Too many heterogeneous markets: Efficiency versus local adaptation

The problem, stemming from the character of the CEE region (many subscale and discrepant markets), is discomposed into 4 sub-areas as they are described in following paragraphs.

The key issue standing behind this problem addresses a crucial management decision concerning organizational structure. The question is whether it is beneficial to exploit the economies of scales by integrating the CEE unit into the current organization or whether to keep the relation lean and retain the local adaptability.

The models applied in early 1990s were primarily characterized by strong directive role of centre. This approach is very understandable considering the fact that companies had limited or no experience with doing business at CEE markets. Furthermore, the little knowledge of the environment was strengthened by the perception of a lack of managerial talent. The tactic was to replicate the proven model from home markets and through absolute centralization of power to reach the efficiency.A small number of highly standardized products were launched in the CEE markets and a foreign straight forward management should guarantee the fast implementation of headquarters decisions. The local business units were kept small with almost no accountability. This attitude was very common in the whole CEE region regardless the industry. In that time it seemed to be a very well working model. The MNCs were able to get big market shares rapidly and soon became the top performers at the local market.

They were also vastly attractive for local people as an employer, so they could afford to have the best workforce available.

51 Despite of high profitability and prompt success of these MNCs, this model proved to be unsustainable in the long run, as it came down in the following decade. The model rigidity and low ability to respond to rapidly changing local conditions were the major reasons for failure. The turbulences in the economics, high number of new comers and fast switching of different trends caused many problems within these inflexible structures. Under these specific conditions it was very difficult to catch up once they had started loosing. The highly controlled local business units were increasingly unable to deliver growth and profit and it no exception that an important market trend was neglected.

Secondly, the strict dictate from headquarters was naturally perceived very negatively by local managers and caused the increased friction between HQ and local entities. The widening gap between local management and HQ authority had a harmful effect on the company’s performance as well.

The following exhibit shows the graphical structure of the implemented solution.

Exhibit 18: Centralized model - a strong role of the center

Source: Sabolova, E.: Organizing for Success in Central and Eastern Europe, Boston Consulting Group 2007 The major weakness of this model is the very low accountability of local people and little motivation to act proactively. This was partially improved in the subsequent approaches.

Parent company

CEE Country 1

CEE Country 2 CEE Country 3

CEE Country 4 Strong, directive, one-way links

(Orders from HQ)

52 Another solution, addressing the problem of many heterogeneous markets, proposes the integration of the back-end²⁸ functions in the corporation in order to reach sufficient economies of scale and the dilution of the front-end²⁹ accountability to keep the contact with local market. That was foremost used by financial institutions. The intended scheme is portrayed in Exhibit 19:

Exhibit 19: Partially centralized model - front-end/ back end

Source: Sabolova, E.: Organizing for Success in Central and Eastern Europe, Boston Consulting Group 2007

Nevertheless, the observations show that this structure is rarely adhered to and exists rather in theory. Headquarters, which should focus on the back-end principles, show tendencies to lead also in the front-end business. Vice versa, the country teams tend to ask headquarters for instructions in the front-end issues which is supposed to be fully under their control and responsibility and complain in the back-end. These confusions cause misunderstandings, duplicity of decisions and dissatisfaction across the company.

The third identified approach shifts more authority to country teams as a trade off for efficiency. The shared service centres are developed on the regional level. The CEE teams are

28 By the back-end activities we understand shared services, product factories, asset management (in financial institutions), IT support…etc.

29 By the front-end functions we understand marketing, sales, distribution…etc.

Country 1

Shared (Group) service

Country 2 Country 3 Country 4

Product A factory Front-end

(Sales & distribution)

Back-end

53 encouraged to take initiative in both back-end and front-end, with positive spill-overs between both. Better adjustment to local conditions and higher engagement in the CEE should be the result. Another positive aspect is that CEE enjoys adequate attention at HQs.

Without Regional Centres of Excellence, CEE business entities would become mere sales units as it happens in many companies. The efficiency is achieved by the establishment of shared service centres but the savings are lower than when it is executed at global level. The following matrix shows the possible design of Regional Service Centres integration:

Source: Sabolova, E.: Organizing for Success in Central and Eastern Europe, Boston Consulting Group 2007

The Regional Service Centre model turns up to fit best when organizing in the CEE region.

Nevertheless, to find the answer whether to standardize or to adapt to local conditions or how to make a proper grouping on the upper level is very difficult and is determined by certain factors as:

- the importance of global brands - ability to produce specifically for CEE - availability of resources

- importance of the CEE region for the entire organization

CEE Country 4

CEE Country 3

CEE Country 2

CEE Country 1

Product A factory Product B factory Front-end

(sales & dbn)

Back-end

Shared (regional) service Shared (regional) service Exhibit 20: Regional Service Centre model

54 Based on our findings, the “2-step approach” has been formulated. This model takes into account all critical points described above. It should serve as a tool helping to decide how to integrate the CEE unit (s).

Step 1: Deciding about regional approach (adaptation/standardization) Step 2: Incorporating CEE into global organization

The first step shall help determine the degree of adaptation to local conditions and degree of integration of the local business units. The result is based on the positive or negative

questions to the tree control questions:

- Is it vital to adapt to local market? (importance of marketing, strong global brands..) - Is it costly to adapt? (degree of ability to produce for local market)

- Does the adaptation add complexity to your business? (CEE target consumers are different from others)

The possible organizational options include:

a) Fully independent units

b) Autonomous units but applying proven model c) Front end/ back end split

d) Regional centres of excellence

e) Units fully integrated and proven model applied

The second step considers the number of units in CEE and their relative importance for the whole organization.

The possible organizational options include:

a) BUs linked directly to HQ b) BUs forming a CEE region

c) BUs linked to HQ through other region (EMEA)

55 d) BUS form a CEE sub-region within a larger one (EMEA)

The model can be demonstrated on MNC producing convenience food:

As a next step we can identify the position of a company in a following matrix:

Exhibit 21: "2-step approach" matrix

Source: BCG: Organizing for Success in Central and Eastern Europe, 2007

Note: Dark color marks the found position of the MNC (convenience food producer) in the matrix

This convenience food producing company is the market leader at many of European markets and keeps improving its position worldwide. Currently it has its operations in more than 20 countries. The corporation disposes of 5 global brands and 17 local brands reflecting the preferences of consumers at local markets. They were partially purchased as matured brands

Many in CEE CEE region/ several sub-regions within a larger

grouping

CEE region (or several sub-regions); separate

CEE zone

Few in CEE Part of larger grouping (EMEA/Emerging

markets)

Linked directly to HQs

Low Importance High Importance

Integrate

Integrated units applying proven

model

Front-end decentralized, Back-end integrated

Regional centers of excellence

Don’t integrate

Autonomous units applying proven

model

Self-standing (highly independent)

units

Don’t adapt Adapt

Step2: Incorporating CEE into org Number of countries in CEE

• 7 BUs in CEE , high need for a separate organizational division

Relative importance of CEE

• CEE represents almost 25% of the total volume – high importance

• Potential of the market (relative & absolute growth – highest in the group)

-- a major need for a special management attention Degree of Adaptation:

• Importance of marketing: HIGH

• Ability to produce specifically for CEE: HIGH

• CEE target consumers different from others HIGH Overall: Adapt Degree of cross-border integration:

• Markets are subscale YES

• High synergies can be seized through integration YES

• Lack of resources to run separate BUs NO Overall: Integrate Step1: Deciding on regional approach

56 and partially introduced by the parent company as an innovation enriching the local portfolio.

However, the introduction of global or regional brands needed significant adjustments to specifics of local markets because the demand in this segment is significantly diverse.

Concerning the acquired companies and brands, there was an intensive need for integration, since each of the factories went through its own development and was implementing different practices and policies. In order to manage the group effectively, a united form of documentation and reports was put into practice. The proper integration of different business units along with standardization across the corporation was vital for its further existence. The fierce competition at the FMCG markets contributed to acceleration of the process of integration.

Currently, CEE represents almost 18% of the total turnover which gives the region high importance and adequate attention accordingly. The company operates in 7 countries in CEE explicitly in Croatia, Czech Republic, Hungary, Poland, Russia, Slovakia and Ukraine. The number of countries where the MNC is actively present in the region exceeds the critical point and thus qualifies itself to be a separate zone within the organizational structure.

Being primarily focused on Asian and Russian markets, the position of the CEE region in the group would be significantly different if the Russian and Ukrainian markets are not involved.

This is a common practice of the most MNCs. Let’s elaborate that hypothetical situation and see how the results in the 2-step approach and in the matrix got changed:

57 The elimination of Russian and Ukrainian markets from the group would result in a different layout of the organizational structure as the modified matrix shows. Under these circumstances, the CEE region would loose its importance and countries would be incorporated in to a larger grouping as a sub-region. The attention paid to the involved countries would decrease adequately.

Many in CEE CEE region/ several sub-regions within a larger

grouping

CEE region (or several sub-regions); separate

CEE zone

Few in CEE Part of larger grouping (EMEA/Emerging

markets)

Linked directly to HQs

Low Importance High Importance

Integrate

Integrated units applying proven

model

Front-end decentralized, Back-end integrated

Regional centres of excellence

Don’t integrate

Autonomous units applying proven

model

Self-standing (highly independent)

units

Don’t adapt Adapt

S Step2: Incorporating CEE into org

Number of countries in CEE

• 5 BUs in CEE, high need for a separate unit Relative importance of CEE

• CEE represents 6% of the total volume with average organic growth in the group --no major need for a special management attention, CEE BUs can be incorporated within a larger group of (possibly similar) countries Degree of Adaptation:

• Importance of marketing: HIGH Ability to produce specifically for CEE HIGH CEE target consumers different from others HIGH

Overall: Adapt Degree of cross-border integration:

• Markets are subscale YES

• High synergies can be seized through integration YES

• Lack of resources to run separate BUs NO Overall: Integrate Step1: Deciding on regional approach

58

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