Centralization and decentralization refer to the extent to which decision-making power is devolved in a business.
Business organizations where only a little of power is delegated tend to be centralized. Chief Executive Officer (CEO) and Directors at the top of the organizational structure make all the decisions.
Business organizations where a lot of power is delegated to the lower-level employees are thought to be decentralized. This authority for decision-making is delegated to lower-level managers. Responsibilities for duties, power and authority are distributed to lower levels of the business
One of the most important arrangements that a business needs to make – regarding managing and controlling business operations – is to who makes decisions. This decision involves making a choice between being a centralized organization or a decentralized organization.
Decentralization – Decentralized organizational structure
Decentralization is ‘the spread of power away from the center to local branches or offices.
Passing decision making powers to managers in other areas. Simply, authority and responsibility are shared with others.
Decentralized organization is one where decision-making power is delegated to all levels of the hierarchy. While key decision-making is still concentrated in the hands of Board of Directors, some authority and responsibility are passed onto others in the organisation at lower levels in the hierarchy.
In a decentralized structure, majority of important business decisions are done by everybody as decision-making powers are passed down the organization to empower subordinates. The authority to make business decisions is given to managers and workers in different departments, regional offices or production facilities operating in different locations. They will feel empowered to make decision on behalf of the overall organization. Regional managers and product managers are closer to action – more aware of local factors as being closer to the consumers themselves.
Example 1: National hotel chains such as Hilton or Hyatt often use a decentralized structure. Although the company directors are based in the Head Office, each of their hotels around the country, or even in other countries, have local managers and staff who make decisions about what is the best to run their hotels in different places.
Example 2: Meeting needs is central to a company's success at Go-Ahead. Go-Ahead has a decentralized approach, so managers can better meet local needs. Transport needs vary from place to place. This gives it a competitive edge over its rivals. Go-Ahead's unique approach within the transport sector offers its operating companies the freedom to develop and run their businesses. Local people make local decisions in running local services.
Example 3: Clothing retailers with operations in several countries often allow local managers to decide on the exact range of clothing to be sold in each country – it could be disastrous for a business to try to sell European winter clothes in Singapore, for example.
Different types of decentralization:
- Functional decentralization. It is when decision-making authority is delegated to specialist departments including Human Resources (HR), Marketing, Finance and Production (Operations). Business departments might be empowered to make decisions on behalf of the overall organization. However, the key strategic decisions are still concentrated in the hands of Chief Executive Officer (CEO) and Board of Directors.
- Federal decentralization. It is when authority is divided between the different product lines of the business, e.g. manufacturing of cars, trucks and buses. Each of the different divisions or product teams will decide how and when it will produce a certain type of product.
- Regional decentralization. It is when the business such as the multinational has bases in many different continents, countries and regions. Each of them has authority over its own operations. Multinational businesses typically allow regional and cultural differences to be reflected in the products and services they provide.
- Decentralization by project teams. It is when a particular project is given to a team involving people from all functional areas.
Advantages of decentralization include:
- Decisions are made based on local needs. The business will benefit from the localized expertise of its employees, especially middle managers. Local managers who make the decisions that reflect different conditions as they will have local knowledge being in close contact with consumers. Input from the workforce will help with planning while execution will be efficient thanks to delegated authority and responsibility.
- Faster decision-making. Decentralization reduces controls and communication, making the firm less bureaucratic. Decisions can be made faster and more flexible in response to changes in local market conditions. Head office with Board of Directors will not have to be involved every time nor given all the information before making a decision. This gives top-management time to focus on critical issues by delegating more routine issues to lower-level managers.
- Improved morale. When decision making is delegated down the organization hierarchy, empowering workers will have positive effects on their motivation. Empowered employees are more likely to feel valued and motivated as they have own input into decision-making. They can use their initiative and feel a sense of ownership for their work; hence productivity also improves.
- Improved accountability. Workers are held directly accountable for their actions and contributions. They must work collaboratively across various teams and business departments. Teamworking can foster harmonious relationships and generate innovative ideas which will lead to improvements in the quality of their work. In this way, more junior managers can develop and this prepares them for future challenging roles.
Disadvantages of decentralization include:
- Costly. Delegation and empowerment often require greater financial incentives including better pay for middle managers or hiring more managers. With decentralized decision-making power, there is also a greater need for efficient communication which requires additional resources such as which can add to overall production costs.
- Inefficiencies. It might be not efficient when important decisions are not taken at the center of the business without head office involvement, but are delegated to a lower level of management. For instance, duplicate functions can be carried out, there is no overview of what everyone else is doing, it becomes more difficult to track where mistakes were made or where things went wrong, etc.
- Greater chances of mistakes. Decentralizing authority and responsibility will not work without sufficiently competent workers. With many more decision makers, many more decisions may result in being incorrect. These poor decisions might be made because lower-level managers lack skills and experience. Additionally, some decisions taken might not be in the interest of the whole business, but personal gains.
- Loss of control. Authority will be diluted as a result of decentralization. Thus, business directors will have less direct control over the operations of the business. Any serious communication issues may lead to inconsistency decision-making and loss of control by the top levels.
Decentralization and delegation
Delegation involves passing decision-making authority and responsibility to individuals in an organization to make decisions rather than everyone having to be told what to do by top managers in a hierarchical way.
With decentralization there is maximum delegation to lower-level managers in other areas, departments and divisions of the business. Different sections of the business follow different procedures ‘staying big but acting small’.
Decision-making powers for all important decisions are made at all level of the organization. Control over all operations will be taken away from Head Office and distributed throughout the organization.
Is complete decentralization a good idea?
Though decentralization is a good idea, complete decentralization cannot work.
There are some major decisions especially policy decision that effect the company as a whole where could be taken at the highest level. While self-contained teams are responsible for a specific part of the business or for a particular project, they need to work towards achieving targets set by the central management.
Occasionally, central management will make important business decisions on behalf of all different specialist departments such as Research and Development (R&D), Finance, Personnel, Public Relations (PR), etc.
In summary, decision-making power in a business organization can be either centralized at the top in the hands of a few people, or shared out among the workforce at lower level in the organizational structure. The extent to which authority is concentrated or diluted within the firm depends on several size of the organization, scale of importance of the decision, level of risk, corporate culture, management attitudes and competencies and use of Information Communication Technologies (ICT).
