The Influence of Size and Maturity on the
use of Management Control:
A Literature and Case Study
The Influence of Size and Maturity on the
use of Management Control:
A Literature and Case Study
Author: Lydia van de Voort
Student number: S1404210
Email address:
lydiavandevoort@gmail.com
Address: Derde Helmersstraat 47-C2, 1054 BC, Amsterdam
University of Groningen
Faculty of Economics and Business Administration
Master of Science in Business Administration
Specialization Organizational and Management Control
Acknowledgement
It has takes a while before finishing this thesis, but I’m proud to present my results. This thesis focuses on the relationship between start-up companies and management control, a topic that is rather underexposed in the current scientific literature.
The research is a case study aimed at Company X. The company gave me the opportunity to do a four-month internship and to gain a thorough understanding of the ins and outs of the company. For that reason, I would like to thank all persons involved at Company X, who I can now proudly call my colleagues.
Further, I would like to thank my family and friends for all the support, and especially my oldest sister for editing my thesis. I enjoyed the discussions on how to tackle the problems that I encountered during this thesis.
Finally, I would like to thank my Supervisor Coby Westra-De Jong for her patience and trust that I would make it.
Summary
This research investigates management control systems within start-up companies, where size and maturity are dominant factors. This research contributes to the understanding of relevant factors within the concept of management control for young companies that have not implemented forms of management control. Especially companies that operate in the financial sector and that are influenced by external pressure for control and legislation. This research builds on existing literature and is combined with a case study on Company X. It therefore contributes to current understanding why and how start-up companies structure management control. The most important findings are that there is a need for more formal controls when companies enter their growth phase. The results indicate that small start-up companies that are subject to uncertainty and changeability need to focus on formal control systems as well, predominantly in the form of budgets. Budgets provide an obvious manner to influence the conduct of business by supporting planning, coordination and evaluation practices.
TABLE OF CONTENT
1. INTRODUCTION ... 7 2. RESEARCH DESIGN ... 8 2.1 Problem statement ... 8 2.1.1 Research objectives... 8 2.1.2 Research question ... 8 2.1.3 Research preconditions ... 9 2.2 Definitions ... 9 2.3 Research process ... 9 3. RESEARCH METHODOLOGY ... 10 3.1 Introduction ... 10 3.2 Type of research ... 10 3.3 Data collection ... 10 3.3.1 Desktop research ... 10 3.3.2 Observation ... 11 3.3.3 Interviews ... 113.4 Validity and reliability ... 11
3.4.1 Validity ... 12 3.4.2 Reliability ... 12 4. DESCRIPTION OF COMPANY X ... 13 4.1 Introduction ... 13 4.2 Company X... 13 4.2.1 The Business ... 13 4.2.2 Financing ... 14 4.2.3 Strategy ... 14
4.2.4 Structure and size ... 15
4.2.5 External environment ... 16
4.2.6 Maturity ... 16
5. LITERATURE STUDY ... 17
5.1 Introduction ... 17
5.2 Why management control ... 17
5.3 Types of management control... 18
5.3.1 Formal versus informal control ... 18
5.3.2 Results, action, personnel and cultural control ... 19
5.3.3 Behavioural, output and ritual control ... 20
5.3.4 Market, bureaucracy and clan control ... 21
5.4 Management control at start-up companies ... 22
5.5 Types of management control at start-up companies ... 23
5.5.1 Informal control ... 23 5.5.2 Formal control ... 23 5.5.3 Intermediate recap... 24 5.6. Budgets ... 24 5.6.1 Operational planning ... 25 5.6.2 Performance evaluation ... 25 5.6.3 Strategy formation ... 26 5.6.4 Communication of goals ... 26 5.7 Conceptual model ... 27
6. INTERVIEWS AND RESULTS ... 28
6.1 Company X... 28
6.2 Reasons for management control ... 28
6.2.1 Lack of direction ... 29
6.2.2 Motivational problems ... 29
6.2.3 Personal limitations... 30
6.3 Implemented management control at Company X ... 30
6.3.1 Informal control ... 31
6.3.2 Formal control ... 32
6.4 Reasons for presence or absence of formal management control at Company X ... 33
7. CONCLUSION AND RECOMMENDATION ... 35
7.1 Conclusion ... 35
7.2 Recommendations ... 36
8. LIMITATIONS AND FUTURE RESEARCH ... 39
1. Introduction
All companies have a certain reason for existence, whether this is to make profit by producing a particular product, to provide a service or to fulfil a certain ideal by working at a non-profit organisation. Fact is, that no matter what the goal of a company is, to reach the corporate objectives the managers within these companies must execute control to guide the company in the right direction.
Management control can be described as ‘the process by which managers ensure that resources are obtained and used effectively and efficiently in the accomplishment of the organization's objectives’ (Anthony, 1965, p. 17). Given this definition of management control, it is clear that all companies, departments within those companies and even employees are influenced by management control. Considering this, it is evident that the choice for, and implementation of, particular management control or Management Control Systems (MCS) is of great importance.
What form of management control is most suitable for a company, depends on many factors. Existing literature have explored in depth what the influence is of, for instance, strategy and the environment on the types of management control that are most suitable for a company (Chenhall, 2003). However, the relationship between size and maturity and management control is underexposed in these researches (Chenhall, 2003; Davila, 2004; Davila & Foster, 2007).
This research contributes to the existing research by focusing on this specific relationship between size, maturity and management control. As start-up companies generally consist of a limited number of employees and are in a birth or grow phase, a start-up suits this research well. Since start-ups have the opportunity to implement management from scratch, it is highly interesting to investigate how start-ups could optimally structure management control. In order to conduct this research, a case study is done at Company X. Company X is a start-up company that offers services for asset management and thus operates in the financial sector.
Since the start of the financial crisis in 2008, the financial sector has been heavily influenced by increased legislation of authorities like the Dutch Federal Bank (DNB) and the Authority of Financial Markets (AFM). Increased monitoring by these authorities enhances the role of management control, as management control can be imposed externally. In addition, the financial crisis did have as a result that trust and credibility of companies in the financial sector have fallen to the lowest level in a very long time. Clients feel that these companies have earned money at the expense of the client. In addition, many products and services were sold that were not in the best interest of these clients. In order to achieve high levels of credibility, but also to create profits, it is important for companies to control their business.
2. Research Design
2.1 Problem statementThe problem statement is the part of the research where the issue or the problem is discussed. According to De Leeuw (2003), the problem statement is concerned with addressing the topic and what the researcher basically wants to inquire. De Leeuw (2003) states that the problem statement can be optimally explicated by drawing a distinction between the research objective, the main research question and sub questions, and the research conditions and requirements.
2.1.1 Research objectives
The research objective describes the purpose of the investigation (Cooper & Schindler, 2003). The objective of this research is as followed:
The objective of this research is to acquire significant information and advice for start-up Company X on how to use Management Control in order to optimize performance and ultimately to achieve the corporate objectives.
2.1.2 Research question
This part describes the main research question and subsequently the sub questions. These sub questions are used to eventually come to a concrete and thorough answer on the main research question.
The main research question is formulated as followed:
What Management Control System(s) should be used at start-up Company X to achieve its corporate objectives?
The sub questions are:
What is Management Control?
To understand the concept of control it must be formulated what Management Control in essence is. The answer on this sub question should provide the basis for a general understanding of management control and will function as a foundation for the continuation of the research.
Which types of management control systems can be differentiated for start-ups? This research focuses on the relationship between management control and start-up companies. The answer of this sub question is found by executing a literature study and will provide insight in the currently used management control systems at start-ups.
Which type or types of Management Control System(s) does Company X need to implement to achieve or accomplish its corporate objectives?
2.1.3 Research preconditions
The research preconditions and requirements describe the restrictions that are subject to the research (De Leeuw, 2003). These conditions and restrictions are as followed: - The research must be done in the field of Organizational and Management Control. - The research must be of a sufficient quality to cover the 20 ECT’s that stand for this research.
2.2 Definitions
In scientific literature, most terms are described in many different ways and with many different variables. In order to clarify what definition is used in this research, the terms are described below.
Management Control:
The definition of management control used in this research can be found on page 7. Management Control Systems
Management Control Systems (MCS) can be referred to as the collection of control mechanisms that can be used to exert management control (Merchant & Van der Stede, 2007, p. 15).
Management accounting systems
A management accounting system is a subset of formal management control systems that focuses on the financial aspect of the company (Davila & Foster, 2005, p. 1040).
2.3 Research process
3. Research methodology
3.1 IntroductionIn this chapter the research methodology will be addressed. The purpose of the research methodology is to explain for which type of study is chosen and why a certain approach is followed. This research methodology clarifies: (1) for what type of research is chosen, (2) how the data is collected for answering the research question and sub questions, and (3) describing possible validity and reliability issues, to ensure that the content of the research corresponds with the aim and problem of this research, which is discussed in chapter two.
3.2 Type of research
Many different types of research can be conducted to answer a specific research question or address a certain problem. A well-known classification of research types is the distinction between a qualitative study, a quantitative study or a combination of both (Yin, 1981). This research is of qualitative nature. According to Strauss and Corbin (1990, p. 17), qualitative research can be best described as: ‘Any type of research that produces findings not arrived at by statistical procedures or other means of quantification’.
One of the research strategies that fit qualitative research well is the case study. A case study is a research strategy that focuses on an in-depth, full contextual analysis of the problem with an emphasis on detail (Cooper & Schindler, 2003). Often, several sources of information will be used to gain this detailed description of the problem. According to Yin (1989) there are several different possibilities to conduct case study research. He differentiates between a single-case research where only one case is included in the research, and multiple-case research, where more than one case is included in the research. In addition, Yin makes another distinction, namely between a holistic and an embedded type of case where the holistic case has a single unit of analysis, unlike the embedded case that has more than one units of analysis. This research can be defined as a single-case, holistic case study, as it focuses solely on Company X and, in addition, on Company X as a whole and not on separate units of analysis.
3.3 Data collection
In order to conduct this research and answer the research question, data needs to be collected. As mentioned before, a case study research is supported by more than one type of data collection to obtain the detailed information needed to address the problem of the research and a solution to the problem. The data collection in this research is threefold, namely: (1) desktop research in the form of a literature study, (2) observation, and lastly (3) interviews. The different types of data collection will be described in more depth below.
3.3.1 Desktop research
specific topics and areas of management control and to investigate what theoretically is claimed to be the optimal structuring of management control within a start-up company as Company X.
This secondary data will mainly be gathered through the use of databases on the Internet, such as Business Source Premier, and the library of the University of Groningen. The results of the desktop study and literature found form the basis for the conceptual model, from which the research will be further expanded.
3.3.2 Observation
The goal of the observation in this research is to create a general understanding of the company and to collect data that contributes to the effectiveness of the recommendations in this research. Within the observation technique, a distinction can be made between behavioural and non-behavioural observation (Cooper & Schindler, 2003). The focus in this research will be on both observation types. The behavioural observation will focus mainly on internal communication and corporate culture: how do people interact with each other? The non-behavioural observation is concerned with record analysis at Company X, among other the financial statements and other obligatory and non-obligatory documents composed by managers and employees. The observation period has taken place during an internship and has lasted for four months.
3.3.3 Interviews
In this research, in-depth interviews will be conducted with two managing partners at Company X. In general, the goal of the interviews is to elaborate the concept of control and to investigate the function of management control within Company X. The interviews provide insight into the management control concept within Company X and will challenge the conceptual model created in the literature study. The results from the interview will provide the basis for the recommendations on the use of management control systems within Company X.
Interviews come in many different types and forms. For example, researchers can use highly structured interviews, where the results are unambiguous and can be quantified, or unstructured interviews, where no specific questions are formulated in advance (Hove & Anda, 2005). Here, in-depth unstructured interviews are used, with general, open-ended questions. In this way, important subjects are discussed while there remains room for new and unexpected information to elicit. This way, the managing partners are uninfluenced by the interviewer, while in-depth information is gathered.
As Company X is a start-up company; the company is of limited size and has a flat organization structure (for a more detailed description of the company, see chapter four). The interviews are conducted with two managing partners. The interviewees are selected consciously as these two managing partners are operationally in charge and are responsible for two different areas.
3.4 Validity and reliability
sometimes questioned when using interviews as a data collection method (Verschuren, 2003).
3.4.1 Validity
According to Kirk and Miller (1986, p.19) validity can be described as ‘the extent to which a measurement tool gives the right answer’. As the research contains a four-month observation of the company, it is highly plausible that daily contact with employees influence the objectivity of the observer. However, the literature study and the interviews with the employees are the core of the research. Because those parts are based on (1) a concrete research design with a clear research objective and research questions, and (2) an extensive investigation of existing literature, it can be assumed that validity of research is guaranteed.
3.4.2 Reliability
Reliability, as described by Kirk and Miller (1986, p. 19), is ‘the extent to which a measurement procedure yields the same answer however and whenever the procedure is carried out’. High reliability indicates that another researcher would acquire the same results when doing the research. To achieve a high level of reliability, accessibility to information is an influential factor. This research consists of desktop research, observation and an interview, which can cause differentiation between the collected information. However, since all information was freely accessible and no restrictions were made on the providence of information, other researchers could have gathered the same information.
4. Description of Company X
4.1 IntroductionIn order to create an adequate understanding of Company X, some important components of the organization’s context will be described shortly, based on research of Chenhall (2003). These components are: the business, the strategy, the structure and size, the environment, and the maturity of the company. Choices made with respect to these factors influence how management control can be optimally structured.
4.2 Company X
All relevant factors to describe Company X en its contextual variables are described below.
4.2.1 The Business
Business
Company X is founded in April 2009. The core business of the company focuses on asset management, which is offered to clients since April 2010. Company X is an organization that provides a high quality, comprehensible financial product at a low, transparent, and fair price.
Since the financial crisis and the reduced trust in companies that offer financial services and products, more focus is put on transparency and solid financial products and services. Company X is an asset management company with a focus on transparency and simplicity. The conviction is that the best asset management software should be available for every individual interested in investing money, therefore the minimum investment is only €1. In addition, there is a strong focus on transparency and open communication. For this reason, all relevant information is made available online or could be requested, for instance with an advanced Help Centre functionality and Document Centre. Lastly, becoming a client can be processed online completely, which influences the simplicity of the service.
The management of Company X has a strong belief that the product and service they offer meet customer demand and that the initiative of starting Company X is what consumers are waiting for.
Mission
Corporate objectives
The corporate objectives describe what a company is trying to accomplish. It can be either quantitative or qualitative. The corporate objectives of Company X are fourfold:
1. To provide a financial product that contributes to a better world. This means not only offering a product that is in the best interest of the client, but also by implementing a Corporate Social Responsibility policy;
2. To have a specific amount of assets under management; 3. To have a specific amount of clients in the customer base; 4. To have a high level of customer satisfaction.
4.2.2 Financing
The necessary capital is provided in the form of venture capital by an outside investor. Venture capital is a manner to finance start-up companies. With venture capital, the financier bears a significant risk because of the high uncertainty that is involved with venture capital (Grinblatt & Titman, 2002). Mentioning this type of financing is of importance because of the possible control the financier wants to exert on the company’s policies and budgets. Remarkably, in the case of Company X, the financier is scarcely involved in the operational conduct of business. High level of trust towards the management and a rather high level of aloofness characterize the relationship between the financier and the founders/management of Company X.
4.2.3 Strategy
The financial crisis has had major influence on customer behaviour and customer trust towards the financial sector. Most financial institutions are blamed for earning their money at the expense of the client, with greed as the ultimate driving force. Clients often believe this is due to a lack of honesty and transparency of financial products and services.
4.2.4 Structure and size
Since Company X currently consists of only ten people, structure and size can be easily defined. A chart is used to provide an overview of the managers, employees and their functions, see figure 1.
Figure 1, Chart of Company X.
As one can see, two directors are at the top of Company X. One director is an employee of the investment company of the financier. The other director is the founder of the company and the person that wrote the business plan. The Manager Operations and the founder and General/Commercial manager are the two persons that influence the company operationally and decide which direction the company heads. The Manager IT is not involved operationally and strategically, but has been involved from the start of the company. Next to the financier, these three persons all have a stake in Company X.
4.2.5 External environment
The environment is an important factor that affects the potential success of a start-up company. So it is crucial that management creates an understanding of the environment the company is situated in, and how the environment can directly influence the company.
Several factors are immediately apparent when observing the external environment of Company X. First of all, the financial sector has experienced high levels of turbulence during the financial crisis. This same crisis has caused an increased focus on legislation and monitoring (for instance by the AFM and DNB) to avoid every kind of inappropriate or illegal behaviour. While in the long run these changes should create a more stable and transparent sector, the environment can currently be marked as rather dynamic. Secondly, competition can be interpreted as quite fierce, with many large banks and more than 130 specialized asset managers offering asset management services and products. Last of all, many different products, variants on those products and derivatives are offered in the financial sector. All those different products with slightly different characteristics cause high levels of ignorance at client level. The lack of clarity and transparency of financial products in the financial sector results in a rather high level of complexity for clients.
Company X tries to tackle the dynamic and complex external environment described above by pursuing a long-term vision. By not responding emotionally to the issues of the day, a stable development is pursued. Far-reaching automation of the whole platform creates flexibility and the opportunity the respond quickly to changes in the external environment. As mentioned before, simplicity of the product and the service should contribute to a better general understanding of financial products and eventually an improved financial sector.
4.2.6 Maturity
5. Literature study
5.1 IntroductionThis chapter is concerned with an overview of existing literature on the general concept of control. Bearing the definition in mind of management control that is given in chapter one (see page 7), it can be generally put that a company, and its employees, need guidance to obtain its corporate objectives.
5.2 Why management control
Without management control situations can occur in which employees do not act in the best interest of the company, or that actual behaviour of employees is not in line with desired behaviour (Merchant, 1982). It is important to note that management control differs between companies, depending on contingent variables as the environment, technology, size, structure, strategy, culture, the presence of venture capital, or maturity (Chenhall, 2003; Davila & Foster, 2007). However, fact is that no matter which company is discussed, each company needs management control. According to Merchant and Van der Stede (2007), there are three causes that create the need for management control: lack of direction, motivational problems and personal limitations. These three causes can occur solely or simultaneously.
First, lack of direction occurs when employees perform poorly because they do not understand what is actually expected from them. An important role lies at the management, in clearly formulating and communicating towards employees how they can contribute to achieving the corporate objectives. Organizational goals should be communicated to all levels of a company and not linger at management level (Merchant & Van der Stede, 2007).
Secondly, motivational problems arise because people are self-interested in nature and, because of this, do not always behave as desired. It may turn out that personal and organizational goals are not aligned (Merchant & Van der Stede, 2007). In the worst case of misdirected behaviours, it can result in unethical behaviour, for instance fraud. It is crucial to avoid the occurrence of this behaviour. Motivational problems are avoided by implementing a tool that improves the intrinsic or extrinsic motivation of employees (Ryan & Deci, 2000). Intrinsic motivation occurs when employees or managers are simply motivated because they enjoy their work, or are interested in doing the job or task well. Motivation appears because an individual experiences satisfaction. Contrary, extrinsic motivation occurs when a person knows he or she will (not) get something in return (Deci & Ryan, 2000). A well known extrinsic motivation is a bonus or pay raise when an employee behaves as desired or achieves a certain goal (Merchant & Van der Stede, 2007).
Because of these three factors described above, management needs tools to guide employees in the right direction. To know which tool to use, the knowledge of managers should cover the different types of control. These types will be described in more depth below.
5.3 Types of management control
In order to avoid lack of direction, motivational problems or personal limitations, managers can influence behaviour by exerting control. Many researchers have created typologies to describe different types of management control. This section will clarify and shortly highlight characteristics of these typologies, in order to create an understanding of the concept of management control and to form the basis for further in-depth research.
5.3.1 Formal versus informal control
Management control systems implemented at companies can be either formal or informal. To understand the difference between formal and informal management control practices, a brief explanation is provided on both types of control based on the research of Jaworski (1988) and Jaworski et al. (1993). Though their research focuses on marketing departments, it is used as a basis for other fields and contexts as well (Cravens et al., 2002).
Jaworski (1988, p. 26) describes formal controls as ‘written, management-initiated mechanisms that influence the probability that employees or groups will behave in ways that support the stated objectives’. Formal controls focus mainly on input, processes and output, and measure and compare the desired situation with the actual situation. According to research of Daft and Macintosh (1984), formal control at middle management level can be subdivided in budgets, policies and procedures, performance appraisal systems, and statistical reports.
Budgets are concerned with financial results and are used to exert control over (divisions) of a company in order to motivate, evaluate performance, and to allocate resources as efficiently and effectively as possible (Walker & Johnson, 1999). Policies and procedures are written documents on how tasks should be performed and are used ‘to provide guidance for a specific activity’ (Daft & Macintosh, 1984, p. 51). A performance appraisal system is a manner to evaluate performance, which often takes place periodically. Lastly, periodic statistical reports are concerned with providing reports with statistical information periodically (Daft & Macintosh, 1984). Contrarily to budgets, which focus on financial data, statistical reports can cover for instance statistics on the number of new clients or the number of people that visited the website of a company as well.
It must be noted that, however both mechanisms cover different areas, they are not contradictory. Instead, the mechanisms are complementary and can create synergies when well implemented. Research even indicates that management control is most effective when both formal and informal controls are present in companies (Cravens at al., 2002). In addition, though informal control is not implemented formally, it can have the same impact and effect as formal control.
5.3.2 Results, action, personnel and cultural control
Merchant and Van der Stede (2007) have distinguished four different types of management control. The different types can be categorized according to their object of control (Merchant, 1982) into: results control, action control, personnel control and cultural control.
Results control is a type of control that ties results to rewards. Employees who create better results will be compensated with higher extrinsic or intrinsic rewards. Results control consists of four elements: defining performance dimensions, measuring performance, setting performance targets and providing rewards. As the elements of results control already predict, this form of control is mainly suitable when results can be measured effectively and is most often used for controlling employees with a certain amount of decision authority (Merchant & Van der Stede, 2007).
Action control on the other hand, is a form of control that ensures that employees’ behaviour suits the best interest of the company. For this control, it is important that managers have insight into which behaviour results in desirable outcomes. Action control can be divided into four forms: behavioural constraints, preaction reviews, action accountability, and redundancy (Merchant & Van der Stede, 2007). The first type of action control exists to diminish undesirable behaviour by either physical or administrative constraints. Examples can be locks on desks or restriction of decision-making authority (Merchant & Van der Stede, 2007). The control in preaction reviews focuses on (dis) approving plans or actions of employees in advance. Planning reports and budgets are a common form of preaction review. Further, action accountability is concerned with holding employees individually responsible for their actions taken, whereby good action is rewarded and misbehaviour is punished. These actions are communicated towards the employees on an administrative or social basis. Essential is that the content of the communication is well understood by employees and that the employees feel a certain urge to behave well (Merchant & Van der Stede, 2007). Finally, redundancy is an expensive form of action control, as this form holds more employees available than necessary to ensure that critical actions will be performed and tasks will be accomplished (Merchant & Van der Stede, 2007).
Personnel control is a form of control that originates from inside the employees themselves. This type of control assumes that employees can control and motivate themselves. Three methods are deployed to increase the likelihood of personnel control: selection and placement of employees, training and job design and provision of necessary resources (Merchant & Van der Stede, 2007).
Most companies implement multiple forms or mixtures of the management controls described above. While one type can appear more dominantly or is more appropriate in a certain situation, a combination of controls is used most often what should result in optimal control (Merchant & Van der Stede, 2007).
5.3.3 Behavioural, output and ritual control
Ouchi has written two influential papers with regard to management control. Both articles will be discussed.
The initial paper was written in 1977 and investigates the relationship between the structure of a company and control, since this relationship influences the organizational control mechanisms that a company should choose (Ouchi, 1977). In order to find the optimal control mechanisms, Ouchi firstly states that ‘control is the process of monitoring output or behaviour, comparing it with standards and finally providing suitable rewards’ (p. 97). Ouchi subsequently notes that there are only two phenomena that can be monitored: output and behaviour. The article states that one of the two types dominates in a company, which depends on the position of two conditions, namely: (1) the knowledge on the transformation process, and (2) the availability of output measures. With these conditions a matrix can be formed to determine the optimal form of control for a specific company. The types of control are shown in figure 2.
Figure 2. Control type and its antecedent conditions (Ouchi 1977, p. 843).
Behaviour control can be best applied when means-ends relationship are known. Managers have insight in the transformation process from input to output, and know which actions result in a specific output. Control can be exerted by simply watching and guiding behaviour of employees. Output control on the other hand is implemented when the transformation process is not transparent but outputs can be measured. Valid and reliable measures must be available to successfully use output control (Ouchi, 1977).
appropriate. The company is than guided by rituals and ceremonies to control behaviour and output of employees.
5.3.4 Market, bureaucracy and clan control
In 1979, Ouchi extended his research of 1977 on how to distinguish different types of control. In the research of 1979, Ouchi seeks to solve the problem that is related to evaluating, rewarding and controlling individuals who should cooperate but do not always have shared objectives. To solve this problem, Ouchi (1979) uses two dimensions to classify three types of control. These different types of control, market, bureaucracy and clan, depend on two dimensions: social requirements en information requirements. How these dimensions are related to these three types of control is shown in figure 3.
Figure 3. Social and informational prerequisites of control (Ouchi 1979, p. 838).
The levels of social requirements describe the minimum set of agreements between people necessary for the control to be functional (Ouchi, 1979). Market control has the norm of reciprocity, which means that undesired behaviour is punished by all parties involved. Bureaucracy control goes a step beyond this norm of reciprocity by also agreeing on legitimate authority and corresponding different levels of power within an organization. However, the ultimate social requirements are found within a clan control, where the two previous mentioned social requirements exist along with commonly known shared values and beliefs regarding good behaviour.
With respect to the dimension informational requirements, market control requires the most explicit form of information: everything that has to be known is covered in prices. However, with some level of uncertainty, interdependencies or inefficiencies, informational requirement on prices is not sufficient. In that case an explicit set of rules on behaviour and output will be formed. Rituals, stories and ceremonies cover informational requirements in clan control. Accessibility to information becomes harder when one ascends from market control to clan control (Ouchi, 1979).
5.3.5 Intermediate recap
Van der Stede (2007) describe the company’s culture, rules and habits in the cultural and even personnel control. This in turn, equals the description of ritual and clan control by Ouchi (1977; 1979). Figure 4 provides a global overview of the relationships between the different types of management control.
Jaworski (1988) Merchant & Van der Stede (2007) Ouchi (1977) Ouchi (1979)
Formal Results Output Market
Action Behavioural Bureaucracy
Informal Cultural Ritual Clan
Personnel
Figure 4. Overview of control classifications.
5.4 Management control at start-up companies
The previous section stresses the different classifications of management control that companies can implement. The contingency theory assumes that the organizational effectiveness depends on the fit between organizational factors and characteristics that reflect the situation of the organization (Donaldson, 2000), with factors like strategy, structure, technology, size or national culture (Chenhall, 2003). This research chose to only focus on management control in relation to start-up companies. For this reason, this research will only concentrate on the contingencies size and maturity, as size and growth depend on the maturity of the company (Miller & Friesen, 1984). The maturity and size of a company are related to the amount and variety of formal management controls implemented (Chenhall, 2003; Davila, 2004; Davila & Foster, 2007).
When a company develops, it runs trough several phases. Miller and Friesen (1984) provide a classification of the life cycle of companies. They distinguish five phases, which are: birth, growth, maturity, revival and decline. These phases will be shortly highlighted.
Within the birth phase, the company is being established. In this phase, there is a high level of domination by the owners. Structure and control is ‘simple and informal’ (Miller & Friesen, 1984, p. 1162). In the growth phase, the company experiences growth. Formalization of activities and small changes in authority are evident. The maturity phase is characterized by declining innovation and increased efficiency. During the revival phase, expansion occurs by diversification and divisionalized structures (Miller & Friesen, 1984, p. 1162). The final phase, the decline phase, is subject to stagnation and lower levels of profitability. When a company transcends these stages, management control develops as well. Start-up companies fall most often within the birth or growth phase.
management control can be of important influence to the future success of the company (Sandino, 2004).
There are some researches that have explored the relationship between start-up companies and management control systems, which will be summed up shortly in this paragraph. Davila (2004) states that management control becomes significant when a company enters the growth phase. In this phase, companies move from more informal controls to formal controls, as information and control become more meaningful to managers. In addition, communication becomes too costly and time consuming as a company grows in number of employees (Davila & Foster, 2007). They also found strong evidence that management control systems positively influence the growth of start-up companies. They found that the size, venture capital, international operations and time to revenue positively influence the adoption of management accounting systems at start-up companies, as venture capitalists place more emphasize on control (Davila & Foster, 2007). In addition, Davila and Foster’s research of 2005 validates that size of a company is related to a faster adoption of management control systems, especially operating budgets (Davila & Foster, 2005). Research of Cardinal et al. (2004) demonstrates that there should be balance between formal and informal control mechanisms and Sandino (2004) explores the importance of formal management control systems at early-stage companies by classifying four groups of management control systems that start-up companies can adopt, depending on the company’s purpose. Lastly, the research results of Davila and Foster (2005) indicate that budgets are the first used management accounting system implemented at start-ups.
5.5 Types of management control at start-up companies
Despite the limited research on the relationship between management control and start-up companies, the previous section does conclude that implementation and use of management control systems is of great importance to start-up companies. The existing literature distinguishes some forms of management control that are evident and suitable for start-ups.
5.5.1 Informal control
Management control systems are costly and time consuming to implement. For this reason, research indicates that start-up companies only start implementing its first formal management control system when information and communication becomes too time consuming and costly to bring personally in face to face contact (Davila, 2004). However, even when the first formal controls are implemented, informal controls continue to be an influential manner to exert control at start-up companies (Cardinal et al., 2004). As mentioned before (see section 5.3.1), informal controls are concerned with social interactions of employees in shared norms, values, and the company’s culture (Jaworski, 1988).
5.5.2 Formal control
least exist of the so-called ‘Basic MCS’. This basic MCS entails ‘budgets, cost systems and other information systems for planning, setting standards and controlling expenditures’. These findings, showing the importance of management accounting systems, are also evident in the research of Moores and Yuen (2001). They found that when accompanies go from birth to growth phase, the management accounting system became more formal. The conclusion of the research of Davila and Foster (2005) is that budgets are widely and most commonly used at start-up companies as a formal management control.
5.5.3 Intermediate recap
Generally, informal control is significantly present at start-up companies, when companies shift from birth to growth phase, formal management control become more important. Further, it can be concluded that financial planning, and budgets in particular, are the first formal management control system implemented at start-up companies. For this reason, we will shortly address the concept of budgeting in the next section to increase the understanding of this widely used formal management control system and its advantages for start-up companies.
5.6. Budgets
The conclusion of the previous section is that budgets are often implemented at start-ups as the first formal management control system.
Budgets are used to exert control over (divisions) of a company in order to motivate, evaluate performance, and to allocate resources as efficiently and effectively as possible (Walker & Johnson, 1999, p. 1). Furthermore, according to Hopwood (1972, p. 156), accounting systems ‘provide all levels of management with timely and reasonably accurate information to help them make decisions which are in agreement with their organization’s goals’.
The primary thought to budgets is simple: previous to a project or financial period a document is composed with expected future earnings and expenses. After the project has finished or the preset period of time has expired, the actual earnings and expenses are compared to the projected numbers. In this way, a conclusion can be drawn whether any discrepancies between actual and expected numbers are worrisome or favourable.
While the functionality of budgets outlined in the previous paragraph is quite straightforward, it does describe the essence of budgets. However, when using budgets, more factors and functionalities are of importance to the composer and the user of the budget, because budgets are related to factors including coordination, planning, performance measurement, compensation, motivating employees and allocation of resources (Covalenski et al., 2003). So, budgeting is not only a rational tool for exerting control, it involves psychological and sociological aspects as well (Covalenski et al, 2003; Huang & Chen, 2010).
rather than ‘theory-defined’ (Hansen & Van der Stede, 2004). These practice-defined reasons are selected on basis of practitioner' conceptions, who use budgets in their conduct of business, and is a suitable classification for this case study research. The four reasons for budget use will be explored in more depth below.
5.6.1 Operational planning
Operational planning can be defined as setting short-term objectives for specific functional areas as finance, marketing and personnel (Schrader et al. 1989). Operational plans, unlike strategic planning, are focused on short term and day-to-day communication. Sales forecasts and budgets are examples of operational plans, which are reviewed and often set monthly or quarterly.
5.6.2 Performance evaluation
Budgets are used to evaluate the performance of managers and employees. This performance should be in line with the achievement of the corporate objectives and goals, as these objectives are the main reason of existence for a company. Hopwood (1972) initially started the discussion on how accounting data could influence the performance of managers. Since then, the relationship between budgets and performance evaluation has been subject to many scientific articles.
The simple thought behind performance evaluation is that by setting targets and evaluating the achievement of these targets after a period of time, the performance of managers and other employees can be determined. Targets can be formulated in terms of financial as well as non-financial measures, for instance the number of new customers (Merchant & Van der Stede, 2007). An important determinant of targets is that they should be measurable. Immeasurability can occur by means of subjective outcomes (for instance Services) or because the targets and outcomes are subject to external factors that cannot be influenced by managers and employees (Ronen & Livingstone, 1975).
Though the potential immeasurability of targets is a disadvantage of target setting, targets are used frequently in performance evaluation. Based on the achievement of targets, managers and employees are positively rewarded or negatively punished. Positive rewards can occur in either financial or non-financial rewards, for example rise of salary or job promotion. Examples of negative punishment are not receiving a bonus or even job loss (Scott et al., 1986).
Feedback
While target setting and performance evaluation is an important way to exert management control, only evaluating performance is not sufficient. Performance of individuals could be greatly improved by implementing a feedback system (London & Smither, 2002), instead of only evaluating performance.
For a feedback system to function well, there are two conditions that determine the success of feedback (London & Smither, 2002). These two conditions are:
- The feedback orientation of employees - The feedback culture within a company
employees, it is important for managers to understand the difference in how employees receive feedback.
The feedback culture within a company on the other hand, can be best described as how feedback is used, received and brought in a company and can be either strong or weak. To create an optimal feedback system, a strong feedback culture is favourable. A strong feedback culture entails ‘continuous formal and informal communication to improve job performance’ (London & Smither, 2002: p. 84). Strong feedback is a necessity for start-up companies to implement management control systems successfully since these controls create a new conduct of business for managers and employees as well. It can be shaped by three categories of organizational practices and interventions (London & Smither, 2002): 1) the quality of feedback, 2) the importance of feedback, and 3) the support for using feedback. It is also influenced by the value managers give to feedback as part of their daily conduct of business. The feedback culture is for instance influenced by whether feedback is brought formally or informally or how the company uses feedback as a coaching mechanism (London & Smither, 2002).
5.6.3 Strategy formation
According to Hansen and Van de Stede (2004), budgets serve a function in strategy formation as a planning tool for long-term purposes. In contrast to operational planning, where budgets are used in the day-to-day functioning of managers and employees, budgets also influence the strategic process in the long run.
Formation of strategies and thus planning strategically, is of great importance as strategies are used to decide how to allocate resources to achieve corporate objectives (Merchant & Van der Stede, 2007) and in order to realise a competitive advantage to other players in the field. Information is used for evaluating and analysing the past, to decide which direction the company must head, and which strategy should be used in order to achieve these corporate objectives. Further, strategic planning provides the basis for other planning activities as capital budgeting and operational budgeting (Merchant & Van der Stede, 2007).
In order to use budgets as effectively as possible in strategic formation, a distinction should be drawn between formal or informal strategic planning. Formal strategic planning, contrary to informal strategic plans which are not documented formally, are written plans which have a long term focus and include the corporate mission statement as well as s statement of organizational objectives (Schrader et al., 1989, p 46). Research of Schrader et al. also (1989) state that there is a positive relationship between formal operational and strategic planning and organizational performance. This is due to the fact that formal strategic planning forces managers and employees to consider ideas and objectives thoroughly before executing these plans), which could for instance increase sales of improve competitive advantages (Schrader et al., 1989).
5.6.4 Communication of goals
5.7 Conceptual model
The literature review in this chapter learns that still little is known about the relationship between management control and start-ups (see section 5.4 for an overview of the existing literature on this relationship) except that management control deserves a more prominent role within start-ups and that informal control and budgets (as a formal control) are predominant at start-up companies.
The goal of the theoretical framework is to create a conceptual model, which would clarify how management control could lead to increased performance at start-up companies to eventually achieve the corporate objectives.
Figure 5. Conceptual model: the relationship between management control and increased performance at start-up companies.
The conceptual model shows the following relationships:
Lack of direction, motivational problems and personal limitations may cause employees not to act in the best interest of the company. When a situation occurs where one of these three factors causes a problem, the management can introduce management control systems to influence the behaviour of employees. As this research focuses on a start-up company, the existing literature states that size and maturity influence the type of management control (Chenhall, 2003; Davila, 2004; Davila & Foster, 2007). However, when companies grow, the management control systems should be revised to fit the company’s need. The relationship between size and maturity and a management control system is dynamic and of changing nature. However, in the start-up phase, literature shows that start-up companies generally use informal control systems or budgeting as a formal control (see section 5.4 for an overview of the existing literature). As described in the previous section, the positive impact of budgets is closely related to the feedback system, which in turn is influenced by the feedback culture and feedback orientation. For this reason, culture and budgets are related and reinforce each other.
6. Interviews and Results
This chapter is concerned with presenting the results that became evident from the interviews that were conducted at Company X. The in-depth interviews were conducted to collect data on if, how and why management control is structured at Company X, a start-up company that offers asset management services.
In the previous chapter we explored existing literature on management control in relation to start-up companies. The results of the in-depth interviews are structured to fit the sequence of the previous chapter. First, the three reasons for implementing management control will be discussed. Next, the presence or absence of formal and informal management control are described, and lastly the reasons why management control is, or is not, present.
6.1 Company X
The in-depth interviews covered several topics. During these interviews however, some specific characteristics of the company emerged that should be mentioned previously to the more in-depth results of these interviews.
Company X has a completely integrated, automated and advanced online platform, from which the product and services are offered. This platform forms the bases for all choices made with regard to future developments of the company. This automation and integration should create large efficiency benefits, so the services can be offered with a minimum number of employees.
Another apparent feature of Company X is that there is a rather high level of ambition at the management and other employees. Workweeks of individuals cover an average of 50 to 60 hours. In addition, all employees spend some time at work in the weekends as well.
Further, Company X consists of only ten people. The company’s chart (see figure 1 on page 15) shows that there are only three operational managers against six employees. These six employees are quite inexperienced. The Manager Operations and the General Manager are the ones that call the shots. It can be concluded that there is a limited seniority at Company X.
Fourthly, eight out of ten employees share the same former employer. This has a considerable influence on the company’s culture, due to previous shared values, view and beliefs of how business should be done.
Lastly, Company X is focussed on creating growth within the next twelve months. As mentioned in chapter four, Company X is between its birth and growth phase and expanding the number of employees is in line with the expectations of the management.
6.2 Reasons for management control
direction, motivational problems and personal limitations. These three reasons will be discussed separately to indicate the (in) existence of these problems at Company X.
6.2.1 Lack of direction
Employees can experience a lack of direction when employees are not sure what is expected from them (Merchant & Van der Stede, 2007). Communication of roles, tasks and targets could influence and improve this lack of direction.
As Company X is a start-up that only consists of ten people tasks are not defined tightly. It may occur that employees take over each other’s work and that the division of tasks mingle. In addition, strict tasks, goals of departments and goals of employees are not formally set and communicated towards the responsible employees. As mentioned in the general comments of Company X at the beginning of this chapter, most operational knowledge is concentrated at only two managers. It is the responsibility of these two managers to communicate operational goals well.
Contrary to the restricted communication of operational goals, all employees are kept informed about developments regarding strategic issues. The limited size creates an open atmosphere and intense cooperation. Information asymmetry is not viewed as being evident or present by the managing partners, as can be deducted from the following quote:
‘I think that only 10% or 15% of the information is not known by all employees. There is deliberately chosen for this open communication to create a feeling of ‘being part of the group’ at all employees’.
However, despite the open atmosphere, involving employees at strategic developments and the creation of being part of the group, the management lacks in forming and communicating clear tasks and goals. It can be concluded that there is a certain amount of lack of direction. The managers should address this lack of direction, as the company is set to expand greatly within the next twelve months and less time is available for the management to communicate goals and objectives informally. Formalized communication through targets and budgets could help overcome this problem.
6.2.2 Motivational problems
Motivational problems can occur when personal objectives and corporate objectives are not aligned (Merchant & Van der Stede, 2007). This problem can be solved by implementing tools that improve intrinsic or extrinsic motivation (Ryan & Deci, 2000).
Currently, the managing partners do not notice any motivational problems. However, they are aware of a slight difference in ambition between the partners and employees. This can be easily explained since there is more at stake for the managing partners than simply their job.
Van der Stede (2007). However, bearing the desired growth in mind, it cannot be expected that all future employees are motivated solely by themselves. Implementing a reward system, intrinsically or extrinsically, that suits the corporate culture will influence motivation positively. Company X can for instance start off with a financial bonus related to a specific amount of assets under management or a specific amount of clients in the database since these are quantified corporate objectives.
6.2.3 Personal limitations
The largest problem identified at Company X is the lack of experience of employees. Though there is deliberately chosen to attract young, ambitious employees, lack of knowledge and lack of managerial competencies forms the main burden to perform as desired:
‘We see it as an investment to train and develop young professionals that share the same values and beliefs in how to perform a job or task. However, currently it restricts us to complete the desired amount of work. It is an investment for the future of the company’.
6.3 Implemented management control at Company X
Management control, as mentioned before, is ‘the process by which managers ensure that resources are obtained and used effectively and efficiently in the accomplishment of the organization's objectives’ (Anthony, 1965). Different classifications are discussed in this research that will be used to describe the current forms of management control at Company X (see Merchant & Van der Stede, 2007; Jaworski, 1988; Ouchi, 1977; Ouchi, 1979).
While this research focuses on control exerted internally, both managerial partners indicate that management control is primarily evident due to external requirements. As mentioned in the introduction, since the credit crisis of 2008, there is an increased focus on legislation. Authorities like the Dutch Federal Bank (DNB) and the Authority Financial Markets (AFM) put pressure on compulsory control. Examples are financial audits, procedures and formal documents as Organisation and Administration Internal Control (AO/IC).
6.3.1 Informal control
Though management control is not regarded as clearly present at Company X, during the interviews, many informal controls became evident.
Culture
At Company X, there is a corporate culture that strongly influences behaviour. The vast majority of employees, as well as both managing partners who took part in the interviews, share the same previous employer. This way of behaving and working is largely reflected at Company X. The shared history creates an environment where employees do not need much explanation concerning why and how things are done. One remarkable aspect of the company’s culture is the creation of the ‘us versus them’ feeling. As the strategy of the company is aimed at acting against the prevailing order, all aspects of the conduct of business aim at doing it differently than other companies do. This culture creates an atmosphere where everybody is willing to do the best they can.
In addition, the company’s culture is aimed at being as open, transparent and flat as possible. There are no evident dissimilarities between the managers and the junior employees of the company. One of the managing partners even described the culture as ‘more informal is not possible’.
This becomes also evident in the participation of all employees in developments of projects, which is highly encouraged by the corporate culture. The management stimulates the junior employees to think about all different aspects of the company. Well thought input is regarded valuable, and is highly appreciated.
This culture is seen as the most influential control used at Company X, reflected by the quote of one of the interviewees:
‘Even when I am not around, I don’t spend a moment worrying about whether tasks are being done. I trust blindly on the fact that others will correct employees when undesired behaviour occurs’.
This evident shared culture is the most apparent informal control function at Company X.
However, what became apparent in the literature review, the importance of formal controls grows as a company develops from its birth phase to its growth phase. Especially at Company X, since there is a large probability that future employees will not share the same previous employer. This will call for a stronger focus on transferring the existing culture on new employees, in order to maintain the ‘us versus them’ feeling. The management should be aware of the possible decline of culture as a management control system.
Motivation
or extrinsically, for motivational purposes. This means that no operational goals are communicated, no targets are set, and no formal evaluation takes place periodically: ‘I do not believe that we (the management) should put effort in motivating people. Motivation is something that should be part of the character of an employee’.
However, in relationship to motivation, the managing partners stress the importance of an environment where learning and development of an employee is key. Offering challenging tasks and high levels of responsibility creates this environment. In addition, the managers put great value on loyalty:
‘We are willing to put time and effort in junior employees. If they have the ability to grow and learn, we will be loyal in any form. This should motivate the junior employees to be committed. I do not even exclude that the current workforce could turn into the management team in several years’.
Evident in the motivation at Company X, is that there is a strong focus on future intrinsic and extrinsic rewards if the junior employees are willing to show effort. This is communicated on a informal basis to the junior employees. The management is clearly convinced that this is sufficient for motivational purposes.
Communication and feedback
In line with the corporate culture, communication and feedback is done informally as well. Face-to-face contact is prevalent in communicating internally. As mentioned before, the openness in communication of, for instance strategic developments, reinforces the strong cultural control.
The same applies for the feedback at Company X. As continuous learning is of great importance, much time is spent on providing informal feedback. However, there are no formal progress meetings or performance appraisal. Feedback is provided during the process and when tasks have been accomplished. There is a strong belief that feedback should come continuous, instead of on periodical pre-planned data. This is in line with a strong feedback culture, described by London and Smither (2002). In order to create this strong culture with a focus on informal control, hiring employees is classified as quite important. However, hiring employees is done rather informally as well. Since the focus lies at ‘soft requirements’ as ambition, personality and fit with the existing team, no standard requirement or procedures are prepared. The company seeks employees with shared norms and values.
6.3.2 Formal control
Formal controls are documented and management initiated forms of control (Jaworski, 1988). During the interviews, it became apparent that apart from the documents that are required by authorities, there are just a few minor formal controls implemented at Company X.
Statistical reports
of the different departments. The responsible employees compose these statistical reports. However, the managing partners notice some potential issues as a single individual provides these statistics, what influences the possibility of subjective reporting:
‘We noticed some incorrect facts and figures in the monthly reports. For a report to be objective, the Key Performance Indicators should come from two independent sources’.
Despite the flaws of the current reporting system, it does classify as a formal management control.
Cost-Income ratio
In order to provide some formal statistics, the management is currently engaged in constructing a cost-income ratio as a general overarching target. Though this target has not been brought into practice, the fact that the managing partners are considering such a management control tool shows the need for more control. This cost-income ratio can be calculated back to specific targets for each department. The management recognizes the importance of financial targets:
‘We are aware of the lack of financial targets, as the whole performance of the company can brought back to these targets. Though we have some concrete ideas, we have not yet implemented them’.
External capital and budgets
As mentioned before, an outside investor funds the company. Contrarily to the finding of Davila and Foster, (2005 and 2007), who proved that the presence of outside investors influence the adoption of formal management control, this outside investor does not exercise much pressure on the existence of formal management controls at Company X. Budgets are composed to communicate the condition of the company semi-annual. However, these budgets are not used for internal control purposes. These budgets do create a little amount of awareness for the managing partners, though no corrective action is taken based on these budgets. One managing partner did not even see budgets play an influential role in the future of the company, as ‘budgeting is an outdated manner to control rigid companies’.
6.4 Reasons for presence or absence of formal management control at Company X
