Exploring the use of ERP systems by SMEs M. Tagliavini, P. Faverio, A. Ravarini, F. Pigni, G. Buonanno

CETIC -Università Cattaneo – LIUC Corso Matteotti, 22 I-21053 Castellanza (VA) – ITALY Phone: +39 0331 572226 Fax: +39 0331 572320

ABSTRACT Nowadays most of large companies have been using an ERP system, thus ERP vendors are moving their attention toward small and medium enterprises (SMEs), by offering simplified and cheaper solutions. Such an approach is mostly due to SMEs’ lack of internal competence and resources, while most of large companies have been investing time, money and human resources to modify their strategies and exploit the opportuni-ties related to the business use of information technologies. Experiences on the field show that SMEs often fail in recogniz-ing the economic and organizational impacts related to the use of ERP systems; as a consequence, the evaluation of acquiring an ERP system, instead of choosing a system supporting spe-cific business functions, is a strategic decision that, mostly within SMEs, should be supported by evaluation models. Starting from a theoretical model analysing the opportunity of acquiring an ERP system according to the evaluation of both the business complexity and the level of organizational change, this work aims at verifying on the field the hypotheses of this model as well as to look for other criteria suggesting the most suitable solution according to the business features. This paper will describe in detail the results coming from a survey on a set of 79 Italian SMEs.

Keywords ERP, SMEs, business complexity, organizational change, survey

1. INTRODUCTION The evaluation of the contribution of Enterprise Resource Plan-ning (ERP) systems in terms of both value creation and eco-nomic returns is a difficult task, because of the organizational changes needed by their implementation as well as the difficulty in predicting the return on investment [27]. In spite of the bene-fits potentially offered by ERP systems [1,6,9,15,29], these issues assume particular importance within small and medium enterprises (SMEs), where the implementation and the evalua-tion of the potential benefits are still a difficult task [33]. Due to the saturation of the large companies market, ERP ven-dors have been moving their attention toward SMEs [8] by of-fering simplified and cheaper solutions [22] from both the or-ganizational and technological points of view. Although ERP vendors are concentrating on the customization process needed to match the ERP system modules with the features of existing processes, several studies show that configuring and implement-ing ERP systems is still an expensive task [7], even more in small firms [26]. Chan [3] asserts that many SMEs either do not have sufficient resources or are not willing to commit a huge fraction of their resources due to the long implementation times and high fees associated with ERP implementation [4,10,11]. As a result, the rate of adoption of ERP systems by SMEs has been slow. The resource scarcity, the lack of strategic planning of IS [5,25,40], the limited expertise in IT [25] and also the opportunity to adopt a process-oriented view of the business are among the factors that strongly influence, either positively or negatively, ERP adoption by SMEs. A previous research [33] suggested a model supporting the evaluation of ERP system adoption through the qualitative evaluation of the business complexity as well as the strategic and organizational objectives. The aim of this work is to verify

the validity of the variables the model is based on, through an empirical research on a sample of 79 SMEs.

2. CONCEPTUAL FRAMEWORK The theoretical model [33] suggests four different approaches to IT adoption: it is based on two main variables: the level of business complexity and the extent of organizational change the company plans to achieve.

Business complexity Business complexity was assessed by identifying a set of busi-ness variables, each supported by the most qualified literature: Company size (classified as micro, small, medium): existing literature seems to confirm the existence of a mutual depend-ence between size and business complexity. Size, together with other aspects, is widely accepted as an indicator of organiza-tional complexity [21]. Kimberly [21] stressed out the necessity to make use of a different approach depending on the industry the company belongs to: for the services industry the number of employees has a better fit, while for manufacturing companies the turnover seems to better suit. Therefore, organizational complexity is affected by size as well as by other issues increas-ing the need for co-ordination and control of organizational activities [18,39]. The market area (local, regional, national, international): the hypothesis of correlation between the level of internationaliza-tion and the business complexity seems to find a justification in the different legal and cultural issues that need to be managed [6,14,32,36] and by the competitive pressures that international firms have to face [2,34,35]. The membership of a group (either as the holding or as a con-trolled firm): this variable seems to be strongly related to the issue concerning the business co-ordination of dispersed busi-ness units. This is true in terms of alignment of processes and procedures both between the holding and the controlled compa-nies and among controlled companies themselves. However, if the imposition of common operating processes on all units could lead to a tight coordination between the controlled com-panies’ business, in a multiregional context strict process uni-formity could be counterproductive in terms of flexibility [6]. The presence of branch offices (where, how many): nowadays, for companies with branch offices which need to be remotely controlled, the information flow management is a crucial issue. In larger organizations [17] the development of intranets is of-ten characterized by a lack of coordination and supervision. SMEs face different issues (i.e. the cultural and technological level of knowledge of the entrepreneur): this is one of the as-pects that must be considered to fully comprehend the fall-outs in terms of management complexity, organizational impact and required competencies. The level of diversification (in terms of products, markets, technologies): complex organizations are characterized by oper-ating in different product-market combinations [39]. In related-diversified firms, an increase in the number of businesses adds information-processing demands by increasing business-unit interdependencies [16,20,28,30]. In unrelated-diversifiers, as the number of businesses increases, the information-processing requirements associated with maintaining efficient internal capi-tal markets also increase [19]. Moreover, because of the greater need for co-ordination and control of activities, complex or-

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ganizations will tend to have specialized planning departments, employ a larger number of planners and consequently devote a substantially larger amount of financial resources to strategic planning [12,23].

A high level of business complexity does not necessarily im-plies the need of a ERP system. Another issue to be considered is the organizational impact: a ERP system imposes its own logic on the company strategy, organization and culture [6]. Thus, this decision affects most of the company business func-tions and directly involves a significant number of people. The project team responsible for ERP implementation will be chal-lenged to either match the functionality of the application to business practice or find ways to adapt or change current proc-esses and procedures. Furthermore, the project team could face organizational resistance to changing the status quo [24]. There-fore the second hypothesis is focused on the matching between organizational issues and ERP adoption.

The degree of functional extension (number of activities car-ried out internally): there are companies which consider certain business functions trivial: the degree of functional extension refers to the number of strategic functions directly managed within the company.

Organizational change The extent of organizational change is based on entrepreneur’s choice of desired transformation level. This measure depends on the evaluation of the organizational and economic impacts, such as the competence of the internal staff or their resistance to change, expected from new technology adoption. Thus, each company should identify the transformational level where bene-fits are in line with the potential cost (efforts) of the needed organizational changes [38]:

• H2: The extent of the desired organizational change is

directly related to the use of ERP systems (the greater is the desired organizational change, the greater is the rate of adoption of ERP systems). • local automation of existing procedures;

• internal integration of existing business processes; EXTENT OF ORGANIZATIONAL

CHANGE

ERP ADOPTION

• business process reengineering; • business network redesign; • redefinition of company boundaries through the creation

of inter-organizational relationships; How many organizations actually achieve the proposed enter-prise-wide integration? To what extent is the necessary process knowledge available within the organization in the first place? To what extent can it be ‘discovered’ through interaction with the individuals who participate in the process or manage the process? It is also likely to encounter significant problems when organizations implement limited functionality, thus not really realizing an enterprise-wide system or when the ERP implemen-tation pushes a company toward generic processes even when customized processes may be a source of competitive advan-tage, weakening important sources of advantage [6]. Further-more, the process knowledge embedded in the ERP system may be inconsistent with the process knowledge retained in other parts of the organization leading to imperfect integration [37]. Those issues are often a consequence of an under-evaluation of the organizational impacts of an ERP system adoption: thus H2 aims at evaluating the correspondence between SME knowledge on the level of organizational change needed and the rate of adoption of ERP systems. Finally, another issue that deserves particular attention is the way SMEs actually exploit ERP appli-cations: the trend in terms of available functions is clearly showing a mounting attention by vendors to the development of systems suitable to guarantee the integration with business part-ners. The question is if SMEs want and are ready to exploit such functionalities, and if an “IT-based” integration with partners is one of the motivating reasons that lies under the decision of adopting an ERP system.

The hypotheses to test are: • H1: The business complexity is directly related to the

use of ERP systems (the greater is business complexity, the greater is the rate of adoption of ERP systems)

ERP ADOPTION

BUSINESS COMPLEXITY INDEX

In order to better understand the reasons beneath H1 and to validate it, firstly it is necessary to highlight the correlation existing between each variable of the set and the business com-plexity. From the empirical point of view this implies the verifi-cation of the following sub-hypotheses:

H1.1

H1.3

H1.2

H1.4

H1.5

H1.6

Company size

ERP ADOPTION

Market area

Presence of branch offices

Membership of a group

Level of diversification

Degree of functional extension

3. METHODOLOGY After the identification of both the set of business complexity and organizational change variables, a complete questionnaire was developed. The questionnaire is composed of three parts with different focus: the company demographics, the assessment of each business complexity variable and the extent of the or-ganizational change. Because of the “business-oriented” kind of questions, data were collected through direct interviews to CEOs. The questionnaire has been proposed to a sample of about 2000 Italian companies of any size and industry, mainly located in the northern part of Italy. Data from 134 companies were collected and filtered to resolve inconsistencies and correct anomalies, resulting in a final sample of 122 valid question-naires. Since this study focuses on SMEs, we excluded larger organizations, resulting in a total sample of 79 SMEs. The sur-veyed companies were classified by size (number of employees

• H1.1: The company size is directly related to the use of

ERP systems • H1.2: The market area is directly related to the use of

ERP systems • H1.3: The membership of a group is directly related to

the use of ERP systems • H1.4: The presence of branch offices is directly related

to the use of ERP systems • H1.5: The level of diversification is directly related to

the use of ERP systems • H1.6: The degree of functional extension is directly re-

lated to the use of ERP systems

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5. RESULTS and turnover) according to current definition provided by the European Community (Table 1), and finally by industry.

Business complexity (Hypothesis 1) Criteria Micro enterprises

Small-sized enterprise

Medium-sizedenterprise

Max. number of employees <10 <50 <250 Max. turnover in million € - 7 40Max. balance sheet total in million € - 5 27

To evaluate the quality of the set of indicators chosen to repre-sent the business complexity, it was necessary to aggregate the result. For each indicator we defined a threshold value and evaluated the business complexity according to the number of indicators which values were above or below the corresponding threshold. The cross tabulation analysis of the complexity index and ERP adoption shows inconclusive results: there is not evi-dence of a growth in ERP adoption in correspondence of higher business complexity values (from 54% to 46%). Moreover, 59% of respondents with a high value of business complexity are not making use of ERP systems. Conversely, most of companies characterized by a low value of complexity actually are not using ERP systems.

Table 1 EC definition of SMEs

8% of respondents are micro enterprises, 53% are small compa-nies, while 39% have a medium size. On the other hand, with respect to the business sector, the sample is concentrated into three main groups: manufacturing (67%), services (20%) and trade (13%). The last research step will entail a statistical approach in order to investigate, test and verify the proposed hypotheses.

4. VARIABLE MEASUREMENT According to the theoretical framework, the empirical research is focused on the analysis of two variables.

ERP Total NoERP ERP Business complexity

Low Business complexity Count 32 15 47

% within BComplex 68% 32% 100% % within ERP 63% 54% 59,5% High Business

complexity Count 19 13 32

% within BComplex 59% 41% 100% % within ERP 37% 46% 40,5% Total Count 51 28 79

χ2=0,631 p-value=0,427

The business complexity: the global business complexity index has been evaluated through the means of the 6 indicators de-tailed in the table below. Respondents were asked to qualita-tively assess each variable of the set in order to build a global measure of business complexity.

Business complexity variables

Measures adopted in the questionnarie Threshold value

Company size

What is the number of the company’s employees?

❑ 1-10 ❑ 11-50 ❑ 51-250

What’s the company’s turnover?

❑ <7 million € ❑ between 7 and 40 million €

> 11-50 >7 million €

The market area * How wide is the market area?

❑ Local ❑ Regional ❑ National ❑ International > Regional

The membership of an industrial group

What is the company configuration?

❑ It’s member of a group ❑ It’s an independent company

Is Member of a group

The presence of branch offices

Does the company have other geographically distributed offices/branches? ❑ Yes ❑ No

Yes

The level of diversification *

What is the competitive strategy of the company?

❑ Diversification ❑ Other Diversify

The degree of functional extension

How many company’s activities are carried out internally?

❑ Inbound and Outbound Logistic ❑ Production ❑ Marketing, Sales and services ❑ Supplying ❑ Human Resources Management ❑ R & D ❑ IS Management ❑ Infrastructural Activities (administration, finance, quality mgmt ❑ Other _______________________________________

Count > 4

The evaluation of these results required a further analysis to understand the reasons for these values. First of all, we analysed the whole sample (including large companies) and tried to fig-ure out if the business complexity index was better correlated to ERP system adoption. ERP Total NoERP ERP Business complexity

Low Business complexity Count 33 22 55

% within BComplex 60% 40% 100% % within ERP 55% 30% 41% High Business

complexity Count 27 52 79

% within BComplex 34% 66% 100% % within ERP 45% 70% 59% Total Count 60 74 134

χ2=8,744 p-value=0,003 In this case the complexity index provides a better fit with data (χ2=8,744, p-value=0,003). As pointed out in the table above, the inclusion of larger companies leads to a noteworthy 65% of companies with a high value of business complexity which make use of an ERP system (versus 41% of SMEs). Conse-quently, in order to confirm such assessment, we explored each business complexity variable also to better understand if some of them were still viable.

In order to assess the pursued business strategy, two different aggregations were proposed (diversification and other strate-gies, including cost-based and differentiation strategies. The degree of functional extension (the number of activities carried out internally) has been assessed by proposing a set of typical activities, already adopted in a previous research on IS effec-tiveness within organizations. The classical representation of the value chain [31] has been integrated with a more recent measure used to assess the impact of BPR on manufacturing firms [13].

Company size (Hypothesis 1.1) Firms with a number of employees between 51 and 250 have a rate of ERP adoption of 68%, while within smaller companies (11-50 employees) this data decreases to 29%. This trend seems to be confirmed by turnover too: only 17% of respondents hav-ing a turnover lower than 7 million € use an ERP system, while the percentage increases to 75% for companies with a turnover between 7 and 40 million €. By considering companies with a higher turnover, although the number of companies using and not using ERP systems is exactly the same (21) it is interesting to highlight the increasing adoption of ERP systems with re-spect to companies having a turnover lower than 7 million € (7 companies only), confirming a trend of ERP adoption from larger companies. Thus, accordingly to literature, both the num-ber of employees and the company turnover seem to be consis-tent measures with reference to ERP systems adoption.

The level of organizational change: the aim is to evaluate the level of organizational change the company is prepared to face to achieve competitive advantage through the use of IT. The variable has been assessed through a question suggesting the five levels of organizational change described by Venkatraman [38].

Business transformation

Is the company planning any organizational change? ❑ Local automation of existing procedures ❑ Internal integration of existing business processes ❑ Business process reengineering ❑ Business network redesign, through the integration with external partners ❑ Redefinition of company boundaries through the creation of inter-organizational relationships

Measures used in the questionnarie

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ERP Total No ERP ERP

No Count 35 16 51Branch % within br. offices 69% 31% 100% Offices % within ERP 69% 57% 65%

Yes Count 16 12 28 % within br. offices 57% 43% 100% % within ERP 31% 43% 35% Total Count 51 28 79

χ2=1,042 p-value=0,307

ERP Total No ERP ERP

1-10 Count 5 1 6 % within Number of employees 83% 17% 100,0 % within ERP 10% 4% 8% 11-50 Count 34 8 42 % within Number of employees 81,0% 19,0% 100,0 % within ERP 67% 29% 53% 51-250 Count 12 19 31 % within Number of employees 39% 61% 100,0 % within ERP 23% 68% 39%

Number of employees Count 51 28 79

χ2=14,91 p-value=0,001 ERP Total

No ERP ERP<7 Count 30 7 37

% within turnover 81% 19% 100,0% within ERP 59% 25% 47%

7-40 Count 21 21 42% within turnover 50% 50% 100,0% within ERP 41% 75% 53%

Turnover Total Count 51 28 79

χ2=8,305 p-value=0,005

Diversification (Hypothesis 1.5) By considering only those companies using ERP systems, di-versification seems to positevely influence the adoption of ERP systems by SMEs (from 43% to 57%). Despite this interesting trend, diversification does not seem to be a reliable variable to assess ERP adoption, since there are 40 diversified companies (71% of all diversified companies) not making use of any ERP solution. Membership of a group (Hypothesis 1.2) ERP Total No ERP ERP Diversification No Count 11 12 23 % within DIVER2 48% 52% 100% % within ERP 22% 43% 29% Yes Count 40 16 56 % within DIVER2 71% 29% 100% % within ERP 79% 57% 71%

Total Count 51 28 79 χ2=3,969 p-value=0,046

The result of the cross tabulation shows an inverse correlation to ERP systems adoption (68% of companies non belonging to a group make use of an ERP system, while the same data de-creases to 32% for those companies belonging to a group). De-spite the hypotheses of existing literature, the membership of a group is not directly related to the use of ERP systems. ERP Total No ERP ERP Membership Standalone

company Count 35 19 54

% within Membership 65% 35% 100,0%

% within ERP 75% 68% 72% Membership Count 12 9 21 % within

Membership 57% 43% 100,0% % within ERP 25% 32% 28,0%Total Count 47 28 75

χ2=0,38 p-value=0,537

Functional extension (Hypothesis 1.6) The relationship between functional extension and the rate of ERP systems adoption shows a direct correlation (from 7% with 5 areas internally managed up to the 54% for those companies which are characterized by a full internal management of busi-ness activities. But once more this evidence is not sufficient to clearly state that the more the number of internally carried out activities increase, the more SMEs need to adopt an enterprise system. In fact, among the 51 companies which state the maxi-mum functional extension, only 15 firms (equal to only the 19% of the whole sample) have adopted an ERP system.

Market area (Hypothesis 1.3) At a first glance the growth of the market area seems to be re-lated to the use of ERP systems. Only a small subset of compa-nies with a limited market area make use of ERP systems, while this values grows for companies with a national market area (28%) and even more for those companies acting on interna-tional markets (57%). Nevertheless, the high percentage of companies with an international market area which do not use ERP systems (65%) makes the fit with business complexity difficult to claim.

ERP Total No ERP ERP

5 Count 3 2 5 % within Functional ext 60% 40% 100,0% Functional

extension % within ERP 6% 7% 6% 6 Count 2 6 8 % within Functional ext 25% 75% 100% % within ERP 4% 21% 10% 7 Count 9 4 13 % within Functional ext 69% 31% 100% % within ERP 18% 14% 16% 8 Count 36 15 51 % within Functional ext 71% 29% 100% % within ERP 71% 54% 65% Total Count 51 28 79

χ2=8,822 p-value=0,116

ERP Total No ERP ERP Market area

Local Count 3 1 4

% within market area 75% 25% 100% % within ERP 6% 4% 5% Regional Count 3 3 6 % within market area 50% 50% 100% % within ERP 6% 11% 8% National Count 14 8 22 % within market area 64% 36% 100% % within ERP 28% 28% 28% International Count 30 16 46 % within market area 65% 35% 100% % within ERP 60% 57% 59% Total Count 50 28 78

χ2=0,752 p-value=0,861

Extent of Org. Change (Hypothesis 2) The results of the data analysis seem to highlight that SMEs prefer the ERP solution when their need to integrate business processes becomes a priority. Only 11% of companies making use of ERP solutions exploit IT just for local automation pur-poses, while 44% of respondents achieve internal integration. The number of companies approaching more advanced solu-tions (business scope redefinition and business network redes-ign levels) is very low and only a small percentage of them make use of ERP solutions. A reason for this result could be the way SMEs interpret the role of ERP systems: they probably still consider these systems a tool to improve the internal process management and not a technological solution to integrate the company activities with business partners (like more recent proposals by ERP vendors, such as “mySAP”).

Presence of branch offices (Hypothesis 1.4) According to the literature, the presence of branch offices should be a factor influencing the business complexity and con-sequently the adoption of ERP systems. On the contrary, the empirical analysis seems to demonstrate that no correlation occurs between the extent of geographical dispersion of the company and the use of ERP systems: this solution has been adopted by 57% of respondents with no branch offices and only 43% of companies with branch offices.

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ERP Total No ERP ERP

Local automation Count 8 1 9 % within Orgchange 89% 11% 100%

Organizational change % within ERP 30% 4% 17% Internal integration Count 7 11 18 % within Orgchange 39% 61% 100% % within ERP 26% 44% 35% BPR Count 4 7 11 % within Orgchange 36% 64% 100% % within ERP 15% 28% 21% Business Network

Redesing Count 6 5 11

% within Orgchange 54% 46% 100% % within ERP 22% 20% 21% Business Scope

Redefinition Count 2 1 3

% within Orgchange 67% 33% 100% % within ERP 7% 4% 6% Total Count 27 25 52

χ2=7,510 p-value=0,111 A global evaluation of the results concerning each variable con-firms the low significance of the business complexity index (H1.1). Thus, when considering SMEs, the use of ERP systems does not seem to be correlated to the business complexity. In-stead, it seems to be strongly influenced by dimensional factors, such as the number of employees and the turnover. This result can be viewed from a twofold perspective, both economic and organizational. From the economic point of view, the correla-tion existing between the company turnover and the rate of ERP adoption let us argue there is a threshold value beyond which an ERP solution is considered accessible. Since the dimensional issue is a global (meaning turnover and number of employees) measure of business complexity, as asserted by the literature, the data analysis results make it plausible to highlight that the growth in terms of number of employees has a counterpart in ERP systems adoption too. This second assessment seems to be confirmed by two results: first, the correlation between the number of employees and the rate of ERP systems adoption; second, the targeted usage of ERP systems by SMEs. The in-creasing complexity induced by a growth in the number of em-ployees seems to be indirectly confirmed by the conclusions drawn analyzing the results of H2: it seems that by exceeding a dimensional threshold (in terms of increased complexity as confirmed by the literature) SMEs seem to choose ERP systems mostly to improve the integration of existing processes. Proba-bly SMEs face dimensional growth issues by exploiting ERP systems in order to achieve the maximum efficiency of internal processes. Thus, to further explore the above mentioned results, another step in the data analysis has been carried out by investi-gating the possible influence of other factors on ERP systems adoption by SMEs. We observed that ERP is mainly used to support process integration (H.2), to improve order processing efficiency, to substitute obsolete hardware or software, to avoid data duplication and inconsistencies and to reduce inventory excess. As a matter of fact, all those reasons seem to relate more to contingency than to business complexity.

%Process integration 54% Resolve order processing issues 50% Hardware and Software obsolescence 50% Resolve data duplication and inconsistencies 38%

Why did your company adopt an ERP system?

Reduce stock/inventory excess 35%

Conclusions The results of data analysis highlight some trends: the strongest signal is the existence of a clear correlation between company size and ERP adoption. This result can be analyzed from a two-fold perspective, both economic and operative. A larger size in terms of turnover seems to point out the presence of a threshold value beyond which the expenditure for an ERP system be-comes a concrete possibility for SMEs. Similarly, the correla-tion between a growth in the workforce and the rate of usage of ERP systems highlights that management issues in a more com-

plex organization may benefit from ERP systems acquisition and usage. With reference to the proposed theoretical model, the suggested indicators of business complexity do not seem good predictors of ERP acquisition within SMEs, whereas they seem to better explain and justify the use of such solutions by larger companies. We can conclude that SMEs make use of ERP solutions mostly for contingency, exogenous reasons rather than as a result of accurate analyses of their needs and opportunities. However, the strategic evaluation of ERP use within SMEs is a relatively new issue, and definitely needs more research work.

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