>> One of my all-time favorite places in the world is Seaside, Florida. Seaside is a small beach town on the Panhandle of Florida in the United States. There's a main road running right through Seaside called 30A. And right across the beach from -- right across the road from the beach is a series of Airstream trailers that have been retrofitted to be restaurants. If you can't find me in my accounting classroom, you might find me there as a chef in one of those Airstreams. It's a long-term dream of mine. It would be great to just live at the beach, serve up food on a daily basis. There's really good stuff there: barbecue, ice cream, snow cones, a lot of different specialties. I recommend you check it out. Let's envision us down there as a chef in one of those small locations. And let's keep it small and just say that we have a single location, a single food stand there. We can talk about it just being us, just me or just you, as the owner and the only person working there so no employees working on our behalf. And we'll have multiple product lines, perhaps some different specialized food. So what type of information in this situation would be important to you? Well, first off, you just need managerial accounting information. You need to understand the profitability of each of your products. You need to talk about your variable costs and your fixed costs, what type of prices to charge, and so on and so forth. Now let's say that you enjoy this and are quite successful. And so now you expand into different locations, multiple food stands up and down the beach in the different beach towns along that road, and they're geographically dispersed. What that means is you can't be at one place or all those places at once, so you need multiple employees working on your behalf. And you might think of managers and employees working at each individual location. So now what changes will be needed? Well, ultimately, you need a plan. You need to instruct those managers and employees as far as what to do, what decisions are they allowed to make, and when do they need to check with you as the owner or the ultimate boss in the company? What we're talking about here is the extent to which an organization is decentralized. Decentralization refers to the extent to which organizational employees or managers are allowed to make decisions on behalf of the organization and its owners, so that being me or you in this setting. Now, what are the benefits of decentralization? Well, you can imagine a situation where suppose a competitor to one of your food stands down the road introduces a sale or introduces a competing product. The manager or employee at that location would be the first to know this. They would have local knowledge. And, if they had decision-making authority, they could maybe perhaps offer a sale or compete in some other way. They can be very responsive to this new threat in the business environment. And that ultimately leads to gains or pursuing opportunities as well as mitigating costs. If you weren't decentralized, the manager and employee would have to call you up as the owner and wait for your decision and then instructions as far as what they should do. And you might miss an opportunity, or things might be too late for that week against that competitor. A second benefit of decentralization is that it motivates managers and employees. When you provide people with decision-making authority, you as the owner exhibit trust in your managers and employees. And this is very motivational for them, makes them feel like they are part of the organization. This also leads to their learning and development. Oftentimes in organizations, lower-level employees are provided with some decision-making authority. They're allowed to make mistakes and pursue other goals, ultimately allowing them to learn and become managers themselves. And, finally, it focuses managers and employees on their responsibilities. By telling them what decisions they are allowed to make, managers and employees focus on their particular area and the rights that they have in incorporating their judgements, decisions, and actions so ultimately provides instructions to these employees regarding what they should and can and can't do. Now, like most things, benefits come with costs; and decentralization is no different. So, thinking about the cost of decentralization, one of those is it might be the wrong person making decisions on behalf of the organization. Maybe perhaps a manager or an employee isn't informed all that well or doesn't have the right experience, and that might lead to poor decisions. Or perhaps the manager or employee makes decisions on the their own behalf and not necessarily for the good of the organization as a whole. Another cost is potentially too much focus on the business unit or the department that that manager or employee works for. Providing them with decision-making authority focuses them on those types of decisions, sometimes to the detriment of other areas. Imagine the manager of one food stand starts to implement new pricing strategies or different products, and that can be to the detriment of your other food stands that are nearby. Information costs under decentralized -- in decentralized organizations are relatively higher as well. Managers and employees making decisions have less incentive or less opportunity to share information with other parties. They are focused on their one area of the business. And so collecting that information from those managers and employees that have decision-making authority sometimes is very costly in terms of effort and time. And, finally, there are inefficiencies. If every manager or employee at all the different locations are engaged in the same activities, making decisions that are assigned to them, then they might be redundant in terms of the activities that they engage in to make those best decisions. Sometimes it's better to centralize certain aspects of the organization so that it benefits all parties across the entire firm. Now, one thing that's very important for firms is to understand how to trade off benefits and costs of decentralization. First off, there is no such thing as a perfect level of decentralization. It's very difficult to measure, and it's very difficult to find just the right balance. In fact, firms often bounce back and forth between centralized and decentralized regimes. We see this over time as a firm evolves. You can imagine a new manager coming in and saying, We would like to give more decision-making authority to the employees and managers throughout the firm. The reason is we're not being as responsive. So the problem of lack of responsiveness is solved. But, over time, people forget about that that was ever a problem. And, instead, the costs of having a decentralized organization start to creep in. Now perhaps a new management team comes in and realizes there's problems associated with being so decentralized. Information costs are high, or we're being inefficient; so maybe we should be more centralized. As you can see, firms oftentimes go through this cycle, especially over long periods of time where management regimes are changing. Now, there's two other components that are related to the extent to which a firm is decentralized. They have to accompany the decision rights that are allocated or assigned to different managers and employees throughout. One of those components is performance measure. When you delegate decision-making rights, you have to know are the managers and employees making the decisions that are appropriate? So you need a way to determine if the individuals are actually aligned with the organization. Are they using the decision rights appropriately? And the story that's told there is performance measures. We need some sort of measurement system that tells us here were the judgment and decisions that the employees implemented, and are those the right ones? Performance measures gives us that information. Another component has to do with what we do with those performance measures. Now, sometimes you get what you measure. That is, when you start to measure something, people see it as though that it's important, and they respond to that as a measurement mechanism. But that's not entirely certain all of the time. Often you need a mechanism to align the managers and employees with the organizational goals and in comes incentives and compensation systems. So, ultimately, to a company, the fact that you are assigning decision rights throughout the firm, you need to understand what actually happened. What did they do with those judgment and decision rights? Did they make the right ones or not? Performance measures tell you that story. And, ultimately, to get them to perform on behalf of the organization as opposed to solely just on their own behalf, you need compensation and incentives.
