Track: International Business on the Internet
Abstract
Information technology in principle allows a firm to establish a global presence, without being physically present everywhere, by strong world-wide links with all of the firm’s partners. Consequently, in the many definitions of virtual organisations it is suggested that the role of distance in (inter-)organisational relationships has died. In this paper we investigate the truth of this claim. Virtual organisations can be thought of as comprising of three elements, namely customer relations, management of internal processes and supplier relations. For the latter, virtual sourcing, it will be demonstrated that location still matters. Both theoretical and empirical reasons are provided why this will carry over into the foreseeable future. One of the key barriers to global buyers-supplier relations is distance. While the costs of transportation and cross-border communication are declining dramatically, it is still impossible for organisations to influence the local institutional environment without being physically present. Distance will continue to play a large role in international operations of business firms. However, the role of distance changes from one determining transportation costs to one determining ease of communication and understanding of institutional differences. Finally, we describe some mechanisms that firms can use to manage the paradox between virtuality and geography.
1. Introduction
If any one aspect of the information technology revolution has captured the imagination of people and businesses world-wide, it is the cheap and rapid world-wide communication that has become available with the Internet. People that are continents apart can communicate frequently through the use of email, avoiding long-distance phone bills. GroupWare systems enable globally dispersed project teams to work jointly on new product development, obviating the need for frequent meetings in the physical sense. World-wide corporate Intranets make available the accumulated body of knowledge to all of its offices with just a few mouse-clicks. Sophisticated tracking and tracing systems allow a customer to check the status of his package simply by logging on to a web-site. A small local business can set up shop on the World Wide Web and all of a sudden find itself selling on a global scale without having to set up sales offices in countries around the world.
This so-called ‘death of distance’ (Cairncross, 1998) has led many to speculate what the global economy will look like decades from now. Much of the debate centres on two questions. First, which organisational forms are needed to compete in the information age as opposed to the industrial age, see for instance Davidow and Malone (1992). Second, what is the influence that information technology has on organisational forms, with particular emphasis being placed on outsourcing and buyer-supplier relations, see for instance Lucas and Baroudi (1994) and Holland and Lockett (1997). Increasingly the term ‘virtual organisation’ is being used as a catchall phrase for these new ICT-enabled organisational forms. Consequently, many definitions of a virtual organisation exist. Venkatraman and Henderson (1998: 33) state that:
"We reject a virtual organization as a distinct structure (like functional, divisional or matrix). Instead, we treat virtualness as a strategic characteristic applicable to every organization…"
However, a central feature in all definitions is that the virtual organisation is not viewed as a single entity, but instead as a network of interdependent organisations, each of which is responsible for a part of the value-creating process. Furthermore, a common assumption seems to be that the role of physical distance will strongly diminish, if not become totally irrelevant:
"The emerging global, digital economy allows for establishing and leveraging a two-way information link between a company and its customers – albeit through remote and asynchronous mechanisms. This link is possible not only for consumer products and services, but also for business-to-business products and services." (Venkatraman and Henderson, 1998: 35)
while: "Previously, in the industrial economy, consumers could not be effectively linked through time and space" (1998: 38, emphasis added).
Elsewhere it is contemplated that:
"Because globalization requires employees and business partners to be geographically and temporally distant from one another, deploying information technologies with a virtual organization is an obvious choice for overcoming spatial and temporal boundaries" (Boudreau, Loch, Robey & Straud, 1998: 120).
It is this implicit assumption that virtual organisations become space-less that we wish to investigate and refine in this paper. Is the location factor irrelevant in virtual organisations? Will future competition be based mainly on the O and I elements of Dunning’s (1988) OLI paradigm? We will use the Venkatraman and Henderson (1998) framework for virtual organisations, which consists of three different vectors: customer interaction (virtual encounter), asset configuration (virtual sourcing) and knowledge leverage (virtual expertise). We will focus on one of these vectors, namely virtual sourcing, to investigate the role of geographic location in the virtual organisation.
The remainder of this paper is organised as follows: section 2 places the debate on virtual organisations within the context of the electronic markets literature. In section 3 we will investigate discuss the internationalisation in sourcing and particularly the barriers to internationalisation. These barriers undermine the underlying globalisation assumption of virtual organisations. Furthermore, a four-phase-model of sourcing is presented. Section 4 describes how information and communication technology is likely to change the barriers. Section 5 gives a more fundamental idea of why location matters in virtual organisations. The sixth section is devoted to giving some ideas as to how organisations can manage the paradox between virtuality and geography.
2. The influence of information technology and electronic markets on organisations
The field of electronic markets is one of the key drivers of recent discussions on the principle of virtual organisation. In the electronic markets literature, starting with Malone, Yates and Benjamin (1987), the influence of electronic markets on make or buy decisions was the main theme. Many predictions arose, which were often contradictory as to what will be the eventual consequences of introducing ICT in supply chains. Recently Holland and Lockett (1997) have proposed the "mixed-mode hypothesis". According to this hypothesis, firms operate on a continuum between markets and hierarchies, meaning that firms use combinations of market and hierarchy-type relationships and that these relationships are maintained simultaneously.
Compared to the original approach, more attention is now being paid to maintaining structural, network-like relationships with (potential) buyers and suppliers. It is precisely these kinds of relationships that are at the heart of the virtual organisation, where co-operation between the various partners is a necessity that cannot be accomplished by a pure market or pure hierarchy.
Venkatraman and Henderson (1998) present a unifying framework for analysing virtual organisations. The purpose of their framework largely seems to be to be able to describe a range of phenomena that are occurring in the wired, Internet world. However, they also suggest that non-Internet, ‘traditional’ firms may implement virtuality. Their framework consists of three vectors: customer interaction (virtual encounter), asset configuration (virtual sourcing) and knowledge leverage (virtual expertise). Each vector can be subdivided into three stages, depending on the particular target locus of that vector. These three general target loci are task units (virtual expertise), organisation (virtual encounter) and inter-organisation (virtual sourcing).
For the virtual sourcing vector, these loci are translated into sourcing modules, process interdependence and resource coalitions respectively. It is this virtual sourcing vector, and particularly the resource coalition stage that we focus our attention on in the next part of the paper, in order to investigate the nature of globalisation in virtual organisations. In the next section we will discuss the globalisation of sourcing by multinationals.
3. Physical, relationship and institutional barriers
Two distinct arguments have been put forward to substantiate the claim of globalisation (Bartlett and Ghoshal, 1989; Gereffi & Korzeniewicz 1994): an increase in internationalisation of firms’ activities as such and the functional integration of activities across borders. For something to be global, a high degree of internationalisation seems a necessity. The functional integration is also seen as a necessity, to distinguish an international activity from a global one. Elsewhere we reviewed empirical evidence on global sourcing that led to the conclusion that sourcing is not as international as it is portrayed to be and that the functional integration across borders of the sourcing function is often not existent (Mol & Koppius, 1998). Apparently there still exist important barriers to global sourcing.
To discuss these barriers we will use a slightly extended version of the standard model of a purchasing transaction developed by Zenz and Thompson (1994) as a framework to discuss the various barriers to global sourcing that have been found to exist. According to Zenz and Thompson (1994), the purchasing transaction can be divided into three subsequent phases: information, negotiation and settlement.
In the information phase, the information that is necessary before engaging in the transaction is gathering. Following Rangan (1998), the information phase can be further subdivided in the processes of search and deliberation. Search refers to the identification of potential suppliers and deliberation refers to the process of assessing the reliability and trustworthiness of these potential suppliers. A common barrier to more global sourcing in this phase is that buyers often have a limited scope of suppliers in the source country. Language and cultural differences further complicate the deliberation process.
In the negotiation phase, the business partners negotiate with each other to determine prices, delivery times etc. This negotiation process can take many forms, from a more or less fixed-price setting to bargaining procedures to various kinds of bidding and auctioning mechanisms (Zenz and Thompson, 1994), as well as some new innovative IT-enabled bidding mechanisms (Koppius, 1998). The negotiation phase is usually ended with a contract that formalises these terms. A very common complication in this phase is how to deal with currency exchange rates. As the Asian crisis showed, a heavily fluctuating currency rate can make a profitable business deal on one day turn into a huge loss the next day.
In the settlement process the terms of the contract are carried out, i.e. the goods and services are delivered by the supplier, who is compensated (financially or otherwise) by the buyer. A frequent complication when sourcing globally occurs when buyer and supplier countries have different trade laws. For instance, varying duty and customs requirements between Western Europe and some Eastern European countries can cause a failure to deliver in time, because trucks are held up at the border.
The three previous phases can be used to model any purchasing transaction. However, we wish to account for the more strategic nature of the sourcing process, where buyer and supplier have some form of relationship and repeated transactions generally occur. Therefore we add a fourth phase, the post-settlement phase. In this phase buyer and supplier establish and maintain some kind of relationship, not necessarily directly linked to a transaction. This can take the form of an EDI link to fine-tune inventory policies, but also of establishing common quality control procedures. In the latter case for instance, having a global buyer-supplier relationship can greatly complicate co-ordinating and monitoring these procedures.
Some authors explicitly discuss these barriers to global sourcing. Min, LaTour, and Williams (1994: 371) mention the following: political stability; tariff barriers; cultural and communication obstacles; trade regulations and agreements; currency exchange rates; cultural differences; variations in ethical and quality standards. Scully and Fawcett (1994: 43) also put forward a number of barriers, some similar, some different: cultural/language differences; duty/customs requirements; JIT sourcing requirements; logistics support for longer supply lines; finding qualified foreign sources; fluctuations in currency exchange rates; knowledge of foreign business practices; nationalistic attitudes and behaviour; understanding the political environment. It is important to note that although some of these barriers can be linked to one phase, such as finding qualified foreign sources to the information phase, most barriers play a reoccurring role throughout the entire sourcing process.
Looking at the barriers mentioned in the previous paragraph, it becomes clear that they can be grouped into a few different categories. First of all there are barriers related to the physical distance between buyer and supplier. These include increasing difficulties in logistics and physical supply and the problems of Just-In-Time delivery under a global sourcing policy. Physical distribution costs are an obvious part of distance-related costs, but other costs are to be included too. In international sourcing, synchronisation of business processes can be a problem as Levy (1995) describes, long delivery time may cause a product to lose value or run out of fashion. Therefore co-ordination problems between the marketing and production or purchasing functions increase with distance.
A second category consists of barriers within the buyer-supplier relationship itself. This includes lack of information concerning potential suppliers or the product offerings of a supplier, variations in quality standards, different business practices and language- or culture-based difficulties in buyer-supplier communication. The psychic distance between countries is known to influence the internationalisation pattern of firms: firms’ internationalisation paths are negatively correlated to psychic distance (Johanson and Wiedersheim-Paul, 1975). A similar relation is to be expected in the case of sourcing: firms start out by sourcing from countries with the smallest psychic distance.
The third and final category consists of differences in the environments of the buyer and supplier. The environment contains both business elements and institutional elements. Business elements are connected to parties in the market. Non-market organisations make up the institutional environment. Regulatory and political difficulties, tariff barriers as well as different ethical standards are part of the institutional environment. Fluctuations in currency exchange rates are part of the business environment. The entire set of systematic differences among firms of different nationalities is the focus of the business systems literature (Whitley, 1992). National business systems are complex systems in which firms, governments and other institutions interact. These business systems are highly idiosyncratic and difficult to change. Firms that establish themselves abroad usually bring along the national business system of their home country (Whitley, 1992). How a business system is constituted, is of great influence on both the sourcing strategy of a firm and where the suppliers of the firm are located, for the case of Britain and Germany see Lane and Bachmann (1996).
It is clear that these three types of barriers interact with one another. For example, as physical distance increases, the likelihood of a different language or of cultural differences does too. Therefore the classification is not to be seen in terms of three strictly separate categories.
4. The influence of information and communication technology
Information and communication technology can applied in all four phases of the sourcing process, albeit in a different way in the various phases. Initially most of the research in this context was on the use of Electronic Data Interchange in supply chains (Holland, Lockett and Blackman, 1992). This is obviously connected to the post-settlement process, as EDI is usually employed in already existing relations. The final objective of EDI is to synchronise and improve production and logistics activities of two organisations. Karimi and Konsynski (1991) link the four different types of MNC, as described by Bartlett and Ghoshal (1989), to different information systems. Inter-organisational systems are the type connected to what Karimi and Konsynski call international / inter-organisational / co-ordinated federation.
Electronic markets on the other hand, have been applied more in the information and negotiation phases of the sourcing process. Bakos (1991) gave several characteristics of electronic markets, such as reduced search costs for buyers and reduced cost of communication, positive network externalities, significant switching costs for participants, large capital investments, uncertainty regarding the benefits of joining the system and substantial economies of scale and scope. The rapid growth of the Internet and more specifically the World Wide Web has changed these characteristics somewhat. It has resulted in a virtually common technology, to be used for creating an electronic market, thereby reducing the relative importance of switching costs and capital investments because there is hardly a need for proprietary systems anymore.
Because of this low technological threshold, it is now fairly easy to set up an electronic market and consequently they have proliferated. Especially auctions have been popular (Economist, 1995). In order to generate enough liquidity in a market under such heavy competition, it is necessary to attract a large crowd of (potential) buyers as soon as possible, which means that the relative importance of network externalities and an "early mover advantage" has grown. This also means that although the uncertainty of the benefits will still be there, the lower switching costs and the bandwagon effect will reduce its effects.
The reduced search and communication costs are still a very important aspect of electronic markets, perhaps even its main driver. However, because of the ease of locating suppliers through the Web instead of more traditional methods, now the costs of evaluating potential suppliers become important as well (Barua, Savindran, and Whinston, 1997). In the global sourcing context of this paper the cost-reducing aspect of electronic markets, combined with the potential for substantial economies of scale and scope, forms the most important aspect. Generally speaking, in a hierarchy the effects of electronic sourcing lie mainly in the area of communication, as the cost of communication will be lower and the quality of communication between buyer and supplier can improve. In a market the scale and scope effects become relatively more important. However, as most inter-organisational relationships are a varying mixture of both types (Holland and Lockett, 1997), so are the effects of ICT.
As shown before, barriers to global sourcing can be roughly divided into three categories: barriers related to distance between buyer and supplier, to the buyer-supplier relationship itself and to the environments in which the buyer and supplier function. We shall now discuss each of the three types of barriers to describe the influence of ICT in more detail.
The ever-decreasing costs of communication and transport are a contributor to internationalisation of firms (Dunning, 1993). Dunning (1993) claims that the type of internationalisation undertaken by MNCs has changed because of lower communication and transportation costs. At the beginning of the century many foreign subsidiaries were stand-alone units. Now there is a much higher degree of integration. Electronic sourcing directly lowers the cost of communication. For instance the use of Internet-EDI-type communication allows for better fine-tuning of logistic processes, removing some of the problems associated with JIT strategies (Holland, Lockett and Blackman, 1992).
The speed of communication also increases. Previously computer files had to be physically delivered from buyer to supplier or vice versa. Now the world-wide delivery time is near to zero as using electronic means allows for near-instant communication. The use of on-line support tools and internet-based conferencing to some extent allows for joint development activities without face-to-face contact. Via transportation costs there is an indirect influence of electronic sourcing on distance-related barriers. For example, new information and communication technology is one of the drivers of the cost curve in ocean container transportation. In all, electronic sourcing will have a real influence on bringing down barriers related to distance.
The effect of electronic sourcing on the buyer-supplier relationship is equally positive. Through the use of standardised communications, some of the problems related to cultural, language and business practice differences will be lessened. If problems do arise, detection of these problems will be easier, through the rapid and improved communication that is now possible. Thus the impact of these problems will often be smaller.
Electronic sourcing not only leads to a reduction in communication costs, but also it can reduce the costs associated with the search and evaluation of potential suppliers, especially when buyers and suppliers would not normally link up. The World Wide Web or a dedicated electronic market can serve as a means to find as yet unknown suppliers (Business Week, 1998). For many international suppliers a web site in another language such as English, is easy to construct as compared to the effort of building a relationship through oral communication. Thus, electronic sourcing can broaden the scope of the sourcing process in the sense that more suppliers are now able to compete for the firm’s order. This broadening of scope has a large effect on relation-type barriers, because the increased number of potential suppliers allows for the search for a better ‘fit’ between buyer and supplier. Reduced costs of search and evaluation result, although it should be noted that there is a trade-off between these two, as pointed out by Barua et al. (1997). In all, electronic sourcing will reduce most barriers to global sourcing posed by the buyer-supplier relation itself.
As stated by Whitley (1992) and others (e.g. Zucker, 1987) environments of firms often resist to change. The mere introduction of a different means of communication between buyer and supplier is not likely to lead to changes in for instance the political stability of a country. Therefore information technology is likely to only have a small effect on environmental barriers as these factors are usually beyond the direct control of buyer and supplier. However, it should be noted that electronic sourcing makes it more likely that a firm runs into environmental barriers, since the likelihood of finding an international supplier is higher now that barriers in the two other categories will be lessened.
5. Location in virtual organisations
So, why is there a fundamental flaw in assuming that any organisation can be untied from the location it is operating in? For example, it is sometimes contemplated that so-called global start-ups are immune to location demands. That is, as long as you have an Internet connection, you can set up a firm anywhere you want and anytime you wish. There are many empirical arguments to counter that view as well as some theoretical ones.
Empirically we have to admit that not all parts of the world are connected to the electronic networks. Many areas, probably covering the larger geographic part of the world, lack the physical and financial resources to join the global electronic community. Even if the areas would be provided with enough wires, most individuals still could not afford access. And even if they could afford access many people are illiterate and would not know what to do with their access. As there is no tremendous willingness on the parts of the world that are connected to let everyone participate, this is not likely to change very rapidly. Furthermore there is a problem of inter-cultural communication that is often underestimated. One element of inter-cultural communication is language. There is not a universal language although it is fairly obvious that more and more people are learning American English. Even so, why would a Spanish buying firm wish to discuss matters in English with its Argentinean supplier? The world is built far more on diversity of organisational models than on unity of organising. Inter-cultural communication has and will continue to cause misunderstandings between buyers and suppliers. The meaning of particular messages can be interpreted differently in other countries, leading to ineffective behaviour. To prevent these inefficiencies managers have to devote extra attention to inter-cultural relations, leading to higher transaction costs.
Theoretically there are also arguments to assume that a virtual organisation is by definition not spatially unbound. Upon its founding an organisation is imprinted with a set of values and operating rules (Stinchcombe, 1965). These imprinting conditions never fully change, as they are particularly sticky. They are bound to the environment in which an organisation was founded. This environment consists of the two dimensions that we know of: time and space. Time and place of founding thus have a large impact on organisational operations throughout. In fact, Dobbin and Dowd (1997) suggest that how effectively a firm can engage in competition hinges upon its imprinting conditions. Organisations that go through periods of discontinuous change may not be able to cope with that (Rumelt, 1995), particularly if they have been infused with the ‘wrong’ values. As Lefebvre argues, space itself is a construction of human behaviour that can not be uncoupled from the processes it creates and those by which it is created (Lefebvre, 1991). So any process in an organisation takes place in a particular space and is naturally affected by as well as affecting that space. For virtual organisations this implies that they may be able to overcome many barriers to globalisation but that they can never operate in a space-less world. The places in which you operate naturally co-determine what you do and what you do naturally co-determines where you would wish to do that. In that sense space matters more than ever in virtual organisations, as Michael Porter has also argued (Porter, 1998). Most of the innovative, high-tech and value-adding activities undertaken take place in geographic clusters, of which Silicon Valley, probably the centre of virtuality, is itself a famous example. These clusters not only offer scale economies in marketing goods or services, but also allow for much faster knowledge spill-over through face-to-face contact. As a consequence of these clusters firms will seek places of specialisation for their supplies of physical goods and services, which strongly contradicts the thesis that everything can be done everywhere. This thesis is maybe not prominent in the academic literature on International Business. However, what makes it necessary to restate it is the dominant line of thinking in much of the popular press as well as some of the more applied management journals. This line of thinking suggests that distance is dead and the world resides under a unified business paradigm. Not so, we are afraid.
It is imperative for organisations that introduce some sort of virtual model of organising to understand the nature of physical, cultural and institutional distances. While these organisations would like information technology and the virtual organisation to solve these barriers to internationalisation they may actually create new barriers this way. This will not only put stress on their virtual organisation but also on their internationalisation as such. Virtual organisation is not the means to solve the demands of responsiveness a firm faces, although it can help a lot in achieving global integration.
6. Counterbalancing virtuality and geography
An intriguing question that flows from the preceding sections is how firms can counterbalance the forces of virtuality with those of geography. Although a full answer to this question can not be expected in this paper, some research directions will be given. One theme that has occurred in the recent International Business literature is that of ‘centres of excellence’ (Moore and Birkinshaw, 1998; Roth and Morrison, 1992). Centres of excellence are geographically concentrated units of the firm that have developed a specialisation that fits the location of the unit. Firms that combine a number of centres of excellence have been referred to as metanational corporations (Doz, Asakawa, Santos and Williamson, 1997). If a firm uses these centres of excellence it is able to operate globally while maintaining significant links to the different localities in which it operates. In a centres of excellence approach local geography matters but inter-local geography can largely be ignored, at least as far as information and communication flows are concerned. Physical flows will ultimately be affected by distance.
A second principle that might help virtual organisations is geographic rotation, or the old well-known concept of expatriates. Henderson and Venkatraman (1998) are aware of the importance of people and knowledge in virtual organisations and suggest that these might best be managed through virtual communities. Many of the barriers to inter-cultural communication may diminish if the firm is able to keep its own workforce and that of its suppliers in constant motion. Consider the Toyota engineers that have traditionally been working in-house with suppliers. If Toyota would be organised virtually it may still delegate its engineers: not to suppliers in the Tokyo area but instead to such remote places as Brazil or Poland. A large part of the inter-cultural communication conflicts described earlier will lose its relevance. It should be noted though that at the same time many elements of virtuality might get lost if there is an exchange of employees among firms.
A third issue of relevance to virtual organisations is inter-partner learning (Hamel 1991). As Hamel and others have described two or more organisations may benefit from joint learning. In the case of the virtual organisation this will take the form of cross-geographical learning if the partners are able to make their learning process explicit. Obtaining and communicating tacit knowledge will be near to impossible in a setting of virtual organisations. However, explicit forms of learning can more readily be stored in databases and then applied in later engagements. For virtual organisations it is therefore a very urgent issue to make inter-partner learning explicit and convert it into physical databases. Graphically this may be portrayed as in figure 1 (appendix).
7. Conclusions
Concluding we can say that although there seem to be overriding arguments for the existence of the virtual organisation as one of the key organisational forms for the 21st century, we have limited knowledge of its features so far. One central feature is that of an advanced information and communication infrastructure to support the co-ordination activities necessary in a virtual organisation. This ICT infrastructure offers the potential to globally link buyers and suppliers, regardless of physical distance.
In this article we investigated the reality of this globalisation assumption in virtual organisations. Evidence from sourcing strategies of multinational corporations reveals that there is no full scale globalisation yet. We described three categories of barriers to global sourcing, namely barriers related to distance between buyer and supplier, the buyer-supplier relationship itself and to the environment, both business and institutional.
The influence of information and communication technology on these barriers varies. Barriers related to physical distance and the buyer-supplier relationship are expected to diminish through the speed ease of communication that for instance the Internet allows. Barriers related to the environment, especially the institutional environment, are not expected to change much and in fact they will probably become of more relative importance as the other barriers become less.
The combined total effect of ICT on the sourcing process is hard to predict, but regardless there seems to be a continuing need for local relations as part of the geographical embeddedness of firms (cf. Porter, 1998). Local relations and local presence have some strong continuing advantages, such as being closer to the market, fewer language and cultural differences, shared norms and rules and more options for JIT delivery. Also, dealing locally conforms more to the limited cognitive scope of humans and hence the need for person-to-person communication between managers. Virtual organisations have to find ways to compensate for virtuality to the extent that geography demands such compensation. We have highlighted only a few mechanisms that could be supportive in this respect. It is imperative that organisational mechanisms exist to counterbalance the technical means that help to create virtual organisations. For virtual organisations, facts like these are important when planning for a global strategy, because despite all the possibilities that information technology offers for globalisation, distance is not dead.
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