Operating Model Performance is Defined by its Design

David Trafford argues that the performance of an enterprise is dependent upon its operating model, and that the performance of the operating model is defined by its design. As operating models are multi-faceted the design choices include how work is done and where, the technology required to support core business processes, and how people are organised and managed. David also believes that today’s operating models need to be agile and based on operating principles explicitly defined by top management.

Twenty-five years ago MIT’s Sloan School of Management undertook a research project that fundamentally changed our thinking about improving organisational performance. It was a five-year, multimillion-dollar research programme called Management in the Nineties, and its aim was to better understand the role and impact of information technology on the formulation of business strategy and structure in an enterprise. The research produced some ground-breaking insights and prepared the way for what became known as business reengineering. Publications from this period include Thomas Davenport and James Short’s seminal Sloan paper entitled The New Industrial Engineering: Information Technology and Business Process Redesign published in 1990, and Michael Hammer and Jim Champy’s best-selling book Reengineering the Corporation: A Manifesto for Business Revolution published in 1993.

The legacy of this early work is that we now have a better understanding of the important role that process has on organisational performance, and the need to develop IT strategies that support end-to-end business processes as opposed to business functions. It was a time of revolutionary thinking about enterprise design and the powerful role that information technology could play.

What followed was a period when virtually every organisation reengineered all or part of its operations. Whether it was in product development, supply chain or customer services, processes were mapped, analysed and redesigned. Unfortunately, as often happens with new powerful ideas, the movement got hijacked by those who saw it as a way of giving credibility to their own ideas and initiatives. As a result, a good proportion of change initiatives did not apply true reengineering principles and therefore failed to deliver expected benefits. Furthermore, reengineering was often criticised for its lack of humanity and its focus on process over people. Unfortunately these critics failed to understand the true nature of business reengineering and confused process reengineering with business reengineering.

Inevitably the popularity of business reengineering declined, but many of the insights, principles and practices are as equally valid today as they were 20 years ago. One of the most powerful insights to emerge from this period was the notion of an operating model: an abstraction of the enterprise (or a part of the enterprise) that enables you to describe how it operates in a way that is understandable to others. In essence an operating model makes the implicit, explicit.

Unfortunately, the term operating model is still not well understood and much confusion remains about what an operating model should describe and to what level of detail. For some it’s a term used to describe structure or operational footprint, and for others core business processes. Some executives feel that the term is so overused (or misused) that it has lost all meaning and they have banned its use. This is unfortunate as decisions on operating model strategy are as important as decisions on marketplace strategy.

Operating models are one domain of an enterprise business model

An operating model does not describe all aspects of an enterprise; it simply describes how the enterprise operates. There are numerous frameworks for describing an enterprise, each with their own merits. The one I find most helpful is to think about an enterprise having a small number of domains, where choices in these domains ultimately determine success. In my preferred framework there are three domains, all of equal importance.

Value proposition: This essentially defines the basis of competition, for example if you are in the hotel business your proposition could be aimed at the lower-cost budget sector or guests looking for five-star luxury with full concierge service. The choices relating to an enterprise’s value proposition are the traditional domain of marketplace strategy as they define WHAT the business does, both in terms of products and services, and target customers.

Operating model: If the value proposition defines the WHAT, the operating model defines the HOW. An organisation’s operating model embodies decisions about how work gets done and where. Operating models are multifaceted (see below) as they comprise processes, structure, technology, suppliers, people and governance. Their performance (and cost) ultimately depends upon how the different facets work together.

It’s important to remember that the operating model is not restricted to customer-related activity and includes those processes that address how staff are hired, trained, nurtured and rewarded.

Operating state: This domain focuses on the people dimension, not with respect to roles, jobs, skills and structure – which is defined in the operating model – but how people feel about their work, their identity with the mission of the enterprise, their relationship with management and colleagues, and how they see their future. The operating state is ultimately reflected in the level of employee engagement and prevailing mindset.

This three-domain model is recursive in that it can be applied in any part of an organisation, and not just at the enterprise level. For example all HR functions have a value proposition, operating model and operating state, as do IT, finance and procurement functions.

Operating models are multifaceted

The purpose of an operating model is to explicitly define HOW products and services are designed, developed, produced and delivered. There are many facets to an operating model, each describing one or more of the operational elements that collectively work together to achieve business outcomes.

While there are many frameworks available to describe an operating model – each claiming their own merits – they all essentially cover:

Operational processes: Most enterprises have a relatively small number of core processes – typically 8 to 12 – that are critical to delivering their products and services. For example, in the automotive industry product development is a core operational process.

Management processes: Sometimes called enabling processes, these ensure that the enterprise is performing as expected. Most HR and Finance processes are classed as management processes.

Governance: Essentially defines who has what decision rights and the resultant accountabilities.

Structure: Describes how resources are organised, including to what extent they are shared across different business units and geographies.

Roles, skills and jobs: Describes the skills (or competencies) required for each role and how roles are combined into jobs.

Technology: The tools used to support the core operational and management processes. This would include information, manufacturing and research technologies.

Sourcing: As organisations increasingly become more virtual, sourcing decisions are a critical aspect of operating model strategy.

Alignment is key to performance

Alignment across all three domains – and across the different facets of the operating model – is key to performance. For example, if a bank’s value proposition is to provide basic current and savings accounts for low net-worth customers, then its operating model and operating state need to reflect this strategic choice. As a consequence all aspects of its operating model need to be lean with low management overheads and a high degree of self-service. Furthermore, people in the organisation need to have a mindset – and resulting behaviour – that relates to the chosen customer base and not one best suited to serving high net-worth customers in the private banking sector.

Unfortunately, when organisations embark on an improvement initiative they tend to focus only on one domain, for example operating state (typically under a cultural or mindset change initiative) without due consideration to the other two domains. The reality is that changing one domain in isolation is unlikely to result in sustained change.

Equally, changing one facet of the operating model in isolation can have unintended consequences. The classic example is when a new technology platform is introduced without fully understanding the implications on business processes, organisation and skills. Also, in a drive to reduce cost, many organisations have either outsourced operations and/or moved them offshore without fully understanding the impact on other facets of the operating model. For example when operations are outsourced new governance processes and capabilities need to be established in order to effectively manage the outsourcing partner and ensure the expected benefits are delivered.

The importance of values

An enterprise is defined by the choices made in the three domains discussed above: the criteria that drive these choices are ultimately the quest for performance, to beat the competition and dominate a chosen market. But as markets change value propositions need to evolve, operating models need to be redesigned, and operating states need to change. Throughout this ongoing change the one constant, it could be argued, are the values of the organisation. The values of an organisation can be implicit, in that they have evolved over time, or explicit in that they have been defined by leadership. The benefit of making an organisation’s values explicit is that they provide guidance when difficult choices need to be made within the three domains discussed above.

In the remainder of this article I will focus on the importance of making explicit choices on the design of operating models. I will address the importance of value proposition and operating state in future articles.

Operating models can – and should – be designed

Organisations are artefacts, in that they are created by men and women to serve a purpose. Choices are made on how work will be done and where, the technology required to support the processes and how people will be managed. Some of these choices will be strategic (see my colleague Peter Boggis’s article Strategy – The World of Choices and their Implications) as they are difficult, if not impossible, to reverse or undo. Other choices can be changed later, albeit at a cost. All these choices are in effect design decisions aimed at achieving target outcomes. But how often are the target outcomes explicitly defined and a clear line of sight established between design decisions and target outcomes? In my experience rarely, as the focus tends to be on justifying an initiative based upon its business case alone, with little or no alignment to the target strategic outcomes of the enterprise.

If we accept that operating models can be explicitly designed to achieve target outcomes, it’s important to base the resulting decisions on proven operating principles – see below.

Operating principles versus practices

All practices are based upon principles, and it’s the application of an operating principle in a specific context (ie within a specific organisation) that establishes the operational practices.

If the context is different in two organisations, then the application of the same operating principle in both organisations could lead to different operating practices. It is for this reason that it is always dangerous to advocate best operating practices over best operating principles.

Operating principles are conscious choices made by leaders to define how they would like their organisation to operate, and for each principle there is an equally valid alternative choice.

Examples of operating principles include:

  • Business functions are shared across the enterprise, as opposed to being dedicated to individual business divisions.
  • Business processes are adapted to the IT platform, as opposed to the IT platform tailored to support existing processes.
  • Organisational design is based upon process design, as opposed to functional disciplines.

The value of making operating principles explicit is that they are visible for everyone to see and operate by. In the absence of explicitly defined principles default ones, often based upon self-interest and misperception, become established.

Today’s operating models also need to be agile

For most organisations, change is the norm: whether it is the result of an acquisition, replacing legacy IT systems, outsourcing to an offshore provider or delivering day-to-day business improvements, an organisation’s operating model is continually undergoing change. Today’s operating models therefore need to be able to respond to change; in short they need to be agile. Unfortunately, as one COO put it: “Agility isn’t designed or thought about by leaders until it’s too late to influence or create.”

But agility is a relative term; organisations can become more agile or less agile depending upon their circumstances and how they are managed and led.

In a past Formicio article entitled Building Organisational Agility I argued that agility can be created or destroyed by the choices and actions that leaders take. I also discussed the common barriers to becoming more agile and identified a number of enablers. A good place to start is for leaders to articulate a set of agile operating model principles that guide all change initiatives.

A collaborative approach to operating model design

Traditional approaches to designing operating models often result in numerous PowerPoint slides, Word documents and Excel spreadsheets that collectively attempt to define the different facets, eg processes, roles, governance, structure, metrics. While these often bring clarity to the people who created them, they rarely become part of the organisational fabric and quickly become out of date.

Furthermore, this documentation is typically created through a series of workshops involving representatives from different parts of the organisation. Often those who are expected to bring the newly defined operating model to life don’t get exposure to the work until relatively late and, as they have not been involved in the creation process, it’s not surprising that they are slow to understand and embrace the new model.

My colleague Vaughan Merlyn believes there is an alternative approach that uses the capabilities emerging from Web 2.0 technologies, specifically a new type of collaboration tool called the Semantic Wiki. Using such an approach enables broader and deeper participation by staff at all levels, and leaves behind a ‘living, breathing’ definition of the operating model that is captured as a set of editable and easily accessible wiki pages. These pages are developed collaboratively, so the act of development and deployment essentially becomes concurrent. Furthermore, the Semantic Wiki has the ability to accommodate the complexities and fluidity inherent in contemporary operating models, thereby enabling collaborative continuous improvement. Vaughan describes the approach in a recent Formicio article Creating Organisational Clarity using a Semantic Wiki.

Operating model strategy is often the poor relation of marketplace strategy

It could be argued that the design of enterprise operating models is more an engineering discipline than a management discipline. If this is the case, how many managers have the skills necessary to design and build operating models that are both high performing and agile? Furthermore, how much executive airtime is given to discussing operating model strategy as opposed to product and market strategy? Unfortunately operating models only get serious attention when the enterprise needs to drastically reduce cost or invest in the replacement of core legacy IT platforms.

The performance of an enterprise is dependent upon its operating model, and the performance of the operating model is defined by its design.

I welcome your thoughts.

David Trafford

Formicio Insight Article: Operating Model Performance is Defined by its Design

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