2020:21 Unit 3 - The Internal Business Environment

U U N IT
3
The Internal Business
Environment
Unit Overview
In Unit 2, we examined the diversity, complexity and speed of change within the
external environment. Any successful strategic management process requires strategic
leaders and managers to provide a sound organisational vision. As important as an
understanding of the external business environment is, it is equally important for
strategic leaders and managers to have an in-depth understanding of the internal
business environment. Unit 3 frames the internal business environment and classifies
it as the elements or components that shape the corporate culture. Such elements can
include, but not be limited to, plans and policies, human resources, financial resources,
corporate branding and image, employee relations etc. These things shape employee
behavior, which in turn shape divisional efficiency within any organisation.
An appreciation of internal business processes is a strategic priority as it focuses on

the organisational structure, divisions and internal organisational assessment tools.
Grasping these aspects can enable leaders and managers to perform the functions of
management (i.e. planning, organising, motivating, staffing and controlling) with a
stronger vantage point to impact business effectiveness and efficiency. Understanding
how an organisation operates internally is critical for sustainability and success. As
such, the structural configuration of organisations will be examined in relation to
primary internal divisions of an organisation.
Unit 3 provides an overview and a framework for understanding the internal

environment of organisations with the aim of helping to identify key internal issues
and how they can be evaluated and improved for organisational success.
66  © 2017 University of the West Indies Open Campus

Unit Objectives
By the end of this Unit you will be able to:
1. Conduct a thorough analysis of the internal environment using specific

organisational assessment tools.
2. Examine internal organisational divisions.
3. Integrate strategic management concepts and managerial roles.
This Unit is divided into three sessions as follows:
Session 3.1: Strategic Management and Internal Managerial Roles
Session 3.2: Examining Key Internal Organisational Divisions
Session 3.3: The Micro-Environment and Internal Organisational Assessment

Tools
Reading and Resource
Required Reading
Strategic Management: Evaluation and Execution (2016). Chapter 4: Managing

Firm Resources. Retrieved from
http://2012books.lardbucket.org/books/strategic-management-evaluation-
and-execution/s08-managing-firm-resources.html
67  MGMT3031 Business Strategy & Policy – UNIT 3

SSession 3.1
Strategic Management and Internal

Managerial Roles
Introduction
The role of strategic management from an internal perspective and the structural
configuration of an organisation is important. This session describes the traditional
structural types and then introduces more modern structures or configurations. The
advantages and disadvantages of these types are presented.
Organisational Structure as Configuration

Organisations are categorised as either closed or open systems. A closed system does
not depend on its environment for sustenance; it is autonomous, enclosed and sealed
off from the outside. The notion of a closed system is essentially an ideal type because it
does not really exist, although early management theorists assumed a closed system in
their discussions. Frederick Taylor ’s scientific management, Max Weber ’s bureaucracy
and Elton Mayo’s Hawthorne experiments were based on such an assumption. These
writers concentrated on internal design because they assumed the environment would
be stable and predictable. Therefore, the critical problem for management would be
ensuring efficient operations.
Unlike the closed system, an open system must interact with the environment to
survive; it both consumes resources and exports resources to the environment. It is not
sealed off and must continuously adapt to the environment (Daft, 2007, pg.14). Open
systems are complex. Internal efficiency is just one issue. Daft (2007) states that the
organisation must find and obtain needed resources, interpret and act on environmental
changes, dispose of outputs and control and coordinate internal activities in the face
of environmental disturbances and uncertainty. An organisation must be viewed
as a system. A system is a set of interacting elements that acquires inputs from the
environment, transforms them and discharges outputs to the external environment.
The need for inputs and outputs reflects dependency on the environment. Interacting
elements mean that people and departments depend on one another and must
work together. A system also has sub-systems, for example, production in a business
organisation.

Dimensions of Organisational Structure and Management
Several principles are associated with the structural design of an organisation. These
include formalisation, documentation, specialisation, hierarchy of authority, span of
control and centralisation.
• Formalisation pertains to the amount of written documentation in the organisation.
• Documentation includes standard operating procedures, job descriptions,

regulations and policy manuals.
• Specialisation or division of labour is the degree to which organisational tasks

are subdivided into separate jobs. Job design would include such actions as job
rotation, job enlargement and job enrichment.
• Hierarchy of authority describes who reports to whom, and the span of control of
each manager.
• Span of control means the number of employees reporting to one manager/

supervisor. A narrow span of control results in a tall hierarchy while wide spans
of control indicate a shorter chain of command. Chain of command is the line
of authority from the top of the organisation to the bottom or lowest employee
position.
• Centralisation refers to the hierarchical level that has authority to decide. Decision-
making authority can be centralised or decentralised. Decentralised authority
normally fosters employee empowerment.
Determinants of Structure
Many factors have a direct bearing on structural formation/configuration. These
determinants are size, organisational technology, environment, organisational goals
and strategy, and culture.
• Size is the organisation’s magnitude as reflected in the number of people in the

organisation Daft (2007). It includes number of divisions, business units, number
of employees or total assets.
• Organisational technology describes the organisation’s tools, techniques,

knowledge and actions used to transform inputs into outputs. An assembly line
and a college classroom are all technologies.
• Environment refers to all those things that are considered the boundary of the
organisation.
• Goals and strategies define the purpose and competitive techniques that set a
business apart from other organisations. They define the scope of operations and
the relationship with employees, customers and competitors. Goals are set in the
vision and mission of a business and represent an enduring statement of intent. A

strategy is the plan of action that describes resource allocation and activities for
dealing with the environment and for reaching the organisation’s goals.
• Culture is the pattern of beliefs, values, attitudes, norms and assumptions that
uniquely identifies an organisation. An organisation’s culture is unwritten, but
can be observed in its stories, slogans, ceremonies, dress and office layout. In
summary, large organisational size, a routine technology and a stable environment
all tend to create an organisation that has greater formalisation, specialisation and
centralisation. Wal-Mart is an example of such an organisation where the focus is
essentially on efficiency.
Structure as Configuration
A fast-moving, knowledge-intensive world raises two issues for organisations. First,
a static concept of formal structure is less and less appropriate. Organisations must
reorganise themselves in response to changing conditions. For this reason, some authors
suggest the verb ‘organising’ is used more than the noun ‘organisation’. Secondly,
harnessing the valuable knowledge that lies throughout the organisation requires
more than top-down formal hierarchies. Information relationships and processes are
vital to generating and sharing the in-depth knowledge that is now often fundamental
to competitive advantage (Johnson, Scholes & Whittington, 2005, p.396-410).
Figure 3.1: Organisational configurations: structure, processes and

relationships
Source: Johnson, Scholes & Whittington. (2005). Exploring Corporate Strategy, 7th edition. Prentice
Hall
Figure 3.1 shows the three strands of an organisation’s configuration, locking together
into a coherent ‘virtuous circle’. These three strands provide the structure for this unit.

• The structural design i.e. describing roles, responsibilities and lines of reporting can
deeply influence the sources of an organisation’s advantage, particularly regarding
knowledge management. Failure to adjust structures appropriately can undermine
strategy implementation. However, good structure alone is not enough for success.
• The processes that drive and support people within and around an organisation
can have a major influence on success or failure, defining how strategies are made
and controlled and the ways that managers and other employees interact and
implement strategy in action.
• The relationships connect people both within and outside the organisation, in
particular:
»» relationships between organisational units and the centre (corporate parents);
»» relationships outside the firm, including issues such as outsourcing and strategic
alliances.
There are three key strategic challenges that face organisations in the twenty-first
century. These form the background against which organisational configurations are
realised.
1. The speed of change and the increased levels of uncertainty in the business
environment. Organisations need to have flexible designs and be skilled at
reorganising.
2. The importance of knowledge creation and knowledge sharing as fundamental

ingredients of strategic success. Organisational designs should both foster
concentrations of expertise and encourage people to share their knowledge.
3. The rise of globalisation. Organising for a globalising world has many challenges:
communicating across wider geography, coordinating more diversity and building
relationships across diverse cultures are some examples. Globalisation brings
greater recognition of different kinds of organising around the world.
Structural Types
Structure is the pattern of relationships among the parts of an organisation. The formal
organisational structure specifies the number and types of departments or groups
and provides the formal reporting relationships and lines of communication among
internal stakeholders. Daft (2007, pg. 90) states that there are three key components in
the definition of organisation structure:
1. Organisation structure designates formal reporting relationships including the

number of levels in the hierarchy and the span of control of managers and
supervisors.
2. Organisation structure identifies the grouping together of individuals into

departments and of departments into the total organisation.

3. Organisation structure includes the design of systems to ensure effective
communication, co-ordination and the integration of efforts across the
departments.
These elements of structure pertain to both vertical and horizontal aspects of

organising. For example, the first two elements are the structural framework, which
is the vertical hierarchy. The third element pertains to the pattern of interactions
among organisational employees. An ideal structure encourages employees to
provide horizontal information and co-ordination where and when it is needed. These
components of structure tend to reflect a traditional view derived from a pyramidal or
hierarchical authority system as shown in an organisational chart. Structure, as seen
in an organisational chart dates back to medieval times. Its use in business started
during the Industrial Revolution due to the increasing number of workers, which led
to the pressing need to develop ways of managing and controlling organisations.
The work of theorists such as Frederick Taylor (Scientific Management) and Max
Weber (Bureaucracy), who was himself a theorist on structuralism, influenced early
organisational structure. The experiences and theories of the early 20th century
resulted in thinking and decision-making residing at the top, while physical work was
performed by employees who were arranged into distinct, functional departments.
Such a functional approach to organisational structure was quite effective and
became entrenched in business, non-profit, and military organisations for most of
the twentieth century where the environment was essentially a relatively stable one.
However, the hyper-turbulent environment of the 21st century has made functional
structure somewhat irrelevant. Organisations have responded creatively in designing
new structural configurations that provide a different relationship between managers
and employees.
Managers often start describing their organisation by drawing an organisation chart

and mapping out its formal structure. These structural charts define the “levels” and
roles in the organisation. They are important to a manager because they outline who
is responsible for what. Formal structures matter in at least two more ways. Firstly,
structural reporting lines shape patterns of communication and knowledge exchange:
people do not tend to talk to people much higher or lower in the hierarchy, or in different
parts of the organisation. Secondly, the kinds of structural positions at the top suggest
the type of skills required to move up the organisation: a structure with functional
specialists such as marketing or production at the top indicates the importance to
success of specialised functional disciplines rather than general business experience.
In short, formal structures can reveal a great deal about the role of knowledge and
skills in an organisation (Johnson, Scholes & Whittington, 2005, p. 397-398).
There are seven basic structural types: functional, multidivisional, holding, matrix,
transnational, team and project. Broadly, the first three of these tend to emphasise one
structural dimension over another, for instance functional specialisations or business
units. They tend to emphasise classical management theory and generally follow
a mechanistic-oriented configuration. The four that follow tend to mix structural
dimensions more evenly, for instance trying to give product and geographical

units equal weight. However, no structure is a universal solution to the challenges
of organising. Rather the right structure depends on the kinds of organisational
challenges faced.
We will focus on how the seven structural types fit both the traditional challenge
of control and the three new challenges of change, knowledge and globalisation.
Therefore, the first step in organisational design is deciding what the key challenges
are. The configurational approach stresses the need for the chosen structure to align
with matching processes and relationships.
The Functional Structure

Functional grouping and divisional grouping are two of the most common approaches
to structural design (Daft, 2007, p.102). One underlying structure is the functional
structure, which divides responsibilities as per the organisation’s primary roles such
as production, research and sales. Figure 3.2 represents a typical organisation chart
for such a business. This structure is usually found in smaller companies, or those
with narrow, rather than diverse product ranges. There are advantages in that it
gives senior managers direct hands-on involvement in operations and allows greater
operational control from the top. The functional structure provides a clear definition
of roles and tasks thus increasing accountability. Functional departments also
provide concentrations of expertise, thus fostering knowledge development in areas
of functional specialism. One strength of the functional structure is that it promotes
economy of scale within functions. Economy of scale results when all employees are
in the same place and can share facilities. The functional structure also promotes in-
depth skill development of employees.
However, there are disadvantages, particularly as organisations become larger or more

diverse. Perhaps the major concern in a fast-moving world is that senior managers focus
on their functional responsibilities, becoming overburdened with routine operations
and too concerned with narrow functional interests. As a result, they find it hard to
take a strategic view of the organisation as a whole or to deliver a coordinated response
quickly. Functional organisations can be flexible. Separate functional departments
tend to be inward looking – so-called ‘functional silos’ – making it difficult to integrate
the knowledge of different functional specialists. Finally, because they are centralised
around particular functions, functional structures are not good at coping with product
or geographical diversity.

Chief executive
Sales and Finance and

Production Personnel
marketing accounting
department department
department department
Figure 3.2: A Functional Structure

Hall
Advantages Disadvantages
• Develops General Managers or Chief • Senior managers overburdened with
Executive Officer who are in touch with all routine issues
operations • Senior managers neglect strategic issues
• Reduces/simplifies control mechanisms • Difficulty coping with diversity
• Clear definition of responsibilities • Results in less innovation
• Is best with only one or a few products • Failure to adapt
The Multidivisional Structure

A multidivisional structure is built up of separate divisions based on products,
services or geographical areas (see Figure 3.3). ‘Divisionalisation’ comes when there
is an attempt to overcome the problems of functional structures in dealing with the
diversity mentioned above. Each division can respond to the specific requirements of
its product/market strategy, using its own set of functional departments. A similar
situation exists in many public services, where the organisation is structured around
service departments such as social services and education.
Advantages
There are several potential advantages to divisional structures.
• They are flexible in the sense that organisations can add, close or merge divisions
as circumstances change.
• As self-standing business units, it is possible to control divisions from a distance

by monitoring business performance.
• Divisional managers have greater personal ownership for their own divisional
strategies.
• Geographical divisions offer a means of managing internationally.

• There can be benefits of specialisation within a division, allowing competencies to
develop with a clearer focus on a product group, technology or customer group.
• Management responsibility for a whole divisional business is good training in

taking a strategic view for managers expecting to go on to a main board position.
Disadvantages
Divisional structures can also have disadvantages of three main types.
• Firstly, divisions can become so specialised and self-sufficient that they are de
facto independent businesses – but carrying the costs of the corporate centre of the
company.
• The second type of problem may occur for the opposite reason. Divisions have
created their own ‘corporate centres’ without having all the parenting skills needed
to add value to their business units. The result is that the business units carry the
costs of this divisional centre but are not as well supported as they would be by the
‘real’ corporate centre of the company where these skills do exist.
• Finally, ‘divisionalisation’ tends to get in the way of cooperation and knowledge

sharing between business units: divisions can quite literally divide. Expertise
is fragmented and divisional performance targets provide poor incentives to
collaborate. Large and complex multidivisional companies often have a second tier
of sub-divisions within their main divisions. Treating smaller strategic business
units as subdivisions within a large division reduces the number of units the
corporate centre has to deal with directly. Subdivisions can also help complex
organisations respond to contradictory pressures.
Head Office
Central services
(e.g. finance)
Division A Division B Division C Division D Division E
Functions Functions Functions Functions Functions
Figure 3.3: A Multidivisional Structure

Hall

Advantages Disadvantages
• Flexible (add or divest divisions) • Duplication of central and divisional
• Control by performance functions
• Ownership of strategy • Fragmentation and non-cooperation
• Specialisation of competences • Additional costs of the centre
• Training in strategic view • Eliminates in-depth comp
The Holding Company Structure

A holding company is an investment company consisting of shareholdings in a variety
of separate business operations. The subsidiary businesses may operate independently,
have other shareholders and retain their original company names. Holding companies
are extremely flexible, with the ability to bring in outside shareholders as partners
and to buy and sell their subsidiaries as conditions change. However, they are hard
to control, because of the hands-off management style and the rights to outside
shareholders. Sharing knowledge between highly autonomous subsidiaries is very
difficult. Because subsidiaries are autonomous and often operate in unrelated areas,
there is little scope for synergy. For these reasons, holding companies have fallen out
of favour in Western economies.
However, in many emerging economies, such as India, Russia and South America,
holding companies still play a prominent role. Where capital markets and markets for
managerial labour do not work very well, holding companies fill a useful gap.
Subsidiaries can gain access to investment capital and talented managers from inside
the holding company in a way they could not do on the open market. In emerging
economies, therefore, holding companies can add value by making up for the failings
of external markets for capital and labour.
Geographical Structure
Daft (2007, pg.107) remarked that another structural grouping is the organisation’s
users or customers. The most common structure in this category is geography. Each
region or hemisphere may have distinct tastes and needs. Each geographic unit
includes all functions required to produce and market products or services in that
area/hemisphere. The national organisation provides brand recognition, coordinates
fund-raising services, and handles some shared administrative functions while day-
to-day control and decision making is decentralised to local or regional units. Multi-
national corporations tend to adopt this structure as one of their first step in building
a global strategy. Apple Computer demonstrates a geographical structure.
The Horizontal Structure

Horizontal structures organise employees around core processes. This type of structure
is used when organisations embark on reengineering, which is discussed later in
this unit. Such a configuration allocates all the people in the organisation based on
processes and work in the same general area for easy access to one another to improve
communication and coordination. It normally involves teams of employees working

together to serve customers. Examples of processes include order fulfillment, new
product development or handling insurance claims. Consequently, vertical hierarchy
and traditional departmental silos and boundaries are virtually removed.
Profound environmental changes have resulted in the design of this type of structure.
These changes included innovation in telecommunication technology that have
integrated computer and the internet, increasing demands from customers for faster,
more convenient service, and employees seeking greater empowerment and assuming
more responsibility for developing knowledge-based products and services and ultra-
competitive global markets that require shorter lead and cycle times and flexibility.
Figure 3.4 has several significant features (Draft, 2007, pg.114).
1. Structure is created around cross-functional core processes rather than tasks,

functions, or geography.
2. Self-managed work teams represent the foundation of organisational design

and performance. Individual contribution is subordinated to team contribution.
3. Process owners have responsibility for the entire core process.
4. People are empowered with the skills, tools, motivation, and authority to make
decisions vital to the team’s performance.
5. Teams have the freedom to think ‘outside the box’.
6. Customers drive the horizontal corporation.
7. The culture is one of openness, trust, and collaboration, and it fosters quality
improvement.

Figure 3.4: A Multidivisional Structure
Hall
The Matrix Structure

A matrix structure combines different structural dimensions simultaneously, for
example product divisions and geographical territories or product divisions and
functional specialisms (Figure 3.5). It is important to note that matrix structures have
several advantages including:
• They are effective at knowledge management because they allow separate areas
of knowledge to be integrated across organisational boundaries. Particularly in
professional service organisations, matrix organisation can be helpful in applying
knowledge specialisms to different market or geographical segments.
• Matrix organisations are flexible, because they allow different dimensions of the
organisation to be mixed together. They are attractive to organisations operating
globally, because of the possible mix between local and global dimensions. For
example, a global company may prefer geographically defined divisions as the
operating units for local marketing (because of their specialist local knowledge
of customers). But at the same time, it may still want global product divisions
responsible for the worldwide coordination of product development and
manufacturing, taking advantage of economies of scale and specialisation.

• Because a matrix structure replaces formal lines of authority with cross-matrix
relationships, this often brings problems. It will typically take longer to reach
decisions because of bargaining between the managers of different dimensions.
There may also be conflict because staff may find themselves reporting to managers
from two structural dimensions. In short, matrix organisations are hard to control.
• As with any structure, but especially with the matrix structure, the critical issue
in practice is the way in which it is operated (i.e. the processes and relationships).
Another practicality concerns ownership of strategy by staff. This may require the
‘designation’ of specialist staff to some products or client groups and not others.
Perhaps the key ingredient in a successful matrix structure is that senior managers are
good at sustaining collaborative relationships (across the matrix) and coping with the
messiness and ambiguity which that can bring.
Figure 3.5: A Matrix Structure of a Multinational Organisation

Source: Daft, R.L. (2007). Organisation Theory and Design ,9th edition. Thomson South-Western.
Ohio, USA.

Strengths Weaknesses
• Achieves coordination necessary to meet dual • Causes participants to experience dual
demands from customers authority, which can be frustrating and
• Flexible sharing of human resources across confusing
products • Means participants need good interpersonal
• Suited to complex decisions and frequent skills and extensive training
changes in unstable environment • Is time consuming; involves frequent
• Provides opportunity for both functional and meetings and conflict resolution sessions
product skill development • Will not work unless participants understand
• Best in medium-sized organisations with it and adopt collegial rather than vertical type
multiple products relationships
• Requires great effort to maintain power
balance
Source: Adapted from Duncan, R. (1979). What Is the Right Organisation Structure? Decision Tree
Analysis Provides the Answer,” Organisational Dynamics. Winter, p. 429.
The Transnational Structure

The transnational structure is a means of managing internationally which is particularly
effective in exploiting knowledge across borders. The transnational structure seeks
to obtain the best from the two extreme international strategies, the multi-domestic
strategy and the global strategy. In Figure 3.6, a global strategy would typically be
supported by global product divisions; a multi-domestic strategy would be supported
by local subsidiaries with a great deal of design, manufacturing and marketing
autonomy for all products. In the exhibit, international divisions refer to standalone
divisions tacked alongside the structures of the major home-based business. The
transnational structure, however, attempts to achieve both high local responsiveness
and high global coordination. The success of a transnational corporation is dependent
on the ability to simultaneously achieve global competences, local responsiveness and
organisation-wide innovation and learning. This requires clarity as to boundaries,
relationships and the roles that the various managers need to perform.
Figure 3.6: Multinational Structures

Source: Adapted from Barnett, C. & Goshal, S. (1998) Managing Across Borders: The transnational
corporation, 2nd edition, Random House Publishing, New York, USA.

Note that there are some disadvantages to a transnational structure. It is very demanding
of managers in terms of willingness to work not just at their immediate responsibilities,
but for the good of the transnational as a whole. Diffuse responsibilities also make for
similar complexities and control problems to those of the matrix organisation.
Team-Based Structures
A team-based structure attempts to combine both horizontal and vertical coordination
through structuring people into cross-functional teams – often built around business
processes. For example, an information systems company might have development
teams, product teams and application teams which, respectively, are responsible for:
(a) new product development, (b) service and support of standard products, and (c)
customising products to some customers (or customer groups). Each of these teams
will have a mix of specialists within it – particularly software engineers and customer
service specialists so they can see the issues holistically. Bringing all these specialists
together has great benefits for knowledge sharing and knowledge development.
Team-based structures can also help organisations respond flexibly to diverse

customers. Small self-managed teams are often highly motivated and adaptable, and
therefore can provide better value products or services than a traditional organisation
with strict division of labour and extensive formal controls. However, the complexity
of an organisation working with many small teams can lead to difficulties of control
and raises problems of scaling-up if the organisation aims to work on, for example, a
global scale.
Project-Based Structures
A project-based structure is one where teams are created, undertake the work (e.g.
internal or external contracts), and are then dissolved. This can be appropriate for
organisations that deliver large, expensive and durable goods or services or those
delivering time-limited events, such as, conferences, sporting events or even
management development programmes. The organisation structure is a constantly
changing collection of project teams created, steered and glued together loosely by a
small corporate group. Many organisations use such teams in a more ad hoc way to
complement the ‘main’ structure.
The project-based structure can be highly flexible, with projects being set up and
dissolved as required. Because project teams should have clear tasks to achieve within
a defined life, accountability and control are good. There are disadvantages. Without
strong programme management providing overarching strategic control, organisations
are prone to proliferate projects in an ill-coordinated fashion. The constant breaking up
of teams can hinder the accumulation of knowledge over time or within specialisations.
Overall, team-based and project-based structures have been growing in importance

because of their inherent flexibility. Such flexibility can be vital in a fast-moving world
where individual knowledge and competences need to be redeployed and integrated
quickly and in novel ways.

Choosing Organisational Structures
In reality, few organisations adopt a structure that is just like one of the pure structural
types discussed above. Structures often blend different types and must be tailor-made
to the mix of challenges facing the organisation. Goold and Campbell (1987) provide
nine design tests against which to check specific tailor-made structural solutions. The
first four tests stress ‘fit with the key objectives and constraints of the organisation’:
1. The Market-Advantage Test: this test of ‘fit with market strategy’ is fundamentally
following Alfred Chandler ’s classic principle that ‘structure follows strategy’.
2. The Parenting Advantage Test: the structural design should fit the ‘parenting’ role
of the corporate centre.
3. The People Test: the structural design must fit the people available. It is dangerous
to switch completely from a functional structure to a multidivisional structure
if, as is likely, the organisation lacks managers with competence in running
decentralised business units.
4. The Feasibility Test: this is a catch-all category, indicating that the structure must
fit legal, stakeholder, trade union or similar constraints.
Goold and Campbell then proposed five tests based on good general design principles:
1. The Specialised Cultures Test: this test reflects the value of bringing together
specialists so that they can develop their expertise in close collaboration with
each other. A structure fails if it breaks up important specialist cultures.
2. The Difficult Links Test: this test asks whether a proposed structure will set up
links between parts of the organisations that are important but bound to be
strained.
3. The Redundant Hierarchy Test: any structure design should be checked in case it
has too many layers of management, causing undue blockages and expense.
De-layering due to redundant hierarchies has been an important structural
trend in recent years.
4. The Accountability Test: this test stresses the importance of clear lines of
accountability, ensuring the control and commitment of managers throughout
the structure. Because of their dual lines of reporting, matrix structures are
often accused of lacking clear accountability.
5. The Flexibility Test: in a fast-moving world, an important test is the extent to

which a design will allow for change in the future.
Goold and Campbell’s nine tests (above) provide a rigorous screen for effective
structures. But even if the structural design passes these tests, the structure still needs
to be matched to the other strands of the organisation’s configuration, its processes
and relationships. Each strand will have to reinforce the other.

Play Video
Kesler, K. (2014, February 5). “What is Organisational Design?
[YouTube]. Available at
uu https://www.youtube.com/watch?v=41v3PENTEXw
The following non-graded learning activity is meant to gauge the knowledge gained
from the preceding session. Note that these questions may be discussed within the
unit’s weekly discussion forum.
LEARNING ACTIVITY 3.1

Organisational Structure Through Your Lens
After watching Kesler’s (2014) video on “What is Organisational
Design?”, select an organisation and share your perspectives on the
following:
1. What would this organisation’s structure be classified as?
2. How does this organisational structure align/not align with the

organisational design?
3. How do the key managerial roles help shape the organisational

structure in the organisation you selected?
4. List two key takeaways from the video listed above.
5. How do you think these takeaways can be used to reframe your

current perspectives on organisational structure, design and the
alignment in relation to strategic management?

Session Summary
The concept of structure entails knowledge of its main principles, principal

determinants and types. However, structure describes a specific organisational design.
Organisations exist conceptually as an ideal typical form as either closed or open
systems. All systems have environments. Closed systems are impervious to their
environments or are self-contained systems. On the other hand, open systems have
a direct interdependence with their environments. Organisational structure operates
in the context of an open system. Therefore, no structure is ever final because as
environments constantly change, so will structure. Structure always reflects such
principles as an authority system – centralised or decentralised, division of labour
(specialisation), departmentalisation, formalisation, chain of command and span of
control.
Traditionally, structure followed a vertical format because of an increasingly stable

and predictable environment in the twentieth century, and partly in response to
theoretical prescription based on striving for efficiency and quantitative output. By
the beginning of the 21st century, the business environment had become unstable and
unpredictable, thus resulting in new demands on structural configuration. Because of
this, organisational configuration tended to move in the direction of horizontal design,
especially against the background that knowledge resided in all levels of employees
and not just in management as classical theorists tended to suggest. Nevertheless,
both vertical and horizontal configurations have benefits and drawbacks. A firm’s final
structure may not fit neatly into the suggested types and its final configuration will be
unique (idiosyncratic). It is key that strategic managers recognise such an alignment,
or lack thereof, to aid in the strategic management process.

SSession 3.2
Examining Key Internal Organisational

Divisions
Introduction
As we continue to explore the internal business environment, we focus the magnifying
glass closer within organisational structures to examine the key organisational divisions
that operate within these structures. This session focuses on first understanding the
factors of the internal environment, and the functions of management within these
key divisions, in regard to these factors.
Factors Impacting the Internal Environment

Figure 3.7 outlines Kalpana, R. (n.d.) understanding of the direct factors that impact
the internal business environment
Plans &
Policies
Human
Plant & Resource, Labour
Machinery Management and
Relationships
Internal
Environment
Financial
Corporate Resources
Image
Figure 3.7: Factors that impact the Internal Environment

Source: Adapted from Kalpana’s (n.d.), “Business Environment: The Elements of Business Environment

It is important to note that internal factors which directly impact the internal business
environment are controllable. Thus, a strategic manager and leader must understand
how to control these factors, given the organisational structure. A more detailed
explanation of these factors is provided below.
Plans & Policies

• Should consider a firm’s resources and objectives
• Aids Firms in accomplishing objectives
• Managers MUST analyse plans and policies regularly to anticipate changes within the resources and
objectives of a firm
Human Resource
• Organisational sustainability and survival are dependent on humans as a resource; not to be confused
with a Human Resource department
• Social behaviours greatly impact employee efficiency
• Employee skill, quality, morale, and commitment can harvest or hinder a firm’s success
• Create buy-in with a shared vision among employees
Financial Resources
• Adequate funds are needed to meed an organisation’s working capital and fixed capital requirements
• Help determine capital structure
• Takes into consideration a firm’s financial strategies, policies and procedures
• Management must structure an organisation’s financial strategies, policies & procedures
Corporate Image
• Key to stakeholders such as: potential and current employees, investors, customers
• An unfavourable image can negatively impact a firm’s brand
Plant & Machinery

• Machines and technological systems aid in the effectiveness of various divisions
Labour Management &

Relationships
• A fluid relationship is essential
• Management should strive to maintain good relationships and heighten employee morale
Figure 3.8: Understanding the Factors that Impact the Internal Environment
Source: Adapted from Kalpana’s (n.d.), “Business Environment: The Elements of Business Environment
Key Organisational Divisions

David (2007) identifies 5 key organisational areas:
1. Management
2. Marketing
3. Finance/Accounting Functions
4. Production/Operations
5. Research and Development

Management
Management must understand that within its key functions, the uncertainty of both
the internal and external environment will be constant. As we have discussed the
functions of management, Figure 3.9 depicts which stages of the process do each
function becomes critical.
Figure 3.9: Alignment of Management Functions and the Stages of the Strategic
Management Process
Source: Adapted from David’s (2007) David, F. & David, F. (2007). Strategic Management: Concept and
Cases. New York: Pearson PLC
David (2007) presents his readers with a Management Audit Checklist to assess the
“specific strengths and weaknesses in the functional area of business,” (p. 136). In
reviewing the checklist, an answer of “no” to answer a question could indicate a
potential weakness, whereas, an answer of ‘yes’ could indicate a potential strength.
1. Does the firm use strategic-management concepts?
2. Are company objectives and goals measurable and well communicated?
3. Do managers at all hierarchical levels plan effectively?
4. Do managers delegate authority well?
5. Is the organisation’s structure appropriate?
6. Are job descriptions and specifications clear?
7. Is employee morale high?
8. Are employee turnover and absenteeism low?
9. Are organisational reward and control mechanisms effective?

Marketing
David (2007) defines marketing as “the process of defining, anticipating, creating and
fulfilling customer’s needs and wants for products and services,” (p. 136). The key
functions of marketing are depicted in Figure 3.10. Below is David’s (2007) Marketing
Audit Checklist to ensure detailed evaluation from a managerial perspective.
1. Are markets segmented effectively?
2. Is the organisation positioned well among competitors?
3. Has the firm’s market share been increasing?
4. Are present channels of distribution reliable and cost-effective?
5. Does the firm have an effective sales organisation?
6. Does the firm conduct market research?
7. Are product quality and customer service good?
8. Are the firm’s products and services priced appropriately?
9. Does the firm have an effective promotion, advertising and publicity strategy?
10. Are marketing, planning and budgeting effective?
11. Do the firm’s marketing managers have adequate experience and training?

• Examination and evaluation of customer needs, desires and wants
• May use surveys, analysing consumer information; Evaluating marketing
Customer
positioning strategies; Developing customer profiles; Determining optimal market
analysis segmentation; strategies, INFORMATION ESSENTIAL FOR MISSION STATEMENT
• Should be constantly monitored
Selling products/ • Evaluation of key marketing activities such as advertising, promotions, publicity,
services personal selling, sales, customer relations, and dealer relations
• Test marketing, Product and Brand Positioning, Developing warranties, Packaging,

Product &
Product options, Product features, Product Style, Product Quality, Providing
service planning Customer Service
• Involves stakeholders such as: Consumers, Governments, Suppliers, Distributors,

Pricing
Competitors
• IMPORTANT for strategy implementation. Key areas include: Warehousing,

Distribution Distribution Channels, Retail Site Locations, Sales Territories, Inventory Levels &
Location, Wholesaling, Retailing
Marketing • Gathering, Recording and Analysing Data

research • Research related to marketing goods and services
Opportunity • Assessing costs, benefits and risks.

analysis • TOOL: Cost Benefit Analysis
Figure 3.10: Functions of Marketing

Source: Adapted from David (2007) David, F. & David, F. (2007). Strategic Management: Concept and
Finance/Accounting Functions
David (2007) asserts that the functions of finance are surrounded by three key decisions:
1. Investment decision (Capital budgeting)
2. Financing decision

3. Dividend decision
Financial ratio analysis is best used to assess a firms financial standing. Those will
be discussed within Session 3.3. However, David (2007) gives an overview, which is
condensed below.
1. Liquidity ratios measure a firm’s ability to meet maturing short-term

obligations.
a. Current ratio
b. Quick (acid-test) ratio
2. Leverage ratios measure the extent to which a firm has been financed by debt.
a. Debt-to-total-assets ratio
b. Debt-to-equity ratio
c. Long-term debt-to-equity ratio
d. Times-interest-earned (coverage) ratio
3. Activity ratios measure how effectively a firm is using its resources.
a. Inventory turnover
b. Fixed assets turnover
c. Total assets turnover
d. Accounts receivable turnover
e. Average collection period
4. Profitability ratios measure management’s overall effectiveness as shown by

returns generated on sales and investment.
a. Gross profit margin
b. Operating profit margin
c. Net profit margin
d. Return on total assets
e. Return on stockholders’ equity
f. Earnings per share
g. Price-earnings ratio

5. Growth ratios measure the firm’s ability to maintain its economic position in
the growth of the economy and industry.
a. Sales
b. Net income
c. Earnings per share
d. Dividends per share
Below is David (2007) Marketing Audit Checklist to ensure detailed evaluation from
a managerial perspective.
1. Where is the firm financially strong and weak as indicated by financial ratio
analysis?
2. Can the firm raise needed short-term capital?
3. Can the firm raise needed long-term capital through debt and/or equity?
4. Does the firm have sufficient working capital?
5. Are capital budgeting procedures effective?
6. Are dividend payout policies reasonable?
7. Does the firm have good relations with its investors and stockholders?
8. Are the firm’s financial managers experienced and well trained?

Production/Operations
Figure 3.11: Functions of Productions/Operations

Below is David’s (2007) Production/Operations Audit Checklist to ensure detailed

evaluation from a managerial perspective.
1. Are suppliers of raw materials, parts and subassemblies reliable and reasonable?
2. Are facilities, equipment, machinery and offices in good condition?
3. Are inventory-control policies and procedures effective?
4. Are quality-control policies and procedures effective?
5. Are facilities, resources and markets strategically located?
6. Does the firm have technological competencies?

Research and Development
Research and development is an important organisation area. Without it, a firm’s long
term survival cannot be shaped through strategy. Thus, organisations invest in this area
to gain a strong competitive advantage. The functions of research and development
work together, and are depicted below in Figure 3.12.
Figure 3.12: Functions of Research & Development

Below is David (2007) Research and Development Audit Checklist to ensure detailed
evaluation from a managerial perspective.
1. Does the firm have R&D facilities? Are they adequate?
2. If outside R&D firms are used, are they cost effective?
3. Are the organisation’s R&D personnel well qualified?
4. Are R&D resources allocated effectively?
5. Are management information and computer systems adequate?
6. Is communication between R&D and other organisational units effective?
7. Are present products technologically competitive?

It is important to know that all audit checklist presented by David (2007) are designed
to assess the strengths and weaknesses of the organisational divisions.
The following non-graded learning activity is meant to gauge the knowledge gained
from the preceeding session. Note that these questions may be discussed within the
unit’s weekly discussion forum.

Perspectives on Local Organisational Divisions
Select an organisation and, with the exception of the Financial division,
use the divisional organisational checklists presented to assess the
strength and weaknesses of the organisation.
1. Based on your organisational analysis, which areas do the
organisations have the greatest strengths in? Why?
2. Which areas do the organisation exhibit areas of improvement? Why?
Session Summary
In understanding the various key divisions of an organisation, a strategic manager

and leader can individually assess the strengths and weaknesses of each division,
and, in turn, develop strategies that strength each division, and the organisation as
a whole. Drawing from Session 3.1, the selected organisational structure and design
could be fortified by establishing strong organisational divisions. Thus, organisational
stability and sustainability can be attainable. Strategic managers and leaders are in
place to ensure the correct alignment between strategic divisions and organisational
structures.

SSession 3.3
The Micro-Environment and Internal

Organisational Assessment Tools
Introduction
As much as organisational sustainability is dependent on the external environment,
it is also heavily dependent on the internal environment. As mentioned previously,
because firms can directly control the internal environment, a keen understanding of the
micro-environmental tools can provide a framework for an analytical understanding
of controllable factors. This can enable strategic managers and leaders to capitalise on
organisational strengths while minimising organisational weaknesses. In this session,
internal organisational tools are introduced and described. More specifically, the
following tools will be examined:
1. Resource-Based View
2. SWOT Analysis
3. Opportunity/Cost Benefit Analysis
4. Financial Ratio Analysis
5. Value Chain Analysis
6. Benchmarking
7. The Internal Factor Evaluation (IFE) Matrix
Resource-Based View Tool

Edith Penrose (1959) argues that a firm’s only competitive advantage rests in its
superior adaptation to business conditions by effectively coordinating its internal
resources. Most of these resources were considered intangibles, such as competences,
employee knowledge, unique organisational routines and ability to learn. Additionally,
Penrose’s theory forms the basis for the resource-based view of the firm and its link
to maintaining a competitive advantage by focusing on a firm’s internal resources.
David (2007) asserts that this view is an approach to a competitive advantage in which
internal resources are viewed as more important than the external factors of a firm.

More specifically, this view “contends that organisational performance will primarily
be determined by internal resources that can be grouped into three all-encompassing
categories: physical resources, human resources and organisational resources,” (p.
125). Along these lines, David (2007) identifies “the basic premise of the RBV is that
the mix, type, amount, and nature of a firm’s internal resources should be considered
first and foremost in devising strategies that can lead to sustainable competitive
advantage,” (p. 125).
A valuable resource is classified as:
1. Rare
2. Hard to eliminate
3. Not easily substitutable
“The more a resource(s) is rare, non-imitable, and non-substitutable, the stronger a

firm’s competitive advantage will be and the longer it will last,” (David, 2007, p. 125).
SWOT Analysis
A “SWOT analysis is an analytical method which is used to identify and categorise
significant internal (Strengths and Weaknesses) and external (Opportunities and
Threats) factors faced either in a particular arena, such as an organisation, or a territory,
such as a region, nation, or city,” (Concept Draw, n.d., p. 1). A S.W.O.T analysis enables
strategists to ascertain whether a firm’s strategy fits with its strengths or not and
indicates what actions it must take to successfully negotiate the changing conditions
of emerging or maturing industries and other competitive vagaries A SWOT analysis
is beneficial because it provides information that matches an organisations resources
and capabilities to the environment, and, in turn, minimise the weaknesses that could
hinder the organisation internally. Figure 3.13 depicts a SWOT analysis. The strengths
and the weaknesses evaluate the internal factors.

Figure 3.13: SWOT Analysis
Source: Adapted from ConceptDraw (2017). Swot Analysis Matrix
Opportunity/Cost Benefit Analysis Tool

The opportunity analysis “involves assessing the cost, benefits, and risks associated
with marketing decisions,” (David, 2007, p. 139). In using this tool, David (2007)
outlines three key steps:
1. Compute the total costs associated with a decision
2. Estimate the total benefits from the decision made
3. Compare the total costs with the total benefits
It is important to note the follow ing according to David (2007):
• “When the expected benefits exceed total costs, an opportunity becomes more
attractive,” (p. 139)
• Some variables cannot be quantified or measured, estimates can be allowed.

• This analysis should be conducted when a company is trying to be more socially
responsible.
Value Chain Analysis

A value chain shows the set of linked activities and functions it performs internally
in creating a product or service for customers. The value chain describes the activities
within and around an organisation which together create a product or service. It is the
cost of these value activities and the merit they deliver that determines whether or not
best value products or services are developed. The concept was used and developed
by Michael Porter in relation to competitive strategy. Figure 3.14 is a representation
of a value chain. Primary activities are directly concerned with the creation or delivery
of a product or service and can be grouped into five main areas. For example, for a
manufacturing business:
• Inbound logistics are the activities concerned with receiving, storing and
distributing the inputs to the product or service. They include materials handling,
stock control, transport, etc.
• Operations transform these various inputs into the final product or service:
machining, packaging, assembly, testing, etc.
• Outbound logistics collect, store and distribute the product to customers. For
tangible products, this would be warehousing, materials handling, distribution,
etc. In the case of services, they may be more concerned with arrangements for
bringing customers to the service if it is a fixed location (e.g. sports events).
• Marketing and sales provide the means whereby consumers/users are made aware
of the product or service and able to purchase it. This includes sales administration,
advertising, selling, etc. In public services, communication networks which help
users access a particular service are often important.
• Service includes all those activities which enhance or maintain the value of a
product or service, such as installation, repair, training and spaces.

Figure 3.14: Value Chain
Source: Porter, M.E. (1985). Competitive Advantage: Creating and Sustaining Superior Performance,
Free. Used with permission of The Free Press, a division of Simon & Schuster. Inc. © 1985, 1988
The value chain analysis (VCA) refers to the process whereby a firm determines the
costs was associated with organisational activities from purchasing rat materials, to
manufacturing product(s), to marketing those products. VCA aims to identify where
low-cost advantages or disadvantages exists anywhere along the value chain from
raw material to customer activities,” (David, 2007, p. 154)
The value chain enables a strategic cost analysis, which allows an understanding of
both the internal cost structure of a firm as well as its rivals’. Firms create value in their
value chains. Value chains incur costs. Consequently, an examination of a firm’s value
chain permits a firm to conduct strategic cost analysis that not only identifies its own
internal cost structure, but also
that of its rivals. In this context, one must be knowledgeable of the two main ways of
controlling costs in the value chain: managing costs drivers and revamping the value
chain. Otherwise, a competitive advantage can be easily lost if such knowledge is
absent.
When discussing competitive advantage, it is important that firms recognise their

value chains for competitive advantage. An examination of one’s value chain permits
a firm to conduct strategic cost analysis that not only identifies its own internal cost
structure, but that of its rivals. Again, one must be knowledgeable of the two main
ways of controlling costs in the value chain: managing costs drivers and revamping
the value chain.
If organisations are to achieve competitive advantage by delivering value to customers,

they need to understand how that value is created or lost. The value chain and value
network concepts can clarify how value is created or lost in terms of the activities
undertaken by organisations. Competitors must be ever alert as to how their costs

compare with rivals. Strategic cost analysis allows a firm to explore their own internal
costs and to ascertain how they compare with others in the same market.
Every company’s business consists of a collection of activities undertaken during

designing, producing, marketing, delivering, and supporting its product or service.
Each of these activities gives rise to costs. The combined costs of all these various
activities define the company’s internal cost structure. The task of strategic cost analysis
is to compare a company’s costs activity by activity against the costs of key rivals, and
to learn which internal activities are sources of cost advantage or disadvantage. The
primary analytical tool of strategic cost analysis is a value chain.
A company’s value chain and the way it performs each activity reflect the evolution of its
own business and internal operations, its strategy, the approaches it is using to execute
its strategy, and the underlying economics of the activities themselves (Thompson
& Strickland, 2003). This means companys’ value chains differ substantially, which
makes assessing rivals’ cost positions more complicated.
There are two ways to achieve a cost advantage in the analysis of the value chain
(Strickland & Thompson, 2003, p. 153):
1. Do a better job than rivals of performing internal value chain activities

efficiently and of managing the factors that can drive down the costs of value
chain activities;
2. Revamp the firm’s value chain to bypass some cost-producing activities

altogether.
The Value Chain and Cost Drivers

There are nine major cost drivers that play a role in determining a company’s costs in
each activity segment of the value chain.
1. Economies of scale – The costs of a particular value chain activity are often
subject to economies or diseconomies of scale. Economies of scale arise
whenever activities can be performed more cheaply at larger volumes than
smaller volumes and from the ability to spread out certain costs like R&D and
advertising over a greater sales volume.
2. Learning and experience curve effects – The cost of performing an activity can
decline over time due to economies of experience and learning. Experience-
based cost savings can come from much more than just personnel learning how
to perform their tasks more efficiently and the debugging of new technologies.
Other valuable sources of learning/experience economies include seeing
ways to improve plant layout and work flows, or to make product design
modifications that enhance manufacturing efficiency.

3. The costs of key resource inputs – Managing the costs of acquiring key resource
inputs is often a big driver of costs. Input costs include union versus non-union
labour, bargaining power of suppliers and location variables.
4. Link with other activities in the company or industry value chain – When the
cost of one activity is affected by how other activities are performed, costs can
be managed downward by making sure that linked activities are performed
in cooperative and coordinated fashion. For example, the cost of new product
development can often be managed downward by having cross-functional
task forces (perhaps including representatives of suppliers and key customers)
jointly work on R&D, product design, manufacturing plans, and market launch.
5. Sharing opportunities with other organisational or business units within the

enterprise – Different product lines or business units within an enterprise can
often share the same order processing and customer billing systems, utilise a
common sales force to call customers, share the same warehouse and distribution
facilities, or rely on a common customer service and technical support team.
Cost sharing can help achieve scale economies, shorten the learning curve in
mastering a new technology, and/or promote fuller capacity utilisation.
6. The benefits of vertical integration versus outsourcing – It allows the firm

to detour suppliers or buyers with considerable bargaining power. Vertical
integration forward or backward also has the potential if there are significant
cost-savings from having a single firm perform adjacent activities in the value
chain. However, it is often cheaper to outsource certain functions and activities
to outside specialists, who by virtue of their expertise and volume, can perform
the activity/function more cheaply.
7. Timing considerations associated with first-mover advantage and

disadvantages – Sometimes the first major brand in the market can establish
and maintain its brand name at a lower cost than later brand arrivals. This has
proved true in new Internet businesses where being first and biggest creates
potent brand-name recognition as happened with such firms as eBay, Yahoo!,
and Amazon.com.
8. The percentage of capacity utilisation – Capacity utilisation is a big cost driver

for those value chain activities that have substantial fixed costs associated
with them. Higher rates of capacity utilisation allow depreciation and other
fixed costs to be spread over a larger unit volume, thereby lowering fixed costs
per unit. Finding ways to operate close to full capacity year-round can be an
important source of cost advantage.
9. Strategic choices and operating decisions – A company’s costs can be driven

up or down by a fairly wide assortment of managerial decisions:
• Adding/cutting the services provided to customers/buyers.
• Paying higher/lower wages and fringes to employees relative to rivals and

firms in other industries.

• Lengthening/shortening delivery times to customers.
• Putting more/less emphasis than rivals on the use of incentive compensation

to motivate employees and boost worker productivity.
Benchmarking
David (2007) asserts that benchmarking is an analytical tool used to determine
whether a firm’s value chain activities are competitive compared to rivals, and thus,
conductive to winning in the marketplace. It includes measuring the costs of value
chain activities across an entire industry to establish “best practices” for competition.
Thus, benchmarking aids a firm to maintain a competitive advantage by focusing on
areas where there is no competitive advantages, and, improving on them. However,
it requires attaining competing firms value chain activities as well. David states
that sources of information for benchmarking include “published reports, trade
publications, suppliers, distributors, customers, partners, creditors, shareholders,
lobbyists, and willing rival firms,” (p. 157).
Financial Ratio Analysis Tools

David (2007, p. 144) outlines the financial ratios that were summarised in Session
3.2.They are outlined in Table 3.14 below.
Table 3.14: Summary of Financial Ratios
Ratios How It is Calculated What It Measures

Liquidity Ratios
current ratio current assets the extent to which a firm can meet its
current liabilities short-term obligations
Quick ratio the extent to which a firm can meet its short-
current assets minus inventory
term obligations without relying on the sale
current liabilities of its inventories
Leverage Ratios
Debt-to-total-assets ratio total debt the percentage of total funds that are provid-
ed by creditors
total assets
Debt-to-equity ratio total debt the percentage of total funds provided by
creditors versus by owners
total stockholders’ equity
Long-term Debt-to-equity Long-term debt the balance between debt and equity in a
Ratio total stockholders’ equity firm’s long-term capital structure
Times-interest-earned ratio Profits before interest and taxes the extent to which earnings can decline
without the firm becoming unable to meet its
total interest charges annual interest costs

Activity Ratios
inventory turnover Whether a firm holds excessive stocks of
inventories and whether a firm is slowly
Sales selling its inventories compared to the
inventory of finished goods industry average
Fixed assets turnover Sales Sales productivity and plant and equipment
utilisation
Fixed assets
Total assets turnover Sales Whether a firm is generating a sufficient

volume of business for the size of its asset
total assets investment
accounts receivable annual credit sales the average length of time it takes a firm to
turnover collect credit sales (in percentage terms)
accounts receivable
average collection Period accounts receivable the average length of time it takes a firm
total credit sales/365 days to collect on credit sales (in days)
Profitability Ratios
Sales minus cost of goods sold the total margin available to cover operating
gross Profit Margin expenses and yield a profit
Sales
Profitability without concern for taxes and

Operating Profit Margin earnings before interest and taxes eBit interest
Sales
net Profit Margin net income after-tax profits per dollar of sales
Sales
net income after-tax profits per dollar of assets; this ratio

return on total assets
is also called return on investment (rOi)
(rOa) total assets
return on Stockholders’ after-tax profits per dollar of stockholders’

equity (rOe) investment in the firm
net income earnings available to the owners of common

earnings Per Share (ePS) number of shares of common stock stock
outstanding
attractiveness of firm on equity markets

Price-earnings ratio Market price per share
earnings per share
Growth Ratios
Sales annual percentage growth in total sales Firm’s growth rate in sales
net income annual percentage growth in profits Firm’s growth rate in profits
earnings Per Share annual percentage growth in EPS Firm’s growth rate in ePS
Dividends Per Share annual percentage growth in dividends Firm’s growth rate in dividends per share
per share

The Internal Factor Evaluation Matrix
A summary step in conducting an internal strategic-management audit is to construct
an Internal Factor Evaluation (IFE) Matrix. This strategy-formulation tool presented
by David (2007, p 159) summarises and evaluates the major strengths and weaknesses
in the functional areas of a business, and it also provides a basis for identifying and
evaluating relationships among those areas. Intuitive judgments are required in
developing an IFE Matrix, so the appearance of a scientific approach should not be
interpreted to mean this is an all-powerful technique. A thorough understanding of
the factors included is more important than actual numbers. Similar to the EFE Matrix
and Competitive Profile Matrix, an IFE Matrix can be developed in five steps:
1. List key internal factors as identified in the internal-audit process. Use a total
of from 10 to 20 internal factors, including both strengths and weaknesses. List
strengths first and then weaknesses. Be specific as possible, using percentages,
ratios, and comparative numbers.
2. Assign a weight that ranges from 0.0 (not important) to 1.0 (all-important)
to each factor. The weight assigned to a given factor indicates the relative
importance of the factor to being successful in the firm’s industry. Regardless
of whether a key factor is an internal strength or weakness, factors considered
to have the greatest effect on organisational performance should be assigned
the highest weights. The sum of all weights must equal 1.0.
3. Assign a 1-to-4 rating to each factor to indicate whether that factor represents
a major weakness (rating = 1), a minor weakness (rating = 2), a minor strength
(rating = 3), or a major strength (rating = 4). Note that strengths must receive
a 3 or 4 rating and weaknesses must receive a 1 or 2 rating. Ratings are thus
company-based, whereas the weights in step 2 are industry-based.
4. Multiply each factor ’s weight by its rating to determine a weighted score each
variable.
5. Sum the weighted scores for each variable to determine the total weighted
score for the organisation.
Regardless of how many factors are included in an IFE Matrix, the total weighted score
can range from a low of 1.0 to a high of 4.0, with the average score being 2.5. Total
weighted scores well below 2.5 characterise organisations that are weak internally,
whereas scores significantly above 2.5 indicate a strong internal position. Like EFE
Matrix, an IFE Matrix should include from 10 to 20 key factors. The number of factors
has no effect upon the range of total weighted scores because the weights always sum
to 1.0.
When a key internal factor is both a strength and a weakness, the factor should be
included twice in the IFE Matrix and a weight and rating should be assigned to each
statement. For example, the Playboy logo both helps and hurts Playboy Enterprises;
the logo attracts customers to Playboy magazine, but it keeps the Playboy cable channel

out of many markets. Be quantitative as possible when stating factors. Use $’s, %’s #’s,
and ratios to the extent possible. An example of an IFE Matrix for E*trade is provided
in Table 3.15. Note that the firm’s strengths are its flat commission, banking accounts,
and services to investors, as indicated by the rating of 4. The major weaknesses are
declining brokerage accounts and limited number of branches. The total weighted
score of 2.67 indicates that this large brokerage firm is above average in its overall
internal strength.
Table 3.15: Sample Internal Factor Evaluation Matrix for E*Trade Financial Corp
WEIGHTED
KEY EXTERNAL FACTORS WEIGHT RATING
SCORE
Strengths
E*Trade provides 24-hour, 7 day services 0.08 3 0.24

E*Trade has customer base in 119 countries 0.06 3 0.18
E*Trade has more than 20,000 ATMs, making it the second largest
0.03 3 0.09
ATM network in the United States.
E*Trade’s “Power E” offers a flat commission of $9.99 per trade for
0.1 4 0.4
investors who trade 27 or more times per quarter.
E*Trade’s recent earnings were $0.59 per share from ongoing
0.08 4 0.32
operations compared to $0.45 per share a year ago.
E*Trade Bank is an excellent online banking platform. 0.05 3 0.15

E*Trade’s new banking accounts increased from 127,047 in 2003 to
over 140,000 in 2005. 0.09 4 0.36
E*Trade provides research database and personal assistance
services to investors. 0.05 4 0.2
E*Trade’s “Total Protection Guarantee” provides customers 100

0.05 3 0.15
percent fraud coverage and privacy protection.
No E*Trade Board of Director member is an E*Trade executive. 0.03 3 0.09
Weaknesses
E*Trade’s total debt-to-equity ratio is 0.36 compared to the industry

average of 0.9. 0.03 2 0.06
Active retail brokerage accounts decreased from 3,690,917 in 2002
to 2,848,625 in 2003. 0.1 1 0.10
E*Trade currently has limited number of branches for customers to
go to for assistance. 0.07 1 0.07
E*Trade has experienced computer system failures. 0.03 2 0.06
E*Trade’s revenues (97 percent) come from the United States,

Europe, or Southeast Asia. 0.1 1 0.10
E*Trade’s return on assets (ROA) is considerably lower than the
industry average. 0.03 2 0.06
CEO Kris Kasotkos’s $80 million severance payoff was hidden in the
financial statements. 0.02 2 0.04
Total 1.00 2.67

Perspectives on Internal Environments of Organisations.
Select an organisation and, using 2 or more tools, perform an internal
analysis on the organisation.
1. Based on your internal organisational analysis, in which areas

does the organisations have a great competitive advantage?
2. Which areas can be classified as weak areas for the organisation?

Why?
Session Summary
Being the factors that an organisation can control, the understanding of the internal
assessment tools can enable strategic managers to better position themselves to
make sound decisions that will impact the strategic management process. Key
decision makers at organisations are responsible for controlling the internal business
environment, and implementing strategies that will ensure competitive advantage
and sustainability. Thus, understanding the internal business environment can shape
the strategic management process at various stages.
UNIT SUMMARY
The main task of Unit 3 was to delve into the internal business environment surrounding
organisations. In doing so, key internal tools of analysis were presented in an effort
to stress the importance of strategic decisions controlling the factors that are within
reach. Taking this into Taking this into consideration, key takeaways include:
• In-depth understanding of key internal drivers can enable a firm not only to
maintain a competitive advantage, but to attain a sustainable market position.
• In-depth understanding of the organisational structures can position strategic

managers to make better decisions which capitalise on the primary resource:
humans.
• Strategic management and internal roles are key in decision making or how to best
control the internal business environment.

References
ConceptDraw (2017). SWOT Analysis. Retrieved from https://conceptdraw.com/

a462c3/preview--SWOT%20analysis%20matrix
Daft, R.L. (2007). Organisation Theory and Design, 9th edition. Thomson South-
Western. Ohio,USA.
David, F. & David, F. (2007). Strategic Management: A competitive advantage approach.

New York: Pearson PLC.
Johnson, Scholes & Whittington. (2005). Exploring Corporate Strategy, 7th edition.
Prentice Hall.
Kalpana, R. (n.d.). Business Environment: The elements of business environment.

Retrieved from http://www.businessmanagementideas.com/business-
environment/business-environment-the-elements-of-business-environment-
1968-words/507
Porter, M. E. (1985). Competitive advantage: creating and sustaining superior

performance. 1985. New York: FreePress.
Thompson, A. A., & Strickland, A. J. (1998). Crafting and implementing strategy: text
and readings.

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U U N IT

An appreciation of internal business processes is a strategic priority as it focuses on

Unit 3 provides an overview and a framework for understanding the internal

66  © 2017 University of the West Indies Open Campus

By the end of this Unit you will be able to:

1. Conduct a thorough analysis of the internal environment using specific

2. Examine internal organisational divisions.

3. Integrate strategic management concepts and managerial roles.

This Unit is divided into three sessions as follows:

Session 3.1: Strategic Management and Internal Managerial Roles

Session 3.2: Examining Key Internal Organisational Divisions

Session 3.3: The Micro-Environment and Internal Organisational Assessment

Reading and Resource

Strategic Management: Evaluation and Execution (2016). Chapter 4: Managing

67  MGMT3031 Business Strategy & Policy – UNIT 3

Strategic Management and Internal

Organisational Structure as Configuration

68  MGMT3031 Business Strategy & Policy – UNIT 3

• Formalisation pertains to the amount of written documentation in the organisation.

• Documentation includes standard operating procedures, job descriptions,

• Specialisation or division of labour is the degree to which organisational tasks

• Span of control means the number of employees reporting to one manager/

• Size is the organisation’s magnitude as reflected in the number of people in the

• Organisational technology describes the organisation’s tools, techniques,

69  MGMT3031 Business Strategy & Policy – UNIT 3

Figure 3.1: Organisational configurations: structure, processes and

70  MGMT3031 Business Strategy & Policy – UNIT 3

»» relationships between organisational units and the centre (corporate parents);

2. The importance of knowledge creation and knowledge sharing as fundamental

1. Organisation structure designates formal reporting relationships including the

2. Organisation structure identifies the grouping together of individuals into

71  MGMT3031 Business Strategy & Policy – UNIT 3

These elements of structure pertain to both vertical and horizontal aspects of

Managers often start describing their organisation by drawing an organisation chart

72  MGMT3031 Business Strategy & Policy – UNIT 3

The Functional Structure

However, there are disadvantages, particularly as organisations become larger or more

73  MGMT3031 Business Strategy & Policy – UNIT 3

Sales and Finance and

Figure 3.2: A Functional Structure

The Multidivisional Structure

• As self-standing business units, it is possible to control divisions from a distance

• Geographical divisions offer a means of managing internationally.

74  MGMT3031 Business Strategy & Policy – UNIT 3

• Management responsibility for a whole divisional business is good training in

• Finally, ‘divisionalisation’ tends to get in the way of cooperation and knowledge

Division A Division B Division C Division D Division E

Functions Functions Functions Functions Functions

Figure 3.3: A Multidivisional Structure

75  MGMT3031 Business Strategy & Policy – UNIT 3

The Holding Company Structure

The Horizontal Structure

76  MGMT3031 Business Strategy & Policy – UNIT 3

1. Structure is created around cross-functional core processes rather than tasks,

2. Self-managed work teams represent the foundation of organisational design

3. Process owners have responsibility for the entire core process.

5. Teams have the freedom to think ‘outside the box’.

6. Customers drive the horizontal corporation.