Most of the discourses on outsourcing generally focus on the effect of outsourcing; however, such analysis is only half full without the account of the cause. Outsourcing has to be analyzed from a cause and effect perspective since it would be impossible to determine the effect without knowing the cause.
Outsourcing is the result of various aspects of economic change, which is the main cause of outsourcing. The conventional analysis of outsourcing has been focused mainly on the transaction cost theory and resource-based view to explain outsourcing from the firm level perspective. However, in many cases, either transaction cost theory or resource based view is sufficient in explaining outsourcing. A good illustration is that “Japanese firms such as Toyota and Nissan purchase approximately 80 per cent of the components required for their vehicle assembly from other firms. By contract, American auto manufacturers such as Ford and General Motor, at around 50 and 30 per cent respectively, buy in substantially smaller proportions of manufactured parts. Among European companies, BMW buys in a high 80 per cent of vehicle components used in assembly, while other German automobile producers, like Mercedes Benz and Volkswagen, are increasing the number of components made in-house” (Domberger, 1998: 35). If outsourcing is an effective cost reduction tool, why is there such a big discrepancy in the degree of component outsourcing in the automotive industry? If the decision to outsource is made based on core competency, why is it that firms in the same industry have such different views on production? These literatures failed to ask the question of why all of a sudden firms start to concern themselves about their cost structure or core competency. It is not likely that managers start to worry about their cost structure or firm related core competency out of the blue. As Schumpeter points out, “the problem that is usually being visualized is how capitalism administers existing structures, whereas the relevant problem is how it creates and destroys them”
(Schumpeter, 1942: 84). The “creative destruction” process in the capitalist economy is the key question to ask because it affects the overall survival of the firm. In terms of outsourcing, the key question to ask is why the economic changes made or forced managers to reconsider their cost structure and core competency. What kind of economic changes forced these firms to consider outsourcing as their strategy in dealing with their competitive environment? Is outsourcing endogenous or exogenous with economic change? What kind of economic changes are more related with outsourcing? Since economic change is one of the main forces that drive industry evolution, is there any connection between outsourcing and industry evolution? In addition, the conventional literature on outsourcing is usually based on a firm level perspective but this study would like to demonstrate that in addition to firm level analysis it is critical to take the industry level point of view into consideration. The objective of this literature review is to place outsourcing in a cooperative strategic perspective. The main idea is to stress the fact that in dealing with industry changes, firms usually select what they believe is the optimal strategy out of a basket of strategic options. Outsourcing is only one of these options within the basket.
The theoretical support for outsourcing has been extensively reviewed in several volumes related to outsourcing (Domberger 1998; Hirschheim et al., 2002;
Urquhart, 2002). It is common to find studies on outsourcing focusing on factors explaining outsourcing, outsourcing benefits and costs analysis (Kakabadse &
Kakabadse, 2000), and outsourcing practitioners” application guide. The focus of this section is to examine existing literature on outsourcing. Factors explaining outsourcing have been the focus of research in several volumes related to outsourcing. Lee et al. (2002) made a good summary of major theories used in outsourcing research. The major outsourcing theories can be divided into strategic management view, economic view, and social view (Table 4.1). The strategic management view includes the resource-based view (Roy & Aubert, 2002;
Milgate2001; Quinn & Hilmer, 1994; Kakabadse & Kakabadse, 2005) and resource dependence theory (Cheon et al., 1995). The economic view consists of the transaction cost theory (Domberger, 1998; Hirschheim et al., 2002; Mahnke et al., 2005) and the agency cost theory (Lacity & Hirschheim, 1993). Finally, the social view contains the political power perspective (Klepper & Graddy, 1990) and the social exchange view. Other theories on outsourcing include: risk management perspective (Aubert et al., 2002), agency theory (Poppo & Zenger, 1998), option theory (Steensma & Corley, 2002), game theory (Kern et al., 2002) and relational view (Dyer & Singh, 1998).
Table 4.1: Summary of major theories on outsourcing
(Lee et al. 2002)
Although it is common to come across reviews on major theories of outsourcing explaining the reasons why companies outsource (Domberger 1998;
Hirschheim et al., 2002; Urquhart, 2002; Lee et al. 2002), these reviews often ignore the fact that as players within an industry, firms often have several strategic options when facing a change in the industry. Industry changes may include an additional entrant, slow down in growth, emergence of new technology and so forth.
In light of these industry changes, firms often have to formulate strategies in order to survive and remain competitive in the wake of these changes. It is clear that outsourcing is only one of many strategic options at the firms’ disposal. Through the analysis of strategic options, and the use of their best judgment, some firms would select outsourcing as their answer in dealing with industry changes, while others might choose differently. It is important to stress that outsourcing is an option out of a basket of strategic arsenals. One of the objectives of this study is to examine the connection between outsourcing and a specific stage within the industry evolution from the technology perspective. The stage within the industry evolution in question is when technology S-curve reaches its inflection point in association with the latter stage of the dynamics of innovation framework. Within this stage of industry evolution, outsourcing is one of many options within a firm’s choices.
Depending on the industry environment and firm related capabilities, firms usually have the option of competition or cooperation. Outsourcing is a form of cooperation.
Firms cooperate with others through outsourcing in order to be more competitive in the market place. Outsourcing is not only a form of cooperation but also a tool to better the competitive advantage of the firm. The boundary of competition between firms in the industry becomes increasingly fuzzy. Many outsourcing partners such as Nike and Bridgestone in the golf ball industry are potential competitors in the market place. However, on the production side, they are partners. In many cases, it is hard to determine the boundary between competition and cooperation.
Outsourcing is not only a benefit and risk issue but it also involves competition and cooperation of firms in the industry. Through outsourcing, firms cooperate with each other to improve their competitive advantage. Consequently, in addition to an examination of outsourcing, it is crucial to embark on a review of major theories from the perspective of cooperation and competition.
The primary focus within the field of strategic management in the 1980s was the subject of competitive strategy. The search for sustainable competitive advantage led by Michael Porter (1980) was the topic of attention during that decade. However, the academic debate in the strategic management field was tilted significantly in the 1990s from competitive strategy to cooperative strategy as Faulkner (2002) stressed that “markets have become increasingly global during this period, tastes have converged, technologies have shown a disturbing tendency not to endure for long before being replaced by others, and product life cycles have become even shorter in a society driven by the restless energy of advertisers. All this has meant that the need for greater capital investment that one firm, however big, can not regularly cope with, and the need for allies who span the major markets of the globe and have between them the necessary competencies to meet the demands of the global market” (Faulkner 2002, p.69). It is no longer efficient for firms to carry out all aspects of their activities alone; instead, firms have to collaborate or join forces in order to excel in areas where they are least good at. At the same time, Culpan (2002) pointed out the paradox of this collaborative movement: “on one hand, a traditional view of inter-firm competition suggests that businesses are naturally involved in fierce competition with their rivals. On the other hand, today’s firms – especially multinational players – recognize the benefits of collaborative ventures”
(Culpan 2002, p.1). Indeed, under various challenges firms have to collaborate in order sustain their competitive advantage. The common goal of sustaining competitive advantage allied traditional rivals together in the form of joint ventures, licensing, research and development (R&D) partnership, joint marketing, strategic
alliance, coalitions, consortia…etc. For example, it is extraordinary to see traditional rivals such as Samsung and Sony join forces in the TFT-LCD field, GM and Toyota in New United Motor Manufacturing Incorporation (NUMMI), Dow and BASF in Malaysia, Bell Atlantic / GTE and Vodafone AirTouch in Verizon Wireless, Hitachi, Toshiba and Matsushita in LCD panels. The trend towards collaboration is occurring in various industries. Under this background, it is essential for researchers to closely examine the underlying reasons for such a phenomenon.
4.1 Cooperation perspective
The theoretical review of the cooperative strategy was attempted by numerous studies conducted by scholars such as Bruce Kogut (1988), David Faulkner and Mark de Rond (2000), Refik Culpan (2002)…etc. In an effort to explain the principal theories of joint venture, Kogut (1988) reviewed the relevant approaches and categorized them into transaction costs, strategic motivations, and finally the organizational theory. In light of Kogut’s review, Culpan (2002) further added the game theory, resource-based view, and the network perspective into the existing review. Following suit, Faulkner and Rond (2000) framed the theoretical perspectives into the following: market power theory, transaction cost theory, agency theory, the resource-based view, resource dependence theory, game theory, real option theory and social network theory. Faulkner and Rond (2002) further point out that each of these perspectives “makes a singular contribution to our understanding of cooperative behavior, though a generally accepted and unifying theory is still largely absent” (Faulkner 2002, p. 70). Although the lack of a unifying theory is apparent, each of these perspectives is unique in explaining the cooperative behavior. Knudsen (1996) distinguished theories that focus on the external conditions of the firm from the internal conditions. By internal conditions of the firm, Knuden (1996) used the term ‘competence perspective’ which includes resource based theory, dynamic capabilities theory, and knowledge based theory.
Thus, the internal conditions focus primarily on explaining a firm’s above normal return and sustainable competitive advantages from a firm’s perspective. On the other hand, the external conditions of the firm, the traditional orthodox theories of the firm and industry within the ‘structure conduct performance’ (SCP) and Porter’s alternative theory emphasized “the firm’s market power, which is assumed to be identical with its ability to position itself in a market, erecting entry and mobility barriers” (Knudsen 1996, p.13). Regardless of the use of external or internal perspective, it is hard to ignore the contribution of economics to the theories of cooperative strategy. In many cases the theories of collaboration actually complemented some of the insufficiencies of the economic theories. The linkage between economics and strategic management is clearly visible in theories such as the strategic management theory, the transaction cost theory, the resource-based view, the game theory…etc. The purpose of this chapter is to trace the theoretical rationale for collaboration.
4.1.1 The resource-based view
The question of core competency is central to the discussion on outsourcing.
The basic idea is that firms should keep their core activities in-house and outsource the non-core activities. Mahoney and Pandian (1992) revealed that the
resource-based view actually intertwined with three major research programs:
distinctive competencies, organizational economics, and industrial organization.
Although the basic theory has existed for many years, the resource-based view did not surface on the academic discourse until the late 1980s when scholars such as Jay Barney started to argue that sustained competitive advantages derives from the resources and capabilities a firm controls that are valuable, rare, imperfectly imitable, and not substitutable. The resource-based view conceives the firm as a unique bundle of heterogeneous resource, capabilities, and competencies (Barney 1991). This view is a drastic departure from the traditional neoclassical economics where all firms were assumed to be homogenous. The deficiency within the neoclassical economics was concisely explained by Faulkner and Rond (2001) as follows: “The traditional neoclassical, microeconomic view of the behavior of companies in industries is of a company having a ‘business idea’, in a form of a product or service, which earns it an economic rent (supernormal profits) for a period of time. However, as it suggests, the inexorable forces of the market drive company profits down to the level which only allows one to earn a normal return on capital, and as new firms enter the market, put pressure on prices, and move the market towards equilibrium. At this point all companies in the market are supplying substantially the same product or service using similar factors of production, and there is little difference between the companies. Clearly in such circumstances, there is little need for management beyond the role of coordination and unique sustainable competitive advantage is rarely found” (Faulkner 2001, p.
76). Under neoclassical economics, price is the ultimate determinant of customer’s propensity to purchase any goods and all firms eventually compete against each other on price fiercely, which depleted the monopolistic rents. Based on this assumption, all firms are indifferent from each other and the role of management is insignificant.
The resource-based view disagrees with the indifference among firms. The question that is central to the resource-based view is the fact that some firms actually perform better than others even within the same industry, same country, same product…etc. Furthermore, what are the characteristics that enable a firm to grow and take advantage of its opportunities? The resource-based view “holds that a company can achieve and sustain a competitive advantage, realizing Ricardian rents, by configuring its tangible and intangible assents in a way that is difficult or indeed impossible to imitate perfectly, or by having resources, skills, or capabilities that are durable, and not appropriable, perfectly transferable, or replicable”
(Faulkner 2002, p.76). Rumelt (1984) further elaborated the fact that “in essence, the concept is that a firm’s competitive position is defined by a bundle of unique resources and relationships, and that the task of general management is to adjust and renew these resources and relationships as time, competitive, and change erode their value” (Rumelt 1984, p.557-8).
Rather than external conditions, the resource-based view examines the firm from its internal competence. According to Knudsen (1996) that “the question of how sustainable competitive advantages arise will be discussed primarily within the framework of a theory of endogenous growth (of the firm), whereas the question of how to secure sustainable competitive advantages must be resolved within an economic theory of competition at industry level” (Knudsen 1996, p. 15). The theory of endogenous growth of the firm can be traced back to Adam Smith’s The Wealth of Nations in 1776. Adam Smith recognized the fact that specialization yields
productivity advantages (Foss & Knudsen, 1996) that is the attainment of growth through productivity advantages. By specialization, Smith referred to the division of labor. Through the division of labor, firms can achieve better productivity, which can be converted into higher growth. Knudsen (1996) described that Smith believed that “ first, repeating a task most likely leads to improved performance, and as simpler tasks can be repeated more often than complex tasks, there is more to gain from dividing production into simple tasks. Second, due to few costs of switching from one job to another, division of labor will lead to a reduction in costs. Third, a worker focusing on a simple set of tasks may see some way of developing machines to handle these” (Knudsen 1996, p.15). Smith acknowledged the fact that economic agents start off on a homogenous basis; however, the decision to specialize differentiated them from each other. David Ricardo (1923) further illustrated that economic entities should each specialize in producing what they knew best. In light of the classical growth theory of the firm, Alfred Marshall (1920) adopted the
‘evolutionary perspective’, drawing on the comparison between biology and economics, he stressed that the struggle for existence and survival forced the organization to become more efficient. Marshall (1920) further added the concept of specialized knowledge of the firm through the subdivision of functions and the concept of integration through the increasing intimate connection between separate parts of the industrial organism.
To further Marshall’s argument, Edith Penrose (1959) concerned herself primarily with the internal growth of the firm, which is realized not through merger and acquisition. Although Penrose rejected Marshall’s biological analogies on the theory of the growth of the firm, Penrose admitted that the traditional view towards the behavior of the firm provided the foundation for her further analysis. She stressed on the ‘inherited resources’ of a firm in which a firm has the tendency to accumulate knowledge through time. A firm is not only an administrative unit, but it is also a collector a various kind of resources such as productive resource, human resource…etc. The role of management is crucial in utilizing the available resources for the continuous growth of a firm. Management will eventually develop ‘tacit knowledge’ from the experiences of handling a firm’s business activities routinely. It is important to codify or standardize all the business activities so that these codified knowledge can be transformed into a firm’s ‘inherited resource’ that can be pass on within a firm. Knudsen (1996) suggested that the difference between Penrose’s and Marshall’s theories in regards to the accumulation of knowledge is how they distinguish between internalization and articulation process. In terms of internalization process, “formal knowledge is transformed into informal and tacit knowledge”, whereas in the articulation process, “new knowledge is acquired by transforming tacit and unarticulated knowledge into formal and articulated knowledge” (Kundsen 1996, pp. 19).
To further the argument, George Richardson (1972) emphasized the network of cooperation within an industry. Classical economics suggested that inter-firm competition forced firms to grow and to expand into various business activities. However, Richardson believed that firms grow in the direction set by their capabilities instead of inter-firm competition. The expansion of business activities should be coincided with firms’ capabilities. Firms use their “inherited knowledge” to expand into areas of activity for which their particular capabilities lend them comparative advantage (Richardson 1972). Penrose focused primary on firms’ “inherited knowledge” for internal growth whereas Richardson illustrated
that firms use their capabilities to expand into various business activities. From a wider scope, the activities of firms within an industry are also complementary; that is, firms use their capabilities to achieve comparative advantage while complementing their capabilities within an industry through coordination.
Richardson recognized that the capitalist economy was based on the division of labor between the firm and the market; the coordination within the economy could be planned or spontaneous. Firms’ business activities within the industry are inter-connected which forms a network of cooperation. Firms have to utilize their capabilities within the network of cooperation.
The resource-based view recognized the fact that each firm possesses unique resources, skills, or capabilities that are durable, not appropriable, and perfectly transferable. But in order to achieve sustainable competitive advantage, firms have to trade their “imperfectly imitable and imperfectly mobile firm resources through a strategy of cooperation… an alliance can legitimately provide access to ‘the gold mine’ or to certain codifiable capabilities, specific assets, or systems, without necessitating an outright acquisition in which one firm is required to relinquish all proprietary skills and resources” (Faulkner 2000, pp.77).
In light of resources-based view, strategic outsourcing is treated as a tool or strategy that enables managers to concentrate on their core competency. The basic theme of strategic outsourcing is that managers should concentrate the firm’s own resources on a set of core competencies and strategically outsource other non-core activities including many traditionally considered integral to any company for which the firm has neither a critical strategic need nor special capabilities (Quinn &
Hilmer, 1994). Strategic outsourcing is an attempt to combine outsourcing with resources-based view, in which outsourcing is served as a supplementary role to accommodate the firm’s non-core activities. Furthermore, strategic outsourcing also provides an effort to identify core competencies as skill or knowledge sets, not products or functions, flexible, long term platforms that are capable of adaptation or evolution, limited in number, unique sources of leverage in the value chain, areas where the company can dominate, elements important to customers in the long run, and finally embedded in organization system (Quinn & Hilmer, 1994). However, through strategic outsourcing it is also possible that the firm might lose control over its technology and outsourcing service suppliers. It is might not always be in the best interest of the outsourcing service suppliers to cooperate with the service purchasers. Self-interest is the main motivation for competition; however, it is in conflict with outsourcing, a form of cooperation. As in any cooperative venture, each of the parties involved has his or her own priorities and agenda and what brings them together is self-interest in which they believe that cooperation brings them a possible optimal marginal return on their investment. Self-interest is like a double edged sword. On one hand, it fosters competition and on the other hand, it encourages cooperation. It is a constant trade off between the preservation of core competency and control of critical skill or technology. Through various cases, it is evident that poor control of strategic outsourcing could also lead to potential loss in firm’s control over its technology and skill (Quinn & Hilmer, 1994).
The resource-based perspective is strongly connected with flexibility and specialization of outsourcing. Outsourcing improves flexibility of firms in dealing with economic changes in the demand condition by reducing costs and by allocating resources more efficiently. From the resource-based view, firm related resources are limited and distinct. The success of the firm depends on its ability to utilize these
firm related resources. Outsourcing allows firms to be specialized in their core competency. The idea is to keep the core activity within the boundary of the firm and outsource the non-core activity. Through outsourcing, firms do not have to commit their resources in the non-core areas; consequently, firms could then channel their resources into the core activity. Outsourcing is an effective tool in the allocation of resources from the resource-based view.
4.1.2 Transaction cost and boundaries organization
Outsourcing can be defined as “processes involving activities traditionally carried out internally which are subsequently contracted out to external providers”
(Domberger, 1998: 12). The decision to conduct a certain activity within the organization or the boundary of the firm or through the market is one of the main questions that concerns outsourcing. Outsourcing reduces transaction costs for the outsourcing service purchased; on the other hand, it also creates a good chance for organizational learning from the outsourcing service supplier’s point of view. In the transaction cost theory, it is suggested that the main factor that determines the boundary of the firm is the cost of conducting a certainty activity within the organization relative to the market. However, the market is not free, there are various costs associated with transactions in the market. The key is to turn both sides into the firm’s advantage. Buckley and Michie (1996) stated that the ‘make or buy’ decision is essential to business planning. Transaction cost theory is concerned with organizing a transaction within the boundary of the firm or through market contracting as Coase (1937) revealed that “a firm will tend to expand until the costs of organizing an extra transaction within the firm become equal to the costs of carrying out the same transaction by means of an exchange on the open market or the costs of organizing in another firm” (Coase 1937, pp.46). The growth of the firm depends on the advantages that an entrepreneur gets from organizing transactions within the firm instead of through the open market or another firm. Faulkner (2002) further added that “transaction costs are those costs incurred in arranging, managing, and monitoring transactions across markets, such as the costs of negotiation, drawing up contracts, managing the necessary logistics, and monitoring accounts receivable” (Faulkner and Rond 2002, pp.73). The relationship between the market and the firm affects the direction in which a firm grows by absorbing markets (internalization) or by subcontracting out business (externalization) (Buckley and Michie 1996). The ‘make or buy’ decision also greatly affected the overall direction of the firm: horizontal integration (doing more of the same), vertical integration (moving a stage upward or downward in the manufacturing process), and conglomerate diversification (managing an unrelated business) (Buckley and Michie 1996). The primary reason for a firm to exist rests on its ability to organizing a transaction efficiently, and as described by Culpan (2002)
“the ultimate goal of the firm is to choose the most efficient form while opportunistic behaviors exist among parties and bounded rationality hinders decision makers”
(Culpan 2002, pp.18). In examining the transaction cost theory, it is essential to look at the theory of the firm.
Coase (1937) pointed out that the emphasis on the price mechanism in the traditional economic theory has been insufficient in explaining the co-ordination within the economic system. The traditional economist thinks of “the economic system as being coordinated by the price mechanism and society becomes not an
organization but an organism. The economic system ‘works itself’ (Coase 1937). In reality, economic coordination of various factors of production does not carried out with the intervention of price mechanism. Coase (1937) suggested that the factors of production are organized through entrepreneurs instead of through price mechanisms. Instead of an open market, an entrepreneur was able to direct resources and save costs through forming an organization. The growth of the firm was made possible by allowing advantages to the entrepreneur who organized within the firm instead of the open market. The size of the firm is limited by the managerial ability of the entrepreneur, such that “a point must be reached where the costs of organizing an extra transaction within the firm are equal t the costs involved in carrying out the transaction in the open market, or, to the costs of organizing by another entrepreneur” (Coase 1937, pp.46). The waste of resources will tend to occur within the organization and the losses will be equal to the marketing costs of the exchange transaction in the open market. In short, the efficiency will tend to decrease when organization gets larger.
Williamson (1985) pointed out that the purpose of the organization is to economize transactional costs. In order to economize transactional costs, the firm has to weigh the benefits and problems of executing transactions externally through markets or internally through hierarchies. Buckley and Michie (1996) stated that the ‘make or buy’ decision is essential to business planning. Transaction cost theory is concerned with organizing a transaction within the boundary of the firm or through market contracting. The growth of the firm depends on the advantages that an entrepreneur gets from organizing transactions within the firm instead of through the open market or another firm. The relationship between the market and the firm affects the direction in which a firm grows by absorbing markets (internalization) or by subcontracting out business (externalization) (Buckley ＆ Michie 1996). The ‘make or buy’ decision also greatly affected the overall direction of the firm: horizontal integration (doing more of the same), vertical integration (moving a stage upward or downward in the manufacturing process), and conglomerate diversification (managing an unrelated business) (Buckley & Michie 1996).
Outsourcing has shifted the boundary of the organization from firm to the market. It is suggested that one of the risks of outsourcing is the possible loss of skill within the organization. It is believed that organization has the ability to learn and accumulate knowledge. However, through outsourcing, it is possible that the organization might lose the ability to learn and accumulate knowledge. However, the critical issue is not the loss of skills but whether the necessary skills can be recovered or acquired on reasonably competitive terms when it is required (Domberger, 1998). Organizational learning emphasizes on the ability of organization to acquire, disseminate, and retain new knowledge so as to improve further performance (Child and Faulkner 1998). Vera and Crossan (2003) defined organizational learning as the “process of change in individual and shared thought and action, which is affected by and embedded in the institutions of the organization. When individual and group learning becomes institutionalized, organizational learning occurs and knowledge is embedded in non-human repositories such as routines, systems, structures, culture, and strategy” (Vera &
Crossan 2003, pp. 123). Organizational learning can be treated as the creation of systems and procedures robust enough to endure the turnover of individuals. The organization has been treated as a machine for information processing and this
view has been deeply rooted in Frederick Talyor’s tradition for standardization and codification (Nonaka and Takeuchi 1995). The reason behind this perception of organization can be traced back to the view of knowledge as something explicit, which is formal and systemic. Explicit knowledge, as defined by Nonaka and Takeuchi (1995), is something that can be described in words or number, easily communicate and shared in the form of hard data or scientific formula. The treatment of knowledge is a distinctive part of the organizational learning theory.
Michael Polanyi (1966) in his pursuit to explain tacit knowledge he posed the question of why “we can know more than we can tell” (Polanyi 1966, pp.4). Tacit knowledge is something not easily visible and expressible. As Nonaka and Takeuchi (1995) explained, “ tacit knowledge is highly personal and hard to formalize, making it difficult to communicate or to share with others…(and) is deeply rooted in an individual’s action and experience, as well as in the details, values, or emotions he or she embraces” (Nonaka and Takeuchi 1995, pp.8). Through the application of tacit knowledge to the organization, it suggests a different view of the organization, that the organization should not be treated as a machine, but rather, as a living organ. From an organizational perspective, Kogut and Zander (1992) further rephrased Polanyi’s question: “organizations know more than what their contracts can say. The analysis of what organizations are should be grounded in the understanding of what they know how to do” (Kogut and Zander 1992, pp.383).
The linkage between the creation of knowledge and the growth of the organization through learning is the central focus of the organizational learning theory, in which the treatment of knowledge, growth of the organization and learning within the organization are the key features of this framework. Through the survey of the Social Science Citation Index (SSCI), Easterby-Smith and Lyles (2003) revealed that there was very little activity on the subject of organizational learning before the 1990s. Vera and Crossan (2003) further asserted that although the early concepts within this framework can be traced back to 1960s, it was not widely discussed until Senge (1990) popularized the concept of the “learning organization” and Nonaka and Takeuchi (1995) with their idea of a “knowledge creating company”. Based on the above testimony, this study shall review the literature on organizational learning from two parts namely the pre-1990s and post 1990s. In the pre-1990,
In the treatment of knowledge, Polanyi (1966) has been well acknowledged for distinguishing explicit knowledge from tacit knowledge in which, that individuals appear to know more than they can explain. The term tacit knowledge has been widely accepted but not tightly defined as suggested by Kogut and Zander (1992). Easterby-Smith (2003) attempted to clarify that “one version of tacit knowledge is that it is conscious, but not articulated; another version is that it is unconscious and hence unarticulable, as Tsoukas discusses” (Easterby-Smith 2003, pp.8). Culpan (2002) explained that explicit knowledge is formal and systematic which can be easily communicated and shared in product specifications, in a science formula, or in a computer program; however, the tacit knowledge is deeply rooted in action and in an individual’s commitment to a specific context such as craftsmanship, professional mental models, beliefs, and know-how without written guidelines and procedures. According to Barney (1991), it is important to identify tacit knowledge from explicit knowledge because tacit knowledge is inimitable, which is the essence of competitive advantage. Tacit knowledge is a type of unexpressed knowledge and experiences within an organization in which this type
of knowledge cannot be easily imitated or replicated by competitors. Tacit knowledge is a type of knowledge that is specific within the organization and it is also acquire through time.
Cyert and March (1963) suggested that an organization is more than a problem solving and decision making institution; an organization should be treated as an adaptively rational institution. In order to adapt to its environment, a firm learns from its experience. Cyert and March (1963) was the first to define organization learning as a part of the decision making process in which they suggested that “organizations go through the same process of learning as do individual human beings seems unnecessarily naïve, but organizations exhibit (as do other social institutions) adaptive behavior over time” (Cyert & March 1963, pp.123). An organization adopts and adapts a set of rules, procedures, guidelines, and routines in response to external shocks. Cyert and March (1963) asserted that an organization is not a static data processing unit instead it is a learning entity.
Individual human being acquires knowledge through learning and the organization achieves growth through learning. The main objective of learning and knowledge acquisition is to realize growth internally within the organization.
Edith Penrose (1959) emphasized the internal growth of the firm through knowledge creation. Focusing on the role of the administrative group, Penrose (1959) claimed that the administrative personnel within the firm becomes very familiar with the day-to-day problems and tasks of the firm and in time the ability to handle these activities becomes very routine. Penrose (1959) points out that “the administrative group is more than a collection of individuals; it is a collection of individuals who have had the experience in working together, for only in this way can teamwork be developed” (Penrose 1959, pp.46). As the personnel gradually become more familiar with their tasks, the ability to execute these daily activities of the firm becomes a part of the tacit knowledge of the firm. The success of the firm depends on the experiences shared within this administrative team and the ability to work together effectively, which form a type of tacit knowledge that is specific to the firm.
Based on their investigation on the SSCI, Easterby-Smith and Lyles (2003) revealed that the idea of the learning organization is a recent phenomenon.
Although the concept and the term re-emerged in the late 1980 through British authors, Serge’s (1990) was the foundational work, which gained a wide acceptance among business practitioners. Serge (1994) emphasized the idea of “learning cycle”
as the essence of a learning organization. Serge (1994) explained the “learning cycle” as the way when “term members develop new skills and capabilities which alter what they can do and understand. As new capabilities develop, so too do new awareness and sensibilities. Over time, as people start to see and experience the world differently, new beliefs and assumptions begin to form, which enables further development of skills and capabilities” (Serge 1994, pp.18). The idea of the “learning cycle” is not just about the development of new capabilities, it is about the fundamental shift of mind, individually and collectively. At the starting of the organizational learning theory, the focus was on the fact that organization can learn both explicitly and tacitly and learning is the growth engine within the organization.
Serge (1994) stressed that maintaining the “learning cycle” is the way for the organization to sustaining its growth.
Nonaka and Takeuchi (1995) further stressed the ability of the firm to create knowledge. Using the examples from Japanese firms, Nonaka and Takeuchi