Organizational Limit to Firm Scope

Collis & Montgomery, Chapter 5

ByDwi Joko PramuditoSong Young Kang

Introduction

Many corporation still expanding, entering new businesses and markets, and becoming larger and more complex

Others are reducing the scale and the scope of activities

The chapter addresses limit to the scope of the firm

Organizational Economics

Scope of the Firm: Resources and Competitive Advantage

Is the firm possesses resources that provide a competitive advantage in business

Yes consider of competing in the business

No should not be active in the business

Scope of the Firm: Market or Hierarchy

Why should a particular business or activity be performed inside the firm?

The choice lies between The Market or The Hierarchy

Corporate hierarchy will be efficient when it can be shown to be the organizational arrangement that minimizes the sum of production and governance cost

The Market

Benefit of the Market: More efficient at information processing Incentives

Cost of the market Transaction cost theory Market Failure:▪ Opportunism▪ Asset specificity▪ Uncertainty▪ High Frequency

The Hierarchy

Benefit of the Hierarchy: One party has authority over anyone

else Unified ownership reduce the pursuit of

local goals When intense coordination is needed

among parties to a transaction Cost of the Hierarchy:

Beureaucracy Agency Cost

The Choice

  Market Hierarchy  

Benefit

Informational Efficiency

Authority  

High-powered Incentives

Coordination  

Cost Transaction Cost

Bureaucracy  

Market Power Agency Cost         

The Limit to Firm Scope

A Spectrum of Governance Structure

Choosing The Scope of the Firm

Bias to the Market Activities should be performed outside

rather than inside the firm The production cost benefit that

independent suppliers can exploit and the governance cost benefit of high-powered incentives and decentralized information processing

Choosing The Scope of the Firm

A Decision Process1. Disaggregate the Industry Value Chain2. Competitive Advantage3. Market Failure4. Need for Coordination5. Importance of Incentives

Thank You