Financial Performance Between Similar Businesses - Essay Example

Financial Performance Between Similar Businesses 1. Introduction The development of corporate activities worldwide has led to the necessity for an extensive restructuring of the methods used in order to evaluate the various corporate decisions on particular organizational issues. In this context, strategic management has been proved the most appropriate tool for the improvement of organizational performance through the appropriate customization of the practices applied on the various organizational departments. The value of strategic management is identified to its effectiveness towards the increase of the firm’s productivity, i.e. the improvement of the firm’s financial performance. The above target is achieved both directly and indirectly. The application of specific decisions regarding the firm’s profits and expenses represents the direct influence of strategic management on a firm’s financial performance; on the other hand, there are specific organizational decisions, like the ones belonging to the human resources management that are extremely important for the firm’s financial performance but their role in the increase of the firm’s profits is not direct; it is rather an indirect aspect of the intervention of strategic management in a firm’s financial performance. The particular aspects of the above relationship are going to be analytically examined in the sections that follow. 2. Strategic management – aspects and characteristics In order to understand the exact role of strategic management in a firm’s financial performance – apart from their interaction in general as presented above – it is necessary to present the various aspects and characteristics of strategic management as part of the daily organizational activities. At a first level it should be noticed that the development of a particular strategic management scheme is necessary for all firms operating within the modern market; however the choice of the appropriate scheme regarding a particular organization belongs to the exclusive discretion of the firm’s managers; they will identify the strengths and weaknesses of the firm and propose the appropriate plan of action in accordance with the needs of the firm and the trends of the market. The strategic plan applied on a specific organization should meet particular requirements and standards; towards this direction, it is supported by Parnell (2003, 16) that ‘an organization can remain flexible so that it does not become committed to products, technology, or market approaches that may become outdated’. In other words, one of the main priorities for firms that operate in the modern market is to continuously update their strategic plans in order to respond to the market’s demands. The increase of competition worldwide justifies the importance of the above priorities for all modern firms – no matter the industrial sector in which they operate. As noted above strategic management is closely related with the organizational performance. However, the specific relationship is often very difficult to be precisely identified and explored. The specific issue was examined by Short et al. (2002) who tried to test the potential use of sampling practices towards the explanation of various aspects of organizational performance. Their study led to the conclusion that ‘whereas a stratified random sample offers some evidence of a positive relationship, a purposive sample detects a negative relationship and an available sample and simple random sample detect no relationship; sampling practices must improve if strategic management is to approach its objective of explaining performance’ (Short et al., 2002, 363). In accordance with the above, the use of sampling practices in order to explain a firm’s organizational performance is possible; however specific measures should be taken in advance in order to ensure that the samples involved in the procedure present an accurate aspect of the firm’s performance in the long term. Strategic management has been found to have many different aspects; apart from its role in the identification of a firm’s financial performance, strategic management can also influence to other organizational sectors, like the human resources. The result of the intervention of strategic management in the human resources sector of modern organization has been the development of strategic human resource management. The various aspects of the above organizational sector have been extensively analyzed in the literature. Towards this direction, it is supported by Andersen et al. (2007, 168) that ‘SHRM is often measured by the integration of the HR function in the strategic management process, the devolvement of HR practices to line managers, and the influence of these practices on firm performance’. In the empirical research, the examination of the importance of strategic management for the development of a firm’s human resource management has led to valuable assumptions regarding the potential improvement of employees’ productivity within modern organizations. In this context, the differentiation of firms in accordance their strategic options is quite often; an indicative example is the case of strategic and managerial firms, a classification mentioned by Huang (1998). More specifically, Huang (1998, 59) supported that ‘strategic firms are defined as those that give careful consideration to human resource factors in their business strategies and that ensure tight linkage between HRM and organizational goals and priorities; managerial firms are described as being in transition between the operational and strategic categories’. In the firms belonging at the first category, the influence of their strategic plans on the development of the HR strategies is significant; strategic decisions are indispensable part of the organizational activity defining the principles on which the development of a firm’s strategic projects will be based. In any case, the influence of strategic management on the firms’ HR plans should be considered as important - in case of firms belonging to both the above categories; it is just the fact that in firms of the first category the intervention of strategic management in the design and the application of the various HR plans is clearer. On the other hand, in the firms where the role of strategic human resource management in all the operational activities was crucial other differentiations were also observed regarding the development of firms’ performance within all its sectors. Indeed, the research made by Huang (1998) led to the conclusion that ‘a positive relationship exists between the amount of capital resources available to firms and the extent to which they practice SHRM; firms engaging in SHRM receive a higher rating than other firms on the indices of organizational morale, financial performance, and overall performance’ (Huang, 1998, 59). The particular effects of strategic human resource management on a firm’s HRM strategies have been examined in practice by Lee et al. (1996). The particular study focused on the identification of the methods used by firms in order to align their strategic decisions with their HRM policies in order to improve their financial performance (either in the short or the long term). The case of manufacturing firms established in South Korea was used as an example for the exploration of the potential links between the strategic management and a firm’s HRM plans (as developed by modern organizations). The above study led to the conclusion that ‘while competitive strategy types showed differential firm performance effect, the performance effect of participative human resource management types and their interactions with strategy were limited’ (Lee et al., 1996, 77). In accordance with the above, strategic human resource management is directly related with a firm’s financial performance; the higher the impact of SHRM on the development of various organizational activities the higher their relationship (SHRM and firm’s financial performance) is being developed and expanded. Through another point of view it could stated that strategic management cannot guarantee the continuous and accurate monitoring of all organizational activities, including the HRM planning; this means that within any organization specific measures have to be taken ensuring that the policies applied on the various organizational departments are aligned with the firm’s strategic plans even if there is an issue of incompatibility – i.e. if the principles included in the firms’ strategic plans and the policies used within specific organizational departments do not have many common elements. The effects of strategic management plans on the development of a firm’s HRMS can be expanded across all organizational sectors. The study of Gordon et al. (2000) showed that ‘top management team turnover is negatively related to strategic reorientation; the results do not support the Lant et al. (1992) conclusions that low past financial performance, top management team heterogeneity, awareness of environmental changes, and external attributions for negative financial performance outcomes are significantly associated with strategic reorientation’ (Gordon et al., 2000, 911). The above findings can lead to the assumption that the application of specific strategic management plans may not be developed in accordance with the relevant schedule especially when specific financial interests within the organization are under threat. One of the most characteristic examples of such case is the introduction of changes regarding the level of payment (or compensation) of a firm’s strategic managers; the change of ‘traditional’ schemes within the workplace (especially when these traditions are related with the firm’s operational expenses, e.g. remuneration of employees at all organizational levels) is likely to face significant resistance when is firstly attempted; despite the fact that such a reaction is normally expected when specific plans of change are to be introduced in a particular organization it should be noticed that specific measures are required in order to ensure the successful completion of the relevant project. It should be noticed that HRM is just one of the various organizational sectors in which strategic management can involve; moreover, the intervention of strategic management in a firm’s development can be differentiated (as explained above) in accordance with the needs and the structure of the particular organization but also the trends of the industry in which the specific organization operates. Even if appropriate measures are taken in advance regarding the appropriate distribution of firm’s resources (aiming at the increase – as possible – of the firm’s performance) it is still possible that failures are observed in the development of the various organizational plans (when the alignment between these plans and the available resources has not been completed successfully); towards this direction, various projects have been proposed in practice aiming to support the improvement of organizational performance through the development of an accurate and effective monitoring system. An indicative example is the case of the budgeting system suggested by the relevant governmental authorities in USA in order to support the development of airport facilities across the country. In the above study it was proved that ‘although strategic planning is a management tool utilized by 40% of airport administrators, performance measures are sparingly used, and budget allocations are not based on performance; budgeting is not linked to strategic plans or performance measurement’ (Rodriguez et al., 2003, 132). The above study refers only to the potential value of strategic management in the improvement of organizational performance of firms operating within a specific industrial sector (airport facilities); however general assumptions could be made regarding the operational modes available to all firms operating within the modern market (under the prerequisite that these modes are based on specific strategic management rules). On the other hand, it is proved through the above study that organizational performance as well as strategic management can be differentiated from specific organizational plans (like budgeting which can be linked mostly with the operational planning of a specific organization). The fact that strategic management has been proved to be linked to a firm’s financial performance cannot lead to the assumption that all organizational activities are strategically or financially orientated; there can be also organizational projects that are not interested from a strategic or a financial aspect but still they are important for the development of a firm’s activities (the case of budgeting is an indicative example). On the other hand, it is noticed by Hoskisson et al. (1999, 417) that ‘one of the more significant contributions to the development of strategic management came from industrial organization (IO) economics, specifically the work of Michael Porter; building on the IO economics framework, the organizational economics perspective contributed transaction costs economics and agency theory to strategic management’ (Hoskisson et al., 1999, 417). The particular framework (industrial organization economics) can be also considered as the element that joins strategic management with a firm’s financial performance. In fact, it could be stated that the role of Michael Porter in the development of business performance has many aspects; the increase of the firm’s competitiveness within its market is one of these markets. In this context, the Michael Porter’s five forces model (that aim to support the improvement of the firm’s performance towards its competitors) should be regarded as being part of the strategic management scheme proposed by M. Porter to firms operating within the modern market (see Figure 1, Appendix section). The various aspects of the above relationship will be analytically examined in the chapter that follows. 3. Comparison of financial performance of firms within the same industry – issues for consideration The role of strategic management in the identification of a firm’s financial performance has been evaluated through the empirical research referring to organizations of various industrial sectors around the world. In this context, Crittenden (2000) made a research on a series of nonprofit organizations (operating in the area of social services). His research led to the conclusion that firms that are considered to be successful within their market have met a series of criteria: ‘(a) maintained or developed a strong relatedness in program offerings; (b) were financially oriented, with a diverse funding base, and with fund-raising efforts targeting a specific source category for increase; (c) emphasized marketing; and (d) principally sought growth through increased client usage of current offerings’ (Crittenden, 2000, 164). Of course, the above findings are just indicative; in fact, successful firms may have different formats and structure in accordance with their position in the market, their financial strength and the decisions of their administrators (owners or CEOs). Moreover, the success of a firm can be evaluated using different social criteria as set by the social and cultural ethics of each specific country. It should also be noticed that within the modern market, the priorities of firms can be differentiated taken into account the customers preferences as developed both within the international and the local market (which is any case influenced by the trends of the international market). The issue of competition should be also taken into consideration; firms that seek to expand their activities and improve their financial performance should pay attention at the strategic management policies applied by their competitors. The above assumption is also supported by Coles et al. (2001, 23) who noticed that ‘the most critical issue still to examine, is the ability of firms to choose among a number of different governance mechanisms in order to create the appropriate structure for that firm, given the environment in which it operates’. In any case, it is concluded that ‘industry performance is a strong and significant driver of performance for all sample firms’ (Coles et al., 2001, 23). In the long term, the alignment of a firm’s strategic choices with the strategic options of its competitors can significantly support its financial performance. The differentiation on some points would be then necessary in order to make sure that the firm’s strategic options will be of higher value than those of its competitors. The direct influence of strategic management in a firm’s financial performance is proved by the fact that firms that clearly operates within the financial industry pay particular attention on their strategic decisions in order to keep their performance at high levels. The specific issue was examined by Hayward (1998) who noticed that ‘information plays a pivotal role in retail banking, not only in terms of externally collected data (traditional business information), but also in terms of the information processes involved in strategy formulation’ (Hayward, 1999, 78). Information is used above as a crucial element of the firm’s strategic management; the appropriate process and distribution of information within the various organizational departments of firms that operate in the banking sector has been found to be related with the increase of these firms’ financial performance. On the other hand, it has been found that information processing within the firms of the above industrial sector can also present many difficulties/ failures. More specifically, it is noticed by Hayward (1999, 78) that ‘, information gathering and analysis activities are viewed increasingly as an element of all managers, work within retail banking and the concept of an information professional, serving the information needs of other managers, is perceived as being increasingly archaic’. In other words, even regarding a relatively simple part of the strategic decision making procedure, i.e. the gathering and process of information, modern firms have been proved to be ineffective and incapable of performing in accordance with the needs and the demands of the modern market (referring especially to their strategic management plans and procedures). The exact influence of strategic management on the firms’ financial performance is difficult to be identified mostly because of the multi-dimensional character of the former; more specifically, the effectiveness of the various strategic management policies and plans can be differentiated under the influence of several internal and external organizational factors. The study of Bantel (1993) showed that ‘low tenure mean, functional heterogeneity, environmental complexity, and performance volatility all had positive effects on strategic planning formality’ (Bantel, 1993, 436). The above study referred to the potential influence of a series of variables (including ‘top management team demography, environmental uncertainty, and firm performance’ (Bantel, 1993, 436)) on a firm’s financial performance. Towards the same direction, Kim et al. (1994) found that the strategic decisions of firms are likely to be influenced by specific factors. More specifically, it was revealed that ‘there appear to be four common strategic attributes cost efficiency, innovative differentiation, marketing differentiation, and asset parsimony and five strategic types of firms which have distinct combinations of these strategic attributes innovative, versatile, marginal, and reactive types’ (Kim et al., 1994, 13). The above study which was based on data gathered from 79 firms of small size operating in Korea leads to similar assumption with the previous one (the study of Bantel). In other words, strategic decision making is influenced by a series of factors related with the firms’ daily operational activity; at the same context, the financial performance of firms operating within the modern market is likely to be influenced by specific organizational activities (like the ones already described above) always in accordance with the type of business operations and the position of the firm towards its competitors. Another issue that should be highlighted is the fact that the influence of strategic management on a firm’s financial performance can be indirect (as already explained above). As an example we could refer to a particular aspect of strategic management, the corporate social responsibility, and its influence on a firm’s financial performance. The above problem has been examined by Orlitzky et al. (2003). At a first level, the above researchers stated that the particular aspects of the above relationship are difficult to be identified; however, a more careful examination of the above issue led to the conclusion that ‘corporate virtue in the form of social responsibility and, to a lesser extent, environmental responsibility is likely to pay off, although the operationalizations of CSP and CFP also moderate the positive association’ (Orlitzky et al., 2003, 403). In other words, corporate social responsibility (as expressed through the environmental responsibility) should be based on rules related primarily with the ethics of the market while at a next level the financial interests of the firms’ owners/ shareholders should be used in order to identify the most appropriate strategies for the improvement of organizational performance both in the short and the long term. The corporate social responsibility as mentioned above as a criterion for the development of a firm’s financial performance (it has been found above to be related with the corporate financial performance) refers mostly to the environment and the responsibilities of firms regarding the harmonization of their practices with the governmental rules related with the protection of the environment. In any case the methods and the criteria used for the development of a firm’s strategic decision are of critical importance for the firm’s growth especially in the long term (it would be difficult for all the relevant plans to be applied simultaneously since there are still come issues regarding their text that needs to be re-examined. In this context, the study of Khatri et al. (2000, 57) led to the assumption that ‘use of intuitive synthesis was found to be positively associated with organizational performance in an unstable environment, but negatively so in a stable environment’ (Khatri et al., 2000, 57). In other words, within unstable external environment, the development of organizational performance will be more depended on a series of external factors, including the intuition; there can be no specific reasons justifying the differentiation on the business performance within the modern market; however in the long term the effects of strategic management have been proved to be significant. On the other hand, the relationship between the strategic management and a firm’s financial performance can be influenced by the size of the firm involved. The specific issue was examined by Pearson (1986). The study of the above researcher led to the conclusion that ‘approximately 400,000 small businesses fail each year’ (The State of Small Business 1986, in Pearson, 1986, 10). In accordance with the above views and statistics the financial performance of firms within the modern market cannot be guaranteed (referring to the potential profits from the relevant activities); there are firms that have a well established strategic management plan but still their performance presents a series of weaknesses; financial performance of modern firms is closely related with the market trends and the support offered by potential investors (for the realization of the various corporate projects). In small firms the financial support of investors is expected to be limited (in fact these firms are more likely to be funded exclusively by their owner); as a result the performance of these firms within their local and the international market is expected to be lower compared to that of the multinational corporations. 4. Conclusion In order to evaluate the existence of differences in the financial performance of firms operating within the same industry we could use the principles of strategic management appropriately customized in accordance with the characteristics of the firms under examination but also the position of their competitors. In accordance with the above it is possible that firms operating within the same market have different financial performance if one of the following criteria exists: a) the firms have different size, b) the financial support to the firms under examination is different, c) the firms do not have equal presence within the market under consideration (referring to the financial strength of the specific firms), d) the time period related with the presence of each firm in the market is different and so on. All the above criteria are directly or indirectly related with the strategic management. The role of the market conditions in the development of the relationship between the strategic management and the financial performance of firms is crucial. Regarding this issue it is noticed by Mattingly (2004, 97) that ‘markets may not be an effective governance mechanism to ensure firms alignment with democratic institutions in a plural society and that public policies may be needed to address these failures’. In other words, even if appropriate measures are taken ensuring the equal development of firms within the same industrial sector, differentiations can still be observed in the level of firms’ financial performance in the same industry. Various organizational aspects (as the ones described above) can be used in order to estimate the level of intervention of strategic management decisions in the financial performance of the firm as well as the potential differentiation of financial performance of firms operating within the same industrial sector. References Andersen, K., Cooper, B., Zhu, C. (2007) The effect of SHRM practices on perceived firm financial performance: Some initial evidence from Australia. 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Journal of the Academy of Marketing Science, 14(4): 10-17 Porter, M. (1998) On Competition. Harvard Business School Press Rodriguez, A., Bijotat, F. (2003) Performance Measurement, Strategic Planning, and Performance-Based Budgeting in Illinois Local and Regional Public Airports. Public Works Management & Policy, 8(2): 132-145 Short, J., Ketchen, D., Palmer, T. (2002) The Role of Sampling in Strategic Management Research on Performance: A Two-Study Analysis. Journal of Management, 28: 363-385 Appendix A. Porter’s Five Forces Figure 1 - Industry Competition, five forces (Porter, 1998, 22) Read More