Organizational Structure and Controls Relationship

Executive Summary

The connection between the organizational structure and the control systems in a firm is not clearly indicated in the current literature. However, various scholars concede that indeed a relationship exists between the two. This research paper seeks to establish the connection between the two by exploring the control systems applicable to different business structures. The research is based on a review of the literature majoring on the subject. The findings of the research illustrate that indeed the organizational structure of a firm affects the control system applied by the managers. The bureaucratic, functional, divisional, and matrix business structures are explored in details in this paper.

An evaluation of the control systems applicable under each of the listed structure is well explored. A comparison between the controls applied in each of the mentioned structure is made to give insight to the reader about the relationship between the duo concepts. The paper also explores in details the major control strategies namely, the strategic and the financial controls. Also explored are the Diagnostic control systems, beliefs system of control, and the Interactive control systems all of which fall under the purview of the strategic controls. In most organizations, the top managers make decisions without consulting the employees. Communication is usually top-down whereby the employees are apprised of the strategic goals of the firm and the procedures to be used during execution. Employees are allowed some degrees of independence in the implementation stage hence managers must regularly appraise the execution process to ensure that the objectives of the firm are achieved.

Introduction

The organizational structure refers to the firm’s formal reporting relationships, procedures, controls, authority and decision-making processes (Jones, 2012). It specifies the person to perform a certain task as well as how the work is to be done to achieve the objectives of the firm. The organizational structure determines the success of the strategies implemented by a firm. For the strategies to work in the favor of the company, they have to be properly aligned with the organization’s structure. The control system provides guidelines as to the execution of the procedures and it indicates how to compare actual with the expected results. Differences between the actual and the expected results are compared, and any variances are explained. The control system of a firm largely depends on the nature of the business and the overall objectives of an enterprise. The size of a firm also influences an organization’s control systems. In large firms, the control system is strict due to numerous activities involved in the production process. There are two broad types of control systems namely the financial and the strategic controls.

Financial control

The term financial control refers to the techniques employed by firm managers to guarantee proper management of funds. The control strategies under this purview target eliminating cases of embezzlement of funds by persons in the financial department (Marín-Idárraga & Cuartas-Marín, 2013). In most cases, organizations employ financial experts to collect and maintain books of accounts. Without proper controls from the management, the agents are likely to misuse the funds leading to losses. Besides, funds may be assigned to the various departments to help procure the required items. Departmental managers must account for all the expenses in their various departments. Organizations employ external auditors who crosscheck the books prepared by the internal auditors to control funds effectively. The external auditors ensure that all funds assigned to different projects are utilized for the sole purpose they were dispersed to do. Some of the techniques used in financial controls include financial statements analysis, ratio analysis, and break-even analysis, just to mention a few.

Strategic Controls

Strategic controls involve the use of control strategies to regulate employees’ behavior in an organization. The controls ensure that organizations achieve the set goals and that strategies are executed in compliance with the set standards. In most cases, the top managers formulate the strategies to be implemented by a firm. Though the employees are not involved in the formulation of such strategies, they are expected to implement them. Therefore, managers should make constant appraisals to ensure that employees act according to the procedures stipulated at the strategy formulation stage. Under strategic control, information is gathered through meetings, reports, and phone calls among other methods.

In most cases, managers are the formulators of strategies and not the implementers. Large organizations are split into numerous departments with each department headed by a supervisor. The supervisor handles the daily operations of the department and reports directly to the senior supervisors. In such a setting, the supervisor has to delegate duties to the departmental staff depending on their skills and experience. When tasks are delegated, the supervisors must regularly appraise the progress and compile a report to the effect of his/her findings. The appraisals act as a performance assessment strategy aimed at assessing the steps made by the firm towards the achievement of the set objectives. Without such assessments, deviations from the set procedures would be a common phenomenon. The deviations would prevent the firm from achieving the desired goals within the stipulated timeframe.

The nature of modern businesses has led to the need for a sound control system to check the extremes effectively. Most businesses today have recognized the need to allow employees to perform their duties independently without interruptions from the managers. Allowing employees to act independently stimulates innovation leading to better customer satisfaction. However, the employees’ creativity may not be beneficial to a firm if proper checks are not in place.

Statement of objectives

The relationship between the business structure and the control systems has ignited heated debate among scholars who have developed various theories to explain the differences between the two. Numerous theories have been developed to offer an explanation regarding the major organizational structures. The effectiveness of the control systems adopted by a firm depends on the alignment between the structure and the control systems. In the traditional business structures, fewer controls are needed since the owners are the decision makers and the implementers of such decisions. The contemporary business environment has however been characterized by the evolution of various business forms leading to more complex organizational structures. The complex nature of the organizational structures has prompted the employment of various control systems to ensure that the firms achieve the set objectives.

Currently, there has evolved a business structure whereby the owners employ agents to perform the various duties on their behalf. In such cases, a sound control system is necessary to ensure that the agents comply with the set norms and values. This paper seeks to research on the various organizational structures in modern business and explain the relationship between the organizational structure and the control system. The paper shall seek to establish the relationship between the organizational structure and the control systems in a firm. The methods that shall be used to establish the said relationship will include a review of the literature to explain the various theories connecting the organizational structure to the control systems. The paper shall explore the various types of business structures as documented in the literature.

The two- concepts must be applied contemporaneously if the firm is to achieve its objectives. The relationship between the control system and the organizational structure is not a direct one. However, there exists an indirect relationship between the two in that one cannot work without the other. Management control aligns the strategy with the organization culture hence ensuring that the firm achieves both the long-term and short-term goals.

Literature review

Whereas there is a need to allow employees to work independently to boost innovation, managers must retain a sound control system to check the limits of the employees’ actions. Most scholars argue that allowing employees to execute their duties independently provides an incentive for motivation and innovation in an organization. In cases where employees are allowed to function independently, they become part of the decision-making process, which allows them to exercise creativity in the workplace. However, allowing the employees such independence without proper controls may lead to deviation from the set business processes leading to losses. Without proper control systems, employees’ creativity and innovation prompted by flattening an organizational structure might not be beneficial to the organization.

Therefore, in an organizational culture where the employees are allowed some amount of independence, control systems must also be in place to limit the extent to which employees’ creativity is applicable. Therefore, in the light of this understanding, it suffices to conclude that organizational management should come up with a balanced system where employees are allowed to be innovative and creative without deviating from the company’s vision and mission. Worthington and Britton (2009) explain the four types of controls a firm may utilize to ensure compliance with the set standards namely, the diagnostic control systems, the beliefs systems, the boundary systems, and the interactive control systems.

The diagnostic control systems utilize quantitative information, arithmetical analysis, as well as the variance analysis to detect any deviation from the normal line of business. Through variance analysis, the deviation is detected, and the explanation sought to the effect of such anomalies. The goals and the procedures of attaining the control must align well with the structure of the organization to utilize the diagnostic system of control effectively. The beliefs system of control center on the organization culture of an organization. Under this system, the employees are informed of the organization culture and the hierarchical structure of a firm. Boundary control systems, on the other hand, are premised on the assumptions that an effective control system should target the extreme behaviors of employees in an organization setting. The concept applies to organizational structures that allow employees to make certain decisions independently with only little supervision from the managers. In the contemporary business, employee development has been indicated to beat the heart of the competitive advantage of various businesses.

Employees are allowed to execute their roles independently to stimulate innovation. Lastly, the interactive control systems are built upon the importance of communication between all the stakeholders of a firm in an attempt to encourage employees to contribute to the decision-making process. The control mentioned systems call for frequent roundtable meetings between the managers and the employees to deliberate the various issues affecting the firm. The view is informed by the fact that the modern business structures must be devised in such a way that they allow consultations when making major decisions. In such a structure where employees’ views are invited, possibilities are that the employees will be allowed to execute some of the strategic proposals autonomously hence the need for constant appraisals. Constant meetings between the management and the employees not only allow employees to place their suggestions but it is also a good way to execute the controls.

Jones (2012) identifies two forms of business structures namely, the simple and the complex business structures. Simple structures involve small businesses mostly sole proprietorships where the owner is the exclusive decision maker and executor of all the strategies he or she formulates. The control system in the simple structure model is basic since the formulator is also the implementer of the strategies. A control system is only inevitable when there are agents responsible for the implementation of the business strategies. In the complex business structure, the decision makers are not the implementers. In such a structure, a sound control system is important to ensure that the strategies are implemented according to the procedures and processes outlined by the decision maker.

Hill, Jones, and Schilling (2014) identify two forms of organizational structures, which are, the centralized and the decentralized structures. In a centralized structure, the strategies and processes are formulated by the top management and communicated to the employees in each department. In such a structure, the delegation of duties is a common phenomenon prompting the need for controls. Employees responsible for implementing such decisions may not have the technical expertise or experience to implement the strategies independently in line with the stipulated procedures.

Therefore, the policy formulators must make constant appraisals to ascertain that the strategies are implemented according to the processes given. Constant appraisals are important since they allow detection of deviations in time and the appropriate corrective measures are adopted. In a decentralized structure, employees are involved in the decision-making process of the firm. When workers are involved, they are well aware of the processes and the intended objectives of their endeavors. Autonomy in the execution of the strategies is guaranteed, and only small interventions are made. When employees are allowed to implement the firm’s policies independently, there must be strict control system to deter deviation from the set objectives.

Most big organizations are split into departments manned by departmental supervisors who are allowed to make decisions on their own. The independence granted to such supervisors may affect the firm’s performances and ability to hit the desired goals. The effect may be either positive or negative depending on the expertise and experience of the departmental supervisors. Controls in such a case are twofold, controls within the department and from the head department. The relationship between the organizational structure and organizational controls is a reciprocal one. In organizations with complex organizational structure, a well sound control system is important to ensure compliance with the company’s norms.

The nature and intensity of the controls systems largely depend on the organizational structure of a firm. In a flat organizational structure, everyone in the organization is allowed to make inputs during the formulation of the strategies. In such a structure, only a few number of managers are present thus the decision-making process are fast. Moreover, there is no controversy in the chain of command since each employee knows who to report to in the process. Fjeldstad, Snow, Miles, and Lettl (2012) state that in a flat organization, the control system is not strict since the managers are in a position to monitor the execution process closely. In such cases, employees can make autonomous decisions while executing their mandates.

The larger the organization, the higher the level of the management systems needed due to the increased number of operations (Marín-Idárraga & Cuartas-Marín, 2013). Managers formulate strategies that govern the day-to-day operations of a firm. In a bureaucratic organization system, the top managers handle the formulation of the strategies that will guide the firm in its operations.

Carpenter (2011) argues that the organizational structure largely influences the nature of the control systems that will be put in place to regulate the achievement of the specified goals. In an organizational structure where employees are largely involved in decision-making, more stringent control measures must be put in place to ensure compliance with the implementation procedures outlined by the formulators. In some organizations, employees are allowed to perform certain tasks independently with the managers intervening only when necessary. In such cases, constant appraisals are inevitable to detect deviations from the stipulated procedures and processes. Prompt detection of deviations is important since it allows the managers to apply the corrective measures to ensure that the firm achieves its goals.

Rao, Rao, and Sivaramakrishna (2009) identify three types of bureaucratic structures viz. the Pre-bureaucratic Bureaucratic and post-bureaucratic structures. According to him, the pre-bureaucratic structure is suitable for new small enterprises. Under the structure, a single strategic manager makes all the decisions of a firm. Communication is vertical, and workers perform a variety of tasks within the organization. There is a direct contact between the manager and the employees, which facilitates effective communication. The number of employees is small, and thus the manager can personally guide each employee in case of difficulties in the execution of a task. Since only one manager is involved in decision-making, the process is fast, and the implementation of the decisions is closely monitored by the manager. In such a structure, there is no need for a strict control system.

On the other hand, the bureaucratic structure is suitable for bigger organizations with a more complex nature of operations. Just like in the pre-bureaucratic structure, in bureaucratic structure the top managers handle the decision-making process (Carpenter, 2011). The system is characterized by a strict subordination to ensure that employees act according to the instructions given by the managers. Since the system is applicable to large organizations, there is wide consultation between the managers at different levels of the organization. Complexity in the chain of command is evident prompting the need for more strict control systems. Since the top managers make the strategic decisions, the decision-making process is fast. Managers under this structure execute the authority conferred to them by the internal rules documents. Communication is top-down, and delegation of duty is a common phenomenon. However, the system discourages innovation since it limits the employees’ actions. Strict rules and standards of performance standards are put in place to avoid deviations. The system is premised on the following three bases:

1. A hierarchical structure
2. Clear defined roles and responsibilities
3. Respect for merit

A functional organizational structure is characterized by division of labor based on one’s expertise and experience in a certain field. Under the structure, each employee is assigned a specific task that he or she is supposed to focus on in the workplace. Borkowsk (2009) states that under a functional structure, repetition of duty leads to specialization, which in turn results in efficiency and speedy performance of tasks. Quality controls are not necessary under this structure since employees in each department are well versed in their fields of operations. High-quality goods are produced due to high experience by the employees. Team working and information sharing is poor under the structure thus the need to exercise some form of controls. Since employees perform their duties independently, the top managers must enact rules to control employees’ behavior. The control systems under this structure are individual-based as opposed to team-based appraisals. The individuals’ works are assessed against the standards set by the organizations and variations between the actual and the targeted results explained by the respective worker.

Borkowski (2009) explains the relationship between the organizational structure and the control systems for an organization by exploring the nature of controls in a divisional type of structure. In the mentioned system, the organization is divided into different departments. Each unit is manned by a small number of employees and has its manager who oversees the operations. In this case, the control systems are strict due to the complexity of the chain of command. Departmental managers control the employees in each unit and must report to the senior managers. The top managers conduct regular appraisals to ensure that lower level managers implement their strategic goals according to the set standards. The structure operates under the principle of strict delegation of duties whereby the senior managers must conduct performance appraisals for all the different departments of a firm. The employees in each department work as teams hence there must be controls to ensure compliance with the team norms set by the firm. Information sharing between the various units is minimal causing a need for a strict form of control systems for each department.

Another structure that requires strict control system is a matrix structure of the business. Miles, Snow, Fjeldstad, Miles, and Lettl (2010) argue that organizations founded on the mentioned principle have a strict form of controls. The structure is characterized by division of labor based on both the product and the functions. Due to the consideration given to the two variables, the organization is not flattened and has both functional and product managers. The managers perform different roles and issue different orders depending on their roles. The complexity of the chain of command facilitates the use of strict control systems to ensure that all the orders issued by the two types of managers are executed. The product managers utilize the quality controls to ensure that the different groups produce high-quality products. Diagnostic control systems are also a useful tool for product managers since they seek to establish causes for extreme variations between the actual and planned targets.

Summary of the relationship

The control systems in place in a firm are largely dependent on the organizational structure adopted by the firm. In a simple structure, the control systems are less strict since the owners of a firm are the decision makers and the implementers. Control systems are facilitated by the complexity of a firm whereby in large firms, the control systems are many and strict. This assertion holds due to the view that in large organizations the decision makers are not the implementers of the said decisions. For example, in large companies, shareholders employ the service of the directors who act as the agents of the firm. Without a proper control system, the agents may deviate from the objectives of the firm leading to losses or even closure of such companies. This paper shall evaluate the relationship between the organizational structure and the control systems. To achieve the said objective, the paper shall analyze the nature of the control systems applicable to organizations with various organizational structures. The structures to be explored in this paper include the bureaucratic, the matrix, the functional, and the divisional structures.

There exists a direct relationship between the organizational structure and the control systems adopted by a firm. In firms with a bureaucratic structure, the decisions are made by the top managers and the subordinates are expected to implement them. This aspect results in the delegation of duties since employees are expected to oversee the implementation of strategies that they were not part of the formulation team. Bureaucratic control systems must be put in place to ensure that the implementer acts according to the desired process (Hill et al., 2014). This move will involve constant appraisals by the management to detect deviations before they escalate to uncontrollable situations. The control systems in a bureaucratic structure differ greatly from controls in other structures. The control measures in the mentioned structure are strict owing to the view that in such a structure, employees are not part of the strategy formulation but they are expected to execute it. In cases where the employees’ inputs are considered in the process of structuring the strategies, no stringent control measures are required since the workers are well versed with the objectives of the firm as well as the processes to be involved at the implementation stage.

Research indicates that employees tend to exhibit compliance with the set standards and procedures in a situation where they are part of the decision-making process. They tend to feel better working on goals they have set for themselves and are motivated to achieve them. Excluding employees from the major decision-making process lowers employees’ morale. The poor motivation among the employees increases their chances of deviating from the goals of an organization thus prompting the need for stringent control measures to ensure compliance. In the case of a bureaucratic structure, employees are not part of the decision-makers, which increases their chances of deviating from the set objectives due to low motivation. In conclusion, the organizational structure is thus a major determinant of the control system a firm will adopt to guarantee compliance. Controls in this type of structure include quality controls, normative controls, and norm team controls.

The direct relationship between the organizational structure and the control systems can further be substantiated by a review of the functional structure. In a functional organizational structure, employees operate in the areas they are well versed with depending on their skills. In this structure, employees are not rotated within the firm, and each worker is assigned to a single department and is expected to perform a certain task in the period of his or her engagement with the company. The repetition of the same work for a long time leads to specialization, which in turn results in increased efficiency. Additionally, it leads to simplicity and speedy performance of tasks by the experienced employee. Each employee reports to the departmental head or the relevant managers. Though the top managers handle the formulation of the strategies, employees are consulted during such strategic formulations. Communication in such a structure is both horizontal and vertical, which increases employees’ participation in making major decisions of a firm (Carpenter, 2011).

When policies are formulated, they are communicated directly to the respective employees for execution. Since each employee has exceptional skills and experience in his/her area of specialization, the implementation process is quite easy since no trial and error is expected. In such an organizational structure, the control systems may not be strict since the employees are well equipped with the skills and expertise they need to ensure smooth execution of the strategy. Besides, the inclusion of the employees in decision making regarding their departments ensures that the employees are part of the strategy formulation, which increases their morale. The great experience by the possessed by the employees as a result of specialization minimizes chances of errors in their respective workstations hence few control measures are required. In this form of organizational structure quality controls is not important since each worker has the technical expertise and experience to accomplish the task independently. Additionally, team norm controls are not necessary since no team working is evident in the organization.

The relationship between the organizational structure and the nature of the control systems is further exemplified by the nature of control systems evident in organizations with a divisional structure. Under a divisional structure, employees are grouped into subunits based on the product or functions for each group. Under the plan, the organization’s workforce is divided into small groups with each group required to specialize in the production of a specific product. Each group has a supervisor who oversees the process of implementation of a strategy formulated by the top management. Just like in a functional structure, in a divisional structure, the employees act independently in their respective departments. The independence given to departmental managers regarding the decision-making facilitates the use of control strategies to ensure compliance with the set procedures. The managers in each unit of the firm utilize control strategies to enforce the execution of duties by the employees. Moreover, the top managers must make constant appraisals of the performance of the different departments.

This structure may cause unhealthy competition between departments as they seek to outsmart each other. The rivalry may lead to deviation from the set procedures in the process of outsmarting each other for recognition. Therefore, this aspect necessitates the need for a sound control system. Performance in such a system is measured by assessing the accomplishments made by different departments as opposed to individual worker’s appraisals. Assessing a group might be quite hard compared to individual assessment hence complicating the nature of control systems to be applied. Additionally, the division of employees based on the product is a common phenomenon in this type of organizational structure. The company must ensure that the products produced by each group meet the company’s standards to ensure customer satisfaction. Therefore, each group must be assessed using strict control strategies to ensure that it meets the set standards.

As opposed to the functional structure that groups employees based on either the product or the functions, in a matrix structure groups workers based on both functions and the product. In a matrix structure, employees are selected based on a project needs and only the employees with the right skills are selected to perform a certain task. Grouping employees based on their skills and expertise helps the company to meet the standards set by the organization regarding the product. Besides, it allows employees to work. Sharing of information between groups is facilitated due to a horizontal type of structure created within the organization. In a functional structure, information sharing is vertical whereby the top managers make the decisions and then communicates the same to the staff. In such a case, no communication is present between the various departments or units within a firm. Organizations operating under the matrix structure must have a strict control system that to streamline the organization’s performance.

The structure divides employees based on both the functions and the product, which creates complexity in the chain of command. In most cases, employees are not sure of which orders to follow, from either the functional managers or the product managers. Additionally, each group of employees has a manager who oversees the operations in each department. The sharing of information between the various departments facilitates the production of high-quality products. Graetz and Smith (2009) state that the sharing of information leads to high-quality products by the various departments hence there is no need for strict control measures. However, the top managers must assess the performance of each group to avoid non-compliance with the company’s standards. Moreover, the complexity of the chain of command calls for a strict control system to ensure that orders from both the functional and the product managers are implemented correctly.

Conclusion

The organizational structure refers to the distribution of authority in a firm and the formal reporting relationships. It refers to the hierarchy of authority and the role of each stakeholder in a firm. On the other hand, the control system provides guidelines as to the execution of the procedures and it indicates how to compare actual results with the expected results. Differences between the actual and the expected results are compared, and any variances are explained. The control system of a firm largely depends on the nature of the business and the overall objectives of a firm. The size of a firm also influences an organization’s control systems. In large firms, the control system is strict due to numerous activities involved in the production process. There are two types of control systems namely the financial and the strategic controls. Financial controls involve the use of financial techniques to detect misappropriation of funds. On the other hand, strategic controls involve appraisals of the employees’ performance during the implementation of a proposed strategy. Such controls are facilitated by job delegation evident in the modern business environment.

There is a strong relationship between the organizational structure and the control systems. This paper analyzed the control systems in light to the different organizational structures to understand the relationship. There are many organizational structures in the contemporary business environment. The main types of organizational structures include:

1. Functional
2. Bureaucratic
3. Matrix
4. Divisional

The bureaucratic system refers to a structure where decisions are made exclusively by the top managers without consulting the employees. Communication under the mentioned structure is top-down in respect to the hierarchy present in a firm. In this type of structure, strict subordination is in place to regulate the employees’ actions. The managers conduct regular appraisals to ensure that employees perform their duties according to the set standards. Diagnostic control systems are necessary for this structure, which facilitates assessment of possible variances in results. On the other hand, the functional structure denotes a system where work is distributed among the employees based on one’s skills and expertise. In such a structure, specialization is evident leading to efficiency in performance. Communication within the organization is complex owing to the division of tasks. Control is exercised on individuals as opposed to teams as in the case of other forms of structures such as bureaucratic and divisional.

The matrix structure groups employees based on both the products and the functions. There are two types of managers under the structure namely, functional and product managers. The two types of managers complicate the chain of command leading to confusion among employees regarding the orders to follow. Strict controls are inevitable to ensure that the orders by the different managers are executed in line with the standards set by each manager. In this form of structure, three forms of control are necessary namely the team norm, quality, and the regulatory controls. Lastly, the divisional structure groups employees depending on the product. Employees are selected based on merit and are required to specialize in a certain field of production. Some amount of autonomy is given to the employees hence the need for sound control systems. Team working within the different units is evident, and competition is high. This aspect leads to high quality of goods. The controls necessary for this form of structure include the diagnostic and the interactive controls.

In conclusion, therefore, the controls adopted by a firm largely depend on the organizational structure. In larger organizations with numerous activities taking place contemporaneously, the controls are of strict nature. Another structural factor that highly affects the nature of controls in a firm is the hierarchy of authority. In firms where the top managers make decisions exclusively, strict controls are necessary to avert deviations from the set standards. Organizational structures that allow employees to specialize in different fields are highly efficient, and quality control in such businesses is not necessary. Employees’ independence motivates them to create and implement news processes thus increasing efficiency in a firm. However, inasmuch as innovation is a key determinant of a firm’s success, effective control strategies must be put in place to ensure that the business operates within the specified parameters.

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