CHAPTER 8

A Brief History of Organizational Innovation

To set the context for the new organizational possibilities being created at the juncture of computing and communications, it's worth looking at a series of prior ideas and practices that explained functions, companies, corporations, and the markets in which they interacted. Where facilities were located, how much things cost, and who created them all derived from often-unspoken assumptions that the current period sometimes calls into question.

In our era, many elements of organizational life are in transition or are being subjected to multiplying possibilities:

• Where does work happen?
• Who tells people what to do?
• How is performance assessed, and by whom?
• Why do organizations exist?
• How is value created, stored, and exchanged?

Before we can understand how the computing and communications revolutions of the past quarter century are changing the shape of groups that perform work, it's useful to see how those groups have been understood over time.

1776: Division of Labor

Adam Smith's description of pin making is borrowed from a French and perhaps dated source. Nevertheless, the notion of taking an industrial process and letting un- or semiskilled individuals focus on discrete process steps was clearly a step away from craft work, in which a relatively skilled individual was responsible for more or perhaps all operations.

Smith asserted that 10 men could make 48,000 pins per day in contrast to an individual working alone, who might make between 1 and 20: a theoretical gain of 2,400%, at minimum.

1860–1890: Railroads and the Rise of Administration

A little less than a century later, railroads posed an entirely new set of business challenges. The broad geographic coverage of railroads necessitated new institutions of both centralized control and distributed execution. As one scholar put it, “The major railroad companies pioneered the organizational structure that has become known as ‘Big Business’ in the decades between 1860 and 1890, which was the organizational analogue of the physical infrastructure.”² The telegraph, a powerful network in its own right, was essential for the many coordination tasks of railroad management, and the two technologies grew in tandem, often sharing rights of way.

Railroads literally invented much of modern management practice. Local “solar” time was impractical for system timetables, so standardized time zones were instituted in the 1880s. The scale of capital that had to be raised was so vast that ownership, often in joint-stock corporations, was separated from management, which had many specific and technically sophisticated variations. Railroad management became a career track, entirely separate from both manual labor and the classic professions of the ministry, medicine, or law.³

1910: Scientific Management and the Further Division of Labor

In an age characterized by labor strife, ethnic tension, and rapid industrial expansion in both Europe and the United States, Frederick Winslow Taylor helped initiate a movement with far-reaching consequences. A respected authority who was invited to lecture at the newly formed Harvard Business School, Taylor believed that the interests of labor and capital could be harmonized if three root causes were addressed:

1. Workers slowed their pace (“soldiered”) and limited output to protect their jobs.
2. Management techniques were defective, forcing labor into an adversarial posture.
3. The inefficiency of rule-of-thumb planning and production methods limited material output.

In response, Taylor separated task conception from its execution: Management's job was to find the “one best way” of doing a job (usually through time-and-motion studies in which task elements were broken down and timed with the infamous stopwatch), then to teach unskilled laborers that particular method. In this way, labor became fungible, and what later became known as “best practices” could be more uniformly applied. As Taylor wrote in 1911,

One key to aligning the interests of labor and capital was the piece-rate system, in which output correlated to compensation. Such a system could be, and was, frequently gamed, particularly by management; “speedups” and recalibration of wage scales in the face of increased performance were common. To see the lasting impact of Taylorism, one need only step into a McDonald's, where all cooking skill is engineered into the infrastructure, albeit without the piecework pay scheme.

1930s: Alfred Sloan at General Motors

On its way to becoming the world's largest industrial corporation, General Motors grew rapidly, primarily through acquisition in the early years. Coordination among the many operating entities was minimal as the entrepreneurial heads maintained owner-manager roles. At the scale of a loosely organized huge corporation, levels of spending could rise to potentially dangerous levels. In a precursor to Cisco's record-setting $2 billion write-down of excess networking inventory in 2001, GM suffered inventory losses of more than $83 million—more than $1 billion in 2010 dollars—in 1921–1922.

In response, an engineer/entrepreneur named Alfred Sloan (who later became the company's chief executive officer) helped create the divisional structure. GM automobile brands, including Cadillac, Oldsmobile, and Chevrolet, were structured by market price point, then allowed to operate relatively autonomously to coordinate supply and demand. Planning and forecasting grew in importance, and consumption data, in the form of R. L. Polk collections of automobile registrations,* was tied to production. GM became closely identified with an organizational structure built on line (day-to-day operational), staff (analysis and oversight), and general (headquarters) management. Sloan added an additional refinement: interdivisional committees for such activities as new product development or sales. These committees themselves had full-time staffs.⁵

1937–1981: Transaction Costs

Why do firms exist? Beginning with Ronald Coase in the 1930s and continuing through the work of Oliver Williamson, both Nobel laureates, a school of thought has focused on when internally organized resources at a firm (such as an office supply cabinet) are preferable to going to the market (a trip to the store to buy pencils). Traditional notions of price mechanisms do not apply to behavior inside a firm: “Within a firm, these market transactions are eliminated and in place of the complicated market structure with exchange transactions is substituted the entrepreneur-co-ordinator, who directs production.”⁶ Instead, a variety of transaction costs apply to firms, which eventually came to be defined as being related to:

• Search and information (location of supplier and required inventory, price, etc.)
• Bargaining costs, including both negotiation and formal contracting
• Policing and enforcement of the terms of the transaction⁷

Yet Coase's emphasis on an entrepreneur was already dated; the railroads had separated capital from management many decades earlier, and Sloan was then introducing at GM an extremely complex model that relied on various species of managers. Those managers had as their goal not always the profitability of the firm but the preservation of their position, a trait noticed by the German sociologist Max Weber in Economy and Society (1922) well before Coase wrote.

The notion of transaction cost economics does have important implications for the modern organization, however. If technologies can lower the cost of dealing with the market, as in a browser-based self-service travel site, firm-based travel resources can be freed up. At the same time, the distance of most bureaucracies from the market, and from that “entrepreneur-coordinator” role, can lead to slow decisions, non-value-adding effort, and other traits that inhibit firm performance.

1980s: Economies of Scope and Core Competencies

Economies of scale are familiar: The more a producer makes of a single item, the lower the cost of raw materials, production facilities and expertise, and perhaps sales channels. But what happens if the producer sells two or more items? Here economies of scope may apply: In the words of one of the seminal articles of the period, “if economies of scope are based upon the common and recurrent use of proprietary knowhow [sic] or the common and recurrent use of a specialized and indivisible physical asset, then multiproduct enterprise (diversification) is an efficient way of organizing economic activity.”⁸

In other words, there may be economic logic in favor of a bus company with large parking lots and a crew of diesel mechanics starting a heavy-truck rental business that utilizes some of the same assets. If Procter & Gamble already has a sales force and distribution channel to grocery and discount department stores in place for cleaning supplies, buying Gillette and its Duracell battery brand should build on the existing capabilities and infrastructure.

Shortly after this justification for diversification came into circulation, however, business school professors Gary Hamel and C. K. Prahalad asserted the notion of core competencies, the handful of deep proficiencies that separate a firm from its competitors.⁹ In the best-case scenario, a core competency is difficult to copy, can be applied across multiple product lines or geographies, and is experienced as a valued attribute by the customer. Core competencies take years or decades to develop and ideally become part of the organization's culture and identity. Developing the depth of expertise needed for core competency, and the need for a long-term view, can be difficult to balance against the urge to acquire or otherwise diversify in pursuit of the oft-cited but seldom realized quality of “synergy.”

1995: Linux as “Commons-Based Peer Production”

The Harvard legal scholar Yochai Benkler contrasts the organizational model behind Linux, and later Wikipedia, against those of both individuals in markets and employees in firms working for managers. His 2002 paper “Coase's Penguin” bridges the worlds of software development and economic theory, explaining the paper's mission succinctly:

According to Benkler, altruism is irrelevant to any discussion of why people contribute their labor, credibility, and other resources to such efforts: Commons-based peer production allows people to self-identify for informational or cultural questions, and the management problem that challenges most organizations becomes instead an exercise in editorial filtering:

2000: Offshore

In an industrial age, manufacturing facilities needed to be placed at a nexus of labor, capital, and raw materials. Thus, waterpower helped establish New England as a center for textiles and shoemaking for a time, Pittsburgh became the center of steel making, and Detroit emerged at the core of the U.S. auto industry. As economies rely more on services, no longer do factories have to close in search of labor arbitrage and access to emerging markets for jobs to be exported. Rather, some kinds of services can be delivered through a wire (call centers and computer programming are familiar examples) while other services, such as nursing, truck driving, and the proverbial haircut, are destined to be delivered in person.

The line between personal and impersonal services, as the Princeton economist Alan Blinder has named them, does not follow class lines, as factory closings did. High-wage equity analysis, radiology interpretation, and new-product design can move to offshore locales just as easily as manufacturing, call center, and transcription services, each a traditionally low-wage position. As Blinder noted in 2006:

Looking Ahead

The evolution reflected in these few readings has wide-ranging implications for every facet of every modern society. The logic of factory location is completely different from that of universities, venture capital firms, or data centers. Education for a lifetime of abstract cognitive work must coexist with practical training for hotel and restaurant management or elementary school teaching. The life expectancy of a manual laborer, particularly in the presence of toxins, may or may not be different from that of office workers in the same country, particularly if the latter tend to be sedentary. The long-term, possibly career-long, implicit employment contract that held true for union automobile workers, for example, is fading to be a distant memory. Tax revenues, the lifeblood of every community, every state, and every major nation, are changing as a result of new work practices (outsourcing), wage scales, and value delivery arrangements (self-service). Finally, people are essentially social animals and now have at their disposal a variety of technologies that augment and ideally enhance that sociability.

Notes

1. Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, section I.1.3, www.econlib.org/library/Smith/smWN1.html#B.I,%20Ch.1,%200f%20the%20Division%20of%20Labor.

2. Amy Friedlander, Emerging Infrastructure: The Growth of Railroads (Reston, VA: Corporation for National Research Initiatives, 1994), p. 7.

3. Alfred D. Chandler, The Visible Hand: The Managerial Revolution in American Business (Cambridge, MA: Harvard Belknap Press, 1977), pp. 87–89.

4. Frederick Winslow Taylor, The Principles of Scientific Management (1911; reprint, Norton, 1967), p. 8. See also John M. Jordan, Machine-Age Ideology: Social Engineering and American Liberalism, 1911–1939 (Chapel Hill: University of North Carolina Press, 1994), pp. 39 ff.

5. Chandler, Visible Hand, pp. 456–463.

6. Ronald Coase, “The Nature of the Firm,” Economica 4, no. 16 (1937): 388.

7. Carl Dahlman, “The Problem of Externality,” Journal of Law and Economics 21, no. 2 (1979): 141–162.

8. David J. Teece, “Economies of Scope and the Scope of the Enterprise,” Journal of Economic Behavior & Organization 1, no. 3 (September 1980): 223–247. See also John Panzar and Robert Willig, “Economies of Scale in Multi-Output Production,” Quarterly Journal of Economics 91, no. 3 (August 1977): 481–493.

9. See C. K. Prahalad and Gary Hamel, “The Core Competence of the Corporation,” Harvard Business Review (May 1990): 79–91, and Gary Hamel and C. K. Prahalad, Competing for the Future (Boston: Harvard Business School Press, 1994).

10. Yochai Benkler, “Coase's Penguin, or, Linux and the Nature of the Firm,” Yale Law Journal 112, no. 3 (2002), pp. 375–376.

11. Ibid. 376.

12. Alan S. Blinder, “Offshoring: The Next Industrial Revolution?” Foreign Affairs 85 no. 1 (March/April 2006): 119.

*Polk remains an important information provider 140 years after its founding. Previously focused on city directories, Polk branched out into collections of automobile registrations in the 1920s. Polk later participated in the computerization of Vehicle Identification Numbers and most recently acquired the Carfax used-vehicle information reporting service.