Organizational Design and Environmental Volatility

Abstract

I investigate the link between a firm's operating environment and its preferred organizational structure, as determined by the allocation of decision rights, the compensation structure of its managers, and the underlying configuration of its productive assets. The results are broadly consistent with the received wisdom regarding this fit. Firms operating in volatile environments are characterized by loosely integrated operations, decentralized decision making, and a pay structure that reflects primarily division-level performance, whereas firms operating in stable environments are characterized by tightly integrated operations, typically centralized decision making, and a pay structure that is closely tied to firm-level performance. The results also provide some new insights and predictions. In particular, the results show how decreases in the cost of information increase the preference for decentralization and less integrated operations and highlight the importance of accounting for the interdependencies among the design parameters themselves in maximizing organizational performance. The Author 2011. Published by Oxford University Press on behalf of Yale University. All rights reserved. For Permissions, please email: journals.permissions@oup.com, Oxford University Press.