9781118041581

Organizational Design 599

Decentralization assigns decision-making responsibilities as closely as possi-

ble to the holders of relevant information. Presumably, an experienced regional

sales manager with his or her ear close to the ground can best make periodic mar-

keting, promotion, and pricing decisions. In general, as the number of contin-

gencies grows, so does the importance of decentralized decision making. A single

decision maker might do a credible job identifying a profit-maximizing price in a

peaceful, unchanging market. However, with scores of ever-changing market seg-

ments, setting prices centrally becomes daunting, perhaps even hopeless.

Let’s now consider the contrary point of view and ask, under what circum-

stances does efficiency favor centralized decisions? The answer is, when decisions

are highly interdependent, that is, when managers must coordinate choices. For

instance, management’s optimal output decision depends simultaneously on

demand and cost. Thus, we should not delegate the output decision to a pro-

duction manager (or a marketing manager) alone. Each would have only part of

the relevant information to determine Q*. Accordingly, the output decision

should be in the hands of more centralized managers who use demand and cost

information from both the production and marketing segments of the firm.

However, once centralized management has determined output, it can delegate

many of the other decisions, such as the exact details of the advertising cam-

paign, promotions, and input decisions, to the appropriate functional areas.

A second argument for centralization arises in the face of significant prin-

cipal-agent problems. Imagine that a regional manager has the best informa-

tion to make a particular decision, but that the manager’s interests conflict

with the firm’s objectives. Absent controls or incentives to bend the manager’s

interests to the firm’s, it would be foolish to delegate this decision. Instead,

upper-level management should make the decision, even if it has imperfect

information. Table 14.2 summarizes factors bearing on the choice between

centralization and decentralization.

COORDINATION THROUGH TEAMS Management’s choice between central-

ization and decentralization is not all or nothing. The growing use of teams

represents a hybrid sharing of information and decision responsibility. Teams

pool information and perspectives. A 2007 study documented that the percentage

TABLE 14.2

The Choice between

Centralization or

Decentralization

Factors Favoring Centralization Factors Favoring Decentralization

1. High degree of coordination 1. Low degree of coordination
   required required


2. Concentration of decision-relevant 2. Dispersion of decision-relevant
   information information


3. Significant principal-agent problems 3. Compatible interests and objectives

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