12, 2007, B1.

37. J. Corbett-Dooren, “FDA Warns Against Use of Zicam,” Wall Street Journal, June 17, 2009, B1.

38. M. Sanchanta, “Wal-Mart's Local Team Shifts into Crisis Mode,” Wall Street Journal, March

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25, 2011, B1, B5.

39. M. Ramsey and S. Moffett, “Japan Parts Shortage Hits Auto Makers,” Wall Street Journal, March 24, 2011, B1, B2.

40. J. Bussey, “Measuring the Huma Cost of an iPad Made in China,” Wall Street Journal, June 3, 2011, B1-B2.

41. M. Bustillo and L. Burkett, “Wal-Mart's Chinese Puzzle,” Wall Street Journal, October 12, 2011, B1, B11.

42. I. Sherr, “New Netflix Pricing Gets Thumbs Down,” Wall Street Journal, September 16, 2011, B1, B2.

43. R. E. Silverman and D. Mattioli, “Netflix CEO Says He's Sorry, Sort of,” Wall Street Journal, September 20, 2011, B1; S. Woo and I. Sherr, “Netflix's Growth Disappoints,” Wall Street Journal, April 24, 2012, B1, B4.

44. E. Smith, “Netflix CEO Unbowed,” Wall Street Journal, September 20, 2011, B1, B7; S. Woo, “Under Fire, Netflix Rewinds DVD Plan,” Wall Street Journal, October 11, 2011, A, C10.

45. J. Adamy, “The Aisles of Optimism,” Wall Street Journal, October 3, 2005, B1, B6.

46. W. R. Crandall, J. A. Parnell, P. Xihui, and Z. Long, “When Crisis Management Goes Abroad: The Demise of SK-II in China,” Journal of International Business Research and Practice 1, no. 1 (2007): 38-49; China Daily, “P&G Accepts Fine for ‘Bogus’ Advertising,” April 11, 2005, www.chinadaily.com.cn/english/doc/2005-04/11/content_432925.htm (accessed May 11, 2009); W. Liu, “P&G Again Faces False Ad Claims,” China Daily, June 29, 2005, www.chinadaily.com.cn/english/doc/2005-04/11/content_432925.htm (accessed May 11, 2009); Xinhua News Agency, “Japanese Cosmetics Cause Concern in China,” September 21, 2006, www1.china.org.cn/english/2006/Sep/181859.htm ( a c c e s s e d M a y 1 1 , 2 0 0 9 ) ; G u a n , X . , “ R e f u n d s O f f e r e d o n H a r m f u l C o s m e t i c s , ” China Daily, S e p t e m b e r 1 8 , 2 0 0 6 , www.chinadaily.com.cn/china/2006-09/18/content_691155.htm (accessed May 11, 2009).

47. G. McWilliams and L. Etter, “Sam's Club, Costco Ration Rice Amid Hoarding Worries,” Wall Street Journal, April 24, 2008, B1.

48. L. Barton, Crisis in Organizations II (Cincinnati: South-Western Publishing Co., 2001); R. R. Ulmer, “Effective Crisis Management Through Established Stakeholder Relationships,” Management Communication Quarterly 14 (2001): 590-615.

49. N. N. Taleb, The Black Swan: The Impact of the Highly Improbable (New York: Random House, 2009); N. N. Taleb, D. G. Goldstein, and M. W. Spitznagel, “The Six Mistakes Executives Make in Risk Management,” Harvard Business Review 67, no. 10 (2009): 78-81.

50. P. Shrivastava, I.I. Mitroff, D. Miller, and A. Miglani, “Understanding Industrial Crises,” Journal of Management Studies 25 (1988): 205-303.

51. J. Leow and L. Chao, “China Seeks to Contain Dairy Crisis as Illness Count Doubles,” Wall Street Journal, September 22, 2008, B1.

52. W. Crandall, J. A. Parnell, and J. E. Spillan, Crisis Management in the New Strategy

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landscape (Thousand Oaks, CA: Sage, 2010).

Strategy + Business Reading: How to Prevent Self-inflicted Disasters

All too often, companies unintentionally create their own worst crises. With a little awareness of your organizational DNA, you can avoid that fate—and the headlines that go with it.

by Eric Kronenberg

During the last few years, a number of well-publicized “black swan” events—highly destructive calamities that seemingly come from out of nowhere, and that are diverse enough to include oil rig explosions, automobile recalls, major production delays, financial meltdowns, and at least one phone-tapping scandal—have had immense negative effects on the companies involved. When you look in more detail at these crises, you often find that they were self-inflicted to some degree. An overly aggressive production schedule may have driven employees to disregard or downplay the company's safety or risk prevention procedures. Internal staff may have warned their peers about potential dangers, but those warnings never made it to the top of the company. Decision makers may have ignored, misunderstood, or even suppressed bad news, in a way that ultimately backfired. After the event, the leaders of the company often have to admit: “We did it to ourselves.”

The unintended consequences associated with a self-inflicted black swan can be devastating. They include negative publicity; huge, sudden costs; lost revenues; lawsuits and criminal judgments; and regulatory penalties. Analysis of the stock prices of companies that suffered such events in 2009 and 2010 in the oil, automobile, aircraft manufacturing, and financial-services industries shows that within two months after a visible self-inflicted crisis, an average of 18 percent of shareholder value was lost, relative to the S&P 500. Moreover, stock price performance continued to diminish over time: On average, shareholder value came down 33 percent within a year.

Self-inflicted black swans have occurred in many industries in widely varying circumstances, but always with one common factor. Although the initial trigger appeared to be an exogenous event, the critical decisions were largely under the control of management. Typically, a number of people within the company knew about the situation and saw the potential downside in advance; if this knowledge had been acted upon with diligence and in a timely manner, the problem could have been prevented. Often, these companies had formal procedures in place designed to avoid these precise risks, but the procedures were routinely ignored or bypassed by employees.

How could companies that knew better fall into these traps? Because the perception of risk diminishes over time. It's not unlike the dangerous habit of texting while driving. Imagine that one day under pressure, you send a text message while behind the wheel, and nothing bad happens. You promise yourself that you won't do it again, but the pressures continue, and you start to make a habit of it. A few months go by with no mishap, and you come to believe that the “no texting while driving” rule shouldn't apply

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to you. You are one of those favored people who can successfully multitask without much risk. But when you're feeling lucky is just when you're most likely to cause an accident. Companies that get into similar habits—overlooking or sidestepping their risk management practices—are similarly primed for a self-inflicted black swan.

For example, more than one oil and gas company has been informed at some time by subcontractors of the potential for a severe explosion. Mitigation measures have typically been at hand to rectify the problem, but because implementing them would temporarily halt the operation, leading to lost revenue, the manager of the oil rig is under pressure to find some way to cover over the problem. If everyone else involved in the rig tacitly accepts this decision, even though it contradicts official company policies, there might well be an explosion within months.

Similarly, at the outset of the global financial crisis, some people within banks and insurance companies were warning of the declining standards for securitized mortgages, CDOs (collateralized debt obligations), and other high-risk investments. But others had strong incentives to ignore these warnings—not just the formal motivators such as pay, but equally powerful informal incentives such as the traders’ fiercely felt need to outperform others. In the U.K. voicemail hacking scandal, the news media had a similarly strong competitive motivation: to scoop rival publications. The i n s t i t u t i o n s t h a t s u r v i v e u n s c a t h e d t e n d t o b e t h o s e t h a t m a i n t a i n i n f o r m a l commitments to back up their formal rules on safety and integrity.

An Introduction to Organizational DNA

If you are a senior leader, you may already be wondering whether your company is vulnerable. Are there systemic organizational characteristics, embedded in both the policies and the culture of your company, that contribute to self-inflicted disasters? Do your safety, compliance, and risk management practices truly have teeth, or do they actually add to the danger by giving you a false sense of security? What practices and organizational designs will help you be more efficient and effective in the short term, while mitigating the risk of self-inflicted black swans over the long term?

The answers to these questions vary from one company to the next. You must start by recognizing the distinct ways in which your company operates, the elements of your organizational DNA.

The organizational DNA framework is a vehicle for understanding the formal and informal elements that drive and constrain day-to-day behavior in your company. (See Exhibit.) This framework, introduced by Booz & Company in the early 2000s, has been used by almost 200,000 individuals to profile and improve the health of their organizations. Like molecular DNA, organizational DNA has four “bases”: components of activity that fit together like building blocks. They determine how an organization executes—what changes it can make and what actions its members can take. The four bases are:

Decision rights and norms. The rules and practices that govern how actions in an organization are shaped and focused.

Motivators and commitment. The values and principles that drive employee behavior

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and engagement.

Information flow and mindsets. The patterns of thinking and communication that inform what people do in an organization.

Organizational structure and networks. The links and connections that guide how people work with one another throughout the hierarchy.

When put together, the formal sides of each organizational DNA base make up the official part of the organization's operating model: decision rights, motivators and incentives, information-carrying channels and metrics, and the structure of reporting relationships (the organization chart). These are the documented, official standards for company operations across all levels.

However, official rules alone cannot determine everything about the way the thousands of employees in a large company make and execute decisions. The informal sides of each base have an equally strong impact. These include the norms that people keep in mind about what matters and who is important, the commitments that individuals make about why they care, the mindsets that people (and groups) adopt that shape their perceptions of their work, and the networks through which people in a company develop relationships.

Companies with self-inflicted crises nearly always have formal elements in place that are intended to help the organization avoid accidents and problems: reports, explicit procedures, and watchdog and prevention measures that prevent catastrophes when nominally followed. But the informal elements determine the way that policy is implemented. In many cases these unwritten rules, values, standards, and workplace routines treat these formal procedures as bureaucratic overkill. The reports are ignored, and the procedures are followed only in a pro forma fashion. Like the driver who texts in traffic, the company gets away with noncompliance for a long time, while the effectiveness of its procedures gradually erodes. The crisis doesn't occur until a long time after the noncompliance began.

Exhibit Four Components of Organizaional DNA

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1.

The Key to Capability

In a typical large company, a self-inflicted black swan can emerge in many ways. Rather than trying to prepare for each specifically, companies should approach the issue by developing an effective capability for anticipating and managing large, unrealized risks in general. Here are four starting points, each based on one of the building blocks of organizational DNA:

Clarify who is responsible for which decisions, taking into account the influence that informal leaders already have (decision rights and norms). The decision rights for large, unrealized risks are probably unclear, because by their nature, these risks involve long-term concerns with an uncertain payoff. Risk prevention and mitigation measures may also involve a complex group of actors, especially when work is outsourced or offshored. Some companies, including many financial-services firms, assign risk exposure to specialized departments. But these risk departments—which are typically disconnected

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2.

from mainstream operations and led by managers with little authority—may lead to a false sense of security. People feel little need to concern themselves, because the department is there to take care of it. Yet if the risk department does not have the authority or influence to affect company decisions, then who will step in to ensure that self-inflicted black swans don't appear?

To establish a more appropriate group of decision rights, you may need to set up a cross-organizational team to manage information on significant risks. Make sure that some members of this team have the requisite decision rights to ensure that practices are put in place and that people comply. Other members may be influential people who have no formal role in preventing risk, but who are personally committed to the idea and well connected informally.

Formal decision rights should be backed up by informal discussions to establish general agreements. For example, what if a contractor sees a practice that seems dangerous? Whom should he or she inform? What if that person doesn't act on it? Who should then step in? Once these informal general a g r e e m e n t s h a v e b e e n r e a c h e d , d e s i g n t h e f o r m a l d e c i s i o n r i g h t s t o complement those agreements.

Align incentives and other motivators to promote awareness of potential risks and their prevention (motivators and commitment). B e c a u s e incentives are rarely designed with self-inflicted black swans in mind, they may produce conflicting priorities. The CEO of a financial institution may be charged by the board with looking out for long-term health, but individual traders are compensated on the short-term revenues they generate. Or a manufacturing company may have a safety-conscious culture alongside a high-pressure production schedule; managers who can't keep up are seen as letting everyone else down.

It's not easy to resolve these tensions, and people often rely on both formal and informal support. If the company has established rules about the priorities and rewards involved in anticipating risk, and if most people are regularly exposed to informal conversations about the dangers of cutting corners, they are more likely to avoid peril. It also helps when people involved in a complex situation can meet openly to hash out the issues and think together about ways to resolve the tension between being fast and being safe.

You can often find evidence of poorly aligned incentives by talking to managers in the field. Have they “normalized” their view of problems, discounting the idea that catastrophes could happen and letting excessive risk become business as usual? Their mindset can be similar to that of one oil company engineer who wrote in an internal e-mail, just before a disaster, “Who cares? It's done, end of story, we'll probably be fine and we'll get a good [follow-up] job.”

To redesign motivators and commitments may require an explicit review of your organization's gaps and inconsistencies. How closely aligned are the promotion and bonus structures with the behaviors you want to promote? Do employees care about short-term gain only, or do they have long-term growth and the preservation of their jobs in mind? Once you have established some answers to these questions—through surveys and analysis of your existing incentives—you

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3.

4.

c a n t h e n b e g i n m o v i n g t h o s e i n c e n t i v e s c l o s e r t o t h e m o t i v a t o r s a n d commitments you need.

Create formal and informal communication channels to raise awareness of current conditions on the ground (information flow and mindsets). I n preventing self-inflicted black swans, one central challenge is ensuring that senior decision makers can get an accurate, timely, and independent overview of “ground truth”: the realities of project progress and potential problems. They need to independently verify the information they receive from their direct reports. In most companies, executives receive messages selectively filtered and tailored to what people believe they want to hear. Basic human nature seems to include reluctance to communicate bad news.

Outsourcing and offshoring exacerbate the problem. Subcontractors may be located far from the headquarters of their client companies. Supplier contracts typically limit the type and amount of information that can be shared, and sometimes impose penalties for delays—thus giving subcontractors an extra incentive to withhold troubling information, for fear of becoming the messenger of bad news or in hope that another subcontractor might be forced to communicate first. These challenges can be overcome, but only by establishing open communication channels—both formal and informal—through which senior leaders can interact with lower-level employees to get their perspective. Regular review meetings will not suffice; it takes regular interaction, ideally in casual face-to-face settings, to give senior management an accurate picture of what is happening.

This kind of conversation also gives lower-level personnel a clear understanding of management goals—and improves their judgment about which types of problems are worth reporting, and how to report them. Beyond that, some senior leaders make a point of cultivating multiple sources of information; you might, for example, ask a quality department and a production department to report independently on the same projects. The point in all this is to broaden the flow of information to and from senior management, as well as around the organization generally.

Set up better reporting relationships and prevention guidelines, using work-arounds as diagnostics (organizational structure and networks). When under pressure to produce, employees often develop work-arounds, shortcuts that allow them to sidestep the formal checks and balances of risk prevention. After a work-around has been in place for a while, it becomes second nature; people almost forget that the old rules exist. In fact, maybe the formal rules are truly superfluous and unneeded—or perhaps they're genuinely important, like the law against texting while driving. You may have to find out the hard way if you have never examined these rules.

The presence of a work-around can provide a valuable clue that some process is unclear or cumbersome and needs to be either enforced or changed. If you try to outlaw the work-around strictly through edict and penalty, without addressing the issues that made people turn to it in the first place, then they will simply find another nonstandard approach. Instead, you need to bring formal structures and informal

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networks together; talk to people directly about the reasons that work-arounds have developed, and institute new policies that address the underlying issues.

One common work-around is found at the corporate level: An organization becomes focused on managing the public perception of a problem (or potential problem) rather than actually trying to solve it. If you find yourself continually defensive about queries from the public or from regulators, that's a clue that you have a deeper internal issue to explore. Defend your company, by all means, but also begin to follow the trail. Is there something within your organization that is masking a potential catastrophe?

An Ethic of Integrated Action

In companies primed for a self-inflicted black swan, some or all of these problems may exist side by side. The lack of open information flow, unclear decision-making authority, an inefficient organizational structure, and inconsistent values and incentives all negatively reinforce one another. By the time the problem comes to light—whether through an explosion, a technological failure, a legal challenge, or some other visible catastrophe—it is too late to stop the damage.

An organizational DNA analysis doesn't prevent any particular crisis; instead, it gives you a better capability for identifying whether your organization is vulnerable to all such crises. This type of analysis is equally useful for other problems that require organizational change: building a high-performance organization, moving into new markets, or adopting a more coherent strategy. You can't immediately change the way your organization behaves by simple fiat. But with a close look at the core elements of your organizational DNA, you can recognize the design steps that can lead to better behavior very soon.

Author Profile:

Eric Kronenberg is a partner with Booz & Company in Florham Park, N.J. He specializes in developing capabilities for program and project management, engineering and design, and manufacturing and construction in multiple industries, including aerospace and defense, energy, and transportation.

http://dx.doi.org/10.4135/9781506374598.n12

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