Chapter 7: The Interesting Organizations Project - Digitalization of the 21st Century Firm

Michael S. Scott Morton

Overview of the Interesting Organizations Project

Over the last decade, a series of rapid advances in information technology coincided with greatly increased turbulence in the business environment. This combination of technological and environmental change means that businesses face increasing complexity and novel problems. One natural result is that firms have a chance to rethink how they organize.

Scholars of organizations (Galbraith 1973; Chandler 1962) have written persuasively about the forces that determine a firm's structure. From this work it is clear that as the economics and nature of both information flows and production functions change, historical organizational structures and processes are no longer likely to remain optimal. This fact, however, also implies that changes in the business environment and technology give us new degrees of freedom in how we might organize the firm.

With this context in mind, the Interesting Organizations project was launched in 1994 as part of MIT's Initiative on Inventing the Organizations of the 21st Century. The project's objective was to look for evidence of interesting organizational change in the world of business practice. The underlying idea was that by looking broadly and openly, we could find new organizational forms that might look unusual today, but would be likely to become more common in the future.

A group of researchers affiliated with the 21st Century Initiative identified, and briefly documented, 261 organizations that formed the nucleus of the Interesting Organizations Data Base (IODB). These ranged across a wide spectrum of industries. Manufacturing (93 organizations) and services (73 organizations) together accounted for nearly two-thirds of the entries in the database. The remaining entries were spread broadly among retail/wholesale trade (36 organizations); financial services (30 organizations); telecommunications, transportation and utilities (21 organizations); other private firms (5 organizations); and government (3 organizations). More than 80 percent were U.S. firms; and less than one-third were large, widely recognized corporations. As might be expected in a database tracking novel business practices, most of the organizations included were young (established within 5 years) and small (fewer than 100 employees).

Through a series of discussions, the researchers involved with the project identified a group of themes to categorize the various dimensions of "interestingness" that the organizations in the database embodied. In some cases, the organizations exhibited novel structures, business models, patterns of control, or processes. In other instances, the attributes of the organization's product/service offerings were highly unusual. In still other cases, working conditions for employees of the organizations were the reason for inclusion.

A number of organizations that were entered into the database in the mid-1990s, when they were not widely known, went on to become widely celebrated in the business press in subsequent years. Among these was a group of organizations with highly decentralized structures and governance. Examples of such organizations include Visa International, whose story was widely disseminated in speeches and a book by its founder, Dee Hock (Hock 1999); Semco, a Brazilian manufacturing firm that helps its employees to form satellite enterprises in which both the parent firm and workers hold ownership stakes (Semler 1989, 1994, 1995); and the global network of software engineers that developed Linux, the personal computer operating system that has become the leading rival to Microsoft's Windows.

Another organization, Verifone, a maker of electronic equipment for verifying credit card transactions, was included because of its practice of handing off product development work from team to team across continents. At the end of its workday, a Verifone team in Europe would send its work electronically to a team in North America, who would pick up where the Europeans had left off. At the end of its day, the North American team, in turn, would hand off to an Asian team, who would continue the work and then hand off the to Europeans, starting the cycle again. Verifone came to be frequently cited as an example of 24-hour-a-day global product development (e.g. Galbraith 2000, chapter 10) and practices of this sort were broadly adopted in the late 1990s.

Other organizations in the database exhibited practices of great interest and with significant potential for the future, but have not yet become so widely known. A few examples from among these organizations give a sense of the database's breadth.

Perkin-Elmer is U.S.-based firm that has more than $1 billion in revenues from systems and analytic instruments used in such markets as biotechnology. The company uses a technique it terms "flocking" to decide which new product ideas to develop. Researchers who have an idea are free to seek out other researchers and try to persuade them to join the new project. If an idea can attract a critical mass of participants from the research staff, it's deemed worth pursuing. In this way, Perkin-Elmer taps into the knowledge and judgment of its own researchers to assess which projects are likely to be successful (Lissack 1996).

Ross/Flex is a U.S.-based manufacturer of air valves used to control industrial machinery. The company has pioneered an approach that allows customers to codesign the valves they want. Working with Ross's engineers and machinists, and using computer-aided design (CAD) software, customers can design a valve that exactly meets their specifications, in production runs as low as one (Alter 1994, Sheridan 1996).

Agile Web is a virtual enterprise comprised of 19 small manufacturing companies. The members agree to work together, with each firm contributing its particular expertise, on an as-needed basis, to respond to customer needs. When a customer need is identified, the group forms "resource teams" comprised of appropriate people from each member firm to address the opportunity. The system relies on members' willingness to exchange sensitive data and trust in each other (Mahajan 1995).

The initial IODB sample of firms was purely exploratory, a way to identify what our range of informants thought were "interesting" new organizational forms. But the firms were for the most part so small and so heterogeneous that although provocative, we could not use the database to find a broadly applicable theory that accounted for the organizational innovation that was occurring. We did, however, decide that these initial findings were intriguing enough that we should look for patterns in larger firms. Again, we first undertook an exploratory phase and looked at large firms in both manufacturing and services. The seven that were chosen had surfaced more than once in the business press as firms that had some interesting and novel dimensions. These seven large firms, and the reason for their inclusion, were:

• Boeing. Their 777 airplane took some novel approaches to development and manufacturing.

• Citibank Japan. Citibank's Japanese subsidiary made innovative use of technology to break into a lucrative segment of the retail banking market.

• GE. The story of GE's Web-based procurement system shows the potential power of exploiting a core back-office function.

• Lithonia. A producer of light fixtures, Lithonia was one of the earliest "networked" organizations

• 7-Eleven Japan. 7-Eleven has achieved remarkable success with a convenience store concept that was scaleable and very responsive to the consumer.

• Thermo Electron. Thermo Electron made use of a spin-out model to exploit intellectual capital.

• USAA Insurance. USAA used technology in innovative ways to get economies of scope.

These seven organizations were examined in more depth, through a review of academic sources and the business press and, in some cases, interviews.

Boeing

The story of why and how Boeing moved to a radically new design, development, and manufacturing process for its then next-generation wide-bodied commercial aircraft, the 777, has been documented extensively (Sabbagh 1998). There were several key factors that pushed Boeing to this step. One was the cost pressures Boeing's customers, the airlines, were facing. Extrapolating the traditional cost structure to this next-generation model resulted in a plane that was simply too expensive for airlines. In addition, Boeing now had another serious competitor, in the form of Airbus, for the first time since the 1960s. The environment thus placed severe constraints on Boeing. Business as usual was not going to be good enough.

At the core of Boeing's re-thinking was the concept of "design and build teams". This meant that Boeing would meld together the design and manufacturing engineers "into one tightly coupled team". With this approach came new processes that put all the relevant skills, regardless of organizational unit or position in the formal hierarchy, into one room to arrive at joint decisions.

All of this new structure and process was based on an enabling platform—a single, working database of the digitized aircraft. This not only ensured there was one continuously updated version of the plane as the design proceeded, it also allowed access from any physical location in the world and provided a host of related software tools that permitted dynamic three-dimensional views and other functionality to enhance the design and build process.

The investment in the infrastructure was massive. But ultimately the plane moved from concept to flight in record time and was a major success.

While the 777 was a great success, as was the process by which it was designed and built, Boeing had difficulty implementing practices pioneered on the 777 on its established aircraft programs. It appears that established mindsets and work practices coupled with the cost and effort of making the change to the existing programs has essentially blocked progress. A lesson from the Boeing case is that despite the undoubted power of technology, company-wide systemic change remains extremely hard to achieve.

Citibank Japan

Citibank has been an aggressive, yet focused, investor in IT ever since John Reed became influential in the firm, and eventually assumed the CEO position. In the U.S., Citibank's overall performance has generally been strong, but it is impossible to break out the relative impact of IT, since country effects, the mix of loan portfolios, and other factors make comparisons between banks, their use of IT, and its relative impact very problematic. If one takes a particular country segment, however, impacts can be seen more clearly. Citibank in Japan in the retail market is one such example.^[1] Citibank Japan's breakthrough came about as a result of a seeming barrier—the impossibly high cost of establishing physical branches to reach retail customers.

Citibank crafted an innovative deal with the Japanese post office to allow their ATM machines on their premises. In this way, Citibank obtained several hundred desirable locations. Once these locations were secured, Citibank pursued a twopronged strategy in Japan.

First, Citibank's ATM machines were innovative, usable twelve-plus hours per day, with access to the bank's on-line, real-time database. This was in contrast to the most Japanese banks, whose ATMs were only available eight hours a day and whose static data bases were refreshed nightly. The Citibank functionality permitted the introduction of new products, such as foreign exchange (FX) transactions, which others could not match.

A second piece of Citibank's strategy was to leverage Japan's ubiquitous ISDNto-the-home telephone network and offer powerful financial service products to the consumers through that channel. Many of these were supported through a sophisticated call center which in turn linked into global Citibank services. With this combination, relatively high net worth Japanese customers could benefit from Citibank's economies of scale and scope.

These two moves allowed Citibank to achieve a distinctive position by offering better products, more conveniently. They thus were able to break into a highly profitable part of the Japanese retail market.

The Citibank Japan story is more complex and multi-faceted than this brief anecdote can convey. It is clear, however, that Citibank Japan's innovations were only possible because of computers and communications technology, coupled with services that were attractive to customers.

General Electric

GE as a corporation was a relative latecomer to the effective use of digital technologies (Lowe 2001, chapter 7). Ironically, GE had an early lead in electronic data interchange (EDI) systems. This was a cumbersome technology, however, that required adopters to make expensive, rigid changes to their internal systems for purchasing and other functions. Though EDI proved successful under some limited conditions, it never really took off.

The advent of the Internet and the Web dramatically changed the rules. GE eventually did change course and seize this opportunity (Venkatraman and Henderson 1998; Bylinsky 1997; Woolley 1997) by developing a successful Webbased purchasing portal, the GE Trading Process Network. The effort went through four phases:

• Internet-based internal consolidation of purchasing and RFQ's for certain items

• Expansion of internal system to include "all items" purchased by GE with participation in electronic markets

• Expansion to include GE suppliers and buyers

• Opening up of GE internal purchasing portal to anyone

GE's experience demonstrated the significant efficiencies that can result from taking a basic required core back-office function, purchasing, and completely rethinking it. The result is dramatically more efficient—faster, with less error, fewer people, less inventory and more effective use of resources. Importantly, this basic change to a back-office process had beneficial ripple effects. It led to involving suppliers more closely with the design of GE products and to the propagation of other IT-enabled changes involving customers and product designers.

It is important to note, however, that this propagation is slow, as it involves shifts in deeply ingrained work habits and requires investment in new skills and new systems. It has thus not had noticeable impact yet on GE's overall organization structure or on many other major processes.

Lithonia

The Lithonia innovation story began in the 1970s with the remaking of their organization through implementation of a central database and an internal communications network, all accomplished with IBM's active help. The major result was to put the independent agent at the center of Lithonia, a controversial and risky step. The effectiveness of the new structure and the new IT tools that everyone could use to do their job resulted in a firm that not only had lower cost but also was easy to do business with (Davenport and Nohria 1994).

As customers and lighting technology became more sophisticated, Lithonia was later able to exploit the Internet, new database technologies, and software tools such as expert systems to build a system with enhanced functionality, always aimed at solving a customer's problem quickly and easily.

One highly simplified example of this is a situation where lighting fixtures are needed for a multi-use skyscraper in New York. Lithonia systems permit the architects to work with interactive design tools to ensure the lighting specifications meet the user needs. If Lithonia does not make the appropriate fixture, its systems identify the manufacturer who does. In addition, when appropriate, the system can order the part electronically. Once all the thousands of fixtures are specified, from several different Lithonia factories and dozens of other suppliers, the Lithonia systems can consolidate these by floor and in sequence on the floor. The net result is that large trucks arrive at the construction site at times specified by the builder with the correct fixtures for a given floor and location.

Lithonia has moved over the years from making lighting fixtures, to selling lighting systems to providing lighting solutions. Each step in this move progression has required working closely with the customer, plus changing Lithonia's internal organizational structure and skill mix and constantly evolving Lithonia's IT infrastructure to cut elapsed times and increase asset utilization.

7-Eleven Japan

7-Eleven Japan remains a profitable and growing chain of convenience stores and is the largest operation of its type in Japan and perhaps the world.^[2] 7-Eleven has evolved an extremely flexible network of profitable, high-turnover small retail outlets in high traffic areas. The stores are networked and record every transaction as it occurs. This on-line, real-time environment allows 7-Eleven to stay on top of customer preferences, keep extremely low inventories and yet rarely run out of products (Toigo 1994). Mutually reinforcing practices are in place throughout the whole company. The distribution network manages to replenish stores three or four times a day, even in gridlocked Tokyo traffic. Incentive systems and employee training focus on understanding customers and customer service. The IT system, which is the enabling backbone of the entire operation, is constantly evolving as needs change and opportunities emerge.

There is a high degree of compatibility between 7-Eleven's tightly focused strategy of meeting consumers' daily convenience needs; the company's organizational structure, which is very flat, with clusters of six or seven stores and highly efficient centralized key functions such as logistics, purchasing, and training; sharp, clear processes that provide the quality data needed to make decisions and an interactive communication network to move data quickly to wherever it is needed; an emphasis on well-trained people with values that match the bright, well-lit, attractive stores; and technology focused on serving customers rapidly with exactly what they need and like.

These five inter-related sets of factors appear from the outside to have meshed together particularly well in the case of 7-Eleven Japan. They are mutually reinforcing (Kotabe 1995) and provide another example that supports earlier theoretical and empirical work undertaken as part a prior MIT research program, "Management in the 1990s" (Scott Morton 1991, Allen and Scott Morton 1994). Although the theory and principles are clear, their conscious translation to practice is rare. 7-Eleven Japan appears to be one of the very few cases of a public company where such an integrated approach is thoroughly embedded in the fabric of the organization.

USAA Insurance

USAA is a group founded by ex-military personnel who had the idea of providing life insurance to members of the military. Initially, only members of the military and their direct family members were eligible to be insured. This was a homogeneous group and the risk profile of its members could be understood well. That in turn allowed for very competitive rates that could still result in a profitable operation, as costs were kept low. Growth was dependent on product features and service. Since military personnel move frequently, it was important to be able to follow an individual across states within the U.S. and between countries outside the U.S., all while providing non-stop insurance coverage.

USAA became particularly good at serving its customer base, and subsequently expanded from the original life insurance product to add other forms of personal insurance, such as homeowner's and automobile coverage. Through a sophisticated mix of computer software and call centers, plus a detailed understanding of its customers, USAA built up an effective, complex, web of products and services tailored uniquely to the marketplace it served. Once successful, it was then able to expand its customer base to include relatives of military personnel. The key to success once again was a focus on customers' needs, a clearly articulated strategy and investment in an evolving set of systems and procedures that provided customer value while enabling profitable growth (Mack 1988; Brophy 1989).

Thermo Electron

Thermo Electron was started by an MIT professor, George Hatsopolous, with an interest in thermodynamics. After the company enjoyed several years of successful growth, senior management noticed that several promising younger employees were leaving to start their own firms. The senior team investigated and discovered that in several cases the young employees were leaving in frustration because their direct supervisors would not support their emerging ideas. Hatsopolous, as CEO, decided that while only some of these innovative ideas would be likely to succeed, it would still behoove Thermo to nurture inventors and their ideas to see which ones might end up meeting a market need.^[3]

As Hatsopolous implemented this plan, the process of nurturing inventors' ideas came to have three phases. The first was to give the inventor a small budget and a time horizon in which to report progress. If this phase was passed, a virtual company was formed and given some capital. At this stage, the inventor was expected to find customers who would pay to use the product. If this second phase was successful, venture capital firms were brought in, one was chosen, and an IPO was undertaken. Thermo Electron retained a percentage, though not always a majority, of the newly issued shares. Some were held by the inventor, other members of his team, and the VC, and the rest were sold to the public. Some of these "spin-out" firms eventually became large enough in their own right that they repeated the cycle and spun out new firms themselves.

During the 1970s and 1980s, this process resulted in Thermo creating more than a dozen such companies with a market capitalization in the mid-1990s of more than $5 billion (Anslinger et al. 1997). More importantly this process created a virtuous circle. Thermo, as the company came to be known, developed a reputation among engineers, particularly at MIT, of being a place that rewarded and backed creativity. As a result, Thermo had its pick of the very best engineering applicants who were also excited by the idea of inventing and developing something new.

Thermo had a strategy focused on a particular segment of science and engineering, thermodynamics, and developed products from that base. Its inventors then searched until they found a customer with an appropriate need and modified the product until there was a match. They hired creative, talented people and put in place an organizational structure that could evolve to maximize particular business opportunities. The strategy, people, organizational structure, and management processes nicely reinforced of the science and engineering technology base.

As this effective system moved through time, it grew from one to more than a dozen independently traded new companies, each with its own legal, administrative, personnel, and marketing functions to perform. Thermo's headquarters tried to perform many of these functions centrally to benefit from economies of scale and provide clear accounting control. But as the number of companies expanded, this became an increasingly complex and expensive task. Added to this complexity was the fact that some of the new business opportunities required new kinds of engineering, science, and product expertise. During this organic expansion, Thermo also made some fifteen small acquisitions in order to obtain clusters of relevant expertise. These acquisitions brought with them questions of administrative, cultural, and systems fit, all of which took management time and attention. These acquisitions were all fairly small, however, so the process, while expensive and cumbersome, still worked fairly well.

A major shift in strategy came in 1988, when Thermo decided to make a major acquisition and no longer rely just on the internal idea development and spin-out path. This acquisition was massive, relative to Thermo's size, and effectively spelled the end of the company's remarkable success.

There appeared to be two reasons. One is that the acquisition was so large and in such a different business that it was extremely difficult to integrate into the existing Thermo culture and structure. The second reason predated the acquisition. Thermo never put in place the kind of seamless, timely information flow and related processes required for management to keep in touch with what was happening with the underlying customer and business processes. Thermo's use of IT to support backbone core processes, front-end customer linkages, and central databases that encourage synergy appears to have been woefully limited.

In other words, the IT component that was one of the enabling factors in an effective late 20th century organization appeared to have been almost totally lacking. Perhaps even if there had been an effective electronic support for how work was implemented and managed, the shift in strategy may have put Thermo in line for a setback anyway. Certainly, the lack of IT-enabled coordination mechanisms was a contributing factor in Thermo's downturn.

^[1]Citibank Japan account based on interviews.

^[2]Seven-11 account based on interviews.

^[3]Thermo Electron account based on interviews with George Hatsopolous, founder and chairman; John Hatsopolous, CFO; Robert Howard, executive vice president;Walter Bornhorst, CEO of Thermo Process Systems; John Wood, CEO of Thermedics.