482 • Chapter 14 • Environment, Power, and Culture

they serve. In Chapter 3 we described how powerful trading partners can hold up a firm; the same analysis applies to powerful individuals within the firm. Suppose that a firm has made relationship-specific investments with a manager and that the firm cannot enforce a contract that would spell out all of that manager’s responsibilities. In this situation, the firm is dependent on the manager and the manager can pursue selfish objectives without fear of retaliation. An example of this could occur in diversified firms when managers of unrelated divisions are not subject to sufficiently powerful incentives and as a result engage in excessive rent-seeking behaviors at the expense of the overall firm. Gertner, Powers, and Scharfstein study the preand post-spinoff behavior of such divisions and find evidence consistent with such a conclusion.18

If those who wield power in the firm are also necessary for the effective control and allocation of its critical resources, then the firm is also potentially vulnerable to their departure. This threat implies that firms should invest in and allocate power to those individuals who are more likely to stay with the firm. A firm can take several steps to assure that powerful managers do not leave. They can offer stocks or stock options that do not vest for several years. Alternatively, they can structure compensation as a tournament (see Chapter 12) and emphasize internal promotion. They can invest in supportive work conditions that will increase the manager’s productivity. They might even consider whether the individuals have a family or other obligations that might tie them to the local community. Julio Rotemberg argues that firms may actually prefer to give decision makers power rather than higher wages as a way of reducing turnover. Power may be thought of as a firm-specific asset—the decision maker may get better pay elsewhere but might not achieve comparable levels of power and influence.19

CULTURE

When making decisions, individuals are guided by explicit and implicit rewards. Contracts form the foundation for explicit rewards. Power provides a way for individuals to understand and implement implicit rewards. Culture offers yet another alternative. A firm’s culture is a set of values, beliefs, and norms of behavior shared by its members that influences employee preferences and behaviors. It also involves the special mindsets, routines, and codes that shape how members view each other and the firm. It thus sets the context in which relations among members develop, and it provides the basis for implicit contracts between them.23 Culture represents the behavioral guideposts and evaluative criteria in a firm that are not spelled out by contract but still constrain and inform the firm’s managers and employees in their decisions. As David Kreps explains, “culture gives hierarchical inferiors an idea ex ante how the firm will ‘react’ to circumstances as they arise—in a very strong sense, it gives identity to the organization.”24

The behavioral guideposts and “identity” instilled by culture create a set of norms for managers and workers to follow. These norms can both hinder and help the firm. The existence of norms may constrain the freedom of management to make decisions. For example, managers accustomed to unit autonomy and individual accountability may find it difficult to cooperate with other managers on activities that require cooperation and joint action. They may also have difficulties with the exercise of centralized authority by corporate managers. An example of this is Bertelsmann, A.G., a multidivisional German media firm with global scope that since 1998 has been developing a corporate culture of shared values and partnership, even while

Culture • 483

promoting divisional decentralization and entrepreneurship. The presence of strong corporate norms, such as for individual or group accountability, may also aid managers, provided that the norms support the firm’s strategies. For example, the famous piece-rate system used by the Lincoln Electric Company is dependent for its success on supportive norms for individual achievement and accountability, coupled with strong supervision by management and appropriate organizational policies.

This interlocking of culture, structures, practices, and people provides an example of the multidimensional nature of organization design and its influence on performance. John Roberts develops these links further in terms of a PARC, referring to people interacting with organizational architecture, routines, and culture.25 As we mentioned in the last chapter, these links, once established, may make it very difficult to replicate some of the firm’s practices in other settings where the culture and history supporting the practices are different. This is especially the case in international operations, for which the cultural contexts can vary widely for a given activity.

Part of the problem that culture poses for managers is that it is difficult to manage prospectively. While a supportive culture can develop over time around a given set of activities, it has proven very difficult to engineer such cultural support by design and according to a schedule. Such efforts are vulnerable to problems of unintended consequences that create more costs than benefits. Examples of this were apparent in well-publicized efforts to reform the “quality of work life” in the United States in the 1970s and 1980s. In these efforts, shop-floor activities were changed to permit greater opportunities for worker interaction on the job and thus build up a more supportive culture. These efforts were frustrated, however, when the multiple goals of these projects conflicted with each other, such as when workers used their newly obtained flexibility to go home earlier rather than attend skill classes or interact with their managers, their unions, or their coworkers. The result was that while workers were pleased with the chance to pursue their personal and family interests, this did not translate into a more supportive workplace culture, since the workers were not around as much to interact. Other efforts in these directions have attempted to build on employee stock ownership plans (ESOPs) and related programs to link the objectives of individual employees with the broader goals of the firm. These programs are popular with a wide range of firms, including such large firms as Cargill and Wal-Mart. While the adoption of these plans is associated with firm performance, the causality is unclear and there is considerable disagreement among managers and scholars as to whether these plans are effective, why they are effective, and how much cultural elements have to do with their realized results.26

Jay Barney identifies the conditions under which culture can be a source of sustained competitive advantage.27 First, something about the firm’s culture and values must be linked to the value the firm creates for customers. We will say a lot more about this issue in a moment. A culture that creates value can be analyzed much like any other resource or capability. The culture must also be particular to the firm. If the culture is common to most firms in the market, so that it reflects the influence of the national or regional culture, then it is unlikely to lead to a relative competitive advantage, since most of the firm’s competitors will share the same cultural attributes. This changes, of course, if a firm with a distinctive national or regional culture that supports performance diversifies internationally and begins competing with foreign firms, whose cultures are not as supportive. The experience of Japanese automakers entering the U.S. market provides an example of this, and the success of firms like Honda has often been attributed to the cultural attributes of Japanese firms.

484 • Chapter 14 • Environment, Power, and Culture

More recent examples of foreign entry into the U.S. market, such as by Indian and Chinese firms, have not been linked to cultural issues as was the case with Japanese firms. Neither China nor India is associated with homogenous cultures as Japan was when its businesses expanded globally. Both China and India display considerable cultural diversity within their borders, and to the extent that Indian or Chinese firms reflect national cultural attributes, it is not generally associated with high firm performance, innovation, or other performance attributes. As a result, entry efforts have been more concerned with maintaining the cultural identity of the acquired firm so that the acquirer can learn from the acquisition, retain talent in the acquired firm, and promote a corporate culture of diversity. Hindalco’s 2007 acquisition of Novelis, an Atlanta-based global producer of rolled aluminum products, provides an example of this, as the Indian firm attempted to manage both the organizational and cultural integration of the firms, along with the more typical financial and operational combinations that are necessary with such mergers.28

If aspects of a firm’s culture are easy to imitate, other firms will begin to do so, which will soon nullify any advantage for the firm where the culture first developed. A firm’s culture can be hard to imitate, however, because it is likely to rest on tacit factors that are not easily described and that represent the accumulated history of the firm much better than does a simple description. The complexity that makes a culture difficult for others to imitate also makes it difficult for managers to modify the culture of their own firms to significantly improve performance. Firms like Lincoln Electric, for example, have experienced troubles in opening new plants and attempting to replicate their own system, which suggests that competitors will have an even harder time. This difficulty in reproducing one’s culture globally is not unique to U.S. firms. Very few firms are “born global.” For example, Essel Propack, an Indian manufacturer of laminated and plastic tubes with plants in a dozen countries and $300 million in annual sales, had to partner with its global customers, such as P&G, in order to launch a global diversification program.29

Barney even suggests a trade-off between the degree to which a culture is manipulable and the amount of sustained value that a firm can obtain from it. A culture that is manipulable is not likely to be linked to the fundamental resource commitments of the firm that form the basis for sustained competitive advantage. Rather, it is more likely to be common to several firms, more easily imitable, and hence less valuable.

Culture creates value for firms in two ways. First, culture can complement formal control systems and reduce monitoring costs. Second, it shapes the preferences of individuals toward a common set of goals. This reduces negotiation and bargaining costs and fosters cooperation that would be difficult to achieve through more explicit means.

Culture Complements Formal Controls

Chapter 12 described the classic economic approach to the problem of agency: the firm relies on incentives to control employees’ activities. As explained in Chapter 13, organization structure facilitates the monitoring required to evaluate and reward employees by determining information flows. Culture complements these formal controls on the basis of the employee’s attachment to the firm rather than on the basis of incentives and monitoring. Individuals who value belonging to the culture will align their goals and behaviors to those of the firm. Culture has the potential to be more efficient than formal control systems because a thriving culture requires little in the way of monitoring or tangible rewards.