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Organisational complexity: The hidden killer

Companies today are faced with growing complexity. Environmental, political, and competitive changes conspire to create a challenging operating environment. In response to these pressures, companies often try to mirror external complexity in their internal environments.

Companies today are faced with growing complexity. Environmental, political, and competitive changes conspire to create a challenging operating environment. In response to these pressures, companies often try to mirror external complexity in their internal environments.

For example, they may respond to more sophisticated customer demands by creating tailored products and services. They may address the need for cost cutting and innovation by building matrix organisational structures. They may attempt to add new processes to address evolving market needs.

In isolation, each of these responses makes sense, but in combination, they can significantly affect organisational performance.

Take BMW, for example. At the end of 2012, the automotive giant announced record figures for sales volume and revenues, up a massive 12 per cent over 2011, as well as the best operating profit in its history. Yet, shares in the company were lower than they were at the beginning of the year.

Why? The answer lies in the fact revenues grew significantly more than profits. In fact, profits were flat, and post-tax return on sales dropped.

BMW attributed the flat profits to an increase in personnel, higher innovation costs and intense competition. While technically true, there is a more subtle culprit: Higher complexity.

There are several common causes of complexity: A proliferation of products and/or services, inconsistent and overlapping processes, misaligned incentives, byzantine organisational structures and poorly articulated strategies, often in combination.

In the case of BMW, the company increased its product line steadily over the past decade. As new models were added, complexity started to rise. More people were needed to design, manufacture, support and sell those new models, and costs rose.

How should organisations deal with complexity? It depends on the complexity being considered. Some complexity provides competitive differentiation; this is good complexity and should be optimised. Most complexity, however, does not add value and needs to be cut or eliminated.

There are four common complexity culprits, and they can be reduced by following these steps.

Establish a clear strategic direction

Nothing stimulates complexity more than an unclear or inconsistent strategy. Vodafone UK was unprofitable in the mid-2000s, despite strong top-line growth. A new CEO simplified the strategic process, allowing its top 100 managers to maintain a list of no more than 5 strategic goals for each quarter, all of which had to align with corporate priorities.

As a result, Vodafone UK has become highly profitable in one of the world’s most competitive markets.

Rationalise product and service lines

Firms could increase profits just by ceasing to offer products or services that do not add value.

Compare RIM and Apple’s approaches to mobile phones. Apple has typically sold 2 generations of phones in 2 colours with 2 quantities of memory. By contrast, RIM has launched 37 versions of its Blackberry line since 2008, each with a variety of configurations.

Streamline, standardise your processes

Processes can often be inefficient, non-standard or duplicated across departments and most can be standardised, while a few should be allowed to vary based on local conditions.

Nestle went through a process of process rationalisation in order to reduce value-chain complexity. Its process was sometimes painful, and often deeply unpopular, but the results have been dramatic: Top managers now have a transparent global view of production and sales.

Align personal incentives with organisational goals

A major source of complexity comes from people acting in their own interest to maximise personal gains. A common example is incentives for growth.

Many organisations reward increases in revenue, but as we saw from the BMW example, higher revenues do not always translate into higher profits.

Elevated complexity is a chronic and endemic problem in today’s organisations. Like high blood pressure or elevated cholesterol, it may be hidden from view, but still dangerous.

ABOUT THE AUTHOR:

Michael Wade is professor of innovation and strategic information management at IMD Business School in Switzerland. He is Programme Director of Orchestrating Winning Performance and teaches in IMD’s Breakthrough Programme for Senior Executives.

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