Memo
To: Rajiv Krishnan Kozhikode
From: Team 1 Peter Fugiel, Helen Lin, and Andy Lai
Date: July 5, 2013
Re. Structural Inertia and Organizational Change
__________________________________________________________________________
Introduction
In the article, “Structural Inertia and Organizational Change”, Michael T. Hannan and John
Freeman (1984) argue that structural inertia can be used to explain how organizations evolve.
Their proposed theory “treats high level of structural inertia as a consequence of a selection
process rather than a precondition” (Hannan and Freeman, 1984, p 149). Each organization is
subject to inertial forces and the strength of these forces varies with age, size, and complexity. In
this memo, we will first examine the key assumptions of the article. Then, we shall identify and
evaluate two current organizational phenomena, and identify areas in which the arguments can
be improved. Last, we will offer a model to show our view on how organizations evolve.
How do organizations evolve?
When organizations face new environmental fluctuations, they must either adapt to new
environments or be selected. Organizations do not change in a perfect alignment with managerial
motives nor with the environment (Hannan and Freeman, 1984, p 151). Also, Hannan and
Freeman suggest that organizations must change at the same rate as the environment to adapt
successfully. This rarely happens because all organizations are subject to inertial forces. Thus,
Hannan and Freeman argue that selection is more applicable in explaining how organizations
evolve.
Key Assumptions and Theorems
Organizations must demonstrate reliability and accountability for them to survive the selection
process. It is required that an organization “continually reproduce its structure” (Hannan and
Freeman, 1984, p 154) for it to be reliable and accountable. This reproducibility generates
structural inertia. The higher the reproducibility of an organizational structure, the more inertial
pressures the organization generates. For these reasons, Hannan and Freeman propose that
“selection favours organization[s] that [have] high inertia[l] forces” (Hannan and Freeman, 1984,
p 155).
Accordingly, because the reproducibility of an organization’s structure increases with age, death
rate decreases with age (Hannan and Freeman, 1984, p 157). Also, organizational death rate has
a negative correlation with structural inertia, and inertia increases with size. So, an organization’s
death rate decreases with size (Hannan and Freeman, 1984, p 159). Finally, as organizations
attempt to reorganize, their reliability decreases. The longer the reorganization attempt is, the
higher the death rate. Organizational complexity increases the time required to reorganize. Thus,
complexity increases the death rate due to reorganization.
Real Life Examples
There is a connection between the structural inertia theory and the idea of “consumer inertia”
(Fishmana, 2003, p 25). His theorem supports that organizations that are larger, older, and well
established are better equipped to withstand “idiosyncratic shocks”(Fishmana, 2003, p 25). The
probability that firms exit markets due to these shocks is reduced as they achieve their “critical
size” (Hannan and Freeman, 1984, p 158). The difference in Fishmana’s theory is that he takes a
cost-centric view of firms. Therefore, firms with high inertia can manage the costs of
environmental shocks due to a large amount of resources and an active R&D department that
smaller firms might not have. Also, his theory builds on more than just the selection process of
organizations with high inertial structures. Organizations that are older and larger will likely
have a loyal customer base with consumer inertia: a dedicated set of repeat customers that face
large “search costs” (Fishmana, 2003, p 25) to seek substitutions. Further, Tony Bradley adds
that established companies has the benefit of “ecosystem inertia”(Bradley, 2013). An example is
Microsoft’s dominance of PC operating systems: Windows. Bradley states that “ [t]he world is
so heavily invested in the Windows ecosystem that jumping ship to another platform is a massive
undertaking”(Bradley, 2013). This is a fascinating extension of Hannan and Freeman’s theorem.
It both supports the structural inertia view and emphasizes how powerful it is. While Hannan and
Freeman discuss how companies evolve and adapt amongst populations of their peers, evidences
suggest that companies that face strong inertial forces do more than just surviving and evolving.
Such companies can build consumer ecosystems that are also resistant to ongoing changes from
both a business and consumer standpoint. Microsoft is an ideal example that supports Hannan
and Freeman’s theory. It shows that facing high inertial forces will help companies to stay
successful in the long run.
A case that contradicts the theory is Blockbuster. Theorem 1, which states that “selection ...
favors organizations whose structures have high inertia” (Hannan and Freeman, 1984, p 155), is
challenged. We argue that Blockbuster failed because of its inherent structural inertia. In 1998,
Netflix begun to develop online rental services. Two years later, Blockbuster forfeited to buy
Netflix for $50 million. In 2000s, Blockbuster was a key player in its industry, but it took them
six years after Netflix was established to consider providing online-rental service. In 2010, they
declared bankruptcy and Netflix became the dominant force. James Taylor claims that if
Blockbuster had considered relevant internal and external factors, it is likely that they would
have maintained dominance (Taylor, 2013). He also believes that the cause of Blockbuster’s
downfall was that the CEO failed to anticipate the technological changes and to position the
company to adapt (Taylor, 2013). Hannan and Freeman, however, have a different view of
technical innovation in a population of organizations. They believe that management stands in a
“superordinate position” (Hannan and Freeman, 1984, p 156) and controls the available
technology across a broader organizational apparatus. They also emphasize the importance of
institutional characteristics as being more important than technical ones (Hannan and Freeman,
1984, p 156). However, due to structural inertia, Blockbuster chose to hold on to outdated
business core values, and failed to incorporate technological innovations, which was readily
available and cost effective, and lost its grasp on the market. This example shows that structural
inertia can hinder an organization.
Improvement to Hannan and Freeman’s Theorems
We can see that although Hannan and Freeman’s model can be applicable most of the time, there
are exceptions. Because of that, we try to identify a potential reason for these exceptions. Hannan
and Freeman claim that high inertia is not a reason for organizations to pass the selection
process, namely, having a lower death rate; rather, organizations which pass the selection process
all happen to share this property (Hannan and Freeman, 1984, p 149). It is inconsistent when
they claim that organizations’ death rates decrease when their size increase because more inertia
is generated as organizations’ size increase (Hannan and Freeman, 1984, p 159). In this claim, it
seems that they are using inertia as a reason, which it is not, for organizations to have a lower
death rate.
Statistically speaking, high inertia and death rate may have a high negative correlation; however,
if the logical relation behind this correlation is incorrect, we cannot use this correlation as an
indicator of any sort. So, we believe that Hannan and Freeman’s theory can be improved upon by
more clearly explaining how inertia force may and may not be a reason for organizations to be
selected in different cases, perhaps, different timing, places, constrains, etc.
Conclusion
After a thorough analysis, we offer a new theory that builds on both selection and adaptation
principles. It emphasizes on Hannan and Freeman’s “critical size” (Hannan & Freeman, 1984, P
158). We postulate that small organizations must keep structural inertia to a minimum and be
willing to adapt to market conditions as they grow. As organizations reach a critical size, it will
be subject to structural inertia. Structural inertia of large organizations can be powerful while
being a positive or negative force. As shown, structural inertia can lead to a swift downfall of a
company. Simultaneously, we acknowledge the powerful potential of structural inertia and its
ability to influence not only a company, but also an entire population of organizations. It is at the
critical size of a company that we support Hannan and Freeman’s theory of the positive benefits
of strong structural inertia. However, we believe that structural inertia encompasses a greater
scope than just the company in question. We propose that structural inertia extends to
organization’s customer base, consumer inertia, and the market itself, eco-system inertia. A
company that reaches its critical size not only has the power to withstand market shocks but to
control them. That is, an organization can control the selection process. Therefore, we believe
that organizations evolve based on adaptation principles to a certain extent. After the critical
point, such companies are selected to be market leaders.
References
Bradley, Toney. (2013). Why Windows 8 is such a Crucial Step for Microsoft. Retrieved from
http://www.forbes.com/sites/tonybradley/2013/05/15/why-windows-8-is-such-a-crucialstep-for-microsoft/
Fishmana, Arthur. (2003). Consumer inertia, firm growth and industry dynamics. Journal of
Economic Theory.109 (1): 24-38.
Hannan, M.T., Freeman, J., (1984). Structural inertia and organizational change. American
Sociological.Review.49, 149-164
Siegler, MG. (2011). Snoozing and Losing: A Blockbuster. Failure. Retrieved from
http://techcrunch.com/2011/04/06/make-it-a-blockbuster-night/
Taylor, James. (2013). Blockbuster: How Blind Spots led to Failures. Retrieved from
http://prezi.com/vb7msogfankm/blockbuster-how-blindspots-led-to-failure/