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Necessity or dangerous: the influence of tensions in
emerging companies
Niek Stroomberg
University of Groningen, Groningen, the Netherlands Abstract
Purpose – The purpose of this paper is to examine how managers of rapidly growing organizations handle tensions between formal and informal management control systems (MCS).
Design/methodology/approach – An in-depth case study is conducted in Phone Inc.; an organization which has gone through a period of fast growth recently. Interviews with founders, managers and employees have been analysed.
Findings – Rapidly growing entrepreneurial firms try to remain able to handle the growth, while keeping control over the organization. Managers have three levers of controls which enables them to do so: management, improvement and alignment. Management and improvement are formally organized, while alignment is mainly informal. The combination of formal and informal controls makes the organization able and the employees willing to grow.
Research limitations/implications – The research is based on secondary data. Because the data is gathered with a slightly different intention, the results may differ in case data is gathered specifically for the research question. However, the results are clear and can be used by other entrepreneurs to shape their organization.
Practical implications – This paper shows case-based evidence how the growth phase is experienced in a real company and how managers can overcome tensions between formal and informal controls in their company.
Originality/value – The findings of this paper advantage MCS theory by offering an explanation for how MCS can be correctly implemented in rapidly growing organizations. Different than previous studies, this study shows which levers of control managers of rapidly growing companies have and how they should use them to overcome growing pains and keep growing.
Keywords – Management control systems, rapidly growing entrepreneurial firms
Introduction
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An underexposed part of existing literature on MCS relates to the emerge of formal MCS in start-ups and fast-growing organizations (Luft & Shields, 2003). During the start-up phase, in particular, founders often have direct and informal interactions with the small number of employees working for their organizations and, as a result, most start-ups rely solely on informal controls (Flamholtz & Randle, 2012). Nevertheless, growing entrepreneurial firms that survive the start-up phase are often confronted with problems related to the use of these informal systems and have to implement more formal controls (Covin & Slevin, 1990; Hanks et al., 1993; Kazanjian & Drazin, 1990).
On one hand, while growing, these firms experience the need to use formal controls to better cope with the new strategic and operation complexities that the growth brings with it. This need often makes informal controls hard to be operated. On the other one, instead, difficulties in successfully transitioning to formal MCS that aligns with their existing informal system appear (Davila, 2005). Thus, formalizing control in rapidly growing entrepreneurial firms poses a challenge – what will be defined here the ‘growing pains’ of control.
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This paper shows how managers in rapidly growing companies handle tensions between formal and informal controls. This will be done by investigating a Dutch organization operating in the telco industry, which has been experiencing growing pains in control recently. The organization will be henceforth named ‘Phone Inc’. Phone Inc. was founded roughly ten years ago with selling phones and phone subscriptions within the e-commerce business. Phone Inc. grew substantially during the last three years and the firm has nowadays (as of 2018) over 400 employees, 300 million Euros of turnover and seven stores located throughout the Netherlands.
The study is based on 6 semi-structured interviews which are held with different employees of Phone Inc. by another researcher. Based on these, the tensions between formal and informal controls during the growth phase and how these are handled will be made clear. The interviews are analysed, remarkable or common findings are described and conclusions are be based on it.
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Theoretical background
Management control systems
Traditional studies describe “control” as one of the four primary functions of management (the others are organizing, planning and coordinating) (Fayol, 1949). Control is defined as any process whereby managers direct attention, motivate and encourage organizational members to act in ways desirable to achieving the organization’s objectives (Jaeger & Baliga, 1985; Merchant, 1988; Ouchi, 1977, 1979; Snell, 1992). Theories have described various ways by which organizational control might be achieved, including: leadership and the development of formal policies (Bernard, 1938; Selznick, 1957), the application of relational-legal authority and rules (Weber, 1946), activation of cultural norms and rituals (Trice & Beyer, 1984, 1993), adherence to incentive systems (Dale, 1958; Whyte, 1955), or reliance on direct supervision (Mintzberg, 1979).
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The controls of which these MCS exist have been categorized in many ways. For example: output and behaviour controls (Ouchi, 1977), market, bureaucracy and clan controls (Ouchi, 1979), administrative and social controls (Hopwood, 1976), and results, action and personnel controls (Merchant, 1985). The most common used and best-known categories are however formal and informal controls (Anthony et al., 1989). This is about using written and unwritten methods to work and communicate. Organization theory scholars have long acknowledged that control processes are integral to the way in which organizations function (Blau & Scott, 1962; Tannenbaum, 1962). Anthony (1965) even described that there are boundaries between operational, managerial and strategic control. This infers that MCS, because of the ability to channel efforts, are indispensable and very important for companies.
Controls in use
As mentioned, control can be identified within two well-known classes, formal and informal. Formal controls are written, management-initiated mechanisms that influence the probability that employees or groups will behave in ways that support the stated objectives. Informal controls are unwritten, typically worker-initiated mechanisms that influence the behaviour of individuals or groups. These informal controls may or may not be supportive of the stated objectives.
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responsible for maintaining and adapting the formal system, primary responsibility for the informal system is with the workers (Jaworski, 1988; Kirsch, 1997, 2004; Kirsch et al., 2002).
There are however also slightly different approaches. According to Jaworski (1988), the two broad classes of control are composed into three formal and three informal control mechanisms.
Formal controls. Formal control mechanisms are input, process and output controls.
Formal control mechanisms are characterized by measurability, focus on behaviour and/or activities, performance standards, monitoring and evaluation of results (Anthony, 1952; Flamholtz, Das & Tsui, 1985; Waterhouse & Tiessen, 1978).
Informal controls. Informal control mechanisms are self, social and cultural controls.
Informal control mechanisms are characterized by personal objectives, unit standards, conformity monitoring, normative values and worker behaviour (Dalton 1971; Hopwood 1974; Ouchi, 1979). There are different names for informal groups, e.g. "small group" (Dalton, 1971), "clan" (Ouchi, 1979), or "professional" (Waterhouse & Tiessen, 1978) control.
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Table 1 Distinguishing control configurations by reliance on formal and informal controls
Reliance on formal controls
Low High
Reliance on informal controls
High Clan configuration Integrative configuration
Low Market configuration Bureaucratic configuration
The four control configurations have the following characteristics:
Market configuration. Low levels of both formal and informal control (e.g., Ouchi,
1979; Wilkins & Ouchi, 1983; Williamson, 1975). This configuration would mainly exist of output controls (Williamson, 1975; Ouchi, 1979).
Bureaucratic configuration. High levels of formal control and low levels of informal
control (Ouchi, 1977, 1979, 1980, 1981; Roth et al., 1994). There exist rules how workers should behave, how and when work will be completed, and what quality and quantity of outputs must be created.
Clan configuration. Low level of formal control and high level of informal control
(Jaeger and Baliga, 1985; Ouchi & Price, 1978). Ouchi (1979) described that clan controls derive from the shared values and norms, or the culture of the organization.
Integrative configuration. High levels of both formal and informal control
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Life-cycle theorists (e.g., Adizes, 1979, 1989; Greiner, 1972; Kimberly, 1979) and entrepreneurship researchers (Covin and Slevin, 1990; Hanks et al., 1993; Kazanjian & Drazin, 1990) have set up a theory which states that the way of control in organizations changes as the organization grows. They suggest that organizations first evolve through a creativity or entrepreneurial phase where founders employ market control systems and enact immediate marketplace feedback (Greiner, 1972) in the form of market and customer demands (Adizes, 1979, 1989). As organizations then evolve through a collectively stage, managers develop a clan control system and direct employees using interpersonal communication and informal control mechanisms. This creates high cohesion and commitment towards the founder and the organization. Eventually, organizations move through a formalization and a control stage. During these stages, managers attempt to create efficiencies and direct employees by codifying some norms as rules using a variety of control mechanisms (Adizes, 1989).
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be used as a core theoretical element in our theories and states: “Managers do not design informal systems” (Merchant, 1988: 42).
However, MCS play a key role in managing conflicts caused by growth (Davila, 2005). Because of this, the introduction of the right control at the right time in a company’s life cycle is essential to achieve sustainable growth (Simons, 1995; Moores and Yuen, 2001; Davila and Foster, 2007). As companies are small in the starting stage, with employees who have frequent face-to-face communication and founders who have a dominant role, it is expected that companies are mainly depending on informal controls (Simons, 1995, 2000; Moores and Yuen, 2001). Previous studies have shown that companies become more formalized and adopt more controls as companies move from the starting stage to the growth stage (Moores and Yuen, 2001; Davila, 2005; Su et al., 2013).
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As controls are introduced, it is necessary to develop cultural controls such as beliefs and values to manage internal and external relationships (Simons, 1995). The primary goal of cultural controls is to communicate the companies values to inspire and motivate employees and guide organizational development (Simons, 1995; Widener, 2007; Heinicke et al., 2016; Dumay and Dai, 2017). According to Sandino (2007), companies use different strategies to implement different sets of MCS. However, at every strategy financial control is the first which is implemented. Also, in all strategies companies focus on achieving revenue by which they keep growing continuously.
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Research methods
To determine how managers in rapidly growing organisations should design their formal and informal controls to overcome growing pains, I chose to undertake a single case study (Barratt et al, 2011). The single case study method is most beneficial for addressing “how” and “why” questions. By using this method, deeper understanding of phenomena in their natural setting will be sought (Voss et al., 2002). This method enabled us to find smaller details of the tensions between formal and informal control mechanisms. This study is based on secondary data which has been gathered for approximately the same subject of interest.
In order to study how tensions between formal and informal controls are handled by managers in rapidly growing organizations, an organization was sampled that met a few criteria. Although the exact criteria are unknown, at least two key criteria had to be met. First, the organization needed to have gone through a period of fast growth recently. Second, the organization should use both formal and informal controls in their MCS. The researcher of which the dataset is used, set up a search for a company which met these criteria best and consequently found one, namely Phone Inc.
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Data gathering process
The researcher of the previous study conducted fourteen semi-structured interviews, each lasting between 40 and 80 minutes. Interviewees included members from every level of the organization with different managerial responsibilities (e.g. coordinator, team leader, purchaser and founder). The interviews focus on how control looked like in Phone Inc. on its early days; the interviews address in a detailed way the steps taken by Phone Inc. to formalize control and the tensions which came with it. They also show the ensuing challenges that interviewees had been coping with along the steps. This all results in in-depth evidence about the varying experience of employees and key figures responsible for managing Phone Inc. during its growth phase. A rich testimony of what the growing pains at Phone Inc. looked like is as such provided.
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Table 2 Selected interviews
Interviewee role (level) Department Experience Duration
1. Performance specialist (operational)
Pricing & Category Management
3 years 41 minutes
2. Team leader (operational) Customer service 8 years 67 minutes 3. Head of Purchasing/Sales
(executive)
Purchasing/Sales 7 years 57 minutes
4. Controller (operational) Finance & Control 6 years 62 minutes 5. Founder (executive) Management 11 years 56 minutes 6. Business developer (operational) Business
Development
6 years 53 minutes
Data analysing process
To be able to analyse the data, the information of the interviews was organized using coding. Using this method, cross-case patterns can be spotted based without the change of false conclusions (Eisenhardt, 1989). Although this method can be used in multiple ways, the tactic used during this study is selecting categories using labels and then look for within-group similarities coupled with interwithin-group differences. This way of working was most suitable looking at the available data and desired end results.
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analysis is focussed on describing and explaining the phenomena. Eventually, the aggregate dimensions combined the categories even further to a 3rd-order category. This made the data more usable and understandable.
From the analysis various cross-case patterns began to emerge. The next step of the process was to compare systematically the emergent frame with the evidence from each case in order to assess how well or poorly it fits with the case data. While doing this, the theory and the data are compared constantly to set up a theory which closely fits with the data (Eisenhardt, 1989). By doing this, the constructs of the hypothesis are refined. The definitions of the constructs are refined and the evidence which measures the constructs is built.
As soon as the constructs of the hypotheses were clear, the emerging relationships between constructs are verified. Based on this, the hypotheses could be confirmed or disconfirmed (Yin, 2003). Now it could be understood why emergent relationships hold or not.
Findings
The interviews show that Phone Inc. indeed uses both formal and informal control mechanisms: “We work according to some protocols, but not everything is written down” (Business developer) and “The company is still very informal, but the organization is formalized in certain areas” (Founder).
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for control’, can be identified to explain how managers of fast-growing organizations manage tensions between formal and informal MCSs. This is shown in Figure 1.
Figure 1 Process coding structure: the influence of tensions
The combination of formal and informal controls can be spotted throughout the company and within types of control, but the managers make a main difference between different types of control. This is however beneficial for this research because this makes it more clear which tensions there are in the company between formal and informal controls and how managers try to overcome these. Overall, the data of Phone Inc. shows out that it is necessary to formalize different aspects in the organization to keep control over all processes (Sitkin, Cardinal & Bijlsma-Frankema, 2010). When speaking about formal controls, the following
First-order codes Second-order codes Themes - MCS
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responses were given: “Since the start we have grown extensively, so I understand that the company has changed over time” (Head of purchasing) and “In case the organization keeps growing, you need to set up an extra layer of management at some point” (Performance specialist). These quotes show that there is a need for more formal controls and employees desire both more organization and improvement of processes. At the same time, the employees of Phone Inc. do not want to lose the current informal ambiance: “The strength of our department is the amount of freedom we have” (Head of purchasing). Managers must deal with the tensions which emerge from this contradictory necessity. The main types of control can be summarized as management, improvement and alignment.
Management
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(e.g. Business Development) departments. As the work in operational departments is more routine based and done by a lot of part-timers (e.g. students), the company tried to manage these departments more closely: “Support departments don’t have many fixed activities, whereas operational departments have recurring activities to set up formal controls for” (Business developer).
On the other hand, the managers of Phone Inc. did not want to formalize the organization too much, but also keeping its original flexibility. As the organization was still growing, the ability to adapt to market changes was the strength of the company compared to competitors (Greiner, 1972): "It is a strong point of the company that there are no formal goals, because now you can go in another direction that may be good for the results" (Performance specialist). For this reason, the strategy and budgets of Phone Inc. were for example not known by the employees. This prevented the employees of having a tunnel vision and kept them motivated at all times, even when the original targets were already met. These examples show that, although formal controls were needed to manage the firm, Phone Inc. only formalized aspects which were required to grow. By this way, the original flexibility of the company was maintained as much as possible. Therefore:
P1. Managers in rapidly growing firms want to maintain the original flexibility and therefore only formalize aspects which are required to grow.
Improvement
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bottlenecks are and what has to be improved.” (Founder). The focus area of improvement was mainly led by bottlenecks and new opportunities: “The improvements are focusing on reaching scalability and being able to go abroad” (Business developer). The area of improvement was given by the founders. They received a weekly report of all departments to check the results and problems of last week. Based on these reports and the discussions they have with the employees, they determined which improvements had the highest priority: “I make a planning for the tasks I want to work on the coming weeks, which I think have the highest priority. Then we align with the founders whether they agree or not, and then we proceed” (Controller).
In addition, managers focus on keeping the entire company controllable. They do this by setting up standard ways of working to keep the communication easy, understandable and manageable: “Tasks need to be formalized in case you want multiple people to do it in the same way” (Founder). This results in for example protocols, standard reports and IT-systems to let people work according to a standard: “Formalizing results in a uniform way of working and reduces the number of mistakes” (Business developer). These quotes show that it is difficult for new organizations to handle the continuously growing customer demand, while simultaneously maintaining control of the whole process. Therefore:
P2. Managers in rapidly growing firms must solve the most urgent problems continuously, while maintaining control over all processes.
Alignment
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to deal with changes during the growth phase: “In the beginning, Phone Inc. was like as sect and everybody felt really connected to the company. As the firm grew, this reduced” (Controller). More employees were hired, aspects within the organization became more formal and the original employees were not able to oversee the whole company anymore. Because of this, the ambiance changed and the distance between employees became bigger: “When I went to another department, I saw that there happened more things in the company than I knew” (Controller). This resulted in employees who felt less comfortable in the organization and liked the previous situation more.
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The results show that managers in rapidly growing firms use three types of control. These make sure the company can meet the growing customer demand while keeping control over the firm and empowering employees to get along with the changing company. The formal control type management makes the managers of the company able to manage and oversee the whole company. The formal control type improvement makes the company able to meet the continuously growing customer demand. On the other side, the informal control type alignment makes it for employees possible to get along with the changing company. The changes made by the managers using the control types ensure that the company and employees remain able to cope with growth. Thus, managers combine formal and informal controls to achieve good results while they try to keep the tensions in the company low.
Discussion and conclusions
This research shows how managers of rapidly growing firms handle tensions between formal and informal MCSs. The findings extend the current literature about the way the MCS changes during the growth phase of a company (e.g., Adizes, 1979; Covin and Slevin, 1990; Hanks et al., 1993). Besides this, this study provides new insights on the ability to design and combine formal and informal MCSs (Cardinal et al., 2004; Anthony, 1952).
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create efficiencies and direct employees by using a variety of control mechanisms (Adizes, 1989). As things are being changed, this often results in more formalities as protocols and reports. As a result, this could lead to a less flexible company (Ouchi, 1977) which may be impactful as long as the organization still enacts directly on marketplace feedback (Greiner, 1972). This research shows that the organization is forced to implement formal controls, even though this harms the beneficial characteristics that have been retained from being a small organization.
As managers implement formal controls to make the organization able to grow, the necessity to get employees along in the changing organization increases. Managers tend to use the informal control type alignment to channel the employees, e.g. by having nice things next to the work and having feedback sessions. This leads to an informal and pleasant ambiance among the employees by which they are more motivated to work. The combination of formal and informal types of control makes it for employees more doable to strive for good results and ensures that the organization can be successful. It makes the organization able and the employees willing to grow. By this way, managers of rapidly growing entrepreneurial firms handle tensions between formal and informal MCS.
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growing organizations do this by using two types of control. One type of control is management: managers organize the firm in such a way that the organization remains controllable and efforts are channelled. They do this by formalizing the most important aspects, for example by setting a clearer hierarchy, separation of tasks and ways to transfer knowledge. While focussing on the most required aspects, the benefits of being a small firm are kept as much as possible. By this way, the company remains flexible (Ouchi, 1977) to respond to changes in the market (Greiner, 1972). On the other hand, the type of control improvement focusses on extending the possibilities and limitations of the company. This is for example done by resolving output limitations. This type of control shows that the organization must set formal standards to reach scalability. Thus, this study contributes with showing that the different formal types of control are used to make the organization able to grow, while retaining the original beneficial properties as much as possible.
Second, in consistency with existing literature, MCS can be designed and are more effective when formal and informal control mechanisms are combined (Anthony, 1952; Cardinal et al, 2004). This study shows however how MCS can be designed as well to achieve the best results. More specifically, the MCS of Phone Inc. existed of three types of control, namely management, improvement and alignment. Management and improvement need mostly formal controls, whereas alignment mainly relies on informal controls. Having formal controls in place is for management a requirement to keep control and keep growing. Using the informal alignment in the company makes people happier and working harder. By this way, the organization can grow fast in an organized and controlled way.
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population of rapidly growing firms. Second, this study is based on secondary data which is gathered with a slightly different goal. In case the interviews were focussed only on the exact purpose of this study, the answers of the interviewees may have been different. Last, this study is executed within a short period of time. For that reason, only a limited number of interviews are used to base the study on.
This research has implications for managers and policy makers in rapidly growing organizations. It shows that MCS should be designed and implemented based on both their formal ability to control and oversee the firm, and their informal ability to influence the employees. Managers need to find a balance between these aspects to enable the company to grow and the employees willing to grow. Furthermore, using the correct formal and informal controls at the right time can improve the success of the company (Anthony, 1952). It can ensure that the company is able to grow and make sure people can come along with the growth of the company.
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