PRINCIPLES & DIMENSIONS OF MARKET-BASED MANAGEMENT ®
(MBM)
Harlan
D. Whatley
Raffles Design Institute Tianjin, China
E-mail: harlanwhatley@gmail.com
Submission:
16/03/2013
Accept:
21/03/2013
ABSTRACT
The foundations, principles and dimensions of Market-Based
Management® (MBM), a management system that allows organizations to be
successful by applying the principles that enable free societies to become
prosperous, is analyzed and reviewed. Pioneered and trademarked by Charles G.
Koch, Chairman of the Board and CEO of Koch Industries, MBM seeks to adapt the
principles of a free society and market economy to improve management practice
in organizations.
1. INTRODUCTION
The
purpose of this essay is to analyze and discuss the foundations, principles and
dimensions of Market-Based Management®
(MBM), a management system that allows organizations to be successful by
applying the principles that enable free societies to become prosperous (CHARLES
KOCH INSTITUTE, 2013). Pioneered and trademarked by Charles G. Koch, Chairman
of the Board and CEO of Koch Industries, MBM “seeks to adapt the principles of
a free society and market economy to improve management practice in
organizations” (ELLIG, 1996, p. 73). Holian (2007) added that MBM “attempts to
harness the power of markets inside a firm” (p. 23). Moreover, Evans (2013)
argued that MBM allows workers more access to the decision-making process in
large firms. Finally, Gable (1995) concluded that MBM fosters a
decentralized decision-making process despite the job title. In addition to a
review of the literature, case studies of corporations utilizing MBM will be
discussed as well as applications of MBM outside of the private sector. Let us
review some of the economic theories that are the foundations of MBM.
2. FOUNDATIONS OF MBM
In
order to develop MBM, Koch (2007) relied heavily on the Austrian school of
economics, particularly the theories of Hayek, Mises and Schumpeter. Hayek (1979) emphasized that there are
differences between orders and organizations where orders occur when
“individuals mutually adjust their behavior to each other based on some general
rules” while organizations are created when “someone consciously plans how the
individuals will relate to each other” (ELLIG, 1995, p. 33). Spontaneous or
extended orders are superior to any order that can be achieved by the human
mind due to the specifics of the information or data required (HAYEK, 1991). In
essence, the members of the economic system use their knowledge and energy to
create value (GABLE, 1995).
Coase
(1937) defined the role of the firm in economic systems where the firm is a
consciously planned organization while the market is more of a spontaneous
order (ELLIG, 1995). Moreover, firms
have an explained existence, boundaries and internal organizations that are
identified via the employment contract and the notion of authority (FOSS,
2002).
Jensen
& Meckling (1992) argued that a firm’s decision-making authority should be
moved to where the knowledge is located as opposed to vice versa (ELLIG, 1995).
In Central and Eastern Europe and the former Soviet Union, centrally planned
enterprises failed and are now benefiting from the efficiencies associated with
the free market (COWEN & PARKER, 1997). Even China’s state-owned
enterprises, such as their Big Four banks, are now being publicly traded on
stock exchanges and are expanding outside of China into foreign markets
including Africa, the Americas and Europe. These definitions and notions,
amongst others, provided the foundation for Market-Based Management® (MBM). Let us review the elements of market
economies and organizations.
2.1. Elements of market economies and
organizations
Based
upon the economic theories of the Austrian school, such as property rights and
free markets, MBM “seeks to improve organizational performance by exploring
analogous elements in market economies and organizations” (ELLIG, 1996, p.
740). MBM focuses on six key elements of the market economy: 1. Specialization
through comparative advantage 2. Rules of just conduct 3. Property rights 4.
Market incentive 5. Free flow of ideas 6. Price system (ELLIG, 1995, p. 36).
Adam
Smith argued in his Wealth of Nations
that an advanced division of labor was fundamental for economic prosperity. An
extended definition of this theory is often referred to as comparative advantage, which shows how an individual can create
wealth by specializing in activities that will create the most value with the
least amount of resources (ELLIG & GABLE, 1995, p. 436).
Based
on Hayek’s rules of conduct, the market economy system referred to as rules of just conduct includes a firm’s
values and its culture. Values such as respect for personal dignity and
property, intellectual honesty, humility, an open mind and the freedom to
question the status quo are ones that lead to prosperity (ELLIG & GABLE,
1995, p. 436). Koch Industries has a statement of corporate principles that
includes: humility, intellectual honesty, openness, receptiveness to new ideas,
treating others with dignity and respect, recognizing and using everyone's
unique knowledge and abilities, and instilling a commitment to the common
mission (ELLIG & GABLE, 1993).
According
to Mises, property rights are akin to
the rights of decision-making within a firm (BOETTKE, COYNE & LEESON,
2008). In a market economy, property rights are controlled by those who create
value and can be lost when they do not.
Market incentive includes motivation as
“entrepreneurs earn profits by thinking up new ways to create value for others”
(ELLIG & GABLE, 1995, p. 437). Nucor Corporation incentivizes their
employees’ production output on a weekly basis (ELLIG, 1995, p. 39).
Free flow of ideas and the use of knowledge include both freedom of action, exchange and
speech. By allowing employees to make decisions based on local knowledge,
productivity is increased within the firm and the focus is more “client
centric” (ELLIG, 1995, pp. 39 – 40).
Price system and internal markets relate to Hayek (1945) and his view of the price
system in a market economy (ELLIG, 1995, p. 40). The practice of having
internal customers pay for a firm’s overhead is widely popular with firms such
as Bell Atlantic, Weyerhaeuser and Koch Industries (ELLIG & GABLE, 1995, p.
437). Many firms today outsource services such as accounting and information
technology in order to control costs and increase profitability.
Moreover,
there are six parallel elements within organizations: 1. Mission system 2.
Values and culture 3. Roles and responsibilities 4. Compensation and motivation
5. Generation and use of knowledge 6. Internal markets (ELLIG, 1995, p. 36).
Now let us review the guiding principles of MBM.
2.2. Guiding Principles
According to the Charles Koch Institute:
Market-Based Management® requires
a culture centered on specific characteristics.
These attributes set the standards for evaluating policies, practices and conduct, establishing norms of
behavior, and building the shared values that guide individual actions. The guiding principles articulate
rules of just conduct along with
values and beliefs. (CHARLES KOCH INSTITUTE, 2013)
There are
ten guiding principles of MBM:
1.
Integrity -
Conduct all affairs with integrity, for which courage
is the foundation. Honor donor intent.
2.
Compliance
- Strive for 10,000% compliance with all laws and
regulations, which requires 100% of employees fully complying 100% of the time.
Stop,
think, and ask.
3. Value creation - Contribute
to societal well-being by advancing the ideas, values, policies, and practices
of free societies. Understand, develop, and apply MBM to achieve superior
results by making better decisions, eliminating waste, optimizing, and
innovating.
4. Principled entrepreneurship™ - Apply the judgment, responsibility, initiative, economic and critical thinking
skills, and sense of urgency necessary to generate the greatest contribution,
consistent with the organization’s risk philosophy.
5. Customer focus - Discover,
collaborate, and partner with those who can most effectively advance free
societies.
6.
Knowledge -
Seek and use the best knowledge and proactively share
your knowledge while embracing a challenge process. Develop measures that
lead to more effective action.
7. Change - Anticipate
and embrace change. Envision what could be, challenge the status quo, and drive
creative destruction through experimental discovery.
8.
Humility - Exemplify humility and intellectual honesty. Constantly seek to
understand and constructively deal with reality to create value and achieve
personal improvement. Hold yourself and others accountable.
9.
Respect - Treat others with honesty, dignity, respect, and sensitivity. Appreciate
the value of diversity, including, but not limited to, diversity in
experiences, perspectives, knowledge, and ideas. Encourage and practice
teamwork.
10. Fulfillment - Find
fulfillment and meaning in your work by fully developing your capabilities to
produce results that create the greatest value (CHARLES KOCH INSTITUTE, 2013).
The guiding principles of MBM are
clearly linked to the tenets of the Austrian school of economics. The
principles of integrity and respect tie into Hayek’s “rules of conduct” notion
and the principle of knowledge can be paralleled to Hayek’s 1937 and 1945
essays on knowledge. Under the broad
notion of competition, the principles of entrepreneurship, value creation and
customer focus follow the economic theories of Schumpeter, Hayek and Kirzner
(ELLIG, 1996, p. 83). Let us review the five dimensions of MBM.
2.3. The Five Dimensions
According to the Charles Koch Institute, there
are five dimensions to MBM:
1. Vision - Determining
where and how the organization can create the greatest long-term value.
2. Virtue and Talents - Helping
ensure that people with the right values, skills, and capabilities are hired,
retained, and developed.
3. Knowledge Processes - Creating,
acquiring, sharing, and applying relevant knowledge, and measuring and tracking
profitability.
4. Decision Rights - Ensuring
the right people are in the right roles with the right authority to make
decisions and holding them accountable.
5.
Incentives
- Rewarding people according to the value they
create for the organization. (CHARLES KOCH INSTITUTE, 2013)
3. CASE STUDIES AND APPLICATIONS
Clark
Equipment utilizes the organizational system of internal markets by breaking
its corporate staff and departments such as accounting, data processing, legal
and trucking into profit centers, which eliminated bureaucracy within the firm
(GABLE, 1995).
Koch
Industries is a privately-owned holding company that includes businesses such
as Georgia-Pacific, Invista and Dixie Brand Products. Accounting, information
systems, legal, and other staff services are bought and sold through an
internal market system (GABLE, 1995). Rather than being vertically integrated,
as many energy companies are, Koch Industries focuses on industry segments such
as “gathering, transportation, refining and trading” and does the same with
related industries in order to exploit comparative advantages (ELLIG, 1995, p.
37).
Nucor
Corporation is a steel company based in Charlotte, North Carolina that, on a
weekly basis, rewards its production employees with bonus pay, solely based on
team productivity (GABLE, 1995). The management of the firm understands that
employees will make mistakes and encourage values that promote prosperity
(ELLIG, 1995).
Semco,
a Brazilian manufacturer, utilizes alternative management practices such as no
dress codes, expense reimbursement policies and does not set work hours or have
time clocks (ELLIG, 1995, p. 38). This is an example of the market economy
system known as the “rules of just contact” (ELLIG & GABLE, 1995, p. 436).
Tamko
Roofing Products of Joplin, Missouri uses the concept of property rights via
decision-making as they have replaced budgets with “spending authorities that
allow them to exercise wide discretion about corporate purchases” (ELLIG, 1995,
p. 36).
Market-Based
Management (MBM) is applicable to not only corporations, but can be applied to
the public sector as well. Education
systems can benefit from MBM as schools depend on knowledge as their primary
method of creating value (STANFIELD, 2007). Another possible use of MBM is in
the management of American and British police forces as they embrace the use of
statistics, empowering police sergeants and their precincts (HOLIAN, 2007).
4. CONCLUSION
Conversely,
there are scholars that have some concerns about MBM “because they perceive all
the market based talk as a form of ‘economic imperialism’ that seeks to reduce
all human behavior to hyper-rational self-interested optimizing’ (ELLIG, 1996,
p. 73). “Markets and organizations differ in a fundamental way, and there is no
guarantee that one can transplant techniques that are successful in
organizations to markets or vice versa” (HOLIAN, 2007, p. 28).
In
addition, there are management theories that are related to MBM including Total
Quality Management (TQM) and Stern & Stewart’s Economic Value Added (EVA).
MBM is broader than Total Quality Management (TQM), because TQM deals only with
the values/cultures, roles/responsibilities and knowledge systems of a firm
(PYZDEK, 1996). MBM is a scientific approach to management that integrates
theory and practice, and provides a framework for dealing with the ongoing
challenges of growth and change (KOCH, 2007). The Austrian concept of
opportunity cost of capital is related to EVA as is providing ownership
opportunities to employees (SKOUSEN, 2008).
MBM
abandons Keynesian economics and the centrally planned organizations of
Communism and embraces the knowledge-based enterprises of the free market
economy. When people are empowered and
are treated with dignity and respect, they are able to generate more value for
both themselves and their firm as they feel as though they are part of the new
breed of knowledge entrepreneurs.
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