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MID-AMERICAN Fall 2005
Volume 20, Number 2

JOURNAL OF BUSINESS
EDITORIAL

3 Managing Our Way to Academic Decline

Ashok Gupta

DEAN’S FORUM

5 Business Colleges Should Practice What They Preach

Daniel Vetter

EXECUTIVE VIEWPOINT

7 Corporate Culture Defines a Company and Its Future

Richard T. Farmer

ARTICLES

11 An Analysis of Working Capital Management Results Across Industries

Greg Filbeck and Thomas M. Krueger

21 IBBEA Implementation and the Relative Profitability of Small Banks

Srinivas Nippani and Kenneth M. Washer

25 Modeling Internet Operations Using Initial Public Offerings

Sameer Prasad, David C. Porter, and Linda Yu

35
The Communication Effectiveness of System Models Using the UML versus
Structured Techniques: A Field Experiment
Bruce C. Hungerford and Michael A. Eierman

45 Building a Market-Oriented Organizational Environment: An Implementation

Framework for Small Organizations
Beth Ann Martin and James H. Martin

59 Implementing Planned Change: An Empirical Comparison of Theoretical

Perspectives
Matthew W. Ford and Bertie M. Greer

BOOK REVIEW

70 Final Accounting
Bill Cummings
www.bsu.edu/majb

EDITORIAL
3 Managing Our Way to Academic Decline
Rigor and relevancy need not be mutually exclusive.
We can create a rigorous and relevant business cur-
riculum, and at the same time conduct practical,
relevant business research in a scrupulous and
scientific manner.
Ashok Gupta
DEAN'S FORUM
5 Business Colleges Should Practice What They Preach
There are some best business practices that we can
follow or improve.
Daniel Vetter
EXECUTIVE VIEWPOINT
7 Corporate Culture Defines a Company and Its Future
Corporate culture is what separates the business
winners from the business losers. Quite simply, our
culture is our No. 1 competitive advantage.
Richard T. Farmer
ARTICLES
11 An Analysis of Working Capital Management Results
Across Industries
Using CFO magazine’s annual Working Capital
Management Survey this article attempts to
answer two questions: (1) Are firms in one industry
as opposed to another quickly able to transfer
sales into cash? and (2) Does working capital
management performance for firms within a given
industry change from year-to year?
Greg Filbeck and Thomas M. Krueger
IBBEA Implementation and the Relative Profitability
21 of Small Banks
This article examines the impact of Interstate Bank-
ing and Branching Efficiency Act (IBBEA) of 1994
on the performance of small banks relative to large
banks. The authors compare the performance of
small and large banks in the periods preceding and
following (1988-2002) IBBEA implementation. The
study concludes that IBBEA has put small banks at a
competitive disadvantage.
Srinivas Nippani and Kenneth M. Washer
CONTENTS
Fall 2005 Volume 20, Number 2
25 Modeling Internet Operations Using Initial Public
Offerings
The sudden Dot Com boom and bust left many
investors and venture capitalists wondering about
the investment worthiness of Internet companies. In
this article, the authors examine 340 Initial Public
Offerings (IPO) of Internet companies to identify
which types of companies are likely to have superior
performance.
Sameer Prasad, David C. Porter, and Linda Yu
35 The Communication Effectiveness of System Models
Using the Models of UML vs. Structured Techniques:
A Field Experiment
This article examines the comparative effectiveness
of the UML and traditional modeling languages in
communicating information about a system design.
Performance of three groups are examined: (1) those
without knowledge of either language; (2) those with
some training in one language; and (3) those with
extensive training in one language.
Bruce C. Hungerford and Michael A. Eierman
45 Building a Market-Oriented Organizational
Environment: An Implementation Framework for
Small Organizations
The authors, using an internal customer-internal
supplier perspective, identify a framework for
creating a market-oriented workforce in small
organizations where impact of market-orientation
on performance is stronger than in larger
organizations.
Beth Ann Martin and James H Martin
59 Implementing Planned Change: An Empirical
Comparison of Theoretical Perspectives
Using data from over one hundred managers in-
volved in the implementation of planned change, the
authors draw conclusions about the appropriate-
ness of three configurations and about the relative
importance of various change process factors in
achieving implementation success.
Matthew W. Ford and Bertie M. Geer
BOOK REVIEW
70 Final Accounting
by Barbara Ley Toffler
Bill Cummings
Mid-American Journal of Business, Vol. 20, No. 2 1

EDITORIAL
Managing Our Way to Academic Decline
One of the critical elements with a sig-
nificant impact on the quality of education
is the recruitment and retention of excel-
lent faculty. In a recent article, Bennis and
O’Toole lamented that business schools lost
their way by focusing on the wrong reward
system for faculty, which emphasizes rigor-
Ashok Gupta ous-scientific rather than practical-relevant
Editor-in-Chief research. Top rated business schools derive
pleasure and prestige by extolling the num-
ber of articles their faculties have published
in A-rated journals. There is nothing wrong
in publishing in A-rated journals; but there
is something seriously wrong when the
consequences of such behavior on busi-
ness education are ignored; it is even more
deplorable when not-so-top-rated business
schools try to emulate their A-rated breth-
rens. We have long known the perils of
rewarding behavior “A” while hoping for
behavior “B”; we must now deal with the
outcome of such thinking.
Ineffective management of business
schools is a major source of discontent
among faculty. It is paradoxical and ironic
when business schools that are supposed to
teach how to manage a business are them-
selves poorly managed. Deans come and
go as in a revolving door. Jeffrey Garten,
departing Dean of the Yale School of Man-
agement, said in a recent New York Times
interview, “I was an investment banker
for fifteen years. I was in four presidential
administrations. But this job has been the
most difficult of all.” Looking at the number
of ads for Dean’s jobs, one wonders where
all the good people have gone! Many busi-
ness schools have hired (tired or retired)
corporate executives as “Accidental Deans”
– dean’s positions occupied by those with
no training or experience in teaching, re-
search or academic leadership. They do not
know and perhaps don’t care what it means
to be a faculty in a university setting. Many
have no appreciation or respect for faculty
governance in higher education. They are
used to a corporate style of management
Mid-American Journal of Business, Vol. 20, No. 2
Gupta
and that is how they run the business
school and treat business faculty. Ethics for
them is something to organize lectures on
and write about. In the name of discretion-
ary powers, they play favorites with faculty
without regard to the demoralizing effect
such actions may have on others. In the
name of raising money, they enjoy travel-
ing and meeting their own corporate types
with whom they are most comfortable.
Extensive traveling as a by-product, keeps
them away from campus which helps them
avoid interacting with faculty and getting
to know them except, of course, their own
core group of confidants called the mem-
bers of the Executive Council, which keeps
getting bigger and bigger with additional
Assistant and Associate Deans. In the name
of innovation, they dilute the curriculum
without assessing the effectiveness of such
an “innovation.” As if grade inflation was
not enough, some business schools have
created lucrative programs for students
to receive multiple credits for little work.
These “innovations” essentially give luster
to the student’s resume – a truly student-
centered approach to education! Why are
we just concerned about rigor in research
and not rigor in education?
Faculty members, on the other hand,
have become timid. Like Pavlov’s dog,
they have learned how to behave: give easy
grades – faculty gets good evaluations,
students feel good (they are already paying
steep tuition why give them a hard time)
and faculty do not have to defend their
actions; just say “yes” and grease the right
administrators to get lucrative assignments;
volunteer to get on the important recruit-
ment committees; become a showman
– invite the Dean or other big-wigs during
student presentations where you exhibit
well dressed executive-looking students
and their slick PowerPoint slides rather
than focus on the content of their presenta-
tions or grill them with tough questions;
and if you are a senior professor, you
3
Gupta
“collaborate” with some untenured faculty members or, if
you are lucky, with young relatives on research projects and
publications – preferably for A-journals!
Students are happy with less. Education is perhaps the
only industry where the customer is least demanding and
happy with little. They prefer a lighter work-load, easy
grading, entertaining classes, curving of grades, and accom-
modating professors. Many students work to pay for their
education; they have to fit classes into their real lives. A
large number come from difficult family backgrounds with
poor study habits and work ethics. They consider getting a
diploma as their entitlement for paying the tuition. Students’
attitudes toward learning need serious adjustments. In a
truly global world that we now live in, American students
are not just competing with other fellow students in Ameri-
ca; they are competing with students from rest of the world.
To stay competitive, US students need to keep getting
better. Thomas Friedman of the New York Times beautifully
summarized how things have turned around: When I was
growing up, my parents used to say to me, “Tom, finish your
dinner — people in China are starving.’’ But after sailing to
the edges of the flat world for a year, I am now telling my
own daughters, “Girls, finish your homework — people in
China and India are starving for your jobs.’’ [3]
There was a time when the world used to knock at
America’s doors for excellence in higher education in sci-
ence, mathematics, engineering, technology, and business.
America still attracts the best talent from around the world.
However, that lure may be slowly diminishing. Students
around the world now have more choices; those who come
to America for higher education may prefer to return to their
native lands, taking their talent with them. India presents a
shining example of academic excellence in several of these
areas of education. India is setting up campuses around the
world to provide rigorous and relevant education at a lower
price-tag. Will we be ready to compete?
Let’s rededicate ourselves to the real purpose of business
education: producing students who can generate creative
solutions to business problems in the absence of clear facts
by integrating knowledge, experience and critical think-
ing. Let’s remember that rigor and relevancy need not be
mutually exclusive. We can create a rigorous and relevant
business curriculum, and at the same time conduct practi-
cal-relevant business research in a scrupulous and scientific
manner. These goals can only be achieved with the help of
academic leaders who truly understand the role of faculty in
business education and who treat them with respect, fairness
and dignity.
In this issue......
In this issue, we present a set of six articles and an execu-
tive viewpoint.
Businesses are paying increased attention to applying Six
Sigma methodologies to measure and ensure quality in all
areas of the enterprise including working capital manage-
ment. In the first article of this issue, the authors, using
4 Mid-American Journal of Business, Vol. 20 No. 2
CFO magazine’s annual Working Capital Management
Survey, attempt to answer two questions: (1) are firms in
one industry as opposed to another quickly able to transfer
sales into cash; and (2) does working capital management
performance for firms within a given industry change from
year-to year? The authors report an affirmative answer to
both questions.
The second article examines the impact of the Interstate
Banking and Branching Efficiency Act (IBBEA) of 1994 on
the performance of small banks relative to large banks. The
authors compare the performance of small and large banks
in the periods preceding and following (1988-2002) IBBEA
implementation. The study concludes that IBBEA has put
small banks at a competitive disadvantage.
The sudden Dot Com boom and bust left many investors
and venture capitalists wondering about the investment wor-
thiness of Internet companies. In the third article of this is-
sue, the authors examine 340 Initial Public Offerings (IPO)
of Internet companies to identify which types of companies
are likely to have superior performance. The authors find
that Internet firms with high information intensity and low
customer contact yield superior performance but firms with
low physical presence underperformed.
The study reported in the fourth article examines the
comparative effectiveness of the Unified Modeling Lan-
guage (UML) and traditional modeling languages in
communicating information about a system design. Ef-
fectiveness is assessed by examining the performance of
three groups: (1) individuals with no knowledge of either
language; (2) individuals with no knowledge of either
modeling language that were provided training in one of the
languages; and (3) individuals that have had more extensive
training in one of the languages.
Although the impact of market-orientation on organiza-
tion performance has now been widely accepted, there is
little guidance for actually developing market-orientation.
In the fifth article of this issue, the authors, using an internal
customer-internal supplier perspective, identify a framework
for creating a market-oriented workforce in small organiza-
tions where impact of market-orientation on performance is
stronger than in the larger organizations.
Few models for implementing planned change have been
studied using empirical research designs. In the last article,
using data from over one hundred managers involved in the
implementation of planned change, the authors draw conclu-
sions about the appropriateness of three configurations and
about the relative importance of various change process
factors in achieving implementation success.
References
Bennis, Warren G. and James O’Toole, “How Business Schools
Lost Their Way,” Harvard Business Review, May, 2005.
Holstein, William J., “Are Business Schools Failing the World?”
The New York Times, June 19, 2005.
Friedman, Thomas, “It’s a Flat World, After All,” New Yourk
Times, April 3, 2005

DEAN’S FORUM
Business Colleges Should Practice What They Preach
As I was facilitating discussion regard-
ing the college’s three year strategic plan
at our recent Deans Business Advisory
Board meeting in May, a board member
inquired whether the college “practices
what it preaches.” We teach our students
how successful firms and organizations
operate, but do we expect that of our-
selves? He also suggested, “If we don’t,
we ought to.” He introduces a compel-
ling point. Is a business college a good
example of how a business is run? The
Daniel Vetter answer is yes and no.
Interim Dean A business college is much like a busi-
College of Business ness with products and services, clients
Administration or customers, and business processes.
Central Michigan University Granted, to the extent that business col-
leges can act like a business in all aspects
is somewhat limited. However, there are
some best business practices that we can
follow and possibly improve on.
Live your strategic plan
Create and communicate your vision
for the college. Take the college with
you. AACSB International’s emphasis
on strategic planning has been very good
for business colleges. For some business
colleges, the strategic planning process is
standard fare. For others it is new ter-
ritory. Gradually bringing faculty and
staff together to build a consensus about
where the college is going, providing
benchmarks from which progress can be
measured, and focusing financial resources
on key initiatives are key components. Our
college has formally employed a strategic
planning process for a number of years.
We always struggle with several issues.
Consistency with ever changing univer-
sity goals is one challenge. Bringing a
college organization together to embrace
the importance of the strategic plan is the
greatest challenge. My experience sug-
gests that the college staff are the easi-
est to embrace the process. Department
Mid-American Journal of Business, Vol. 20, No. 2
Vetter
chairpersons and program directors are
key, but faculty are the biggest challenge.
Not only does a dean have to find a way to
include the faculty into the strategic plan-
ning process, but faculty activities such as
teaching, research, professional develop-
ment, and service must align with college
priorities. Faculty must have incentives to
focus their activities on college priorities.
They must understand the importance of
what they do and how it contributes to the
college mission and vision.
Become more entrepreneurial
Some business colleges throughout the
country have done this well. For the most
part, we can all improve. Larger and more
prominent business colleges have a strong
track record of courting alumni, pursu-
ing private money, aggressively raising
fees to cover program costs, and growing
executive education programs. We all can
learn from this type of model. Our college
still has considerable progress to make in
this area. However, we have been more
aggressively leveraging business partner-
ships to help sponsor programs and focus
initiatives. Our faculty do not have exper-
tise in every area, but we are getting better
at marketing and matching our focused
expertise to offer management education
programs that firms and organizations
value.
Measure how well your college
is performing
Benchmarking is a time honored prac-
tice. Comparing our performance to our
peers has been healthy. We all have a few
schools that we aspire to be like. Never-
theless, business schools should also look
to campuses that are different and who
may have useful and smart innovative pro-
grams. Although university presidents are
enamored with rankings, in my opinion,
we spend too much time and resources to
5
Vetter

The Mid-American
pursue rankings. Some of the ranking criteria is sensible,
but perceptions are not a good way to rank schools. We
need to be more objective and relevant. More across
the board benchmarking is needed in the area of student
learning. What is the real value that a business education
provides? The proof is in the pudding. It is in the perfor-
Journal of Business
mance of our graduates. Do they have the skills, knowl- is sponsored by:
edge, and abilities to compete? We also have to improve on
communicating these results to our stakeholders.
Ball State University
Improve the skills of your workforce
Are we doing enough to incentive and motivate fac- Miller College of Business
ulty to continuously maintain and upgrade professional Lynne Richardson, Dean
development skills? Are scarce resources spent effective-
ly? We usually rely on faculty to personally make these
decisions. Do they make the correct decision? In the area Central Michigan University
of scholarship, some faculty research skills are steadily
eroded after graduate school. Should this happen? I be-
College of Business Administration
lieve it is somewhat universal that senior faculty research Daniel Vetter, Interim Dean
agendas change. However, I would like to challenge our
faculty to continue to do work that makes a significant im-
pact on their discipline and is consistent with the college
mission. What are the incentives and programs required Miami University
to maintain the rigor and level of faculty scholarship that
they once produced? Richard T. Farmer School of Business
Roger Jenkins, Dean
Know your customer and markets
Deans spend considerable time connecting with col-
lege stakeholders. An article in the May/June 2004 BizEd Northern Illinois University
magazine highlights the ability of small business schools
to know their markets and find niches that they can ex-
College of Business
ploit. Perfecting a single program that is attractive to your William Tallon, Interium Dean
state or region is much more manageable than a number of
different programs. It is also more desirable to retain your
current customers rather than have to attract new ones. To
be aware of what is relevant and timely, faculty need to Ohio University
connect more with the business community on a regular
basis. This is especially important for new program devel- College of Business
opment. Business college programs and new curriculum Glenn Corlett, Dean
development must be more responsive. We still cannot
respond quickly enough to a changing business environ-
ment. The “great” business colleges do it. However, busi-
ness colleges tend to take years to revise business degree The University of Toledo
programs. Miami University totally redesigned their MBA
program in a very short period of time. That’s a good College of Businss Administration
example of the results that we must see from business Thomas Gutteridge, Dean
colleges. We must be aware that we are now in a world
of continuous development of degree programs. The days
of the stagnant, “plain vanilla” degree program are long
gone. Western Michigan University
In conclusion, I ask deans, associate deans, directors,
department chairs, and faculty; if you were asked whether Haworth College of Business
“you practice what you preach” by an advisory board Adrian “Ed” Edwards, Interim Dean
member, employer, or business professional, how would
you answer the question? Could you do better? ■

6 Mid-American Journal of Business, Vol. 20, No. 2


EXECUTIVE VIEWPOINT
Corporate Culture Defines a Company and its Future
Cintas Corporation is known in busi-
ness and investment circles as a performer.
Our record of thirty-five consecutive years
of growth in sales and profits is nearly
unheard of; according to our research,
only Wal-Mart can match it. We routinely
are included in the business elite, being
heralded by Fortune magazine as one of
America’s Most Admired Companies, by
Forbes as one of America’s Best Managed
Companies and by Mergent as a Dividend
Achiever. While we are extremely proud
Richard T. Farmer of these achievements, we are even more
Chairman and Founder, proud of what drives them: The Cintas
Cintas Corporation culture.
Corporate culture is what separates
the business winners from the business
losers. A corporate culture of honesty and
integrity is more valuable than cash in the
bank. It is the glue that holds a company
together and helps companies like Cintas
do great things. Quite simply, our culture
is our No. 1 competitive advantage.
At Cintas, our culture is no accident. It
is our planned approach to our business.
We spend time and money teaching our
culture, protecting it and perpetuating it.
We are confident our resources are well
spent in that regard. Safeguarding our
culture is safeguarding our future.
Why Culture Counts
The headlines over the past few years
have called out a myriad of corporate
misdeeds, and rightly so. Unethical behav-
ior has cost investors billions of dollars
and created an atmosphere of suspicion
and mistrust on the part of employees,
shareholders and the public at large. The
government responded with a series of
regulations that themselves carry a hefty
price tag for companies and therefore for
investors.
Without judging whether the regula-
tions are right or wrong, or whether they
Mid-American Journal of Business, Vol. 20, No. 2
Farmer
are having a positive effect or not, the
plain fact is that Sarbanes-Oxley will not
solve the problem of corporate greed.
The real problem is a lack of honesty and
integrity on the part of some people run-
ning some companies. You can’t legislate
honesty and integrity.
You can, however, make honesty and
integrity part of your corporate culture.
You can hire those traits, you can breed
them, you can reward them. You can make
high standards as much a part of your
business as the bricks on the building or
the name on the door.
A Culture of Opportunity
At Cintas, our culture starts with our
principal objective, which is to maximize
the long-term value of Cintas for its share-
holders and working partners by exceed-
ing our customers’ expectations. We base
every decision on that objective. In one
sentence, it summarizes our ongoing pur-
pose for being.
In following our principal objective at
every level of our company, we can be
sure that decisions are made in the best
interest of our company and our working
partners, that is, our employees. We don’t
take short-term gains at the expense of
long-term values, ever.
Organizations that do not have a guid-
ing principle or that do not follow it, often
end up being run for the benefit of top
management. Examples of such compa-
nies abound. They borrow money they
can’t pay back. They take the easy way
out on union contracts and they make bad
acquisitions. They go for ego-feeding
notoriety rather than long-term stability.
Some don’t explore new opportunities
because they’re pretty darned comfort-
able right where they are. In time, their
bad decisions catch up with them and the
companies fail.
7
Farmer
The companies that are accused of overstating sales or
profits, of paying outrageous salaries, bonuses and stock
options, clearly were not working to maximize the long-
term value of their businesses for their shareholders or
working partners. They were looking out for the interests
of a few.
With everyone at Cintas working to maximize the long-
term value of the company for shareholders and working
partners, we are creating career and growth opportunities.
With everyone at Cintas working to exceed our customers’
expectations, we are building our reputation and our busi-
ness.
Our vision—and we communicate it daily throughout
our company—is to provide a product or service to every
business in North America. Under the guidance of the
principal objective, keeping our customers at the center of
our universe, we believe we can attain that vision.
A Culture of Respect
In our business, the customer is king. We don’t just
want to satisfy customers; we want to make them big fans
of Cintas. We are all on that page, everyone at our com-
pany. The only kinds of partners we have are those who
demonstrate the importance of exceeding our customers
expectations every day. That’s important to know. It says a
lot about who we are and how we grew.
The roots of respect were planted even before there was
a Cintas. When I was a boy, I used to go with my mom and
dad to my grandpa’s company, Acme Industrial Laundry.
I’d fall asleep in a basket of warm, clean and cozy towels
while my parents worked shoulder to shoulder with em-
ployees.
That was the beginning of the Cintas culture, even
though no one had ever heard of the term back then. The
fact was that by working side by side with employees, by
eating, laughing and talking together, we learned about
their lives. We respected and appreciated them as individu-
als and as valuable partners with valuable ideas on how to
do things better.
As the company grew, so did this spirit. It stayed with
us as Acme evolved and then became Satellite and then
became Cintas. We learned by doing, we stayed close to
our partners, and I can honestly say we never got too big
for our britches.
Each of the three CEOs who have led our company
spent time early in his career driving trucks and working
the plant floors. We work as a team, respecting partners
and their roles in the success of the company. If we are
buying new trucks, the partners driving them are involved
in the decision. If we are considering buying a piece of
machinery, the operators help decide what we’ll do. Who
better to give advice than the people who do the work?
That kind of respect has helped our company avoid costly
mistakes while creating a stronger sense of ownership
among all of our partners.
8 Mid-American Journal of Business, Vol. 20, No. 2
Respect also is evident in the fact that we live by the
rules and we recognize that no one is above them. We
strictly separate business and personal affairs, and refrain
from any personal activity that could have the appearance
of influencing business decision-making. We have a direct
line to top management for partners to share any ethical
concerns. We strive to keep our relationships and our envi-
ronment professional at all times.
In fact, if there is one word that embodies the character
of Cintas partners, it is professional...in every sense of the
word. We are professional in the way we dress, the way
we act, the way we treat one another and the way we con-
duct our business. Our corporate tagline reflects that, too.
It is “The Service Professionals.”
A Culture of Leadership
In addition to living a culture of opportunity and re-
spect, we believe in a strong culture of leadership.
One of our executives once said, “Good leaders start
with the answer.” By this he meant that good leaders
decide where the organization needs to be, what it wants
to accomplish and then do what it takes to get there. Our
principal objective, by its very nature, encourages leader-
ship that is both strong and ethical.
A firm set of rules helps, too. Back in the early days
of Cintas, I was the only manager. I had two routes and
twelve employees. I did it all...checking on the drivers,
selling accounts, collecting them, handling service issues
and managing our growth. And we did grow. In time, I
promoted people to supervisory jobs, helping them along
the way, telling them what to do and how to do it.
But I didn’t put it in writing, not at first. I told partners
how to handle the ordinary, but not how to handle the ex-
traordinary. Partners didn’t know what to do with unusual
requests or if problems interfered with their normal way of
doing their jobs. Partners began to improvise. They didn’t
understand how changes in their departments affected
partners in other areas of the company. Standards changed.
Systems changed.
And so I went back to the drawing board, and I mean
the drawing board. I put everything in writing: A system
of policies and guidelines along with a system for creating
or revising policies. Then I meticulously enforced those
guidelines. In that way, I put to work years of experience,
a common dialogue and, really, a leadership perpetuation
plan. Together, we created a self-regulating organization in
which everyone knows what he or she can and cannot do.
We created a culture of accountable leadership, strength-
ened by a communicated vision and a clear set of param-
eters. We gave our leaders the tools they need to do their
jobs.
Cintas leaders walk the talk. They live the culture. They
are dependable and trustworthy, competent and commit-
ted. They expect the same of their partners. Our leaders
also are consistent in their decisions and in their training.
 Farmer

They push, they nourish, they inspire. They create and Farmer’s early vision laid the groundwork for the company
maintain a team spirit that is larger than any individual, that Cintas is today. Over the years, he has served the company
larger than any business unit. in many capacities, including president and CEO. He has been
honored as Ernst & Young’s Entrepreneur of the Year and twice
was named CEO of the Year by Financial World magazine. In
A Culture of Excellence 2005, Cintas was named to Fortune magazine’s list of America’s
At Cintas, the pace is quicker; the intensity higher; the Most Admired Companies for the fifth consecutive year. Cintas
expectations greater. We work hard with a sense of com- has grown in sales and profits for 35 consecutive years, through
petitive urgency, a thoroughness and enthusiastic attention all economic cycles.
to detail. We also share a sense of positive discontent, With sales approximating $3 billion in FY ’05 and more than
firmly believing that no matter how good things are, they 30,000 employee-partners at over 350 locations nationwide,
can always be better. We constantly strive to improve our Cintas is a publicly held company traded over the NASDAQ
processes, our systems, our products and our services. National Market under the symbol CTAS.
Exceeding customers’ expectations and driving long-
term value is the simple, overriding business necessity.
That is the attitude required to compete, and we pursue it
with a passion you can feel.
Think about a parent or a coach or a boss who pushed
you or stretched what you thought were your limits. In
expecting more, they helped you accomplish more. They
wouldn’t accept anything but the best, and so you deliv-
ered. A company can and should create that same culture
of excellence.

A Culture of Success
And so by using honesty and integrity as building
blocks, and having a clear vision clearly communicated,
Cintas has created a culture of opportunity, respect, leader-
ship and excellence. We also have created a certain spirit
that permeates our entire organization, a spirit that has
driven a culture of success for our partners and our com-
pany.
The spirit is the difference. If, as a business or thought
leader, you are in a position to strengthen your corporate
culture, do it. Build everything around absolute honesty
and integrity. Work hard to define your values, to put them
into writing, to communicate them, to teach them, to live
them. Make sure every person at every level of your orga-
nization knows the standard—and the consequences of not
following it.
As a leader, there is no greater task you can perform to
better ensure that your company is a winner not just for
today, but also over the long term. ■

About the Author

Richard T. Farmer is founder and chairman of the board of

Cintas Corporation. Headquartered in Cincinnati, OH, Cintas
provides highly specialized services to businesses of all types
throughout North America. Cintas designs, manufactures and
implements corporate identity uniform programs and provides
entrance mats, restroom supplies, promotional products, first
aid and safety products, fire protection services and document
management services for approximately 700,000 businesses.

Mid-American Journal of Business, Vol. 20, No. 2 9

An Analysis of Working Capital Management Results
Across Industries
Abstract
Firms are able to reduce financing costs and/or increase
the funds available for expansion by minimizing the
amount of funds tied up in current assets. We provide
insights into the performance of surveyed firms across key
components of working capital management by using the
CFO magazine’s annual Working Capital Management
Survey. We discover that significant differences exist
between industries in working capital measures across time.
In addition, we discover that these measures for working
capital change significantly within industries across time.
Introduction
The importance of efficient working capital management
(WCM) is indisputable. Working capital is the difference
between resources in cash or readily convertible into cash
(Current Assets) and organizational commitments for
which cash will soon be required (Current Liabilities). The
objective of working capital management is to maintain
the optimum balance of each of the working capital
components. Business viability relies on the ability to
effectively manage receivables, inventory, and payables.
Firms are able to reduce financing costs and/or increase the
funds available for expansion by minimizing the amount of
funds tied up in current assets. Much managerial effort is
expended in bringing non-optimal levels of current assets
and liabilities back toward optimal levels. An optimal level
would be one in which a balance is achieved between risk
and efficiency.
A recent example of business attempting to maximize
working capital management is the recurrent attention being
given to the application of Six Sigma® methodology. Six
Sigma® methodologies help companies measure and ensure
quality in all areas of the enterprise. When used to identify
and rectify discrepancies, inefficiencies and erroneous
transactions in the financial supply chain, Six Sigma®
reduces Days Sales Outstanding (DSO), accelerates the
payment cycle, improves customer satisfaction and reduces
the necessary amount and cost of working capital needs.
There appear to be many success stories, including Jennifer
Towne’s (2002) report of a 15 percent decrease in days that
Greg Filbeck, Schweser Study Program
Thomas M. Krueger, University of Wisconsin-La Crosse
sales are outstanding, resulting in an increased cash flow of
approximately $2 million at Thibodaux Regional Medical
Center. Furthermore, bad debts declined from $3.4 million
to $600,000. However, Waxer’s (2003) study of multiple
firms employing Six Sigma® finds that it is really a “get rich
slow” technique with a rate of return hovering in the 1.2
– 4.5 percent range.
Even in a business using Six Sigma®
methodology, an “optimal” level of working
capital management needs to be identified.
Even in a business using Six Sigma® methodology, an
“optimal” level of working capital management needs to be
identified. Industry factors may impact firm credit policy,
inventory management, and bill-paying activities. Some
firms may be better suited to minimize receivables and
inventory, while others maximize payables. Another aspect
of “optimal” is the extent to which poor financial results can
be tied to sub-optimal performance. Fortunately, these issues
are testable with data published by CFO magazine (Mintz
and Lazere 1997; Corman 1998; Mintz 1999; Myers 2000;
Fink 2001), which claims to be the source of “tools and
information for the financial executive,” and are the subject
of this research.
In addition to providing mean and variance values for
the working capital measures and the overall metric, two
issues will be addressed in this research. One research
question is, “are firms within a particular industry clustered
together at consistent levels of working capital measures?”
For instance, are firms in one industry able to quickly
transfer sales into cash (i.e., have low accounts receivable
levels), while firms from another industry tend to have high
sales levels for the particular level of inventory (i.e., a high
inventory turnover). The other research question is, “does
working capital management performance for firms within a
given industry change from year-to-year?”
The following section presents a brief literature review.
Next, the research method is described, including some
information about the annual Working Capital Management
Survey published by CFO magazine. Findings are then
presented and conclusions are drawn.
Mid-American Journal of Business, Vol. 20, No. 2 11
Filbeck and Krueger

practices, Gilbert and Reichert (1995) find that accounts

Table 1 receivable management models are used in 59 percent
Industries Represented in CFO’s Working of these firms to improve working capital projects, while
Capital Management Surveys inventory management models were used in 60 percent of
the companies. More recently, Farragher, Kleiman and Sahu
(1999) find that 55 percent of firms in the S&P Industrial
Aerospace Household Products index complete some form of a cash flow assessment, but
Apparel Metal Products
Beverages Metals
did not present insights regarding accounts receivable and
Building Materials Motor Vehicles & Parts inventory management, or the variations of any current
Chemicals Office Equipment asset accounts or liability accounts across industries. Thus,
Conglomerates Petroleum mixed evidence exists concerning the use of working capital
Electric & Gas Utility Pharmaceuticals management techniques.
Electrical Equipment Publishing & Printing
Food Recreational
Theoretical determination of optimal trade credit
Food & Drug Stores Scientific Equipment limits are the subject of many articles over the years (e.g.,
Food Services Semiconductors Schwartz 1974; Scherr 1996), with scant attention paid to
Forest & Paper Products Specialty Retailers actual accounts receivable management. Across a limited
Furniture Telecommunications sample, Weinraub and Visscher (1998) observe a tendency
General Merchandisers Textiles
of firms with low levels of current ratios to also have low
Health Care Transportation
Health-Care Equipment Wholesale Trade levels of current liabilities. Simultaneously investigating
accounts receivable and payable issues, Hill, Sartoris,
and Ferguson (1984) find differences in the way payment
Related Literature dates are defined. Payees define the date of payment as the
The importance of working capital management is date payment is received, while payors view payment as
not new to the finance literature. Over twenty years ago, the postmark date. Additional WCM insight across firms,
Largay and Stickney (1980) reported that the then-recent industries, and time can add to this body of research.
bankruptcy of W.T. Grant, a nationwide chain of department Maness and Zietlow (2002, 51, 496) presents two
stores, should have been anticipated because the corporation models of value creation that incorporate effective short-
had been running a deficit cash flow from operations for term financial management activities. However, these
eight of the last ten years of its corporate life. As part models are generic models and do not consider unique firm
of a study of the Fortune 500’s financial management or industry influences. Maness and Zietlow discuss industry

Table 2
Working Capital Management Component Definitions and Averages

Average Value
Component Equation
(Standard Deviation)

9.0 percent
Cash Conversion Efficiency (CCE) (Cash flow from operations) / Sales
(1.7 percent)

51.8 days
Days Working Capital (DWC) (Receivables + Inventory – Payables) / (Sales/365)
(4.7 days)

(Highest overall CCE – Company CCE) / (Highest overall CCE – Lowest overall CCE) x
Overall Ranking
(Lowest overall DWC – Company DWC) / Lowest overall DWC – Highest overall DWC)

Other Related Variables

Those listed below, although reported in CFO, are not part of the overall ranking criteria (only the two meaures listed above are included in overall rank).

50.6 days
Days Sales Outstanding Accounts Receivable / (Sales/365)
(1.3 days)

11.0X/year or 32.4 days

Inventory Turns Inventory / (Sales/365)
(2.5 days)

32.0 days
Days Payables Outstanding Accounts Payable / (Sales/365)
(2.8 days)

12 Mid-American Journal of Business, Vol. 20, No. 2

 Filbeck and Krueger

influences in a short paragraph that includes the observation
that, “An industry a company is located in may have more
influence on that company’s fortunes than overall GNP”
(2002, 507). In fact, a careful review of this 627-page
textbook finds only sporadic information on actual firm
levels of WCM dimensions, virtually nothing on industry
factors except for some boxed items with titles such as,
“Should a Retailer Offer an In-House Credit Card” (128)
and nothing on WCM stability over time. This research will
attempt to fill this void by investigating patterns related to
working capital measures within industries and illustrate
differences between industries across time.
An extensive survey of library and Internet resources
provided very few recent reports about working capital
management. The most relevant set of articles was Weisel
and Bradley’s (2003) article on cash flow management and
one of inventory control as a result of effective supply chain
management by Hadley (2004).
measures of working capital efficiency identified by CFO
magazine. Classical analysis of variance is used to address
issues of industry rank differences within years. Thus,
H 1: Differences exist among industries with respect
to the measures of working capital efficiency
identified by CFO magazine.
Our second hypothesis is that working capital measures
for firms within an industry change across time. Since
the complete data set includes only four years (1996-
1999), there is the potential for degrees of freedom issues
when using sophisticated models. Assessment of WCM
performance across years is conducted using the Kendall’s
Coefficient of Concordance. Thus,
H 2: Working capital measures for firms within an
industry change across time.

Research Method Research Findings

The CFO Rankings Average and Annual Working Capital Management
The first annual CFO Working Capital Survey, a joint Performance
project with REL Consultancy Group, was published in the Working capital management component definitions and
June 1997 issue of CFO (Mintz and Lezere 1997). REL average values for the entire 1996 – 2000 period are given
is a London, England-based management consulting firm in Table 3. Across the nearly 1,000 firms in the survey, cash
specializing in working capital issues for its global list of flow from operations, defined as cash flow from operations
clients. The original survey reports several working capital divided by sales and referred to as “cash conversion
benchmarks for public companies using data for 1996. Each efficiency” (CCE), averages 9.0 percent. Incorporating a 95
company is ranked against its peers and also against the percent confidence interval, CCE ranges from 5.6 percent to
entire field of 1,000 companies. REL continues to update the 12.4 percent. The days working capital (DWC), defined as
original information on an annual basis. The industries that the sum of receivables and inventories less payables divided
include at least eight companies with complete information by daily sales, averages 51.8 days and is very similar to the
over the 1996-2000 period are listed in Table 1. days that sales are outstanding (50.6), because the inventory
REL uses the “cash flow from operations” value located
on firm cash flow statements to estimate cash conversion
efficiency (CCE). This value indicates how well a company Table 3
transforms revenues into cash flow. A “days of working Average Working Capital Scoreboard Variables
capital” (DWC) value is based on the dollar amount in each Available Data Over Five Years
of the aggregate, equally-weighted receivables, inventory,
and payables accounts. The “days of working capital” CFO Working
2000 1999 1998 1997 1996
(DNC) represents the time period between purchase of Capital Measures
inventory on acccount from vendor until the sale to the Cash Conversion
10% 9% 10% 10% 6%
customer, the collection of the receivables, and payment Efficiency
receipt. Thus, it reflects the company’s ability to finance its
Days Working
core operations with vendor credit. A detailed investigation 59 days 46 days 52 days 52 days 50 days
Capital
of WCM is possible because CFO also provides firm and
industry values for days sales outstanding (A/R), inventory Days sales
49 days 50 days 52 days 52 days 50 days
turnover, and days payables outstanding (A/P). More outstanding
information on how these values are calculated is presented
Days payables
in Table 2. Prior to 2002, CFO also provided an overall outstanding
27 days 34 days 33 days 33 days 33 days
WCM management ranking based on an equally-weighted
combination of CCE and DWC. Inventory turns/year 10 times 12 times 11 times 11 times 11 times
Statistical Techniques (days) (37 days) (30 days) (33 days) (33 days) (33 days)
Our first hypothesis is that statistically significant SOURCE: Annual Working Capital Surveys, CFO
differences exist among industries with respect to the

Mid-American Journal of Business, Vol. 20, No. 2 13

Filbeck and Krueger

turnover rate (once every

32.0 days) is similar to Table 4
the number of days that Overall Working Capital Performance
payables are outstanding By Industry with at Least an Average of Eight Companies Per Year
(32.4 days). In all 1996 – 1999
instances, the standard
Industry Mean Overall CFO Standard Deviation of Range of Rankings
deviation is relatively Ranking of Working Working Capital across All Firms and
small, suggesting that Capital Performance Performance Years
these working capital Petroleum 6 6 26
management variables Electric & Gas Utility 24 8 35
are consistent across
Food Service 103 40 338
CFO reports.
Telecommunications 122 240 882
The low standard
deviations reported in Publishing 166 48 195
Table 2 are accentuated Pharmaceuticals 183 48 401
by the individual year Forest Products 186 66 273
values presented in Table Chemicals 193 75 309
3. As one might expect, Food 245 87 338
given a gross domestic Computers 247 97 367
product growth rate
Beverage 255 238 857
range of only 5.6 percent
Motor Vehicles 283 106 454
to 6.5 percent, there is
relatively little difference Food & Drug Stores 287 61 243
in the CCE and DWC Building Materials 296 121 502
values. In 1996, CCE Electronics 306 141 499
was at a low of 6.0 Specialty Retailers 313 115 458
percent. Otherwise, the Health Care 365 144 623
CCE ratio was between
Metal Products 399 147 564
9 and 10 percent. DWC
Metals 448 117 413
reached a high of fifty-
nine days in 2000, Wholesale 519 193 687
mostly due to the slower Furniture 531 234 904
inventory turnover in General Merchandise Stores 554 154 577
2000. Otherwise, DWC Aerospace 624 220 720
values ranged from forty- Scientific Equipment 625 212 791
six to fifty-two days. The Textiles 711 173 619
best year for working
Apparel 720 177 728
capital management, as
measured by a low days
This table represents the average overall rank of a company within the stated industry (e.g., the average rank of the eight
working capital figure companies included from the Petroleum industry during the sample period was 6).
was 1999, when days
payables outstanding
reached a high of thirty-
four days and inventory turnover reached a high of twelve Industry-based differences in overall working capital
times per year (otherwise days payable outstanding ranged management are presented in Table 4 for the twenty-six
between twenty-seven and thirty-three days, with inventory industries that had at least eight companies included in the
turns between ten and eleven times per year). rankings each year. In the typical year, CFO magazine ranks
970 companies during this period. Industries are listed in
Industry Rankings on Overall Working Capital order of the mean overall CFO ranking of working capital
Management Performance performance. Since the best average ranking possible
CFO magazine provides an overall working capital for an eight-company industry is 4.5 (this assumes that
ranking for firms in its survey, using the following equation: the eight companies are ranked one through eight for the
entire survey), it is quite
obvious that all firms in the
Overall Ranking1 = (Highest overall CCE – Company CCE) / (Highest overall CCE – Lowest overall CCE) x
(Lowest overall DWC – Company DWC) / Lowest overall DWC – Highest overall DWC)
petroleum industry must have
been receiving very high

14 Mid-American Journal of Business, Vol. 20, No. 2

 Filbeck and Krueger

overall working capital management rankings. In fact, the
petroleum industry is ranked first in CCE and third in DWC
(as illustrated in Table 5 and discussed later in this paper).
Furthermore, the petroleum industry had the lowest standard
deviation of working capital rankings and range of working
capital rankings. The only other industry with a mean
overall ranking less than 100 was the Electric & Gas Utility
industry, which ranked second in CCE and fourth in DWC.
The two industries with the worst working capital rankings
were Textiles and Apparel. Textiles rank twenty-second in
CCE and twenty-sixth in DWC. The apparel industry ranks
twenty-third and twenty-fourth in the two working capital
measures, respectively (also in Table 5).
The second column of Table 4 exhibits the standard
deviation in overall working capital performance rankings.
The industries with the greatest variation on the overall
working capital performance measure, as measured by
standard deviation, are the telecommunications industry and
the beverage industry. If one only examines the extremes,
the furniture industry is the industry with the greatest
extremes in rank as it has at least one company whose rank
varied from another firm in the same industry by 904 places.
Variations in profit margins and turnover rates are worthy
explanations for the wide disparity of rankings within the
furniture industry. In general, the stability of firm rankings
on WCM measures suggests that although a given level
of current asset or current liability management impacts
share price, one does not have to be overly concerned with
changes in working capital management style.

Table 5
Average Industry Ranks of Working Capital Management Measures
Across Components and Overall Ratings
1996 – 1999

Firm Cash Conversion Days of Working Days Sales Inventory Days Payables
Efficiency Capital Outstanding Turnover Outstanding
Aerospace 20 23 19 19 19
Apparel 23 24 11 25 21
Beverage 12 6 7 10 6
Building Materials 14 12 10 9 8
Chemicals 5 14 20 13 1
Computer 8 13 16 6 13
Electric/Gas Utilities 2 4 8 22 10
Electronics 9 21 22 15 7
Food 11 10 4 20 16
Food Services 10 1 2 1 26
Food Stores 26 2 1 3 25
Forest Products 6 11 5 11 12
Furniture 18 22 17 16 20
General Merchandise 24 16 6 24 14
Health Care 17 17 23 4 23
Metals 19 18 9 14 9
Metal Products 15 19 15 17 4
Motor Vehicles 16 7 13 7 2
Petroleum 1 3 25 5 5
Pharmaceuticals 3 20 21 26 11
Publishing 4 8 14 2 24
Scientific Equipment 13 25 26 23 18
Specialty Retailers 21 5 3 18 17
Telecommunications 7 9 24 8 3
Textiles 22 26 28 21 22
Wholesale Trade 25 15 12 12 15

Mid-American Journal of Business, Vol. 20, No. 2 15

Filbeck and Krueger
Industry Rankings Across Individual Working Capital
Management Characteristics
Table 5 breaks the overall working capital management
rank in Table 4 into rankings of particular working capital
measures (including the two components, CCE and
DWC, which make up the overall rank). For instance, the
petroleum industry, ranked first for overall performance,
only ranks first in one of the five specific working capital
measures, CCE measure. In fact, as shown in the center
column of Table 5, petroleum’s DSO performance is
second worst among all industries. However, DSO is not
included in the compilation of the overall rank. While Table
5 provides the relative rankings of industries across the
five working capital management measures, one may still
wonder about the variation of these rankings over time.
All of the instances wherein the standard deviation
of firm rankings exceeded 5.0 are exhibited in Table 6.
There were only eleven instances wherein the standard
deviation exceeded 5.0. Both inventory turnover and days
payables outstanding had a higher standard deviation in four
instances. Only one industry—Telecommunications—had
over two instances where the standard deviation of the
industry ranking on a given working capital measure
exceeded 5.0. One reason for this variation is the lack of
stability in industry members, with over 60 percent of
the firms in 1996 no longer in the study in 2000. Some
of the other significant changes include a dramatic drop
in inventory turnover within the Petroleum industry and
slower payment of accounts payable in the wholesale
trade industry. In the other 93 instances (26 x 4 – 11),
the variation in industry rankings for a working capital
management variable is relatively stable.
The number of days of working capital is relatively low
in both the food services and food stores industries. Food
stores, which are primarily cash-and-carry businesses,
exhibit the shortest days sales outstanding ranking (with
food services coming in second). However, food services
have quicker inventory turnover, with the publishing
Table 6
Instances Where the Standard Deviation of Rankings Exceed 5.0
Cash Days of
Days Sales
Conversion Working
Efficiency Capital
Outstanding
Beverage
Electric/Gas Utilities
Furniture
Health Care
Petroleum
Telecommunications 9.9 10.3
Wholesale Trade 6.3
16 Mid-American Journal of Business, Vol. 20, No. 2
industry squeezing in between it and food stores. As one
might imagine, food services, which like food stores tend
to get payment upon purchase for merchandise, also need
to make payments rapidly. In fact, these industries have
the shortest days payables outstanding ranking, resulting
in being at the bottom of the DPO column. Another factor
hurting the performance of the food stores industry is its
poor cash flow from operations per dollar of sales, resulting
in it being ranked twenty-sixth in the Cash Conversion
Efficiency, the first column of Table 5. Most industries were
slower in collecting on sales than paying bills. In fact, only
the food services, food stores, and specialty retailers had
an average days payables outstanding value that exceeded
their average days receivables outstanding. In addition,
the beverage industry had a higher DPO than DSO value
in three years, while the same relationship was true of the
Apparel industry in only one instance. In all other eighty-
eight (26 x 4 – 16) instances, the industry’s average DSO
value was higher that year.
Since CFO magazine only provides annual information,
we are unable to assess the seasonal variation in WCM. All
of the standard deviation data supplied illustrates the lack
of much variation in WCM. Looking at the data, the most
significant trends existed in the Inventory Turnover measure,
with the Beverage industry rising from eighteenth to eighth
place, and the Telecommunications industry dropping from
the second to twenty-first position. Telecommunications also
has a slower average collection period and quicker payment
to suppliers, resulting in their DWC ranking dropping from
first to twenty-fifth place. The only other trend in the data
was the improvement (slowing) of payments to suppliers in
the wholesale trade industry.
Six industries—food service, food and drug stores,
forest products, petroleum, pharmaceuticals, and publishing
—rank in both the highest three and lowest three levels
for at least one of their working capital performance
rank measures. Table 5 illustrates that three industries
(aerospace, building materials, and furniture) show the
five individual working
capital performance
rankings are within six
places of each other.
Of course, not having
extremely different levels
Days
Inventory of performance across
Payables
Turnover
Outstanding individual working
capital measures is not
5.1 necessarily good. The
6.1 aerospace industry has
5.3 the worst performance in
6.6
Days of Working Capital
(ranked twenty-third),
7.2
but is only worthy of the
9.0 6.2
nineteenth ranking for
5.7 days sales outstanding, its
best performance.
 Filbeck and Krueger

Table 7
Analysis of Working Capital Management Overall and Across Components
Working Capital Management Aspects Identified by CFO magazine
1996-1999

Industry Significance Measure using ANOVA F-value

Cash
Days of Working Days Sales Inventory Days Payables CFO’s Overall
Conversion
Capital Outstanding Turnover Outstanding Ranking
Consistency
Industry
20.60** 21.54** 35.47** 22.12** 13.62** 14.72**
Significance

Inter-Year Period Consistency Measured using Kendall’s Coefficient of Concordancea

Period Consistency 86.85** 87.35** 91.91** 87.64** 85.15** 83.24**

a
The significance of Kendall’s coefficient of concordance statistic (W) is measured using chi-square values, calculated as follows:
x2 = Number of years (Number of industries - 1) W
The critical value using Kendall’s Coefficient of Concordance (alpha = 0.01) is 44.31.
Significance: * = 0.05; ** = 0.01

Statistical Significance of Raw Numbers
Table 4 and Table 5 report ordinal rankings of industries
across working capital management variables. The ordinal
rankings might be creating differences across industries
that are, in reality, quite minute. Given the wide range of
industry performance rankings, one might wonder whether
there is a significant difference in industry performance
within individual aspects of working capital management.
Table 7 shows the tests related to our two hypotheses.
In the first row (industry significance), we find support
for our first hypothesis that significant differences exist
between industries across time with respect to measures of
working capital measures. The greatest differences occur in
the days sales outstanding ranking, which has a statistically
significant ANOVA F-value of 35.47. Table 7 shows
persistent statistical significance, which suggests that there
are significant differences in the industry working capital
management rankings.
The second row in Table 7 (period consistency) shows
the results related to our second hypothesis regarding the
consistency of working capital measures within industries
through time. This answers the question, are the firm’s cash
conversion values consistent from period to period? Table
3 shows that despite the consistency in average values
presented, there are significant changes in individual firm
values from year to year, based on the significance of each
of the values in the second row of Table 7. In other words,
working capital measures for a given firm are not static, and
significant differences in these measures exist across time.
With only four years of observations, the critical Kendall’s
Coefficient of Concordance value is 44.31. Yet, each of the
Kendall Coefficient of Concordance values tends to be about
twice this level. These results indicate that working capital
measures vary across time. Taken together, our results in
Table 7 indicate that while working capital management
ratios are changing over time for the firms sampled, these
changes are consistent enough across industries to preserve
the industry ordering across time.
Conclusions
The research presented here is based on the annual
ratings of working capital management published in
CFO magazine. Our findings indicate a consistency in
how industries “stack up” against each other over time
with respect to the working capital measures. However,
the working capital measures themselves are not static
(i.e., averages of working capital measures across all
firms change annually); our results indicate significant
movements across our entire sample over time. Our findings
are important because they provide insight to working
capital performance across time, and on working capital
management across industries. These changes may be in
explained in part by macroeconomic factors. Changes in
interest rates, rate of innovation, and competition are likely
to impact working capital management. As interest rates
rise, there would be less desire to make payments early,
which would stretch accounts payable, accounts receivable,
and cash accounts.
The ramifications of this study include the finding of
distinct levels of WCM measures for different industries,
which tend to be stable over time. Many factors help to
explain this discovery. The improving economy during the
period of the study may have resulted in improved turnover
in some industries, while slowing turnover may have been
a signal of troubles ahead. Our results should be interpreted
cautiously. Our study takes places over a short time frame
during a generally improving market. In addition, the survey
suffers from survivorship bias – only the top firms within

Mid-American Journal of Business, Vol. 20, No. 2 17

Filbeck and Krueger

each industry are ranked each year and the composition of About the Authors
those firms within the industry can change annually.
Further research may take one of two lines. First, there Dr. Greg Filbeck serves as Senior Vice President of Schweser
could be a study of whether stock prices respond to CFO Study Program and Adjunct Professor of Research at the
magazine’s publication of working capital management University of Wisconsin-La Crosse. He earned his doctorate
ratings. Second, there could be a study of which, if any, in finance from the University of Kentucky. Prior to joining
of the working capital management components relate to Schweser Study Program in 1999, he enjoyed ten years of full-
share price performance. Given our results, these studies time university teaching experience from Miami University and
the University of Toledo and has published over forty academic
need to take industry membership into consideration
articles. greg.filbeck@schweser.com
when estimating stock price reaction to working capital
management performance. ■ Dr. Thomas M. Krueger is a Professor of Finance at the
University of Wisconsin-La Crosse. He earned his doctorate
Note from the University of Kentucky. His teaching repertoire includes
1. This ranking was not published in CFO magazine in 2002 investments, corporate finance, and decision making. He is the
or available at its Web site. past president of the Academy of Finance and is also the ECESP
Internship Coordinator. His research includes fifty journal articles,
References including the Super Bowl Stock Market Predictor and equity
anomalies. Krueger.thom@uwlax.edu
Corman, L. 1998. The 1998 working capital survey: Cash masters.
CFO 14 (7):30-48.
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18 Mid-American Journal of Business, Vol. 20, No. 2

IBBEA Implementation and the Relative Profitability of
Small Banks
Abstract
The enactment of Riegle-Neal IBBEA in 1994 encour-
aged bank mergers and acquisitions. Empirical evidence
indicates that large banks benefited from IBBEA enactment.
However, there is little, if any, evidence of the impact of the
act on small banksʼ profitability relative to large banks. This
study examines the impact of IBBEA on the performance
of small banks in the period preceding and following IB-
BEA implementation. Evidence is presented that indicates
the return on assets of small banks was significantly less
than that of larger banks in the post-IBBEA period. This is
contrary to the results of the pre-IBBEA period when small
banksʼ profitability was competitive with and in some cases
even better than large banksʼ profitability. It is concluded
that the enactment of IBBEA has placed small banks at a
competitive disadvantage which could eventually lead to
their demise.
Introduction
The enactment of the Riegle-Neal Interstate Banking
and Branching Efficiency Act (IBBEA) in 1994 permit-
ted bank holding companies to acquire banks in any state
after September 30, 1995. This act gave banks a chance to
reorganize/restructure in order to improve their efficiency
and profitability. Industry groups and experts generally
welcomed the act, but there were skeptics questioning its
benefits to small banks. There was widespread discussion
about the potential advantages and disadvantages of the
act in both the business press and academic studies. Suf-
ficient time has now elapsed which allows for an empirical
examination of the evidence of bank performance following
IBBEA enactment.
This study examines IBBEAʼs impact on the performance
of small banks relative to larger banks. The average return
on assets (ROA hereafter) of banks with total assets equal
to or less than $100 million and banks with total assets be-
tween $100 and $300 million is compared to average ROA
of larger banks to see if significant underperformance is
present in the post-IBBEA period. The results indicate that
Srinivas Nippani, Texas A&M University-Commerce
Kenneth M. Washer, Texas A&M University-Commerce
both groups of small banks significantly underperformed
groups of larger banks following IBBEA implementation.
The underperformance is tested using t-tests and a dummy
variable regression that controls for general economic con-
ditions and interest rate movements.
This study examines IBBEA’s impact on
the performance of small banks relative to
larger banks.
Table 1 shows that bank consolidation began long before
the enactment of IBBEA. In 1988 (beginning of sample
for this study) there were 13,373 banks. By the end of
2002, the number of banks had fallen to 7,797. Over this
entire period, category 1 banks (banks with total assets
below $100 million) fell by 6,386 banks. All other larger
bank categories increased with the exception of category 4,
which fell slightly. Bank consolidation has been a trend for
several decades. An interesting question is whether or not
IBBEAʼs impact increased or perhaps changed the incentive
for consolidation?
Literature Review
Empirical studies have shown that the passage of IBBEA
led to statistically significant gains in the banking industry.
Brook, Hendershott and Lee (1998) document a value gain
of $85 billion for the industry. Carow and Heron (1998)
report that IBBEAʼs passage had a positive wealth effect for
large bank holding companies. Fraser, Hooton, Kolari and
Reising (1997) examine the wealth effects of a decision by
the Office of Thrift Supervision (OTS) to permit interstate
branching for federally chartered savings and loan associa-
tions. They report that large savings and loan associations
and commercial banks generally experienced significant
positive wealth effects but little or no reaction was found
for smaller depository institutions following key OTS
Mid-American Journal of Business, Vol. 20, No. 2 19
Nippani and Washer
Table 1
Number of Banks in Various Size Categories at Different Points in Time
Category Bank Size
1 Banks with average assets under $100 million
2 Banks with average assets between $100 and $300 million
3 Banks with average assets between $300 million and $1 billion
4 Banks with average assets between $1 billion and $15 billion
5 Banks with average assets over $15 billion
Total
Source: Federal Reserve Bank of St. Louis
announcements in 1991 and 1992. The researchers argue
that IBBEA benefits large institutions and thus accelerates
the trend towards consolidation without necessarily com-
promising the viability of smaller institutions. Prasad (1997)
comments that “The community bank executives fear that…
the United States will consolidate its banking system to
the point of having less than 400 banks in the country once
large banks cross state lines with branches.”
In a recent study, Carow and Kane (2002) examine the
value of relaxing long-standing regulatory restraints on
banks over the period 1970-2000 and make the following
comment,
“The evidence indicates that the new financial
freedoms may have redistributed rather than created
value. Event returns are positive for some sectors of
the financial industry and negative for others.”
Based on their study, deregulation of the industry appears
to be beneficial to only some sections of the industry.
Nippani and Green (2002) show that bank performance
improved in the post-IBBEA period, but when they con-
trolled for general economic conditions and interest rate
movements, the impact of IBBEA on bank performance
appears to be insignificant. The evidence suggests that
some sections of the industry, possibly large banks looking
to merge and consolidate, stand to gain from the relaxation
of geographic restrictions, and other sections of the industry,
possibly small banks choosing not to merge and consolidate,
stand to lose.
There is evidence in the popular press that small banks
were resisting the passage of IBBEA. Coloradoʼs state gov-
ernor, over the vehement objections of small banks, vetoed
a bill that would have barred national banks from branch-
ing into or out of the state (OʼHara 1995a). Several other
articles in the popular press support the theory that small
banks were against passage. For example:
“Proponents of opting out argue that the federal law
will give big banks too much firepower to set pricing
within communities and will create inequities in the
industryʼs regulatory burden…”
20 Mid-American Journal of Business, Vol. 20, No. 2
1988.1 1995.3 2002.4
10,694 6,891 4,308
1,798 2,062 2,280
529 621 840
330 352 307
22 37 62
13,373 9,963 7,797
“The debate is perhaps most intense in Texas, home
to more than 240 small banks and a host of super-
regionals…”
“The Texas Independent Bankers Association has
managed to unite agricultural and small business
groups under the banner ʻTexas for preservation of
hometown bankingʼ…”
“Meanwhile debate is building in several other states
where opt-out bills have been introduced: Colorado,
Kansas, Missouri, Montana, Nebraska, New Mexico
and Oklahoma.” (OʼHara 1995b)
Other influential industry observers predicted that small
banks would not be disadvantaged by IBBEA. J. Alfred
Broaddus, Jr., President of the Federal Reserve Bank of
Richmond argued, “There is every reason to believe that
smaller banks will not only survive but also prosper in a
banking environment that provides expanded interstate
opportunities”(PR Newswire 1995). One could also argue
that small banks would thrive as they serve a niche that big-
ger banks find less appealing.
Research Focus
The motivation for this study comes from academic
studies and the popular press that argue both in favor of and
against IBBEA in reference to its potential impact on small
banks. These arguments about the future of small banks
following the passage of IBBEA make it very interesting
and necessary to examine the actual impact IBBEA had on
small bank performance. This study differs from other stud-
ies in that it is the first to empirically analyze small bank
performance relative to that of larger banks. The hypothesis
is simply that small bank profitability in the post-IBBEA
period is significantly below large bank profitability.
The rest of the paper is organized as follows: Section 4
describes the data and methodology used in the study, Sec-
tion 5 provides the empirical evidence, and conclusions are
in Section 6.

Data and Methodology
The purpose of this study is to examine small bank prof-
itability relative to large bank profitability in both the pre-
and post-IBBEA periods. The proxy for bank profitability is
ROA. Return on equity (ROE) is also a common measure
of profitability but it is not analyzed because it is simply
ROA adjusted for financial leverage. It can be argued that
financial leverage “noise” would interfere with comparisons
of bank profitability. ROA is robust in that bank regulators
look at this measure in evaluating bank performance, as it is
part of the CAMELS rating. Madura (2003) states:
“Banks fail when their earnings become consistently
negative. A commonly used profitability ratio to
evaluate banks is ROA, defined as earnings after
taxes divided by assets. In addition to assessing
a bankʼs earnings over time, it is also useful to
compare the bankʼs earnings with industry earnings.
This allows for an evaluation of the bank relative to
its competitors.”
The sample includes quarterly ROA for various bank
groups for the period 1988.1 through 2002.4. The data set
is divided into two groups with the separator being IBBEA
implementation (1995.3). There are thirty-one quarters
in the pre-IBBEA period and twenty-nine quarters in the
post-IBBEA period. A study examining the performance of
the average small bank with the performance of the average
large bank reveals the relative performance of small banks
in the post-IBBEA period.
Quarterly ROA data for the following categories of banks
is obtained from the Federal Reserve Bank of St. Louisʼs
Internet website:
1. Banks with average assets under $100 million
2. Banks with average assets between $100 and $300
million
3. Banks with average assets between $300 million and
$1 billion
4. Banks with average assets between $1 and $15 billion
5. Banks with average assets over $15 billion
The St. Louis Fed acknowledges that the source of the in-
formation is the Federal Financial Institutions Examination
Councilʼs Reports of Condition and Income for All Insured
U.S. Commercial Banks. In order to determine whether or
not small banks underperformed larger banks, DROA is
calculated by taking the difference in quarterly ROA of
small banks (Categories 1 and 2 above) and larger banks
(categories 2-5 above) and naming this variable DROA. The
following seven DROAs are calculated:
DROA1-2 = Category 1 ROA less category 2 ROA (1)
DROA1-3 = Category 1 ROA less category 3 ROA (2)
DROA1-4 = Category 1 ROA less category 4 ROA (3)
DROA1-5 = Category 1 ROA less category 5 ROA (4)
DROA2-3 = Category 2 ROA less category 3 ROA (5)
DROA2-4 = Category 2 ROA less category 4 ROA (6)
DROA2-5 = Category 2 ROA less category 5 ROA (7)
Nippani and Washer
Category 1 banksʼ ROA for 1988.1 is the average for all
10,694 banks in that category. As banks exit this category
for various reasons (strong growth, merger, bankruptcy, etc.)
they no longer impact the ROA calculation for this category.
This could possibly bias the results. Obviously, if banks
leaving this category have higher ROAs then the categoryʼs
ROA will suffer. However, banks could just as easily leave
due to bad performance resulting in bankruptcy or merger.
If this is the case, the categoryʼs ROA will increase due to
the laggards exit.
ROA is robust in that bank regulators look
at this measure in evaluating bank perfor-
mance, as it is part of the CAMELS rating
First, a t-test is used to determine whether DROA is nega-
tive and significant in the post-IBBEA period. This would
indicate that small banks underperformed bigger banks post-
IBBEA. Second, a t-test is used to compare pre-IBBEA and
post-IBBEA DROA values. If small banks performed poorly
in the post-IBBEA period as compared with the pre-IBBEA
period, one would expect the mean DROA to be significant-
ly lower in the post-IBBEA period.
A dummy variable regression is used to examine the
impact of IBBEA on small bank performance. Consistent
with the Nippani and Green (2002), changes in real GDP
and the prime rate are included as independent variables in
the regression equation. Controlling for these macro-eco-
nomic variables allows the examination of changes in ROA
holding other important variables constant. Banks tend to
perform better when the economy is expanding and interest
rates are falling. These two variables are obtained from the
St. Louis Fedʼs website. Regressions for all seven DROA
variables are estimated using the following equation:
DROAn-m=B0+B1(IBEADUMMY)+B2(RGDP+B3(RPRIME) (8)
DROAn-m is the dependent variable where n takes a value
of either 1 or 2, and m takes a value of 2-5 depending on
the size category comparison. β0, β1, and β2 are coefficient
estimates. The IBBEADUMMY takes a value of 0 for the
pre-IBBEA period and a value of 1 for the post-IBBEA
period. The hypothesis is that this variableʼs coefficient
estimate (β1) will be negative and significant, thus indicat-
ing that ROA for smaller banks is significantly less than
ROA for larger banks in the post-IBBEA period. RGDP is
the percentage change in real GDP and is included in the
regression equation to control for macro economic changes
in the economy. PRIME is the prime rate and is included in
the equation to control for general changes in interest rates.
The t-test results and regression results are presented in the
next section.
Mid-American Journal of Business, Vol. 20, No. 2 21
Nippani and Washer
Table 2
Results of t-tests for Comparison Between Pre- and Post-IBBEA Periods for Small Banks Versus Larger Banks
Variable Name Pre-IBBEA mean (n=31)
Panel A: Banks with average assets ≤ $100 million versus larger bank classes
DROA1-2 -0.0042 (0.101)
DROA1-3 0.038* (0.105)
DROA1-4 0.039 (0.227)
DROA1-5 0.264** (0.254)
Panel B: Banks with average assets between $100 - $300 million versus larger bank classes
DROA2-3 0.080** (0.074)
DROA2-4 0.081* (0.211)
DROA2-5 0.306** (0.231)
*Indicates t-value significant at 0.05 level.
**Indicates t-value significant at 0.01 level.
Column 1 shows the various DROA comparisons. Column 2 displays the pre-IBBEA DROA mean and standard deviation (in parenthesis). Column 3 shows the post-IBBEA DROA mean and standard
deviation (in parenthesis). The difference between the pre and post-IBBEA period means is shown in column 4.
Empirical Evidence
The results of the t-tests comparing pre-IBBEA DROA
with post-IBBEA DROA for the various size categories
are given in Table 2 above. Panel A of Table 2 focuses on
category 1 banks and compares their ROA performance to
banks in categories 2-5. Column 2 shows that small banks
significantly outperformed larger banks in two of the four
cases during the pre-IBBEA period. In no case, however,
did small banks significantly under perform larger banks in
this period. In the post-IBBEA period (column 3), the situ-
ation is dramatically different as DROA values are all nega-
tive with three of four being statistically significant. The
difference between DROA for pre and post-IBBEA periods
is shown in column 4. These differences are all significant at
the 0.01 level which provides validity to the contention that
small banks were harmed by IBBEA.
Panel B of Table 2 compares the ROA performance of
category 2 banks with banks in categories 3-5. The results
in this panel are virtually identical to panel A. Category 2
banks outperformed larger banks in the pre-IBBEA period,
and DROA values in column 2 are all statistically significant.
As expected, in the post-IBBEA period small banks signifi-
cantly underperformed two of the three classes of larger
banks. The difference in DROA values in the pre- and
post-IBBEA periods is significant in all cases. The evidence
in Table 2 indicates that 1) small bank performance was sig-
nificantly worse than large bank performance in the post-IB-
BEA period and, 2) this under performance was in contrast
to equal if not better relative performance in the pre-IBBEA
period.
The regression results are presented in Table 3. Panel
A compares the ROA of category 1 banks with banks in
categories 2-5. Panel B compares the ROA of category 2
banks with banks in categories 3-5. The coefficient esti-
mates of IBBEADummy are negative and significant in all seven
regressions. This estimate ranges from -0.36 to -0.11 and
22 Mid-American Journal of Business, Vol. 20, No. 2
Post-IBBEA mean (n=29) Difference in Means
-0.143** (0.049) 0.101**
-0.225** (0.090) 0.264**
-0.365** (0.186) 0.403**
-0.067 (0.192) 0.331**
-0.082** (0.062) 0.162**
-0.222** (0.159) 0.303**
0.076** (0.164) 0.230**
indicates that ROA for category 1 and category 2 banks fell
anywhere from -0.36 to -0.11 relative to the ROA of bigger
banks in the post-IBBEA period. The two other independent
variables in the equation are generally insignificant or are
only marginally significant. Perhaps the most important
evidence presented in Table 3 is that despite controlling for
general economic conditions and interest rates, small bank
performance has been inferior to large bank performance in
the post-IBBEA period.
Conclusions
This study examines the performance of small banks
both prior to and after geographic restrictions on interstate
banking and branching were abolished. The findings indi-
cate that small banks were competitive with, if not superior
to, industry averages prior to the passage of IBBEA, but
their performance deteriorated significantly in the period
following the implementation of the act. This finding also
lends support to articles in the popular press that predicted
that small banks might face tougher business conditions
following IBBEA implementation. This research contributes
to the literature by showing that since the implementation of
IBBEA, small bank profitability is significantly below that
of larger banks.
There are several potential long-term consequences for
small banks. First, sub-par ROAs will negatively impact
CAMELS ratings. Regulators use these ratings in determin-
ing the health of the institution and may impose additional
monitoring costs on small banks, thus decreasing ROAs
even more. Second, small banks that badly underperform
may invest in riskier assets in hopes of increasing their
returns and thus endangering the quality of their assets. This
may lead to an increase in deposit insurance premiums and
thereby create long run problems for regulators and taxpayers.
 Nippani and Washer

Table 3
Results of Regression Analysis

Dependent Variable Adjusted R-square Intercept IBBEAdummy RGDP PRIME

Panel A: Banks with average assets ≤ $100 million versus larger bank classes
DROA1-2 0.34 0.07 -0.11** -0.01 -0.01*
DROA1-3 0.65 0.07 -0.27** 0.01 0
DROA1-4 0.52 -0.1 -0.36** -0.05 0.02
DROA1-5 0.39 0.02 -0.31** 0 0.03

Panel B: Banks with average assets between $100 - $300 million versus larger bank classes
DROA2-3 0.61 0 -0.16** 0.02 0
DROA2-4 0.47 -0.17 -0.27** -0.04 .03*
DROA2-5 0.34 -0.06 -0.20** 0.01 0.04**

*Indicates value significant at 0.05 level.

** Indicates value significant at 0.01 level.
The dependent variable is the difference in average ROA (DROA) of banks in various size categories. IBBEAdummy is a dummy variable assigned a 0 in the
quarters from 1988.1 through 1995.3, and a 1 in the quarters from 1995.4 through 2002.4. RGDP is the quarterly percentage change in real Gross Domestic Product.
PRIME is the prime rate at the end of each quarter.

Nippani and Green (2002) report that overall bank PR Newswire. 1995. Federal Reserve Bank of Richmond’s Presi-
performance improved in the post-IBBEA period as com- dent Comments on Banking Industry in Cross Sections. P.R.
pared with the pre-IBBEA period, but when controlling for Newswire, Financial News Section, June 2.
general economic conditions and interest rate movements,
the impact of IBBEA on bank performance appears to be in-
significant. This study extends Nippani and Greenʼs (2002) About the Authors
work by focusing on bank size in the pre- and post-IBBEA
periods. ■ Srinivas Nippani got his Ph.D. in finance from the Univer-
sity of Arkansas. He is currently an Assistant Professor with the
Economics and Finance department at the Texas A&M University-
References Commerce. His work has been published in The Journal of Finan-
Brook, Y., Hendershott, R., & Lee, D. 1998. The gains from take- cial and Quantitative Analysis, the Quarterly Review of Economics
over deregulation: Evidence from the end of interstate banking and Finance and the Journal of Economics and Finance among
restrictions. The Journal of Finance, 53(6):2185-2204. others. sri_Nippani@tamu-commerce.edu
Carow, K. A., and Heron, R.A. 1998. The interstate banking and
branching Efficiency Act of 1994: A wealth event for acquisi- Kenneth M. Washer earned his DBA in finance from Louisiana
tion targets. Journal of Banking and Finance. 22:175-196. Tech University. He is currently an Assistant Professor at Texas
Carow, K.A., and Kane, E. J. 2002. Event-study evidence of the A&M University-Commerce. His work has been published in the
value of relaxing long-standing regulatory restraints on banks, Journal of Banking and Finance, the Journal of Applied Business
1970-2000. The Quarterly Review of Economics and Finance Research and Financial Counseling and Planning among others.
42(3):439-463. Kenneth_washer@tamu-commerce.edu
Federal Reserve Bank of St. Louis, http://www.research.stlouisfed.
org/fred2/.
Fraser, D. R., Hooton, J. L., Kolari, J.W., and Reising, J. J. 1997.
The wealth effects of interstate branching. Journal of Banking
and Finance. 21(5):589-611.
Madura, J. 2003. Financial markets and institutions. Sixth Edition,
Thomson -South Western.
Nippani, S., and Green, K. W. 2002. The banking industry after the
Riegle-Neal Act: Re-structure and overall performance. The
Quarterly Review of Economics and Finance. 42(5):901-909.
O’Hara, T. 1995a. Governor slaps a veto on Colorado Opt-Out Bill.
The American Banker. Community Banking section. (March
14):1.
O’Hara, T. 1995b. Circling of Wagons to Fend off Branching. The
American Banker. Community Banking Section (February
15):6.
Prasad, R. 1997. Can technology even things up for community
banks? Mid-American Journal of Business. 12(2):13-21.

Mid-American Journal of Business, Vol. 20, No. 2 23

Modeling Internet Operations Using Initial Public Offerings
Abstract
In this research we test the generalizability of an existing
model for classifying information-intensive services that can
be globally disaggregated to Internet services. This catego-
rization allows us to judge which types of Internet Initial
Public Offerings (IPOs) are likely to have superior perfor-
mance. Specifically, we hypothesize that Internet firms with
higher information intensity, lower physical presence and
lower customer contact needs will have a greater probabil-
ity of generating larger risk-adjusted returns. We test these
hypotheses on 340 Internet IPOs and find partial support for
the model. In particular, Internet firms with high informa-
tion intensity and low customer contact need yield superior
performance. However, firms with low physical presence
underperform in our sample.
Introduction
E-commerce allows organizations to facilitate relation-
ships with customers, buyers and suppliers. Some organiza-
tions expect this technology to reduce costs, improve quality
and reduce lead times. Others hope e-commerce will serve
as the basis for entirely new business models. One of the
main portals for e-commerce investment is the Internet. The
Internet provides a common platform not only for a compa-
nyʼs internal activities, but also for connections with opera-
tions throughout the entire supply chain (Vakharia 2002).
To generate sufficient capital for e-commerce investment,
new firms often consider an Initial Public Offering (IPO).
The late 1990s produced large numbers of new e-commerce
ventures, many of which issued IPOs. Unfortunately, many of
these new ventures had poor business models with respect to
the Internet and although there was an initial run up in stock
prices, the recent market correction has left many investors,
entrepreneurs and venture capitalists wondering if Internet
commerce is a viable medium to exchange transactions.
If managers and investors are to appropriately channel
investment funds toward Internet operations, one key to ap-
propriate decisions is understanding which business models
are more likely to benefit from the technology. Unfortunate-
ly, the current literature provides little empirical evidence on
Sameer Prasad, University of Wisconsin-Whitewater
David C. Porter, University of Wisconsin-Whitewater
Linda Yu, University of Wisconsin-Whitewater
the connection between the type of Internet operation and
financial performance.
…the recent market correction has left
many investors, entrepreneurs and
venture capitalists wondering if Internet
commerce is a viable medium to
exchange transactions.
To provide this empirical connection, we use the lit-
erature in information technology and service operations
to locate an appropriate model. Although we find several
models with some applicability, we use the Apte and Mason
(1995) model of disaggregation of information-intensive
services owing to its relevance, support in the literature, and
testability.
The remainder of the paper is organized as follows. Sec-
tion 2 contains the literature review and hypotheses, Section
3 the variable definitions, Section 4 the data and methodol-
ogy, Section 5 the results and Section 6 concludes.
Literature Review and Hypotheses
The extant literature contains both theoretical and de-
scriptive models in the area of Internet use (Matthew 1998;
Rai, Ravichandran and Samaddar 1998; Lin 1999). Other
researchers have explored the connections of e-commerce
with a whole host of issues including trust (Kanawattana-
chai and Yoo 2002; Pavlou 2002), strategy (Lee 2001; Sweet
2001), and customer needs (Chen and Dubinsky 2003).
However, these models do not indicate which business types
would provide superior performance using the Internet.
Extensive research exists on estimating the value of
traditional IT investments (Gurbaxani and Whang 1991;
West and Courtney 1993). On the other hand, the Internet
literature indicates that the web is expected to provide a
mechanism for cost reduction (Keeney 1999; Harris and
Katz 1991), quality improvement (Finch 1999; Keeney
1999), and lead-time minimization (McKnight and Bailey
1997; Keeney 1999) but several of these models are based
on internal analysis that is generally not available to inves-
tors when examining firms from external sources.
Mid-American Journal of Business, Vol. 20, No. 2 25
Prasad, Porter, and Yu
In this research, rather than attempting to estimate the
cost/benefit equations for the Internet ventures, our interest
is in linking industry characteristics with financial perfor-
mance as measured by stock market returns. We assume that
cost reduction, increased quality and reduced lead-times
should lead to improved financial performance of a com-
pany but the amount of such improvement could vary by
industry classification.
The literature on e-commerce provides some clues on
how to categorize firms. For example, researchers have
examined the economic implications of agent technologies
and e-commerce (Vulkan 1999). E-commerce requires that
agents be present. Agents are computer systems that enable
autonomous operations (Vulkan 1999) and can yield results
only when the activities can be disaggregated. In other
words, the potential of e-commerce lies in the disaggrega-
tion of value chain activities in a manner that transcends
both organizational and geographic boundaries (Apte and
Mason 1995). Advances in IT such as the Internet allow
information intensive activities to be dispersed out of the
“office” (Apte and Mason 1995). Thus, it is essential that
any model used to gauge the effectiveness of e-commerce
organizations captures the potential to disaggregate activi-
ties. The same critical aspect of analysis is also found in the
international information systems literature, where distances
require a greater degree of disaggregation of components
similar to the Internet.
Three primary areas relevant to disaggregation are exam-
ined in the literature: customer contact, information inten-
sity, and physical presence. The area of customer contact
has been recognized as an important construct (Schmenner
1986; Haywood-Farmer 1988; Wemmerlov 1990). Con-
siderable research (e.g. Karmarkar and Pitbladdo 1995;
Soteriou and Chase 1998), also provides empirical support
for customer “contact” theory. In addition, the academic
literature related to CRM and online transactions indicates
that the organizational network is focused around customers,
not suppliers (Achrol and Kotler 1999).
Achrol and Kotler (1999) conclude that at the core of this
organizational network is a collection and dissemination of
information about customers and the quality of knowledge
represents the primary source of power. Other literature also
points to the significance of information within organiza-
tions. Constructs of information richness/intensity are in-
cluded in several models including Porter and Miller (1985),
Harris and Katz (1991), and Apte and Mason (1995).
Finally, the role of physical flows is widely studied in the
operations management and industrial engineering literature.
Apte and Mason (1995) suggest that time and motion stud-
ies are the primary method used to measure and improve
upon the physical processes but Lee and Whang (2001) ex-
tend the role of physical flows to e-fulfillment efficiencies.
In summary, substantial support exists for each of the
three disaggregation constructs, information attributes, cus-
tomer contact need and physical presence. Hence, we pro-
pose three testable hypotheses of Internet firm performance:
26 Mid-American Journal of Business, Vol. 20, No. 2
H1: There is no significant difference in performance
between Internet firms with low versus high infor-
mation intensity.
H2: There is no significant difference in performance
between Internet firms that require low versus high
customer contact.
H3: There is no significant difference in performance
between Internet firms that require low versus high
physical presence.
To test the three hypotheses, we define each construct as
well as identify superior performance. These definitions are
developed in the following section.
Classifying Internet Ventures and
Performance
The Apte and Mason (1995) model provides a classifica-
tion system able to identify industries that can be disag-
gregated using the three constructs. Their model identifies
the propensity to globally distribute different types of jobs
based upon the three constructs. The nature of globally dis-
persing services implies a distance between customers and
the organization. In this research, we believe that this con-
cept of distance is appropriately applicable to the Internet.
Measuring Information Attributes
The degree of information content in a business is de-
fined by both Apte and Mason (1995) and Porter and Miller
(1985). Apte and Mason define information intensity as “the
ratio of time spent in dealing with information in an activity
to the total time spent in that activity.” Porter and Miller
suggest information can be measured along two dimensions:
the information content of the product and the information
intensity of the value chain. If we apply this analysis and
use the same categorization scheme of Apte and Mason,
(e.g. categorize each of these dimensions as either low,
medium or high), the combination results in five descriptive
categories as indicated in Figure 1. Category one is defined
as low information content and low information intensity of
the value chain; category two, low information content and
medium information intensity of the value chain, or medium
information content and low information intensity of the
Figure 1
Information Attributes Grid
High 4 5
Information Medium 2 3 4
Content
Low 1 2
Low Medium High
Information Intensity

value chain; category three, medium information content
and medium information intensity of the value chain; cat-
egory four, medium information content and high informa-
tion intensity of the value chain, or high information content
and medium information intensity of the value chain; and
category five, high information content and high informa-
tion intensity of the value chain. As an example, we would
classify a company like E-toys as category one—low in in-
formation intensity since the products contain low amounts
of information and relatively little information exists within
the value chain.
Measuring Customer Contact Need
Apte and Mason (1995) define customer contact need as
“the interface between the customer and the service provid-
er.” Borrowing from Chase (1981), the construct is defined
along two dimensions: in-person contact and symbolic
contact. The level of contact need is a function of the “in-
person” contact desired by the customer (internal/external),
buyer, or supplier, and the degree to which information can
be symbolically represented. Consistent with these previ-
ous studies, we define the “in-person” contact dimension
as mutual confiding and trust. We partition it into three
levels: low, medium and high. Symbolic contact is when the
main purpose of a customerʼs presence is to exchange the
information necessary for service creation and consump-
tion, and can be easily represented (Apte and Mason 1995).
This dimension is partitioned into three different categories
resulting in total five descriptive categories as indicated
in Figure 2. Category one is defined as high in-person and
low in symbolic; category two, medium in-person and low
in symbolic, or high in-person and medium in symbolic;
category three, low, medium, or high for both; category four,
low in-person and medium symbolic, or medium in-person
and high in symbolic; and category five, low in-person and
high symbolic.
Consider the following examples. In some operations
such as purchasing shares, the need for in-person contact is
low, whereas in the teaching environment desire for contact
can be high. Symbolic representation is the degree to which
information in a business could be represented appropriately
and transferred over the Internet. For instance, financial data
and execution of orders would be relatively easy to symboli-
cally represent, reducing the need for actual contact. Taste
Figure 2
Customer Contact Grid
High 1 2 3 its start as the cartographic unit of R. R. Donnelley & Sons
In-person
Contact Medium 2 3 4
Low 3 4 5
Low Medium High
Symbolic Contact
Prasad, Porter, and Yu
and smell characteristics of products in a bakery, on the
other hand, would be difficult to represent symbolically.
Measuring Physical Presence Need
Porter and Miller (1985) suggest that almost all value
chain activities have a physical task/component associated
with them. Physical items need to be transported, sorted or
perhaps processed/assembled. However, it is important to
remember that even manufacturers such as General Mo-
tors have substantial information necessary to enable value
added operations. Thus, Apte and Mason (1995) define the
physical presence need as “the ratio of time spent in physi-
cal actions to the total time spent in a service activity.” Once
again, this construct is partitioned into the three categories:
a low amount of physical presence is classified at category
three and a high amount of physical presence is classified at
category one as indicated in Figure 3.
Figure 3
Need for Physical Presence Scale
1 2 3
High Medium Low
Physical Presence
In summary, we use the definitions of information
attributes, customer contact need and physical presence
developed by Apte and Mason (1995) to categorize Internet
firms into a 5x5x3 matrix: five categories for information at-
tributes, five categories for customer contact need and three
categories for physical presence. This matrix is then used to
determine if there are significant differences in the Internet
IPO performance across each of the three constructs.
For example drugstore.com, Inc. is an online retailer
that sells name-brand and private-label health and beauty
products and prescription drugs. It also sends refill remind-
ers via e-mail and offers detailed information about drugs
and health issues. This IPO was classified as having low
information content and low information attributes of the
value chain, high in person and low in symbolic, and high
in physical presence. Hence, for the information attributes
rating it received 1, for customer contact 1, and physical
presence 1. MapQuest.com, Incʼs online products and ser-
vices are geared for people who want to go someplace. The
company (formerly GeoSystems Global Corporation) got
that supplies maps and proximity information. We classified
this IPO as high in information content and high information
intensity of the value chain, low in person and high in sym-
bolic, and low in physical presence. Thus, MapQuest.com,
Inc was rated 5 for information attributes, 5 for customer
contact and 3 for physical presence.
Mid-American Journal of Business, Vol. 20, No. 2 27
Prasad, Porter, and Yu
Measuring Internet IPO Performance
The finance literature provides several models for
measuring performance. In most of these models there is a
two dimensional trade-off between risk and return—as risk
increases, expected returns also increase—therefore it is not
possible to measure performance without measuring both
risk and return. The historical existence of the risk-return
trade-off is demonstrated methodically with the annual pub-
lication of Ibbotson Associates yearbook “Stocks, Bonds,
Bill, and Inflation”—the lowest risk bills average the lowest
returns followed by bonds and then by stocks. Small firms
have the highest risk and have the highest average returns
over the period of the study. The fact that bills have lower
returns than small firms is a meaningless comparison until
the returns are adjusted for the differences in risk between
the two groups of securities.
The Ibbotson yearbook uses existing security prices to
generate risk and return measurements. Risk and return
measurement in the IPO market is much more difficult since
IPOs, by their nature, do not have historical information
available to gauge risk classifications and IPOs have known
return measurement anomalies.
There is substantial evidence demonstrating that IPO
markets contain two anomalous returns periods, initial
underpricing and long-term overpricing. Underpricing
implies that the initial offering price is lower than market
expectations and there is usually a dramatic price increase
in the first day of IPO trading. In a review paper by Ritter
and Welch (2002) about IPO activities, we see IPO shares
trade on average at 18.8 percent above the original issue
price during 1980 to 2001. On the other hand, the long-run
performance of these hot IPOs consistently underperforms
seasoned companies by an average of 23.4 percent for the
same time period.
For several decades, the IPO literature has been virtu-
ally unanimous in its conclusion that IPOs are underpriced
in the short term (Ibbotson 1975; Ibbotson, Sindelar and
Ritter 1988; Levis 1993, Bradley and Jordan 2002) and that
most of the marketʼs response to the underpricing occurs
on the first few trades of the first trading day after the IPO
issue (Barry and Jennings 1993). Critics have charged that
the first day run-ups benefit Wall Street firms and their best
customers but hurt individual investors who rarely have
an opportunity to purchase IPOs at the offering price. The
recent advisory committee formed by the NYSE and NASD
at the request of SEC chairman Harvey Pitt demonstrates the
concern over this long standing issue.
Several theories have been forwarded to explain the
initial underpricing including “winnerʼs curse” (Rock 1986),
costly information acquisition (Benveniste and Spindt
1989), information asymmetries between issuers and their
investment bankers (Baron and Holmstrom 1980), avoid-
ance of legal liability (Tinic 1988), and signaling (Grinblatt
and Chuan 1989), but no theory adequately explains the ini-
tial IPO underpricing. The lack of a consensus explanation
for the anomaly has led many researchers (e.g. Kunz and
28 Mid-American Journal of Business, Vol. 20, No. 2
Aggarwal 1994; Aggarwal and Rivoli 1990) to remove early
trading from their research. Consistent with this analysis, we
follow the same procedure for generating initial IPO prices.
More complex is the long-run (1 to 5 year) overpricing
that occurs after the IPOs are listed. Again, although several
theories attempt to explain the long-run overpricing (Schultz
2003; Ritter 1991; Reilly 1977), none adequately explains
the IPO long-run performance and there is no consensus on
when the long-run overpricing occurs. Further, the current
theories do not differentiate which industries may under- or
over-perform across a specified time frame.
During the first 180 days (6 months) following an IPO,
company employees, directors, venture capitalists and other
big shareholders are prohibited from selling their shares.
This common practice is called lockup period. As soon as
the lockup period expires, these big shareholders usually
sell and cause stock price to fall in the secondary market
(Aggarwal, Krigman, and Womack, 2002). Since the IPOs
are underpriced in the short term and overpriced in the long-
run, the choice of a return period for performance measure-
ment is concerning. For purposes of this paper, we use a six
month return period which confines our study within the
lockup period. Although the choice of six months is arbi-
trary, it is chosen in an attempt to balance the two anomalies
and to avoid the selling pressure effect once the lockup
period expires. Statistical tests computed later in the paper
imply that the six month choice adequately balances the two
anomalies.
Data and Methodology
Our initial sample includes 2,967 IPOs over the period
January 1, 1995 to December 31, 2002 covering the pre- and
post-Internet bubble period. These IPOs are screened for
Internet related businesses using Internet related definitions
(e.g. Internet, Internet Services, Internet Development (Ser-
vices), Internet Healthcare) from IPO.com, IPO Maven and
Media General. IPOs not listed as Internet related by any
definition are deleted from the sample resulting in 391 IPOs.
These IPOs are then screened for complete data over the test
period resulting in a final sample of 340 IPOs. Complete
data are defined as having both stock price information and
the company information necessary to categorize the firm
within the three constructs.
To measure market adjusted returns, we follow the meth-
odology of Aggarwal and Rivoli (1990):
[ ]
ARit = Pit - Pi1 Mit - Mi1
Pi1 Mi1
where ARit is the market-adjusted return of stock i at time t,
Pit is the price of stock i at time t, Pi1 is the price of stock i at
the end of the first day of trading of the IPO, and M is simi-
larly defined for an appropriate market index. Since all of
our IPOs are listed on the Nasdaq, we use the Nasdaq as the
 Prasad, Porter, and Yu

appropriate market index. The earlier discussion and capital
market theory dictates the use of a broad market index rather
than a portfolio of IPOs since investors are assumed to
hold diversified portfolios and are interested in how a stock
affects a broad based portfolio rather than its performance
within a small group. As discussed in the previous section,
we used a six month return period.
Each firm is assessed within the three constructs. Clas-
sifications are based on descriptions of company strategy,
marketing plan, products and operational setups. Descrip-
tive statistics are generated including: 1) a frequency plot of
the number of IPOs issued by year, 2) distribution of firms
by the various levels within the three constructs, and 3)
distribution by type of business. To test the internal validity
of the classification process, we employ an external audi-
tor to re-rate each firm. For each construct, we compute the
difference in measurement between the raters and test for
significant differences. We found no significant difference
in construct classifications and the inter-rater reliability
at 0.88. A larger team of raters would improve the clas-
sification reliability but the similarity of the classifications
between the independent raters in this study suggests that
managers could have internet projects or ventures ranked by
small teams and at low cost, and yet achieve high inter-rater
consistency.
Four additional statistical tests are used to determine
performance differences. First, a t-test for difference of
means is used to determine if Internet firms, on average,
have greater returns than the Nasdaq over the study period.
Second, a ridge regression was employed to examine the
possible influence of multicollinearity among the parameter
estimates. Third, a linear regression is used to test the valid-
ity of the Internet model using net return as the dependent
variable with information attributes, physical presence and
customer contact as independent variables. Finally, we also
ran a regression based on one year net returns relative to in-
formation attributes, physical presence and customer contact
classifications.
Results
Descriptive Statistics
Figure 4 shows our sample of Internet IPOs is more
heavily information intensive, implying that the interface

Figure 4
Frequency Distribution within Three Dimensions*

Information Attributes Customer Contact Need Physical Presence

Category 1
Category 2 (35)
Category 1 (11) Category 2
(56) (26) Category 1
(84)
Category 5 Category 3 Category 5 Category 3
(217) (25) (156) Category 3 (165)
(86)
Category 2
Category 4 (91)
(31)

Category 4
(37)
* N = 340

Construct Category 1 Category 2 Category 3 Category 4 Category 5

(Description) (Description) (Description) (Description) (Description)
Information Attributes Low information con- Low information Medium information Medium informa- High information con-
tent & low information content & medium content & medium tion content & high tent & high information
intensity information intensity, information intensity information intensity, intensity
or medium information or high information
content & low informa- content & medium
tion intensity information intensity
Customer Contact High in-person & low Medium in person & Low, medium, or high Low in person & Low in person & high
in symbolic low in symbolic, or for both medium symbolic, or symbolic
high in person & me- medium in person &
dium in symbolic high in symbolic
Physical Presence High Medium Low

Mid-American Journal of Business, Vol. 20, No. 2 29

Prasad, Porter, and Yu

in performance between firms with low versus high values

Figure 5
Frequency Distribution of the Number of for each construct. Firms with greater information intensity
Internet IPOs Issued by year. exhibited above average market-adjusted performance (ß
= 38.62, p ≤ 0.01). The positive coefficient indicates that
Internet firms with relatively high information intensity will
on average yield 38.6 percent market-adjusted performance.
200 This finding is consistent with our earlier discussion since
150
firms with significant information intensive value added
Count activities should be more successful using the Internet over
100 the long-term than firms such as retail outlets with much
less information intensity.
50 Inconsistent with expectations, firms with lower physi-
cal presence need in their operations, yield lower mar-
0
1995 1996 1997 1998 1999 2000 2001 2002 ket-adjusted returns (ß = –51.06, p= 0.01). The negative
coefficient suggests that organizations with lower physical
Year
presence will yield 51.1 percent worse market-adjusted
performance relative to other Internet IPOs in our sample.
One possible explanation is that physical operations usually
revolve around manufactured items where value has been
between customer and service provider can be easier to long established. For services, value is more difficult to
support and requires less physical movement of goods and ascertain. For example, a manufactured item provides value
people. Figure 5 presents the IPO distribution by year and for years, whereas a service could be instantly perishable.
indicates that although Internet IPOs are offered in each of Another possible explanation for the lower yield for low
the eight-year sample, the majority were issued in 1998- physical presence firms could be that the startup costs/bar-
2000. Table 1 provides frequency counts of business lines riers are low for these firms causing a fast proliferation of
for the Internet IPOs and demonstrates the wide distribution competitors.
across business type, with software being the most common
followed by content and retail operations.
Table 1
Inferential Statistics Frequency Distribution by Type of Business
The IPO mean net return over the Nasdaq was 2.15
percent with a standard deviation of 132 percent. Given the Administration/Transactions 9
339 degrees of freedom, the resulting t-value of 0.0163 is Auctions 11
Collaborations 1
not significant and implies that our choice of a six-month
Communities 2
returns period adequately balances the underpricing and Consulting 13
overpricing concerns discussed earlier. Also, as expected our Content 29
regression analysis over a one-year span yielded a minimal E-business 12
adjusted r-squared value of .023, further reinforcing our Education 6
E-mail 5
choice of using a six-month span.
Financial/Insurance 21
A ridge regression trace of the estimated standardized Games/Entertainment 3
regression coefficients (ßs) is presented in Figure 6. As it Hardware 12
is apparent in Figure 6, the signs of the ßs do not change Hardware/Software integration 11
throughout the entire spectrum of the biasing constants K. HRM 4
Infrastructure 19
Hence, we can safely ascertain that the multicollinearity is
ISP 15
not severe enough to distort the parameter estimates (Neter, Links 5
Wasserman and Kunter, 1985). Thus, the use of the Ordinary Marketing 19
Least Squares (OLS) is appropriate. Mix 5
Running the three independent variables (information Monitoring 7
Music 7
attributes, physical presence and customer contact) with the
Others 5
dependent variable (market adjusted abnormal return) in an Portal 9
OLS regression yielded an R value of 31%, implying the Real Estate 3
model has some explanatory power. Retail 29
Table 2 shows the regression coefficients, standard er- Search Engines 3
Software 64
rors, and t-statistics for the three independent variables. All
Travel 5
three coefficients are significant (p ≤ .05). Hence, we can Web-hosting 6
reject all three null hypotheses that there is no difference

30 Mid-American Journal of Business, Vol. 20, No. 2

 Prasad, Porter, and Yu

Figure 6
Ridge Regression Trace for the Three Constructs

0.5
0.4
0.3
0.2
0.1
0
-0.1
-0.2
-0.3
-0.4
0 0.05 0.1 0.15 0.2 0.25 0.3 0.35 0.4 0.45 0.5 0.55 0.6 0.65 0.7 0.75 0.8 0.85 0.9 0.95
K
information customer physical

Finally, the customer contact variable also yielded statis- can use this information to determine what type of business
tically significant results (ß = 8.98, p ≤ 0.05) indicating that should be moved to the Internet. In addition, venture capital-
Internet ventures, where the desire for in-person customer ists, investors and managers can apply this model to channel
contact is low and the information can be symbolically investments into projects more likely to generate superior
represented with ease, will yield higher market-adjusted performance. An interesting finding of our research was that
performance. The results imply that firms that can more those firms with a greater physical presence tended to have
easily transcend the interface between customer and service on average higher market adjusted returns. Hence, it might
provider should yield 9 percent better performance. be possible to extrapolate that customers might prefer “brick
and click” business relative to only on-line operations.
Making such generalizations could be risky, given that the
Conclusion analysis was based only upon online firms and that market
This research can provide direction for managers, inves- adjusted returns (not net returns) were used to measure
tors, IT entrepreneurs and venture capitalists by suggesting performance.
the type of startups that would yield above average market- These research findings are also of value in linking the
adjusted performance and perhaps the Internet models that literature in service operations and global information sys-
might be more successful. Specifically, we find that IPO tems to Internet based operations and show that a model like
firms having high information attributes and low customer the Apte and Mason (1995) one of global disaggregation can
contact need significantly outperform other Internet IPOs be generalized to other mediums. It is important to under-
after adjusting for market-related risk. Contrary to expecta- stand some of the assumptions that might limit the gener-
tions, firms with low physical presence need have signifi- alizability of our findings. Since we tested the performance
cantly worse market-adjusted performance relative to other of Internet IPOs in the United States, the results may not be
Internet IPOs in our sample. directly applicable to traditional brick and mortar operations
The results of this research are valuable to both academ- moving into e-commerce venues. In addition, the conclu-
ics and practitioners. Entrepreneurs of Internet operations sions from this analysis are only valid to Internet IPOs
listing in the United States. Finally, as technology changes
rapidly overtime, some variables such as the symbolic repre-
Table 2 sentation within the customer contact might be dramatically
Linear Regression Between Net Returns and
affected. These issues naturally lead to the possibility of
Internet Dimensions
future research.
Unstan- Coefficients Our model seeks to identify market performance of Inter-
Independent t- Signifi-
dardized Standard net IPOs by business type. The overall model is able to ex-
Variables value cance
(ß) Error
plain 31 percent of the returns behavior. Additional variables
Information 38.62 6.80 5.679 p ≤ 0.01
might increase the modelʼs explanatory power. For example,
intensity
a large part of a firmʼs performance is also based on the its
Customer contact 8.98 5.23 1.714 p ≤ 0.05
characteristics and management. Research on the interac-
Physical presence –51.06 12.92 –3.95 p ≤ 0.01 tions between management policies and the three constructs

Mid-American Journal of Business, Vol. 20, No. 2 31

Prasad, Porter, and Yu
would be useful. In addition, it would be worthwhile to
replicate this study on other high-technology stock markets
in other developed regions (Canada, Europe, and Japan) as
well as in developing countries (India and Taiwan). Re-
searchers might also explore the role of the three constructs
utilized in this study and compare the performance between
only online organizations with those that are “brick and
click.” Finally, it would be beneficial to gauge how changes
in technology interact with information attributes, customer
contact, and physical presence as measured by financial
success. ■
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About the Authors

Sameer Prasad is Professor of Management at the University

of Wisconsin—Whitewater. His research interests lie in the areas
of supply chain management, e-commerce, and global operations
management. prasads@uww.edu

David Porter is Professor of Finance at the University of

Wisconsin—Whitewater. His main area of research is market
microstructure. porterd@uww.edu

Linda Q. Yu is Assistant Professor of Finance at the University

of Wisconsin—Whitewater. Her research interests lie in the areas
of Treasury Inflation-Indexed Securities, Initial Public Offering,
and market microstructure. yuq@uww.edu

Mid-American Journal of Business, Vol. 20, No. 2 33

The Communication Effectiveness of System Models Using
the UML versus Structured Techniques:
A Field Experiment
Abstract
The Unified Modeling Language has become an alterna-
tive to traditional modeling languages such as data flow
diagrams for use in systems analysis. A modeling language
is used to represent an information system so that analysts
can use the model to make decisions about the design of
the system and to communicate with stakeholders about the
system. This study examines the comparative effectiveness
of the UML and traditional modeling languages in com-
municating information about a system design. The study
examines this on three types of individuals: individuals with
no knowledge of either modeling language, individuals with
no knowledge of either language that were provided training
in one of the languages, and individuals that have had more
extensive training in one of the languages. The study finds
that there is no difference in the ability to communicate sys-
tem design information between the languages for the first
two types of individuals. However, the study finds that, for
more extensively trained individuals, systems modeled with
the UML are better able to communicate information about
the data in the system while systems modeled with tradi-
tional languages are better able to communicate information
about the process used by the system.
Introduction
The development of information systems for business
is a costly, complex process that often does not lead to the
desired system. To manage this development, organiza-
tions use formal methods and tools during the analysis of
the potential system. Systems analysis involves gathering
information to document the requirements of the system
and capturing the essence of these requirements in a model.
This model is then used, refined, and modified to develop a
design for the proposed information system. The model is
thus, the centerpiece of information systems development
activity. The purposes of the model are varied and include:
(1) to capture and state requirements and knowledge so
that all stakeholders understand and agree with them; (2)
to facilitate thinking about the design of a system; (3) to
capture design decisions separate from the requirements; (4)
Bruce C. Hungerford, University of Wisconsin-Oshkosh
Michael A. Eierman, University of Wisconsin-Oshkosh
to generate usable work products; (5) to manage information
about large systems; (6) to explore multiple solutions eco-
nomically; and (7) to master complex systems (Rumbaugh,
Jacobson, and Booch 1999).
...a model is a vehicle for communicating
with designers and users about the require-
ments and design of a proposed informa-
tion system.
The Unified Modeling Language (UML) has received a
significant amount of attention as the tool of the future for
modeling information systems. However, IS modeling was
done prior to the development of the UML with tools such
as Data Flow Diagrams (DFDs) and Entity-Relationship
Diagrams (ERDs). These tools have been developed over
many years of information systems development and are
(and have been) taught to thousands of information systems
professionals. Many organizations still use these tools, and
many other organizations use these tools but are considering
switching to the UML. While the UML is being promoted as
the future of IS modeling, there is little empirical evidence
that suggests it is better at fulfilling the purposes of a model
as identified above.
This research seeks to help decision makers make
informed decisions about the adoption of UML over tradi-
tional modeling languages by examining the efficacy of the
two primary approaches to information systems modeling
with respect to their ability to fulfill the first purpose of a
model. That purpose is to “capture and state requirements
and knowledge so that all stakeholders understand and agree
upon them.” In other words, a model is a vehicle for com-
municating with designers and users about the requirements
and design of a proposed information system. The research
specifically compares models developed using the UML
to those developed with traditional languages to determine
their respective ability to communicate information about a
proposed information system to users.
Mid-American Journal of Business, Vol. 20, No. 2 35
Hungerford and Eierman
Theory
Fowler and Scott (2000) suggest that the fundamental
reason to use the UML is communication. Agarwal and
Sinha (2003) suggest that UML diagrams enhance com-
munication with stakeholders in a systems development
project. However, little empirical research has compared
UML to traditional modeling languages in terms of their
relative effectiveness at communication. The limited re-
search has focused on object-oriented development methods
versus traditional analysis and design approaches and does
not specifically include the UML. However, based on this
work, there is evidence that the type of modeling language
may have an impact. In a study of the cognitive fit between
task and tool, Agarwal, Sinha, and Tanniru (1996) find that
process-oriented tools perform better than object-oriented
tools on process-oriented tasks; however, object-oriented
tools do not perform better than process-oriented tools on
object-oriented tasks. In a later study, Krovi and Chandra
(1998) find evidence that an object-oriented model is easier
to understand than a process model because it more closely
resembles the cognitive representations used by individuals.
Agarwal, De, and Sinha (1999) provide contrasting findings
in a study of comprehension of object-oriented and process-
oriented models. They find that with easier questions about
the model, there was no difference in the models. However,
with more complex questions, the process-oriented model
was more effective. These three studies used cognitive fit
as a theoretical basis for their investigation. Two of the
studies examined the cognitive fit between the model and
the way humans think, while one examined the cognitive fit
between the model and the task. This research takes a dif-
ferent approach and examines the impact of object-oriented
and process models on communication, utilizing research on
message effects and graphics comprehension in communica-
tion theory to develop a theoretical basis for the study.
Sager (1994) states that communication is a purpose-
ful human activity concerned with effecting the knowledge
structure of individuals. The message is the vehicle through
which communication occurs (Bowers 1989). A message
must be processed cognitively for the message to have an
effect (Kellermann and Lim 1989). Therefore, if a model
of an information system is used primarily to communicate
with users of the information system, the model may be
conceptualized as a message that must be processed cogni-
tively by users to develop their understanding of the system.
Furthermore, an information system model using traditional
techniques such as DFDs and ERDs or the UML is a graphi-
cal representation of the system, which means the message
for communication is diagrammatic.
Larkin and Simon (1987) suggest diagrams may be
superior to verbal descriptions because:
• Diagrams can group together all information that is
used, thus avoiding large amounts of search activity
for the elements needed to make an inference.
• Diagrams typically use location to group information
36 Mid-American Journal of Business, Vol. 20, No. 2
about a single element, avoiding the need to match
symbolic labels.
• Diagrams automatically support a large number of
perceptual inferences, which are extremely easy for
humans.
Winn (1994) presents an overview of how the symbol
system of graphics interacts with the viewers’ perceptual
and cognitive processes. In his description, the graphical
symbol system consists of two elements: (1) Symbols that
bear an unambiguous one-to-one relationship to objects in
the domain of interest; and (2) The spatial relations of the
symbols to each other. Thus, how symbols are configured
spatially will affect the way viewers understand how the
associated objects are related and interact. Zhang (1997),
in an experiment using a Tic-Tac-Toe board and its logical
isomorphs, shows that external representations of informa-
tion are more than just memory aids. Her research suggests
that the form of representation determines the information
that can be perceived in a diagram.
These studies suggest that different methods of graphi-
cally representing an information system may impact the
ability of the user to comprehend the features and function-
ing of the system being modeled. Therefore, it is reasonable
to assume that the difference in graphical representation of
the UML and traditional modeling tools may have an impact
on the effectiveness of communication with these tools.
This research explores this idea in an attempt to understand
if there is a significant difference between the traditional
modeling methods and the UML in effectiveness in commu-
nicating with users.
Hypotheses
The message in communicating with users about an
information system is the model. A model is a type of dia-
gram that must be processed cognitively to be understood.
To process a diagram, the individual must use three types
of processes (Larkin and Simon 1987): (1) Search, in which
the user of the diagram seeks to locate specific sets of ele-
ments; (2) Recognition, in which the user matches elements
located in the search with data required; and (3) Inference,
in which the user adds new information to his or her under-
standing. This research specifically focuses on investigating
an individual’s relative ability to recognize information in
information system models developed with the UML and
those developed with traditional modeling languages. For a
user to comment effectively on the accuracy of the informa-
tion system model, he or she must be able to identify and
understand what is being communicated about the design-
er’s conception of the information system in specific areas.
For example, if the user is asked if the data required about
employees is complete, he or she has to be able to find the
area in the model that models information about employees
and to identify the specific model component that holds this
information. This process must take place prior to the user’s
being able to make inferences about that information. Effec-

tive communication requires the receiver of a message to be
able to recognize relevant information in the message.
Although searching for that information is an important
first step in communicating using a diagram, this research
does not examine differences in search between the ap-
proaches for two reasons. First, the ability to find required
information effectively will necessarily have a direct impact
on differences in the other two processes. If individuals can-
not easily find the information they are looking for, they will
not be as effective at either recognizing required information
or at making inferences about that information. Second, ef-
fective investigation of search activity requires sophisticated
technology and research techniques that we are not prepared
to perform at this time. This focus means that if differ-
ences in the two models are identified, we will not be able
to determine if the difference was due to the impact of the
modeling languages on the search process or on the rec-
ognition process. However, any identified differences will
imply a difference in the ability of the modeling languages
to communicate information. This research also does not
investigate the third process, Inference, for two reasons.
First, the ability to make inferences is dependent on success-
ful completion of the first two processes. Second, the ability
to make inferences about the information acquired from a
model requires individuals who have sufficient knowledge
about a situation to allow them to apply the new informa-
tion. A portion of our subject population for this study does
not have that knowledge. Accordingly, the current research
examines if there is a difference in the ability of individu-
als using different types of information systems models to
recognize required data. The basic hypothesis investigated
in this study is:
H1: There is no difference in the ability to recognize
required information between individuals using
traditional information system modeling tools (e.g.,
DFD and ERDs) and those using the UML.
Agarwal, Sinha, and Tanniru (1996) found that pro-
cess-oriented tools perform better than object-oriented
tools on process-oriented tasks. Agarwal, De, and Sinha
(1999) found that neither type of model performed better on
structural questions. These competing findings and a lack
of more research in the area suggest that there is no good
evidence that either type of model is better for modeling
data or process in an information system. It is possible that
traditional modeling, with its primary tool being the data
flow diagram, would be better at communicating process
information. The UML, with its primary tool being the class
diagram, may be better at communicating information about
data in the information system. When choosing a model-
ing language, it may be beneficial to organizations to match
the language to the dominant feature of the system to be
developed to achieve better results. Systems where data is
more important than process may be best developed with
one language and systems where process is more important
Hungerford and Eierman
than data may be best developed with another language.
Therefore, this study examines two additional hypotheses
to attempt to determine if either the UML or traditional
modeling languages are better at communicating one type of
information or the other.
H2a: There is no difference in the ability to recognize
required information about the data used in the
information system between individuals using
traditional information system modeling tools
(e.g., DFD and ERDs) and those using the UML.
H2b: There is no difference in the ability to recog-
nize required information about the processes
used in the information system between individu-
als using traditional information system modeling
tools (e.g., DFD and ERDs) and those using the
UML.
Method
The hypotheses were investigated with a series of three
field experiments using undergraduate students. Each ex-
periment represented one of three different levels of training
(none, limited, and extensive). Two treatments were given
to each of these levels of training. The UML treatment con-
sisted of a model of an information system that included a
Use Case Diagram, a Class Diagram, a set of five Sequence
Diagrams, and a State Diagram. The traditional treatment
consisted of a model of the same information system that in-
cluded a Context Diagram, a level zero Data Flow Diagram,
a set of four level one Data Flow Diagrams, an Entity-
Relationship Diagram, a Data Dictionary, and a Decision
Tree. Both treatments included a questionnaire with twenty
questions about the information system in the model, five
questions about the subjects’ perception of the task, and sub-
ject demographic questions. Since the focus of the study is
on the user’s ability to recognize information in the model in
the different types of models, the questionnaire had the same
twenty questions for each treatment. The questions asked
the user about different aspects of the information system,
such as what data were needed and how different processes
worked. Questions were multiple-choice.
The treatment information system described by the
models was an on-line grocery store. Both the UML and
traditional model for this system were developed by the
authors. Each model was reviewed for accuracy by an MIS
professor not involved in the study. The instruments used
in the experiment were then tested in three different pilots.
The subjects in the pilots included students in introductory
information systems classes at both the undergraduate and
graduate level. The pilots focused on ensuring that both the
UML model and the traditional model provided the same in-
formation and that each model provided enough information
to answer all the questions on the survey. The pilots were
Mid-American Journal of Business, Vol. 20, No. 2 37
Hungerford and Eierman

also used to test experimental procedures. Modifications to
each treatment model and the procedure were made after the
first two pilots.1
Experiment #1 – No Training
The first2 experiment used students enrolled in Introduc-
tion to Marketing sections. These students did not receive
any training on either modeling method. Subjects that had
been exposed previously to one of the modeling methods
were removed from the analysis. Subjects were assigned
randomly to one of the two treatments described above: (1)
system description with traditional modeling diagrams, or
(2) system description with the UML. The experimental ses-
sion lasted forty minutes. All students received extra credit
in their marketing class for participation in the experiment.
Students were informed that subjects who scored above 70
percent on the survey would be put in a pool from which
four individuals (two from each treatment group) would be
chosen at random to receive a $20.00 prize.
The experiment was administered in five sessions.
Both modeling languages were tested in the same session
by randomly assigning the subjects to use one or the other
treatment. Of the sixty-two students that participated in the
experiment, four were eliminated during analysis because
they indicated that they had been exposed to the modeling
language prior to the experiment.
Experiment #2 –Minimal Training
The second experiment also used students enrolled
in Introduction to Marketing sections. However, for this
experiment, the subjects received limited training on the
modeling method to which they were assigned randomly.
The experiment lasted approximately one hour. In the first
twenty minutes of the experimental session, the subjects
read a training document that included an explanation of the
symbols used in the modeling language treatment to which
they were assigned, a written description of an information
system, and a model of an information system that was an-
notated to explain how the model represented the informa-
tion system. The final forty minutes of the session followed
the same protocol as the first experiment. Students were
rewarded with the same approach as in the first experiment.
The training document used in the second experiment
was developed to explain the symbols used in each of the
modeling languages and to provide an example of their use.
For the traditional modeling language, the training docu-
ment included Data Flow Diagrams, an Entity-Relationship
Diagram, a Decision Tree Diagram and a Data Dictionary.
For the UML, the training document included Use Case
Diagrams, Class Diagrams, Sequence Diagrams, and State
Diagrams. The documents were developed to provide the
same level of explanation for each modeling language, and
were reviewed for accuracy and completeness by two MIS
professors not involved in the project. The training informa-
tion system was a Student Registration System. This type of
system was selected because it was believed that students
would have some knowledge of how such a system worked
and would therefore find it easier to understand the example.
In the first pilot, the training documents were provided to
the subjects, but were explained by one of the authors. It
was determined from this experience that we could not
guarantee the same level of training between experimental
sessions because of student questions and level of detail
covered. We decided, therefore, to provide self-paced train-
ing by allowing subjects to examine the training documents
on their own. No instruction on either of the modeling
languages was provided by anyone during the experimental
sessions. Students studied the training document on their
own during the first twenty minutes of the session.
The experiment was administered in four sessions.
Both modeling languages were tested in the same session
by assigning the subjects randomly to use one or the other
treatment. Of the sixty-eight students that participated in the
experiment, ten were eliminated during analysis because
they indicated that they had been exposed to the modeling
language prior to the experiment.

Table 1
Summary of Treatments

Experiment Subjects Training Treatment Description

Marketing System Model of Five 40-minute sessions with subjects randomly assigned UML or
1 Students None On-Line Grocery Structured Treatment
(n=58) Store
System Model of Four 60-minute sessions with subjects randomly assigned UML or
Marketing Student Registra- System Model of Structured Treatment
2 Students tion System. Training On-Line Grocery
(n=58) Document Explaining Store
Artifacts
MIS System Model of Students assigned treatment based on the course in which they were
3 Students Course Work On-Line Grocery enrolled. Each treatment was part of their final exam.
(n=101) Store

38 Mid-American Journal of Business, Vol. 20, No. 2

 Hungerford and Eierman

Experiment #3 – Extensive Training subject with a score of 35 percent. Statistical tests were
The third experiment examined the impact of more performed on the subjects’ overall scores, scores on ques-
extensive training on the communication effectiveness tions concerning the data represented in the model (a total
of the modeling language. This experiment used students of 9 after adjustment), and scores on questions concerning
enrolled in a systems analysis class and students enrolled the process represented in the model (10). The normality of
in a UML and Java class. All students in these classes were the output for overall, data, and process scores was checked,
MIS majors. Students were not enrolled in both classes. and all met the skewness and kurtosis requirements. Each
All students in the UML/Java class had previously taken hypothesis was then examined using the appropriate t-test
the systems analysis class. Training on the tools in each of (Morgan and Griego 1998). The results of a Mann-Whitney
the classes was approximately equal in terms of time spent U test also are reported because the data for subjects with
and work performed. In the systems analysis class, students extensive training did not meet normality requirements.
received instruction on the use and meaning of traditional Therefore, use of a non-parametric test was appropriate for
development tools including Data Flow Diagrams and En- that analysis. Results for these subjects are summarized in
tity Relationship Diagrams, and then practiced using these Table 2.
modeling tools to describe systems. In the UML and Java
class, students received instruction on the use and meaning Table 2
of UML diagrams and then practiced using these tools to Results—Subjects with No Training
describe systems. Both classes included graded assignments
where students developed system models using the respec-
UML Traditional t-test Mann-
tive tools. Students in each class completed the treatment as
(p) Whitney U
a part of the final exam for the course. In this case, treatment (p)
was also the on-line grocery store. However, the specific
Subjects 31 27
treatment was assigned based on the class in which the
Average Score - 0.573 0.555 0.52 353.5
student was enrolled rather than randomly. All Questions (0.6019) (0.3060)
Data was collected from 101 subjects. Sixty-two Average Score - 0.606 0.606 -0.01 422
subjects in two classes received the traditional language Data Questions (0.9936) (0.9551)
treatment and thirty-nine subjects in one class received the Average Score - 0.73 353.5
0.543 0.507
UML treatment. Since subject recruitment was dependent Process Questions (0.4660) (0.3024)
on class enrollment it was not possible to control sample
size. However, the unequal sample size should not make a
statistical difference because both treatments had more than The average score for subjects on all questions was 57.3
thirty observations and the only statistical tests performed percent for the UML treatment and 55.5 percent for the
examined differences in the means of the two treatments Traditional treatment. Test statistics demonstrate that there is
(Sincich 2004; McClare and Sincich 2002). After the data not a significant difference between the mean scores. There-
were collected, preliminary analysis showed that one ques- fore, the first hypothesis cannot be rejected for subjects with
tion was answered incorrectly by all students with extensive no training.
training and no training that received the UML treatment. A The average score for subjects on data questions was
large number of students that received the UML treatment 60.6 percent for the UML treatment and 60.6 percent for the
and minimal training also missed the question. Subsequent Traditional treatment. Test statistics demonstrate that there is
investigation showed that the information required by the not a significant difference between the mean scores. There-
question was not included in the model. The question was fore, the second hypothesis cannot be rejected for subjects
eliminated from the analysis for both treatments at all train- with no training.
ing levels. The three experiments are summarized in Table 1. The average score for subjects on process questions was
54.3 percent for the UML treatment and 50.7 percent for the
Traditional treatment. Test statistics demonstrate that there is
Results not a significant difference between the mean scores. There-
Subjects with No Training fore, the third hypothesis cannot be rejected for subjects
Data analysis was performed on fifty-eight question- with no training.
naires: twenty-seven subjects received the traditional model-
ing language treatment, and thirty-one subjects received Subjects with Minimal Training
the UML treatment. The subjects in each treatment were Data analysis was performed on fifty-eight question-
demographically similar in all aspects. naires: thirty subjects received the traditional modeling
The hypotheses were tested using a single factor, two language treatment, and twenty-eight subjects received the
treatment level design. The dependent variables are based UML treatment. The subjects were demographically similar
on the scores of the subjects. They are ratio in nature – a in all aspects except gender. A disproportionate number of
subject with a score of 70 percent did twice as well as a females received the UML treatment. Gender differences

Mid-American Journal of Business, Vol. 20, No. 2 39

Hungerford and Eierman

Table 3 Table 4
Results—Subjects with Minimal Training Results—Subjects with Extensive Training

UML Traditional t-test Mann- UML Traditional Mann-

(p) Whitney U Whitney U
(p) (p)
Subjects 28 30 Subjects 62 39
Average Score - 1.08 368 Average Score - 1294.5
0.609 0.571 0.778 0.772
All Questions (0.2843) (0.4153) All Questions (0.5467)
Average Score - 0.71 403 Average Score - 757
0.661 0.630 0.876 0.764
Data Questions (0.4829) (0.7867) Data Questions (0.0011)
Average Score - 0.92 367 Average Score - 1701
0.562 0.517 0.725 0.823
Process Questions (0.3640) (0.4045) Process Questions (0.0005)

were tested, and no significant difference in performance
between male and female subjects was found.
The hypotheses were tested in the same manner as used
in the subjects with no training. Normality of the output
also met requirements for this data set. Variance assump-
tions were checked for each hypothesis using Levene’s Test
for Equality of Variances; variance equality could not be
rejected at the .05 level for overall and data scores, but was
rejected for the process scores. The appropriate t-test was
used. Results for these subjects are summarized in Table 3.
The average score for subjects on all questions was 60.9
percent for the UML treatment and 57.1 percent for the
Traditional treatment. Test statistics demonstrate that there is
not a significant difference between the mean scores. There-
fore, the first hypothesis cannot be rejected for subjects with
minimal training.
The average score for subjects on data questions was
66.1 percent for the UML treatment and 63.0 percent for the
Traditional treatment. Test statistics demonstrate that there is
not a significant difference between the mean scores. There-
fore, the second hypothesis cannot be rejected for subjects
with minimal training.
The average score for subjects on process questions was
56.2 percent for the UML treatment and 51.7 percent for the
Traditional treatment. Test statistics demonstrate that there is
not a significant difference between the mean scores. There-
fore, the third hypothesis cannot be rejected for subjects
with no training.
Subjects with Extensive Training
Data analysis was performed on 101 questionnaires:
thirty-nine subjects received the traditional modeling lan-
guage treatment, and sixty-two subjects received the UML
treatment. Gender differences were tested, and no significant
difference in performance between male and female subjects
was found.
The hypotheses were tested in the same manner as used
in the subjects with no training. However, normality of the
output did not meet all the skewness and kurtosis require-
ments. Therefore, tests for differences were performed with
the Mann-Whitney U test. Results for these subjects are
summarized in Table 4.
The average score for subjects on all questions was 77.8
percent for the UML treatment and 77.2 percent for the
Traditional treatment. Test statistics demonstrate that there is
not a significant difference between the mean scores. There-
fore, the first hypothesis cannot be rejected for subjects with
extensive training: There is no difference in the ability to
recognize required information between individuals using
traditional information system modeling tools (e.g., DFDs
and ERDs) and those using the UML.
The average score for subjects on data questions was
87.6 percent for the UML treatment and 76.4 percent for the
Traditional treatment. Test statistics demonstrate that there
is a significant difference between the mean scores at the
0.0011 level. Therefore, the second hypothesis can be re-
jected for subjects with extensive training: There is a differ-
ence in the ability to recognize required information about
the data used in the information system between individuals
using traditional information system modeling tools (e.g.,
DFDs and ERDs) and those using the UML.
The average score for subjects on process questions was
72.5 percent for the UML treatment and 82.3 percent for the
Traditional treatment. Test statistics demonstrate that there
is a significant difference between the mean scores at the
0.0005 level. Therefore, the third hypothesis can be rejected
for subjects with extensive training: There is a difference
in the ability to recognize required information about the
process used in the information system between individuals
using traditional information system modeling tools (e.g.,
DFD and ERDs) and those using the UML.
Training
The objective of this study was to examine the differ-
ence in communication effectiveness of the two different
types of modeling languages. Both end-users and developers
use system diagrams during the analysis and design of an
information system. When users are involved in a systems
project they may be asked to comment on the analysis or
design of the system as described by the system model. The

40 Mid-American Journal of Business, Vol. 20, No. 2

 Hungerford and Eierman

level of training needed for users to effectively comment on In both languages, subjects without extensive training found
the model is an issue of potential importance. Therefore, the it somewhat difficult to relate the diagrams to develop an
level of training received by subjects in the experiment also overall understanding of the system and somewhat difficult
served as an independent variable. to find specific information to answer the questions. The
The impact of training on communication effectiveness questions and answers for both the UML and traditional
of the models was tested with a two-way ANOVA. The languages at all training levels received an almost identical
overall average score for subjects with no training, mini- evaluation of being somewhat easy to understand. The ques-
mal training, and significant training were 56 percent, 59 tions and answers were exactly the same for both languages,
percent, and 77 percent respectively. The overall average which suggests that subjects understood what they were
score for all subjects receiving the UML treatment was 65 supposed to do and implies that other differences detected
percent while the overall average score for all subjects that in the study are attributable to differences in the modeling
received the traditional treatment was 63 percent. Test statis- languages.
tics demonstrate that training had a significant impact while
language type did not. The results were no different when
the data and process scores were examined independently of Discussion
one another. The related statistics are provided in Table 5. This study finds that training had a significant impact on
the ability of users to identify information in the models of
Table 5 both modeling languages examined. Those with extensive
Two-way ANOVA Results training were better able to identify required information
than those individuals with little or no training. The study
also finds a significant difference between the modeling
N Mean SD SE languages for extensively trained individuals in the type of
Training information that was required to be identified. Extensively
No Training 2 0.5641 0.0122 0.00864
trained individuals using the Unified Modeling Language
were better able to identify information about the data as-
Minimal Training 2 0.5901 0.0271 0.01914
sociated with an information system than were users of the
Significant Training 2 0.7749 0.0045 0.00318
traditional modeling languages. In contrast, extensively
trained individuals using the traditional modeling languages
Language
were better able to identify information about the processes
associated with an information system than were individuals
UML 3 0.6533 0.1095 0.06324
using the Unified Modeling Language.
Traditional 3 0.6327 0.1206 0.06965 It is difficult to determine why these differences oc-
curred. Given that the traditional model included both an
Entity-Relationship Diagram and a data dictionary, whereas
Source of SSq DF MSq F P the UML model included only a class diagram, one might
Variation
expect that subjects using the traditional model would
Training 0.0528 2 0.0264 200.64 0.00496 perform better on data questions because the information
Language 0.0006 1 0.0006 4.85 0.15847 was located in more than one place in the model. Even a
Within Cells 0.0003 2 0.0001 random search for answers to data questions would more
Total 0.0537 5 likely lead to a document that could provide an answer in
the traditional model because data was represented in more
places. This suggests there could be an inherent advantage
to representing data in a class organization over presenting it
Perception of the Documents and Task in an entity-relationship organization. As Zhang (1997) sug-
Data was collected about subjects’ perception of the task gests, the form of the diagram impacts the ability to perceive
and the diagrams used in the models. The subjects’ percep- information, and therefore the form of the class diagram
tions are examined to determine if the subjects perceived allows better perception of information than the form of the
one treatment to be more difficult than the other. A differ- ER diagram. This finding contradicts the findings of Agar-
ence identified in perceived difficulty could indicate flaws wal, De, and Sinha (1999), who found that neither model
in either the treatment documents or the training documents type performed better on structural questions.
that would skew the validity of the results reported above. A possible explanation for these results may be found in
The analysis determined that there were no significant dif- the task-technology fit (TTF) literature (e.g., Goodhue 1995;
ferences between the traditional modeling language and the Goodhue and Thompson 1995). This literature suggests
UML in subjects’ perceptions of the task, the questions, or that software tools will be used more if they meet the needs
the diagrams. However, the extensively trained individuals of the task because the user perceives a better ability to
appeared to find the task easier than did the other subjects. complete the task with the tool than without it. While the lit-

Mid-American Journal of Business, Vol. 20, No. 2 41

Hungerford and Eierman
erature does not test actual performance, it does suggest that
better performance will result when the technology fits the
task. Dishaw and Strong (2003) extend the TTF literature by
examining the role experience with the task and experience
with the tool have on the perception of task-technology fit
and tool utilization. Their study found that experience with
the tool leads to a better fit and higher tool utilization. They
did not find a relationship between experience with the task
and fit or utilization. While this paper does not explicitly
study the fit between the information communication task
and modeling language, the theory may be used to explain
the results.
For untrained and minimally trained individuals there
was no task-technology fit. They did not have enough expe-
rience to effectively use either tool in an information identi-
fication task. However, more extensively trained individuals
could have found a fit between the task and the technology
for different aspects of the task because they performed bet-
ter with one tool in one aspect of the task than they did with
the other tool. This suggests traditional modeling languages
may have a better fit with tasks concerning identification of
process information in an information system model, while
the UML may have a better fit with tasks concerning the
identification of data information in an information systems
model.
Conclusion
The study has obvious limitations. First, the subjects
were undergraduate students with no significant prior
knowledge of the information system presented to them.
This may not be a realistic representation of users involved
in the design of a system. Second, the subjects were not able
to ask questions or discuss the design with an individual
knowledgeable about the design. This also is probably not
representative of the “real world.” Finally, the system used
in the research, while not trivial, was not of the size and
complexity found in systems typically developed by busi-
ness.
Despite the limitations, this study does imply that mov-
ing to the UML as a modeling language for information
systems may not confer a tremendous advantage over using
traditional modeling languages in communicating informa-
tion about the system. However, if the users are given a
significant amount of training, the UML model may be more
effective in modeling systems with a strong data focus,
while traditional models may be more effective in modeling
systems that are strongly process oriented. The implication
for this study is that if a business is building an information
system where process is the primary concern of the design-
ers, then, at least for communication purposes, it should use
a traditional modeling language. On the other hand, if the
important aspects of the system’s design has a strong data
focus, then using the UML may be a better choice. More
studies are needed that explore different aspects of model
42 Mid-American Journal of Business, Vol. 20, No. 2
use in information system design and the impact of model-
ing language on these uses. ■
Notes
1. The questionnaire and treatment materials are available
from the authors.
2. Refers to logical order; this experiment actually was
conducted after the “second” experiment due to subject
availability, etc.
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About the Authors

Bruce C. Hungerford received a Ph.D. degree in information

systems from the University of South Florida. He is an Assistant
Professor with the Management Information Systems Team in the
College of Business Administration at that University of Wiscon-
sin-Oshkosh. His research interests include information systems
development, software engineering, software quality improvement,
and enterprise resource planning systems. Prior to earning his doc-
torate, he worked in the financial and IT industries. He is a member
of the ACM, AIS, and IEEE Computer Society.
hungerfo@uwash.edu

Michael Eierman is an Associate Professor of the Management

Information Systems Team in the College of Business Administra-
tion a the University of Wisconsin-Oshkosh. He earned a Ph.D. in
Management Information Systems from the University of Minne-
sota. His current research focus is on object-oriented technologies
including the impact of UML on systems analysis and maintenance
of object-oriented software. eierman@uwash.edu

Mid-American Journal of Business, Vol. 20, No. 2 43

 Building a Market-Oriented Organizational Environment:
An Implementation Framework for Small Organizations
Abstract
The strong link between a market orientation and per-
formance in small organizations rests on the organizationʼs
ability to use its market-oriented culture to create a sustain-
able competitive advantage. To do this requires the firm to
build and maintain a strong market orientation. Using an
internal customer-internal supplier perspective, this paper
identifies a framework for implementation that an organiza-
tion can undertake to create a market-oriented workforce.
The foundation for the framework is the development of
dyadic relationships between internal customers and suppli-
ers. The implementation structure relies on a performance
management system that rewards behaviors appropriate for
the establishment of a market-oriented culture.
Introduction
A resource-based view of the organization (Chatterjee
and Wernerfelt 1991; Hunt and Morgan 1995; Wernerfelt
1989) suggests organizations should focus their efforts on
developing and maintaining resources that will help the
organization develop strategic skills and capabilities for
implementing value-creating strategies. Pelham and Wilson
(1996) and others (e.g., Day 1994; Slater and Narver 1999)
argue that a market-oriented organizational culture can be
an especially strong resource for developing strategies that
lead to increased performance. Pelham and Wilson (1996)
studied smaller firms and found that the influence of the
organizationʼs strategy and structure had less impact on per-
formance than did having a market-oriented culture. Thus,
while larger organizations have a fairly wide and substantial
base of resources from which to draw (e.g., financial, hu-
man, technological, etc.), smaller organizations frequently
must rely upon limited resources to be competitive, sug-
gesting a market-oriented culture can be an exceptionally
important resource for the small organization.
The issue confronting an organization wanting to develop
a market-oriented culture is how to bring this about. While
the nature of the relationship between market orientation
and firm profitability has received substantial attention in
the literature, there has been less attention given to the pro-
Beth Ann Martin, John Carroll University
James H. Martin, John Carroll University
cess by which an organization would implement a market
orientation. Although there is some guidance in terms of
general areas of concern (e.g., Jaworski and Kohli 1993;
Harris 1999) very few published studies articulate a system-
atic approach that ties the necessary concepts together into
an overall framework. Based on a model of Management
Intervention suggested by Porras and Robertson (1990)
we propose a series of implementation activities that are
grounded in theory, testable and managerially focused.
...smaller organizations frequently must rely
upon limited resources to be competitive,
suggesting a market-oriented culture can
be an exceptionally important resource for
the small organization.
A systematic approach to improving organizational
performance through the development of a market oriented
culture can be considered a management intervention. Man-
agement interventions can be viewed as planned changes in
a work setting that are designed to change the behavior of
individual organization members and ultimately lead to im-
proved organizational outcomes (Porras and Silvers 1991).
A model of the management intervention process described
by Porras and Robertson, (1990: Figure 1) presents organi-
zational intervention as potentially producing changes in a
variety of workplace characteristics. The basic assumption
in the model is that changing the work setting (including
social factors, technology and physical characteristics) is
the most influential tool for changing individual behavior,
which in turn should lead to improved organizational out-
comes. The foundation for the model rests on the perspec-
tive that altering the work setting can introduce changes in
individual behavior. This assumption is based on cognitive
models of behavior which postulate that an individualʼs
environment is an important source of information about
appropriate behavior (Porter and Lawler 1968; Hackman
1981). It is proposed that a management intervention that
focuses on the organizational factors inherent in a market
oriented organization will result in changing individual
worker behavior to become more market oriented.
Mid-American Journal of Business, Vol. 20, No. 2 45
Martin and Martin
Developing a market orientation is a management inter-
vention. As our discussion develops, it will become clear
that there are necessary changes in the organizational set-
ting, social factors and possibly technology that will lead to
changes in employee attitudes and behavior toward becom-
ing a market oriented organization. We will begin by provid-
ing an overview of market orientation. While this is not a
comprehensive literature review, it will highlight some of
the main issues and concerns in this literature. Subsequent
sections will discuss using an organizationʼs performance
management system and an internal customer orientation as
the basic mechanisms for the framework. The final section
will provide a 6-step model for initiating a market orientation.
Literature Review
Market Orientation and Performance
Over the years there has been conflict and debate in the
conceptualization of market orientation. One view of market
orientation has presented the concept from an informa-
tion/attitudinal perspective (Han, Namwoon and Srivas-
tava 1998; Hooley, Lunch and Shepherd 1990; Narver and
Slater 1990). This perspective suggests that market oriented
organizations are interested in, actively maintain, and use
information about customers, competitors and general
market trends. The original focus for this perspective was
the type of market information the company maintained
and the degree to which employees were interested in it. A
second approach to market orientation has been a behavior-
ally focused conceptualization (Deshpandeʼ 1999; Jaworski
and Kohli 1993; Kohli and Jaworski 1990). This approach
has suggested three behavioral elements are required for
an organization to function with a market orientation. The
first, intelligence generation, includes customersʼ verbalized
needs and preferences as well as the analysis of exogenous
factors that influence customersʼ needs and preferences.
The second behavioral element of a market orientation is
intelligence dissemination, which is the communication of
the information throughout the organization. Providing all
employees across the organization with market information
is important because it facilitates the third element, respon-
siveness to market intelligence. Response to market infor-
mation is considered to be more rapid and more effective
when the organization as a whole is knowledgeable about
the needs of the competitive marketplace.
In a discussion of the attitudinal/behavioral issues,
Avlonitis and Gounaris (1997) have offered a reconciliation
between these two conceptualizations by suggesting that an
organization must emphasize both attitudes and behavior
in its market orientation in order for the organization to be
able to maintain its market orientation in the long run. Both
Avlonitis and Gounaris and Wrenn (1997) conclude that
there must be a combined focus on attitudes and practice
(behavior). Based on Figure 1, the proposed framework
strongly integrates these two perspectives by placing the
initial emphasis on altering the organizational setting and,
46 Mid-American Journal of Business, Vol. 20, No. 2
thereby the employee attitudes, followed by an emphasis on
individual behavior change. All sides to this debate agree
that having a market orientation is not something an organi-
zation has or does not have. An organization is more or less
market oriented, being able to respond better or less well to
market opportunities.
While the nature of market orientation and its role in
improving business performance has been debated for over
30 years, only recently has it been empirically investigated.
Several studies have found a positive relationship between
market orientation and business performance (e.g., Pelham
2000; Deshpandeʼ and Farley 1999; Appiah-Adu and Ranch-
hod 1998; Appiah-Adu 1997). Narver and Slater (1990) and
Slater and Narver (1994, 2000) report a positive relation-
ship between market orientation and return on assets. In
addition, Slater and Narver (1994) also suggested a positive
relationship between market orientation and sales growth.
Deshpandeʼ, Farley and Webster (1993) found businessesʼ
customer orientation is positively related to business perfor-
mance. Appiah-Adu (1997), studying small firms, reported a
positive impact of market orientation upon business per-
formance, and Appiah-Adu and Ranchhod (1998) indicated
market orientation is significantly correlated with growth
in market share, overall performance and profit margin,
although not with new product success. Also focusing on
small firms, Pelham and Wilson (1996) suggested a strong
influence of market orientation on measures of small-firm
performance. For example, they reported market orienta-
tion positively influenced the current yearʼs level of profit-
ability and they found market orientation was significantly
related to product quality, which was significantly associ-
ated with growth share and profitability. They concluded
that a high level of market orientation can provide a small
organization with a strong source of competitive advantage.
Pelham (2000) reported that market orientation in small
organizations is correlated positively with marketing/sales
effectiveness, growth and profitability. Recently, research
has suggested that the impact of market orientation on an
organizationʼs performance may be moderated by such
factors as the strategic direction of the organization (Mat-
suno and Mentzer 2000) or by extreme economic volatility
(Grewal and Tansuhaj 2001). Mounting evidence at the
organizational level has generally supported the relationship
between market orientation and business performance, lead-
ing to a generally accepted conclusion that within certain
constraints, an organization is better off with more market
orientation than with less market orientation.
Missing in the Literature
While understanding the need for a market orientation
is important, business leaders must also understand how to
go about creating or developing a market orientation within
their business. Although the marketing literature is begin-
ning to show strong evidence of the positive impact of a
market orientation on performance, only limited literature
has investigated the issue of improving an organizationʼs

use of market intelligence and this literature is lacking an in-
tegrated framework to help organizations establish a market
orientation. Wrenn (1997) and Han, Namwoon and Srivas-
tava (1998) suggest a paucity of research exists on how to
manage and develop a firmʼs market orientation. Early work
in this area by Kohli and Jaworski (1990) suggests the criti-
cal need for upper management support and its impact on
shaping organizational values central to a marketing culture.
Garver and Cook (2001) discuss how companies can effec-
tively use customer value and satisfaction data. They see the
main challenge as incorporating customer satisfaction data
to drive improvement. In contrast to previous market ori-
entation frameworks, Garver and Cook suggest a customer
value and satisfaction culture will focus on both attitudes
and behaviors. It is this market-oriented culture that guides
employees through the myriad of customer related data.
They believe there are two equally vital processes; getting
data to people and getting people to use the data. It is the
response to the data that drives competitive advantage. The
ideas proposed by Garver and Cook are clearly foundational
building blocks for a model of developing a culture of mar-
ket orientation.
Based on the management intervention model above
(Porras and Robertson 1990), along with the work of Garver
and Cook (2001), this paper will identify tools and process-
es that can help an organization develop a market orienta-
tion in such a way that it becomes pervasive throughout the
organization. The processes were designed so that small
organizations with limited resources could pursue the de-
velopment of a strong market orientation. While this model
will provide direction for organizations of all sizes, the
proposed steps can be most directly applied to small organi-
zations. First, a dyadic perspective on an organization that
includes an internal customer orientation will be discussed.
Following this, a multi-level implementation framework
will be developed and procedures will be outlined that can
facilitate the creation of a market oriented organization.
Developing An Internal Customer Orientation
A market orientation is a shared set of values, beliefs and
behaviors that focus on putting the customer first (Desh-
pandeʼ 1999). The difficulty with developing this orientation
in practice is that employees are not likely to be willing to
adopt these values, beliefs and behaviors without a specific
structure and system to encourage change. A mechanism
is needed that can be used for creating market oriented
behaviors throughout the organization, along with the means
for implementing the mechanism effectively. The proposed
framework combines an internal customer orientation with
a performance management system for that mechanism. The
main focus from Porras and Robertsonʼs model (1990), will
be on changes to the organizational setting and individual
behavior change.
Baker, Simpson and Siguaw (1999) and Siguaw, Simp-
son and Baker (1998) report evidence that the relationship
between external customers and external suppliers is stron-
Martin and Martin
ger when there is a match between the degree of market
orientation of both customers and suppliers. Steinman,
Deshpandeʼ and Farley (2000) report finding a gap between
external customer and external supplier perceptions of each
otherʼs market orientation, but that this “perception gap”
lessens with lengthier and stronger relationships. Research
generally shows that the stronger the relationship between
customers and suppliers, the stronger the performance of
both supplier and customer (Cannon and Homburg 2001).
The total quality management literature has suggested
that an organization can be thought of as interrelated sets
of dyads between internal customers and internal suppliers
(Goetsch and Davis 1997; Hallowell, Schlesinger and Zor-
nitsky 1996). When internal suppliers are oriented toward
satisfying their internal customersʼ needs, organizational
performance will be improved (Achrol and Kotler 1999).
When the internal customer needs are defined in terms of
the ability to help the organization satisfy external customer
needs, then the result should be an organization that has
become more market oriented. Hauser, Simester and Wer-
nerfelt (1996) and others (e.g., Conduit and Mavondo 2000;
Gronroos 1990) have suggested that in order to develop a
market orientation, a firm must focus its internal suppliers
on serving their internal customers, who in turn serve other
internal customers who eventually serve external custom-
ers. Hauser, Simester and Wernerfelt conclude that having
an internal customer focus is imperative to drive a market
orientation deep within an organization. The key to bringing
this about within their model is the organizationʼs reward
system. They propose a bonus type compensation system
in which internal customers negotiate with their internal
suppliers for payment based on the supplierʼs ability to help
the internal customer satisfy their customer. Although the
specific form of compensation may be less important as
different organizations will want to work within different
forms of compensation, the work of Hauser, Simester and
Wernerfelt does pinpoint the necessity of tying compensa-
tion and other performance management activities to the
specific, market oriented behaviors the organization is trying
to elicit from its employees.
Using an internal customer orientation to drive a market
orientation deep within an organization requires the employ-
ees to learn how to focus on both the needs of the external
customer and to perceive other employees as internal cus-
tomers (Mohr-Jackson 1991). This necessitates a change in
the way employees perceive their jobs. For example, within
a typical company, employees may focus on the work they
produce because the reward structure is based on productiv-
ity. An internal customer/supplier orientation suggests that,
rather than focusing on the production of a certain number
of components per hour, a component line producer would
want to know if the person within his/her organization re-
ceiving the components was satisfied with the componentʼs
quality and timeliness. However, the component maker is
also a customer who needs to be satisfied. S/he is a cus-
tomer of the department or person who delivers the materi-
Mid-American Journal of Business, Vol. 20, No. 2 47
Martin and Martin
als that are used to make the components. If the materials
arrive late or with defects, then the component maker will
be a dissatisfied internal customer. The component maker
is part of at least two dyads. In the first dyad the product
component maker is an internal supplier of components to
others, and in the second dyad s/he is an internal customer
of other internal suppliers. Heilmann (1994) suggested that
the internal customer focus is important because internal
customer objectives can be aligned with firm objectives that
would include providing superior customer value to external
customers. This alignment of internal customer objectives
with the objectives of the firm can take place through the
implementation of a reward system and the implementation
of a performance evaluation system to support the reward
structure that includes the appraisal of the effectiveness
of specific outcomes by internal customers (Conduit and
Mavondo 2000; Hauser, Simester and Wernerfelt 1996). By
working within the dyadic system it becomes apparent how
a change in the organizational setting and social factors will
impact individual behavior.
Sustaining the Intervention: A Performance Management
System
A performance management system is one mechanism
that can be used for creating and sustaining market oriented
behaviors throughout the organization. There is ample
evidence demonstrating that behavior-based performance
evaluations are consistent with improved customer service
(Anderson and Oliver 1987; George 1990). When organi-
zational rewards are tied to specific employee behaviors a
performance management system is created. Behavior based
evaluations appraise employees on how they act rather
than on the specific outcomes achieved. Behavior such as
contacting members of oneʼs own customer/supplier dyad
to assess satisfaction, giving feedback to an immediate
supplier regarding the timeliness or the quality of materials,
and contacting oneʼs own customers to assess his/her level
of satisfaction would be behaviors critical to the success
of developing a market oriented culture. As such, these
behaviors would form the criteria upon which the actual
performance appraisal is based and would be included on
each employeeʼs performance evaluation. Identifying the
specific behaviors involved in focusing the internal suppliers
on serving their internal customers, rather than on objective
criteria such as number of units produced, will create a clear
customer oriented focus within the organization. Such a
system gives employees the incentive to engage in behav-
iors that are supportive for improving product and service
quality. Any desired change in the attitudes and behaviors
of employees must be managed by altering the performance
management system to reflect the desired changes.
While there are multiple ways to develop a performance
management system, one alternative to achieve the balance
between changing employee attitudes and subsequently
changing employee behavior is to develop a process similar
to the balanced scorecard proposed by Kaplan and Norton
48 Mid-American Journal of Business, Vol. 20, No. 2
(1992). The balanced scorecard is a management interven-
tion system that provides a presentation of both financial
and operational measures to upper management so that they
can receive a quick comprehensive view of the company.
Because most activity takes place at department levels, all
measures are decomposed to what are called local levels.
Local level metrics allow top management to keep abreast
of key internal processes that affect overall corporate objec-
tives. A main benefit of this process is that employees at
even the lowest levels in an organization have clear targets
and goals set for them, and these goals always contrib-
ute to the companyʼs overall mission. In addition, weak
performance is easy to diagnose. Setting behavior and/or
performance targets for employees clearly communicates
the attitudes and expectations of upper management. This is
turn should lead to behavior change on the part of the work-
ers such that their behaviors are in line with the goals of top
management.
Although a complete revamping of the firmʼs per-
formance management system may be an ideal, it is not
necessary that a new performance management system be
developed prior to initiating a market orientation program. A
current performance management system can be amended to
include metrics that assess employeesʼ gathering, dissemina-
tion and responsiveness to appropriate market intelligence.
In addition, these measures would also need to contribute to
each employeeʼs overall performance evaluation.
Initiating a Market Orientation
Based on the above discussion, moving an organization
to a market orientation requires the achievement of two
management objectives: a change in employee attitudes
and a change in employee behavior. The first objective
is to change employee knowledge and attitudes in a way
that reflects a pervasive market oriented culture. However,
changing knowledge and attitudes is not sufficient to build
a long lasting market oriented culture. The second objective
is to change employee behavior in a way that focuses the
employee (as an internal supplier) on helping his/her inter-
nal customers better satisfy their customers in a way that
ultimately helps the organization to satisfy external custom-
ers. To achieve these objectives, the organizationʼs members
must first be made aware of the importance of internal cus-
tomers and the organization must then identify the specific
behaviors of employees that need to change. Reflecting on
the intervention model in Figure 1, emphasis will clearly be
on the middle two steps of the model (changing the orga-
nizational setting and changing individual behavior). That
emphasis will necessarily come from upper management
intervention.
The major recurring behavioral phases of a market orien-
tation as described by Kohli and Jaworski (1990) and Jawor-
ski and Kohli (1993) include gathering market intelligence,
disseminating the market information and rapidly respond-
ing to the market information. Using these three phases as a
guide, we proposed that new employee behaviors that must

Figure 1
Organizational Outcomes as a Function of Management Intervention
Changes in:
Management Organizing Arrangements—goals,
Intervention policies, reward systems
Social Factors—management style,
informal networks, patterns
Physical Setting
Technology
be introduced into a firm with little or no market orienta-
tion are the gathering of market information, sharing the
information with others in the organization and responding
to market information to satisfy customers. Within the pro-
posed internal customer orientation framework, this would
entail gathering “internal” market information regarding in-
ternal customersʼ needs and identifying how satisfying those
needs would help the internal customers be able to better
satisfy external customersʼ needs. Sharing market informa-
tion would mean, 1) sharing the internal market information
across relevant internal suppliers, and 2) sharing the infor-
mation across internal customers. Finally, employees must
be motivated to respond to the internal market information
in a way that ultimately facilitates the satisfaction of the
external customer. Although this may appear to be an ardu-
ous task for employees, keep in mind that employees would
only need to be gathering and responding to information
relative to their own internal and external employees and not
employees across the entire organization.
Central to the proposed framework is the difficulty in
attempting a dramatic change in all aspects of employee
behavior and attitudes. For an organization that is attempt-
ing to move from a low degree of market orientation to a
high degree of market orientation, expecting instant change
in employee behavior is unrealistic. Top management must
communicate the desired market-oriented culture, and this
must be done on a continuous basis (Day 1994; Jaworski
and Kohli 1993). However, top down communication is not
sufficient to bring about the desired change in employee be-
havior. A management process is required that is structured
to bring about this change in employee behavior. Based
in part on the work of Porras and Robertson (1990) and
Garver and Cook (2001), the proposed framework suggests
the changes required of employees should occur in a series
of managed steps or phases that gradually shape employee
behavior into the desired market oriented behavior.
Changing the behavior of employees by changing the
structure of the performance management system is seen
as the ultimate objective of this framework. To do this, em-
ployee knowledge and attitudes regarding a market oriented
culture must change, and then the organization must provide
the structure to change employee behavior.
Martin and Martin
Individual Behavior Organizational
Change Outcomes
Based on Porras and Robertson, 1990
Proposed Framework For Creating a Market-
Oriented Culture
For a traditional organization in which the marketing
function is relatively separate from other functional areas,
developing a market-oriented culture can be a daunting task.
To facilitate the development of a market-oriented culture,
this framework breaks the development process into the
two components discussed earlier (attitudes and behavior)
that reflect the two separate phases of the market orientation
construct (Figure 2). Phase I of this framework focuses on
three steps designed to change employee knowledge and
attitudes to better reflect a market-oriented culture. Phase II
outlines three steps for changing employee behavior in a way
that will create and maintain a market oriented environment.
Phase I: Educating the Employees: Changing Worker
Knowledge and Attitudes
Employees will not change their behaviors in the work
place until there has been a clear explanation of what it is
management is trying to accomplish. The more support
Figure 2
Six-Step Process Model
PHASE ONE: Educating Employees: Changing
Employee Knowledge and Attitudes
Employee education on the need for internal and
Step One
external customer focus
Step Two
Employee education regarding the dissemination of
market intelligence
Step Three Communicating a system to reward responsive behavior
PHASE TWO: Implementation of a Performance
Management System to Change Employee Behavior
Encourage gathering of market information for every
Step Four
employee
Step Five Encourage dissemination of market intelligence
Step Six Rewarding responsive behavior
Mid-American Journal of Business, Vol. 20, No. 2 49
Martin and Martin
there is for market-oriented activities at the top of the orga-
nization, the stronger the message to the work force will be.
Accomplishing Phase I is divided into the following three
management steps.
Step 1: Employee education regarding the need for both
an internal and an external customer focus. Harris (1999)
suggested that employees are potential barriers to creat-
ing and/or sustaining a market orientation for a variety of
reasons. Employees tend to have a short-term perspective
that runs counter to the longer-term focus within the market
orientation construct. Employees tend to focus their efforts
on their own productivity rather than on how their produc-
tivity benefits others in their organization. Most employees
overlook the fact that their efforts are connected to the orga-
nizationʼs customers, negating the customer-oriented aspect
of the market orientation construct. Most U.S. organizations
have a corporate culture that emphasizes individualism and
productivity. Employees understand their job to be gener-
ating as many units of work as they are able to produce.
This form of behavior and its accompanying attitudes are
typically reinforced through a performance management
system that compensates employees for their productivity
in terms of work units produced. Because a central tenet of
the market orientation concept is a customer focus (Slater
and Narver 1999), the key for initiating the development of
a market orientation is to refocus the individualism and pro-
ductivity aspects of an organizational culture toward internal
and external customer satisfaction.
The organization should begin with a series of depart-
ment-wide seminars that clearly explain the concepts of in-
ternal and external customers and each workerʼs role within
the supplier/customer dyad. It is important to recognize that
each employee would be involved with information to and
from only his/her own customers and not the entire compa-
ny. To facilitate this education process, the organization can
map out the series of dyads that exist between employees
in the organization, indicating each employeeʼs role as an
internal supplier and an internal customer. We refer to this
“map” as a dyadagram. A dyadagram is a series of mapped
dyads that indicate the supplier/customer nature of the rela-
tionship between pairs of individuals in an organization. The
dyadagram originated from a strength-of-ties perspective
evolving out of social network theory (Uzzi 1996; Marsden
and Campbell 1984; Granovetter 1973, 1982). The strength-
of-ties perspective focuses on the sharing of many types of
information between social actors in a social network. The
dyadagram is more specific than this because it refers to
an actual mapping of a series of work relationships and is
restricted to internal customer-supplier relationships. Each
individual in a firm has at least one dyadic relationship
where s/he is either the supplier of something (for example,
work product) or a customer/receiver of something. In many
instances an individual worker will be involved in multiple
dyadic relationships functioning as a supplier for specific
individuals and a customer with others. The dyadagram
focuses solely on customer/supplier relationships within
50 Mid-American Journal of Business, Vol. 20, No. 2
an organization. Applied to the development of market
orientation through internal supplier/customer dyads, the
dyadagram would be able to guide the employee to those
supplier/customer dyads that are more or less critical to
different aspects of the employeeʼs job. The dyadagram will
allow employees across different departments to visualize
their roles within their own close networks and their role in
the organizationʼs relationship with external customers.
To strengthen the point that employees are both suppli-
ers and customers of others in the organization, top man-
agement should maintain and communicate artifacts, or
organizational stories of critical incidents that are examples
of internal supplier/customer relationships that ultimately
improved external customer satisfaction. Such cultural
artifacts are an important means for reinforcing the market-
oriented culture that top management is pursuing (Homburg
and Pflesser 2000).
. . . top management should maintain and
communicate . . . organizational stories
of critical incidents that are examples of
internal supplier/customer relationships
that ultimately improved external cus-
tomer satisfaction.
Once employees know who their own internal customers
and suppliers are, the second part of this process includes
the identification of the specific internal and external market
information that is required or expected to be collected and
maintained by employees for each job and the sources of
that information.
The dyadagrams would indicate those within the orga-
nization from whom information should be collected and
maintained by the employee. The market information that
is required would include information about the employeeʼs
internal customers and the companyʼs external customers.
For those dyadic relationships between internal suppliers
and customers that are identified as stronger, the employee
might be expected to collect and maintain information that
is more in-depth about the internal customerʼs needs and
how those needs relate ultimately to the external customerʼs
needs. For those dyadic internal relationships that are
identified as weaker, the employee might expect to collect
and maintain a broader variety of information, but with less
depth (e.g., Rindfleisch and Moorman 2001). In addition to
the need-related information for those internal customers
in weaker dyads, the broader variety of information may
also provide the employee with a broadened perspective on
his/her job and role within the organization as well as new
insights and ways to creatively satisfy internal customers so
that they can satisfy external customers. Finally, for some
positions within the organization for which there is little
external customer contact, there may still be opportunities
to gain external market information that would help satisfy
internal customers who must satisfy external customers. The
organization should encourage employees in these positions

to identify these opportunities and to collect the market
information the opportunities may provide.
Step 2: Employee education regarding the dissemination
of market intelligence. That employees at varying levels of
the organization will possess a clear understanding of what
should happen to the market information generated in Phase
I is an unrealistic assumption. Management must decide on
the most efficient means for educating employees to their
part in the dissemination process. While many options exist
to accomplish this task, the goal is for employees to share
their knowledge of internal and external markets with others
in the organization. Relying on the previously described
dyadagrams, focus would be placed on the most appropri-
ate linkages for disseminating the information. Following a
strength-of-ties perspective (Marsden and Campbell 1984),
the dyadic linkages would help to identify with whom the
information should be shared as well as what informa-
tion should be shared. To facilitate this education process,
whole plant or large unit seminars may work well in some
instances, where small department meetings may be better
for groups less familiar with the market orientation concept
and the sharing of market information. In most organiza-
tions there will likely be a combination of written materials
and group meetings scheduled so that all employees have a
full understanding of information dissemination. Regardless
of the process employed, the main objective of this step is to
clarify with the organizationʼs employees why the dissemi-
nation of market intelligence is so important. The employees
need to recognize that gathering information is important,
but that the information needs to be shared so that it can be
acted upon by various individuals or departments.
Step 3: Communicating the reward system to encourage
responsiveness to market information. The final part of the
first phase is to close the loop in the employeesʼ understand-
ing of the new system. Thus far the workers have received
an explanation of the need for an internal and external
customer orientation and their role in generating and dis-
seminating both internal and external market information.
At this point employees need to understand what the com-
pany would like for them to do with the market information
they receive. Some companies will encourage workers to
act independently and make changes themselves that will
positively affect the consumer. Other companies prefer
ideas be discussed between the workers and their supervisor
within a workerʼs own department or manufacturing cell,
and then acted upon, while still other companies prefer all
ideas be submitted for approval to higher levels of manage-
ment before being acted upon. Critical to this process is that
whatever system the company chooses, it must be clearly
communicated to employees.
In addition, it is crucial for top management to determine
how the processes of intelligence generation, dissemina-
tion and responsiveness will be tied into the performance
evaluation of the work force. Whether they use the balanced
scorecard approach of Kaplan and Norton (1992) or a more
traditional performance management system, it is important
Martin and Martin
that the manner in which market-oriented behavior will be
tied to rewards is explained to everyone in the organization.
The reward system is a key element of Phase II and will be
discussed in more detail subsequently.
In summary, Phase I of the system being proposed is
focused on education of the workforce. From the top to the
bottom of the organization the employees need to know that
management is committed to gathering, disseminating and
responding to internal and external market information and
that employees are expected to engage in these behaviors to
a certain extent.
...it is crucial for top management to de-
termine how the processes of intelligence
generation, dissemination and respon-
siveness will be tied into the performance
evaluation of the work force.
Phase II: Implementation of a Performance Management
System to Change Employee Behavior
Step 4: Encourage the gathering of market informa-
tion as part of every employee’s job. The fourth step in the
process requires employees to go from the acknowledge-
ment that a customer focus is important, to changing their
behavior to support a customer focus and the generation of
market information. Improving knowledge and attitudes of
employees is insufficient to change their performance. An
additional, necessary means for encouraging the generation
of market intelligence is through a performance manage-
ment system. A performance management system can play a
pivotal role in influencing organizational behavior because
a performance management system is a network of related
components whose ultimate purpose is to improve orga-
nizational effectiveness (Beer, Ruh, Dawson, McCaa and
Kavanagh 1978). A performance management system is an
initiative proposed by top management that sets up a process
for on-going evaluation of worker productivity along with
continuous feedback, with the ultimate goal being continual
development of employee skills and activities that enhance
the effectiveness of the firm. A performance management
system is designed to improve an organizationʼs effective-
ness and efficiency through changing the behavior of its
employees. It requires cooperation from all levels within the
organization. The strategic and operational goals of the firm
should be developed with a market-oriented culture being a
key component.
In most organizations employees have generally been
rewarded for quantity and quality of production. Their job
descriptions are clear about detailing the specific activi-
ties of their jobs. The fourth step in developing a market
orientation involves re-writing the job descriptions and per-
formance standards to include the actual activities that are
necessary for generating market intelligence. The behaviors
necessary to generate the market information would be in-
cluded in the job description and yearly objectives for each
position.
Mid-American Journal of Business, Vol. 20, No. 2 51
Martin and Martin
The performance management system would include
rewarding behaviors oriented toward generating market
intelligence. This would involve detailing a reward program
that will entice employees to allocate a certain percentage
of their time and effort to generate market intelligence. All
workers have a limited amount of time and energy that must
be divided between the various aspects of their jobs. Moti-
vating employees to allocate a portion of their resources to
generating market intelligence through the reward system
is a necessary component in the performance management
system. The organization must not only clarify the reward
system, but must also identify the nature of internal cus-
tomer information the employee is expected to collect. This
information would focus on the specific needs that the in-
ternal customer has in order to successfully perform his/her
job. These needs will vary depending on the situation and
the nature of the relationship between supplier and custom-
er. Given the plethora of possibilities regarding the type of
internal customer information the employee might collect,
it is beyond the scope of this paper to provide any sort of
detailed specification. However, we believe a fruitful area
of research might pursue the development of a taxonomy of
internal customer information.
As an example of how the first four steps would fit
together, consider the job of a product design engineer. Prior
to initiating a market orientation in a company, the design
engineerʼs focus would probably be the design of a product
to meet product specifications. The design engineer would
not necessarily be concerned with satisfying the needs of
operations people or of the product or sales staff for that
product and, therefore, would design the product from an ef-
ficiency and engineering perspective. Once top management
becomes committed to changing the organizationʼs “product
design” culture to a market-oriented culture, the first initia-
tive is to develop a dyadagram for this position. To do this
one must identify the internal supplier/customer dyads that
include the design engineer. For example, the engineer is, at
Figure 3
Hypothetical Dyadagram for a Product Design Engineer
Concept
Development
Team
Internal
Suppliers
R & D Scientist
Product/Sales
Manager for
Product A
Other Internal
Customers
52 Mid-American Journal of Business, Vol. 20, No. 2
a minimum, a supplier to production-operations people and
to product managers or sales managers for different prod-
ucts being designed. The engineer is also, at a minimum, a
customer of the concept development team and the R & D
scientist/engineers who are supplying new product concepts
and ideas. The dyads could be diagrammed as in Figure 3.
Also in this first step would be the identification of the
sources of information and the types of information the
design engineer should collect and maintain. For example,
based on the dyadagram in Figure 3, in addition to the basic
product specifications, the design engineer might find that
the internal operations customer may want certain aspects of
the product to be designed a certain way. At the same time,
the product or sales internal customer for that product may
also want specific aspects of the product to be designed a
certain way. Both of these internal customers may be basing
their design needs on what will help them achieve better
performance. Both of these internal customers may also
have design needs that conflict with each other. In addition,
detailed market information from the concept development
team or the R & D scientist may suggest alternative design
possibilities not indicated in the original specifications. The
dyad relationships in Figure 3 suggest the design engineer
must come to understand that he/she should share informa-
tion from each of his/her internal customers and suppliers
with his/her other internal customers and suppliers. So, for
example, knowing that operations may want “X” and sales
may want “Y” could be shared with R & D, which might
affect subsequent versions of the product.
To motivate the hypothetical design engineer in Figure
3 to collect the relevant market information, the evaluation
system and the reward system would need to be structured
so that the engineer is rewarded for collecting market infor-
mation from all relevant sources. In the event of potentially
conflicting needs of different internal customers, the engi-
neer must also be rewarded for collecting information about
the external customerʼs needs for this product from sources
Product Production Other
Design Operations Internal and
Engineer External
Customers
Product/Sales
Manager for
Product B
Other Internal and External Customers

identified in the dyadagram as well as sources external to
the company. The precise nature of the reward system must
be clearly communicated to the design engineer.
For example, if the engineer attends a professional
conference, there is a potential source available for generat-
ing additional market information. However, the engineer
is also involved in attending formal presentations, meeting
with colleagues about advances in the field and finding time
for rest and relaxation. Each of these activities has obvious
rewards for the engineer. If a company wants the engineer
to further sub-divide his/her time to talk with competitors or
customers about product development, the company must
reward such behavior. This could be done through a variety
of mechanisms. For example, the conference stay could be
extended one day in order to give the engineer more time for
generating market information or there might be individual
departmental incentive programs. Regardless of the specific
reward mechanism used, the criteria for performance (in this
case the collection of relevant information) must be clear
and the reward must be of value to the engineer.
The process of gathering and sharing internal customer
information and external customer information would be
streamlined by the use of a computer software system that
would store and disseminate market intelligence based on a
dyadagrammatic design of the firm. Then as individuals col-
lected market information they could store and disseminate
it through a central location within the companyʼs internal
computer network. As discussed by Porras and Robertson,
1990; (see Figure 1), this would be an important change in
technology that would result in individual behavior change.
The last two processes describe the steps necessary for
employees to share internal and external market information
and to respond to that market information. Both steps may
occur at the same time, within a short period of time, or each
step may require lengthier periods of time for implementa-
tion, depending on the organizationʼs current culture.
Step 5: Encouraging dissemination of market intel-
ligence. Once market intelligence is generated there is the
need to disseminate the information to relevant parties
within the organization. There can be no response to the
information without it first being communicated throughout
the organization. The main focus in this step is to motivate
those individuals who have accumulated market information
to take the time and effort to disseminate their information
across the organization. Because people tend to perform
those activities for which they are rewarded, the company
must set up a system for rewarding the dissemination of
market intelligence.
This step raises several issues about dissemination of
information. For example, should the dissemination be
formal or informal, how much information should each
employee receive, should employees receive sensitive cus-
tomer or financial information, how should a reward system
be structured for sharing information, how often should
employees be expected to disseminate information and how
often dissemination should be measured are just a few of the
Martin and Martin
issues managers must grapple with in their attempt to imple-
ment a market orientation. Because of the wide variation
within organizational and market environments, no rules are
currently available to give easy answers to these questions.
Generally, wider dissemination of information is consid-
ered better for an organizationʼs ability to respond to that
information. There will, however, be an array of exceptions
to this. Customer and financial information is often shared
with employees in highly market-oriented firms, but we are
sure there are situations where this is not the case. Reward
systems are structured very differently across firms.
Whether dissemination should be formal
or informal is also idiosyncratic to the
organization’s culture.
Whether dissemination should be formal or informal is
also idiosyncratic to the organizationʼs culture. For example,
in Figure 3, if the manager for product A has received exter-
nal market information that the customer is dissatisfied with
the placement of an on/off switch on a particular product,
then the product/sales manager needs to communicate that
information to the product design engineer. The firm should
develop a reward structure that will reinforce the product
manager for taking his/her time to pass the market informa-
tion along to the product engineer. Whether this is done in
a formal report or during an informal conversation would
depend on the organizationʼs culture.
As another example of a dissemination method, one
consumer products company developed and circulated a
newsletter to disseminate market intelligence. Contributions
to the newsletter were an active part of the job description.
The company set up an incentive system for contributions to
the newsletter to encourage employees across the organiza-
tion to contribute. For another company, a more efficient
possibility might be an internal web site dedicated strictly
for market intelligence that would allow for a full dissemi-
nation of information across all levels of the organization.
Employeesʼ job descriptions can include expectations for
the frequency of visiting the site and incentives can be of-
fered for contributions to the site. Regardless of the spe-
cific mechanism used, as employees begin more and more
horizontal and vertical dissemination of market intelligence,
the company should expect a shift in employee attitudes to
reflect a market driven culture at all levels of the organiza-
tion.
Step 6: Responsiveness to market intelligence: Reward-
ing responsive behaviors. Simply having market informa-
tion available within the organization accomplishes little.
The organization must respond to the information in a way
that provides a competitively superior value to customers in
a timely manner. A company can be responsive in several
ways from re-designing products to offering new products,
changing the distribution and promotion of products to
Mid-American Journal of Business, Vol. 20, No. 2 53
Martin and Martin
changing servicing of products or of customers. By develop-
ing a performance management system that reinforces these
behaviors the company will establish commitment at all
levels of the organization.
The organization must respond to the
information in a way that provides a com-
petitively superior value to customers in
a timely manner.
By phase II all workers should be educated to understand
the customer orientation of the organization. They should
have available market intelligence so that now it becomes
imperative for a company to establish a system that encour-
ages the employee to respond to the market information.
For example, in a retail store if information generated from
customer comments indicated that external customers found
it distressing when clothes were disorganized on the shelves,
then the company might want its sales clerks to spend more
time straightening the merchandise on the racks and shelves.
However, if sales clerks are paid entirely on commission
there is little motivation to spend time straightening up the
clothes. Therefore, evaluating and compensating this em-
ployee based on activities that are responsive to the market
information they have received is critical.
Consider the product design engineer in Figure 3. The
engineer has now collected information from the product
manager suggesting that external customers donʼt like the
placement of an on/off switch. The engineer shares that
information with production/operations people who like
the switch where it is because it is less costly to attach in
that spot. The organizationʼs reward system must be set up
such that the engineer receives a greater reward if a solu-
tion is found that uses both pieces of information thereby
satisfying both sets of internal customers and ultimately the
external customer. While the response to market information
is a necessary step, that response should be measured for its
appropriateness. If the product design engineer changes the
position of a switch in response to intelligence received, the
appropriateness of the change should be determined before
the reward for responsiveness is offered (Hauser, Simester
and Wernerfelt 1996). Efforts by Garver (e.g. Garver and
Cook 2001; Garver and Gagnon 2002) suggest that cus-
tomer satisfaction (for both internal and external customers)
is the appropriate metric to use to evaluate responsiveness.
As those authors point out however, customer satisfaction
must be balanced against the profitability of achieving that
satisfaction and this must also be taken into account.
Several implementation issues emerge as the manager
works through this final step. In addition to the managerʼs
development of training modules for educating employees
about the importance of market-oriented behaviors (Phase
I), implementation of the six steps requires training to
develop the skills necessary to engage in market oriented
behaviors (Phase II). Employees recognizing the impor-
54 Mid-American Journal of Business, Vol. 20, No. 2
tance of market oriented behaviors will accomplish little if
employees are not trained to perform the behaviors. Every
company and every type of position will require a unique
variation of training, and although it is beyond the scope of
this paper to develop individual training modules for each
employee position, there are several tools in the training
literature and the TQM literature that could be helpful to a
manager in the implementation process. For example, based
on the TQM literature, the first and perhaps most important
aspect of implementation would be for top management to
be directly involved in some way with the implementation
process. Demingʼs management-by-walking-around ap-
proach is an excellent method that involves top management
and will also communicate top managementʼs vision and
commitment to a market oriented culture. Cause-and-effect
diagrams and root cause analysis, check sheets and data
collection sheets, graphic displays of data and processes,
and flow charts for process mapping are excellent methods
for helping an employee learn how to collect information
pertaining to the links between his/her actions and his/her
internal customersʼ needs. Other tools to assist the employee
with the acquisition of information could include Taguchiʼs
loss function approach which would focus the employeeʼs
attention on the variation of his/her behavior around a
targeted goal for his/her internal customers, self audits,
who-what-where-when-why-how analysis, and evolution-
ary operations analysis. Tools to help employees learn ways
to be responsive could include a plan-do-check-act cycle,
brainstorming, a root cause analysis, and goal setting. QFD
matrices and force field analysis are tools that can help the
employee translate his/her internal customersʼ needs into ef-
fective responsiveness. Most books on TQM describe these
tools in detail (e.g., Brocka and Brocka 1992; Crosby 1979;
Deming 1982; Hodgetts 1996; Juran 1988; Pegels 1995).
Other implementation issues the company must also
consider include how responsiveness will be measured and
whose task it will be to track this information. Finally, in
addition to collecting and tracking the performance informa-
tion, decisions must be made regarding the reward structure.
Will rewards be provided on a weekly, quarterly or yearly
basis? When responses are still uncertain and being learned
it is best to reward desired behaviors as frequently as pos-
sible. Therefore, for the first year of this plan it would be
useful to plan feedback and rewards on a monthly basis,
perhaps cutting back to quarterly over time. For on-going
behavior, a yearly review is likely to sustain the desired lev-
el of responsiveness. However, the timing of rewards is also
contingent on the frequency of opportunities for responding
to market information. In addition, the organization must
provide detailed training that will show employees how to
use internal and external customer information.
As firms increasingly recognize the strategic importance
of becoming more market oriented, organizations will nec-
essarily focus on the problem of driving a market orientation
deep into the organizationʼs culture. This focus brings the
organization face-to-face with the barriers and difficulties

of implementing a market orientation. Central to those dif-
ficulties is the necessity of changing employee behavior to
reflect the different orientation of the organization.
Company Example
The following is an example of how one company used
the above framework to implement an organization-wide
market orientation. Cardinal Fastener (40 employees; less
than $20 M in revenue) is a small manufacturing company
that produces fasteners used in the construction of OEM
equipment such as domes, stadiums, oil rigs, and drilling
cranes. When Cardinal was purchased several years ago
one of the main goals of the new owner/president was to
grow the company and to establish a dominant position in
a national market. The company already had an established
name for quality and turned its attention to focusing on the
customer. The first phase of implementing a market orienta-
tion is educating the work force. The new president began
by explaining to his work force the concept of internal and
external customers. Next he physically lined up the employ-
ees across the plant to show them their own internal suppli-
ers and customers giving employees a very personal sense
of the dyadic relationships in which they were involved.
Each worker stood arm-to-arm with his/her own customers
and suppliers as the president explained to the workers why
knowing their internal customers and suppliers is important
information. He had several employees stand up and talk
about their internal relationships so that others would begin
to understand, thus establishing cultural artifacts (Homberg
and Pflesser 2000) that would continue to reinforce the in-
ternal customer-internal supplier concept. Once the workers
knew who their own internal customers/suppliers were, the
second and third processes in Phase I took place; the nature
and type of market information they were to gather was
explained, as was the reward structure. The reward would
be simple and straightforward; they were to be given weekly
cash awards for solving problems and having error-free on-
time delivery. These goals were linked to the specific perfor-
mance of each job through the internal customer – internal
supplier network throughout the organization. In this way
each employee knew exactly how his/her behavior affected
his/her internal customers and how this led to satisfaction of
external customers.
The second phase of the process for Cardinal was chang-
ing employee behavior. While the initial organization-wide
meetings were the most difficult, once the employees began
to understand the terminology and how the system worked,
the president felt that the change began to generate its
own momentum. To this day there continue to be monthly
company-wide meetings where attendance is required. The
plant shuts down for about forty-five minutes while the past
monthʼs performance is evaluated and plans for the follow-
ing month are discussed. This process accomplishes two
elements discussed previously. It provides the opportunity
to discuss market information and it also communicates
Martin and Martin
the importance of maintaining a market oriented focus
throughout the company. Each meeting focuses primarily on
a single issue such as delivery, quality or competitors. The
president tries to encourage every employee to share infor-
mation with each other. Every individual in the organization
is encouraged to share in these discussions. One way this
is done is to use silver dollars. When an individual shares
market information with the rest of the workers he tosses
them a silver dollar. The silver dollar is obviously a minimal
monetary incentive, but the president of Cardinal has found
that it acts as a very strong social reward. Although a small
token, he has found this method to be very motivating in
encouraging the workers to share market information. Be-
yond the additional monthly monetary incentives, workers
are praised and supported for gathering and sharing market
information with one another.
Beyond the additional monthly monetary
incentives, workers are praised and sup-
ported for gathering and sharing market
information with one another.
Top management takes an active role in sustaining the
market orientation within Cardinal Fastener. Market infor-
mation continues to be shared on an on-going basis. Top
management practices dissemination of market informa-
tion by sharing both competitor and customer information
company wide. The top customers and target customers are
posted on bulletin boards around the plant. Delivery sched-
ules are posted daily.
An example of responsiveness to market information is
their program called Golden Nuggets. Each problem or new
idea is called a Golden Nugget. This emphasizes the point
that problem identification is good for the company, because
only then can the problem be solved. Each problem is turned
into an opportunity. Emergence of problems is considered to
be the result of one of two reasons: either a procedure was
not followed, or there was no procedure to follow. When
a problem is identified all of those individuals responsible
meet with all of the internal customers and suppliers in
their chain to analyze the problem and to generate a solu-
tion. As an example, there was an order that was improperly
filled. The problem was identified as an error in transcribing
what the customer requested onto the job order form. The
standard procedure had been to proof read each order care-
fully, but this had failed to produce an error-free result. The
solution was that the individuals taking the orders would
now use multi-colored highlighters in order to cross check
line by line that each order was being transcribed correctly.
Another interesting example focused on the shipping depart-
ment. An external customer complained that one of their
orders had the wrong number of pieces in the carton. The
carton was to hold twenty-five pieces but had arrived with
only twenty-four pieces. Previously, the shipping depart-
ment packaged the items into open boxes for shipping. To
Mid-American Journal of Business, Vol. 20, No. 2 55
Martin and Martin
solve the problem the sales and shipping employees got to-
gether along with the team leader in the manufacturing cell
(their internal supplier). The solution was to have the pieces
packed in the manufacturing cells using a subdivided tray
with twenty-five clearly visible compartments. The result
was that the external customer was happy and a step was cut
in the manufacturing process. Thus, the Golden Nugget gen-
erated information to be shared among internal customers
and suppliers and resulted in responsiveness to the problem
and to the external customer. In both of the above examples
employees are treating each other as internal customers and
suppliers, but always with the ultimate goal of serving the
external customer.
Cardinalʼs president feels that employees need to be giv-
en every opportunity to excel. Trying to change a corporate
culture is difficult. Once in place, sustaining it is less taxing,
but it requires a continuous focus on the issues of internal
and external customers. The workers see each other as cus-
tomers and treat each other with respect, ultimately increas-
ing both speed and efficiency of production for the external
customer. The result of driving the market orientation deep
into the organization has been a tremendous growth in the
company (approximately 20 percent annual growth for the
past five years), high quality products, competitively supe-
rior delivery time, extremely high worker satisfaction, lower
costs and higher profits.
Conclusions and Future Research
Despite the general acceptance of the importance of a
marketing orientation to an organizationʼs profitability,
to date little has been offered that aids businesses as they
undertake such an endeavor. The main objective of this
paper was to offer six management steps within two sepa-
rate phases that would provide a framework for initiating a
market orientation. The six steps rely on an internal cus-
tomer – internal supplier orientation as the link between the
organizationʼs employees and its external market. Following
the suggestion of Hauser, Simester and Wernerfelt (1996),
the proposed implementation structure links satisfaction
of internal customers to the ability of the organization to
satisfy external customers. The dyadic approach establish-
ing stronger and weaker ties between internal customers and
suppliers provides the foundation for changing the organiza-
tionʼs performance management system in a way that shapes
employee behavior toward the desired market oriented
culture.
As is clear from both the framework and the example
with Cardinal, managers can incorporate techniques with
which they are familiar into the process. Such techniques as
root cause analysis, QFD, TQM, and process mapping are
a few that could be investigated for their roles in enhanc-
ing the implementation of this process. The nature of how
tools such as these would fit into the framework should be
explored.
56 Mid-American Journal of Business, Vol. 20, No. 2
What makes this process ideal for small organizations is
the ability of the company president to become personally
involved in the process. The president can directly commu-
nicate with employees to emphasize the connection between
specific work behaviors and specific organizational rewards.
In addition, dyadagrams are easily developed and under-
stood in a small organization. Workers can readily grasp the
relationship between their work and that of their internal
customers and suppliers and how this affects the external
customer.
Future research might be focused in three separate areas.
One potential area would be developing a theoretical model
around the concept of the dyadagram. The intent would be
to lead to organizational designs of the internal network
and technical systems for fluid communication within the
network. A second area for future research is to identify
which of the proposed six processes is currently being used
by organizations and how might those steps be improved
upon. Investigating which management techniques are most
influential to the process and which metrics are most benefi-
cial for measuring the effectiveness of the change would be
additional important areas for future research. A final area
for research is to study the effects of the reward structure to
determine how best to tie rewards to increased intelligence
generation, dissemination and responsiveness. ■
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About the Authors

Beth Ann Martin is Professor of Industrial/Organizational

Psychology at John Carroll University. Her research interests focus
on the development of linkages between performance manage-
ment systems and market orientation in small and mid-sized orga-
nizations in addition to the use of personality assessments in em-
ployment selection decisions. martin@jcu.edu

James H. Martin is Professor of Marketing in the Boler School

of Business at John Carroll University. His research interests focus
on strategies that enhance the development and implementation of
a market orientation, especially comparing firms in transition or
developing economies to firms in Western developed economies.
jhmartin@jcu.edu

58 Mid-American Journal of Business, Vol. 20, No. 2

Implementing Planned Change:
An Empirical Comparison of Theoretical Perspectives
Abstract
Planned organizational change has been viewed from
a variety of conceptual perspectives, and a plethora of
variables that impact the change process have been pro-
posed. However, few empirical studies have investigated
the relationships thought to exist among change process
variables. Drawing from questionnaire-based data obtained
from managers involved in the implementation of change,
we evaluate three plausible change model configurations
using multivariate methods. Findings from the study support
a dynamic change process configuration over a direct effects
model. Results, discussion, implications and direction for
further research are offered.
Introduction
Understanding the process of planned change is impera-
tive for managers who are charged with implementing stra-
tegic initiatives that drive the success of the organization.
Planned change refers to a premeditated, agent-facilitated
intervention intended to modify organizational functioning
for a more favorable outcome (Lippit, Watson, and Westley
1958). This perspective largely reflects the teleological cat-
egory of change theory advanced by Van de Ven and Poole
(1995) in which organizational change is achieved primar-
ily through the adaptive behavior of individuals in light of
internally set goals. While other perspectives stress the role
of external, Darwinian-like forces in organizational change
(e.g., Alchian 1950; Hannan and Freeman 1977), a substan-
tial volume of literature favors the teleological premise of
premeditated actions to effect change (Huy 2001). Further,
the notion of crafting and deploying large-scale change
initiatives has been widely diffused among managers as
the basis for strategic management (e.g., Andrews 1971;
Thompson and Strickland 1998).
Although planned change has been viewed from a variety
of conceptual perspectives (e.g., Gioia and Chittipeddi 1991;
Huy 2001; Levy 1986), few models of planned change have
been studied using empirical research designs. Inquiry us-
ing empirical methods could illuminate a number of issues
about which we remain largely uninformed such as the
Matthew W. Ford, Northern Kentucky University
Bertie M. Greer, Northern Kentucky University
...few models of planned change have been
studied using empirical research designs.
relative importance of various change process factors in suc-
cessful change implementation. For example, is incentive
system alignment more important to change achievement
than, say, skill development and delivery? Empirical stud-
ies could also assist in more accurately specifying change
process models. Although many change process configura-
tions have been proposed, few have been tested to determine
how factors should be organized to best express the process
of change (Pettigrew, Woodman, and Cameron 2001). Some
resolution could be obtained by testing competing model
configurations with empirical data, and linking the result-
ing measurement properties to the modelsʼ appropriateness
(Venkatraman 1990).
In this study, we seek to contribute to both theory and
practice by investigating the process of planned change in
an empirical context. First, we extract common factors from
several prominent conceptualizations of planned change
process. We then use these factors to configure three alterna-
tive models of change process implied by the literature.
Using data gathered from over one hundred managers in-
volved in the implementation of planned change, we employ
multivariate methods such as factor analysis and structural
equations modeling to evaluate and compare the models.
By evaluating the construct and predictive validity of the
models, we draw conclusions about the appropriateness of
the three plausible configurations, and about the relative
importance of various change process factors in achiev-
ing implementation success.We conclude by discussing the
practical implications of the studyʼs findings and by offering
further direction for change process research.
Theoretical Background and
Hypothesis Development
Change Variables
Planned change is often conceptualized as a process
because of the sequence of actions or events that unfold to
Mid-American Journal of Business, Vol. 20, No. 2 59
Ford and Greer
move the organization from one state to another (Garvin
1998). Models of change process tend to share three
basic stages (Kanter, Stein, and Jick 1992). The first stage
involves questioning the organizationʼs current state and
dislodging accepted patterns of behavior. The second stage
is a state of flux, where new approaches are developed to
replace suspended old activities. The final period consists
of institutionalizing the new behaviors and attitudes. These
three stages are clearly visible in many classic conceptual-
izations of change such as Lewinʼs (1951) unfreezing-move-
ment-refreezing framework. The same stages can be also
be used to categorize the numerous variables proposed as
contributors to the change process. For example, each of
Kotterʼs (1996) eight steps for managing change are readily
categorized into the various stages.
...the influence of particular change pro-
cess factors on implementation success is
not equally distributed, and . . . some fac-
tors might matter more than others.
Despite general acceptance of the process notion, there
has been little agreement on the organizational factors or ac-
tivities that comprise the process. Theorists have proposed a
plethora of factors as contributing to the process of planned
change. Tichy (1983) for example, proposed nine factors or
“levers” that could be adjusted to facilitate organizational
change; each factor required evaluation in the technical,
cultural, and the political context of the organization. In
most theoretical models, little guidance is offered about a
change process factorʼs relative importance to successful
implementation. Some scholars weigh their change process
factors equally and caution against ignoring any of them in
the pursuit of successful change (e.g., Kotter 1995). How-
ever, there is reason to believe that the influence of particu-
lar change process factors on implementation success is not
equally distributed, and that some factors might matter more
than others—at least in particular contexts. For example, it
has been argued that elaborate up-front planning may hinder
change achievement, particularly when the planned change
is large in scale (Mintzberg and Waters 1985).
The literature is also unclear on how factors reflecting
the process of change are best organized (Pettigrew, Wood-
man, and Cameron 2001). Some scholars have suggested
that the process of change is sequential to some degree, and
that, when implementing change, it is more important to
alter some elements of the organization before others (e.g.,
Hinings and Greenwood 1988). Others have noted the itera-
tive nature of planned change and its implementation (e.g.,
Lindblom, 1959; Quinn 1980), which challenges the notion
of planned change as orderly proceeding from one phase
to the next. Moreover, contextual factors may play a role
in change process sequencing. The order might depend, for
instance, on whether the planned change is episodic (e.g.,
60 Mid-American Journal of Business, Vol. 20, No. 2
Romanelli and Tushman 1985) or continuous (e.g., Weick
and Quinn 1999) in nature. The extent to which change pro-
cess factors function in parallel or in sequence to produce
successful change is a central issue in the literature that
remains resolved.
Variable Selection
One way to assess the aforementioned concerns of the
change process is to test competing model configurations
empirically and link the resulting measurement properties to
the modelʼs appropriateness (Venkatraman 1990). Since this
study contributes to a relatively nascent stream of empiri-
cal change process research, we decided to limit the factors
in our model to a few core “building blocks”—factors
widely accepted as contributing to the process of planned
organizational change. To obtain these factors, we studied
conceptualizations of change proposed by Nadler and Tush-
man (1980), Tichy (1983), Burke and Litwin (1992), and
Kotter (1995, 1996). These models were chosen for a few
reasons. First, each of these models display some character
of the teleological change theory category proposed by Van
de Ven and Poole (1995). Second, these models have been
widely cited in the literature; many have been featured in
formal reviews of organizational change theory (e.g., Burke
1995; Werr 1995). Finally, these models represent prominent
contemporary frameworks that have established a presence
in the empirical world.
Our comparison found five factors common to all of
these models. One factor related to activities aimed at plan-
ning or determining the organizational actions necessary to
operationalize the change. A second factor reflected devel-
oping and delivering new behavior to replace old patterns
of action. A third factor involved aligning incentive and
reward systems to encourage behavior necessary to realize
successful change. A fourth factor involved monitoring of
the implementation progress and taking corrective action
when necessary. Finally, there was a factor that reflected the
change outcomes themselves, or the extent to which imple-
mentation was successful. The first four factors became
independent “process” variables for our investigation while
the fifth factor represented the dependent “results” variable.
This small variable set allowed us to operationalize our
research questions using a research design that was manage-
able in the present but scalable (i.e., open to the addition of
more variables) for follow-up investigations. In the para-
graphs below, we provide further evidence of the content
validity of these five factors.
Variable Justification
Action planning. Scholars have historically proposed the
disaggregation of high-level goals into more concrete plans
of action. Barnard (1938) argued that an organizationʼs
purpose and objectives should be broken into fragments
ordered in time and assignment for cooperation. Simon
(1947) portrayed an organization as a hierarchy of decisions
with action at lower levels. Ansoff (1965) suggested that

strategic objectives were best implemented through a series
of cascading goals down through the organization. Plans of
specific action served as linking pins between organizational
levels on the way to goal achievement (Likert 1961). Action
planning processes can be highly structured, particularly in
the context of planning large-scale change (e.g., Hofer and
Schendel 1978; Thompson and Strickland 1998). Although
many changes are incremental in their development (Quinn
1980), action planning is often viewed as an early element
in temporal processes of change.
Skill development and delivery. Organizational change
is realized largely through changes in individual behavior
(Goodman and Dean 1982; Robertson, Roberts, and Porras
1993; Tannenbaum 1971), since the nature of individual
behavior significantly influences organizational performance
(Porras and Hoffer 1986). Many models of planned change
emphasize the task or work related aspects of behavior
change (e.g., Nadler and Tushman 1980; Weisbord 1976).
Organizational change requires the development and de-
livery of skills in a way that will permit successful change
implementation. Evidence supports the relationship between
practices to acquire and develop skills and the achievement
of organizational goals (e.g., Kerr and Jackofsky 1989;
Terpstra and Rozell 1993). The timing of skill development
and delivery must permit workers to assimilate and practice
skills prior to their regular use, particularly for groups that
must coordinate new skills as a work unit (Cottrill 1997).
However, skills delivered too far in advance are undesirable
if workers forget how to turn their knowledge into practice
(Adams 1967), or if workers fail to see the connection be-
tween practicing these skills and the organizational change
imperative (Baldwin and Magjuka 1997).
Incentives. Incentives induce action and motivate effort
(Cummings and Schwab 1973). In addition, incentive and
reward systems constitute a primary governance mechanism
for the organization (Jensen and Meckling 1976). The pri-
mary controlling feature of incentive systems is the induce-
ment for practicing behavior consistent with performance
objectives (Kerr 1988). Some work has found that reward
system design and usage helps explain inter-organizational
differences in successful change implementation (e.g., Agar-
wal and Singh 1998). Accountability is a critical element
of incentive and reward systems (Bourdon 1982). Individu-
als are said to be accountable when their performance is
monitored and when there are consequences (tangible or
intangible) associated with the evaluation (Siegel-Jacobs
and Yates 1996). Degree of accountability appears to affect
decision-making and judgment. In particular, high levels
of accountability appear to encourage more information
gathering and examination and to lessen the possibilities of
opportunistic behavior (Fandt and Ferris 1990; Hattrup and
Ford 1995), and may be particularly important in motivating
performance in situations of high interdependent behavior
(Fandt 1991).
Monitoring and control. Monitoring has long been con-
sidered a core activity of managers (e.g., Newman 1940).
Ford and Greer
Managers commonly employ diagnostic control systems
(Anthony 1965) when monitoring planned change. In
diagnostic control systems, managers gather information
about the initiative of interest, assess the current state of
performance against goals or objectives, and act on signifi-
cant differences between actual and desired performance
(i.e., the “performance gap”) to achieve better results. As
such, diagnostic controls help managers keep things on track
(Merchant 1985, 1). The effectiveness of diagnostic control
systems is reduced when comparative performance standards
are imprecise or do not exist, or when output or behavior can-
not be accurately measured (Lawler and Rhode 1976; Otley
and Berry 1980). Despite its limitations, diagnostic control
is thought to be central to the implementation of intended
change, particularly those large in scale (Simons 1995).
Degree of accountability appears to affect
decision-making and judgment.
Implementation success. Outcomes or results of a change
initiative are frequently treated as a multidimensional vari-
able. To assess the effectiveness of implementation, Tush-
man and OʼReilly (1997) suggested evaluating the extent to
which the organization actually reached the intended future
state, how well the organization functioned in its new state,
and the cost of change to both organization and individual.
Nadler and Tushmanʼs (1980) congruence model, Tichyʼs
(1983) TPC framework, and the Burke-Litwin (1992) model
all connect implementation success to both organizational
performance and the effect or influence on the individual.
Miller (1997) proposed three dimensions that captured
the degree of implementation success associated with a
planned change: completion, achievement, and acceptabil-
ity. Completion was the degree to which intended actions
were implemented as planned. Achievement was the degree
to which implemented actions were performed as intended.
Acceptability was the degree to which the method of imple-
mentation and outcomes were satisfactory to those involved
in, or affected by, the implementation. A well-rounded mea-
sure of implementation success, then, should assess change
achievement at both the organizational and individual levels
as well as dimensions that capture the notions of comple-
tion, achievement, and acceptability.
Configuration Alternatives
Using these factors as building blocks, we proceed to
configure three alternative representations of the planned
change process that are plausible expressions of existing
theory. These configurations provide working models that
can be subjected to empirical assessment.Diagrams of the
three configurations appear in Figure 1.
Direct effects model (M1). The most straightforward
configuration of our five building block factors involves
simply linking each of the four variables of change process
Mid-American Journal of Business, Vol. 20, No. 2 61
Ford and Greer

potential effects of several change process factors on imple-

FIGURE 1
Alternative Change Model Configurations
AP = Action Planning
A. Direct Effect Model (M1) SD = Skill Development & Delivery
I = Incentives
M = Monitoring & Control
AP IS = Implementation Success
CP = Change Process (second order)
mentation outcomes. M1 also expresses a non-sequential
arrangement of the process variables. This specification
supports the incremental, non-linear perspective of change
process proposed by some theorists (e.g., Lindblom 1959;
Quinn 1980). Configured in this fashion, change process
factors such as action planning and skill development and
delivery proceed mostly in parallel rather than in sequence
to influence implementation success. This model reflects the
following hypothesis:

SD H1: Change process factors (action planning, skill

IS
development and delivery, incentives and monitor-
I
ing and control) are positively related to implemen-
tation success.

M Second order change process model (M2). An alternative

perspective views each change process variable as reflecting
a common, higher order “change process” construct (Figure
B. Second Order Change Process (M2) 1b). Garvin (1998) viewed change processes as sequences of
behaviors or events that altered the scale, character, or iden-
AP tity of the organization. From this perspective, a change pro-
cess is more than just a collection of independent variables.
Rather, the variables covary in a systematic way to reflect
SD
the higher order construct. In this configuration, the gestalt
CP IS effect of the variables is proposed as a more powerful way
I of predicting implementation success. This configuration
emphasizes the overall strength of the organizationʼs change
process. Inside this process, the variables interact dynami-
M
cally. M2ʼs configuration de-emphasizes individual vari-
ables and stresses the organizationʼs overall change process.
C. Squential Change Process (M3)
This model reflects the plausible notion that the process for
I achieving change may differ between organizations. Some
organizations, for example, may realize successful change
largely through exceptional planning while others rely heav-
SD
ily on effective reward systems. Organizations may differ in
AP IS
their profile of enacted change process variables while the
relative strength of their overall change processes may be
similar. These observations reflect the following hypothesis:
M

H2: Each change process factor (action planning, skill

to the implementation success variable (Figure 1a). This
configuration resembles a multiple regression model in
which several independent variables are hypothesized to
have a direct relationship on a single dependent variable.
Several studies have employed this approach to examine the
relationship between single change process variables and
performance. Perhaps no change process variable has been
studied in this fashion more so than planning, particularly in
the context of its relationship to large-scale change achieve-
ment (e.g., Pearce, Robbins, and Robinson 1987). Metastud-
ies of the confusing, often contradictory results flowing
from the stream of planning-performance studies have
suggested that the models used to test hypothetical relation-
ships require more accurate specification (e.g., Miller and
Cardinal 1994). The M1 model specified here reflects the
development and delivery, incentives and monitoring
and control) reflects a higher order change process
construct that is positively related to implementation
success.
Sequential Model (M3). Implied in many models of
planned change is a sequential progression that begins
with planning activities and moves through variables that
facilitate the execution of plans in order to realize effec-
tive change (e.g., Andrews 1971; Lewin 1951; Kotter 1996;
Tichy 1983). While intuitively appealing, the notion that
some actions must be done before others when implement-
ing change has received surprisingly little research attention
(Pettigrew, Woodman, and Cameron 2001). This investiga-
tionʼs four change process factors can be categorized into

62 Mid-American Journal of Business, Vol. 20, No. 2


the three general stages of planned change process (Kanter,
Stein, and Jick 1992). Action planning is a stage one activity
that helps dislodge the organization from old patterns of
behavior. Skill development is a stage two activity which
serves to move the organization to new patterns of action.
Incentives, and monitoring are stage three activities that
govern behavior and help the organization institutionalize
new patterns of action.
Skill development, incentives, and monitoring can also
be viewed as “execution” variables. These factors should be
directly linked to implementation success since they make
change happen by altering behavioral patterns in the orga-
nization. Levels of these factors should be related to action
planning, since the plans provide the objectives and “march-
ing orders” that must be operationalized. Moreover, since
monitoring and incentives are mechanisms for governing
behavior (Eisenhardt 1989; Fama1980), these two factors
should also influence skill development and delivery due to
their institutionalizing character (Figure 1C).
An interesting feature of this model is the mediating
effect of three execution variables between action planning
and implementation success. This planning ‡ execution ‡
outcomes sequence reflects a common conceptualization of
how intended organizational change occurs (e.g., Andrews
1971; Tichy 1983; Van de Ven and Poole 1995; Thompson
and Strickland 1998) that is worthy of empirical testing in
lieu of the rival view that such sequential order rarely oc-
curs or is ill-advised (e.g., Mintzberg and Waters 1985). We
should also note that the inclusion of execution variables
in M3 highlights the role of implementation as a bridge
between planning and performance—a role thought by
some to have been largely unaccounted for in the planning-
performance studies (e.g., Smith and Kofron 1996). These
observations reflect the following hypotheses:
H3a: Action planning is positively related to change
process factors (skill development, incentives,
monitoring).
H3b: Change process factors (skill development, incen-
tives, monitoring) are positively related to imple-
mentation success.
H3c: Change process factors (incentives and monitoring)
are positively related to skill development.
Method
Sample data for this study were obtained from partici-
pants in change management seminars sponsored by the
Center for Quality of Management. The Center for Quality
of Management is an international consortium of over one
hundred organizations focused on improving performance
through the development and application of structured
managerial processes. During the seminar, participants
completed a questionnaire to assess the extent to which
Ford and Greer
their organizations employed various activities during the
implementation of a particular change in which they were
involved. A complete description of the assessment process
and the full questionnaire can be found in Center for Quality
of Management (2001).
We secured 107 useable questionnaires from individu-
als representing forty-three organizations. The primary unit
of analysis in this study was an individualʼs assessment of
the organizationʼs change management processes in light
of a specific planned change (individuals were asked to
record this “reference change” in the questionnaire). Dur-
ing the data collection, individuals from the same parent
organization often identified different initiatives to serve as
their “reference change,” hence multiple respondent issues
were not deemed an overly significant concern. Indeed, the
standard deviation between respondents in the full sample
was found equal to or slightly higher than standard devia-
tions between respondents in assorted sub-samples where
respondent were restricted to one per organization. Sixty-
four percent of the respondents worked for service organi-
zations and fifty-six percent worked for manufacturing orga-
nizations. About two thirds of the respondents were from
private, for-profit enterprises; others were about equally
split between public, for-profit and public sector/govern-
ment agencies. Ninety-two percent of the respondents were
from organizations of more than 100 employees; 25 percent
of respondents were from organizations of greater than 1000
employees. Over 90 percent of respondents were at least
middle-level managers; more than half were upper-level
managers.
Questions designed to reveal stage and impact of planned
change indicated that about 45 percent of the changes were
estimated to be at least 50 percent completed at the time of
the evaluation. Once implemented, over half of the planned
changes were forecast to impact at least 40 percent of the
organizationʼs employees, suggesting that the majority of
changes evaluated in this study were strategic, rather than
incremental, in nature (see Nadler and Tushman 1989).
Measurement
Eleven items, those meant to reflect the five latent vari-
ables of our change model, were utilized from the question-
naire (Table 1). With 107 samples and eleven indicators, our
ratio of samples to indicators was nearly 10:1, comfortably
above the five-to-one level often specified in multivariate
studies (Hair, Anderson, Tatham, and Black 1998). The
four independent latent variables of change process, action
planning, skill development and delivery, incentives, and
monitoring were each reflected by two items (Table 1). As
indicated by the associated alphas, each scale exhibited
acceptable reliability. Response to each item consisted of
five choices organized on a Likert scale meant to reflect the
extent to which a formal system existed and was effectively
implemented. A “1” represented little or no formal sys-
Mid-American Journal of Business, Vol. 20, No. 2 63
Ford and Greer
TABLE 1
Indicators Used for Each Scale and
Associated Reliabilities
Cronbach’s
Alpha
Action Planninga .71
AP1 Was an action plan developed for making the change?
AP2 Was a timeline for successful completion established?
Skill Development and Deliverya .76
SD1 Did the organization develop necessary skills and
capabilities through training, mentoring, outside acquisition
or other means?
SD2 Did the organization make sure that needed skills and
capabilities were in place in time to complete the changes?
Incentivesa .66
I1 Were employees rewarded for working to support the
change effort?
I2 Were organization leaders held accountable for their
behavior related to the change?
Monitoringa .74
M1 Was information effectively used to enable corrective
action when necessary?
M2 How effective were the actions taken to correct the
progress of the change?
Implementation Successb .82
CA1 Did the change have a positive impact on business results?
CA2 To what extent has the change resulted in expected behaviors?
CA3 Overall, how satisfied were you with the changes?
a
Response scale consisted of five behaviorally anchored choices designed
to reflect the extent to which a formal system existed and was effectively
implemented. A “1” represented an informal, ineffective system in place
with few results; a “5” represented a formal effective system.
b
Response scale consisted of five behaviorally anchored choices designed
to reflect the effectiveness of results achieved. A “1” represented little or
no results to speak of; a “5” represented highly effective results.
tem in place with few results; a “5” represented a formal,
effective system. Each response choice was behaviorally
anchored to reduce the response scale drift that can confuse
the detection of actual behavior changes when using ques-
tionnaires to measure change (Lindell and Drexle 1979).
Implementation success was treated as a single depen-
dent latent variable represented by three self-rated measures
intended to reflect the completion, achievement, and accept-
ability dimensions proposed by Miller (1997) (see Table 1).
Responses consisted of five behaviorally anchored choices
meant to reflect the effectiveness of results achieved. A “1”
represented little or no results to speak of; a “5” represented
highly effective results. Descriptive statistics and correla-
tions for the eleven indicators used in this study appear in
Table 2.
Self-reported measures of performance are commonly
noted as concerns due to the potential for common meth-
ods variance. However, self-reported measures have been
64 Mid-American Journal of Business, Vol. 20, No. 2
broadly employed in empirical studies of organizations
(Nahm et al 2004; Ward and Duray 2000; King and Tao
2000). One method for evaluating whether response bias
impairs the unidimensionality of measured variables is
confirmatory factor analysis (Gerbing and Anderson 1988).
A confirmatory factor analysis of the five latent variable,
11-indicator measurement model representing the four
independent change process variables of action planning,
skill development and delivery, incentives, and monitor-
ing and control, and the single dependent implementation
success variable was conducted using LISREL 8 (Joreskog
and Sorbom 2001). Significant path coefficients (t values
of 5.9 or higher) between each of the five latent factors and
their corresponding items resulted. Goodness of fit statistics
suggested acceptable model fit1 (x2 = 42.19; df = 34; p =
.158; RMSEA = .048; GFI = .93; AGFI = .87; NNFI = .96).
Results from the confirmatory factor analysis suggested a
measurement model with acceptable convergent and dis-
criminant validity.
Results
The three hypothetical change process model configura-
tions were evaluated using the structural equation modeling
methods of LISREL 8 (Joreskog and Sorbom 2001). Figure
2 includes the coefficients obtained from analysis of the
direct effects model (M1). Only one of the path coefficients,
the relationship between monitoring and control and imple-
mentation success, was found highly significant (p < .001).
The path coefficients between skill development and deliv-
ery and implementation success, and between incentives and
implementation success, were found marginally significant
(p < .10). The path between action planning and implemen-
tation success was not significant (t = 1.41). The squared
multiple correlation for the implementation success latent
variable was .70. Goodness of fit statistics implied that the
model fit the data well. The chi-square was not significant
(x2 = 42.2; df = 34; p = .158). Additional indicators (RMSEA
= .048; GFI = .93; AGFI = .87; NNFI = .96) met or exceed-
FIGURE 2
Analysis of Direct Effects Model of Change Process
(M1)
x2 = 42.2, df = 34, p = .158
RMSEA = .048
AP GFI = .93
.15
AGFI = .87
NNFI = .96
✝.23
SD
✝.24 IS
I ***.45
✝p < .10
* p < .05
M **p < .01
*** p < .001
 Ford and Greer

TABLE 2
Descriptive Statistics and Bivariate Correlations of Model Indicators

Mean SDev AP1 AP2 SD1 SD2 I1 I2 M1 M2 IS1 IS2

AP1 2.73 1.036
AP2 2.46 1.165 **.56
SD1 2.77 1.146 **.28 **.22
SD2 2.66 1.064 **.38 *.21 **.61
I1 1.75 0.850 .18 .19 *.24 *.21
I2 1.82 1.099 .05 .05 .03 .12 **.50
M1 2.42 1.160 **.24 *.21 **.48 **.37 **.35 .21
M2 2.69 0.834 ***.28 .20 **.33 *.27 **.29 **.37 **.61
IS1 2.15 1.170 **.25 *.23 **.47 **.33 **.40 **.32 **.49 **.46
IS2 2.35 0.854 ***.41 **.30 **.34 **.28 **.29 **.29 **.40 **.42 **.62
IS3 2.09 1.129 **.33 *.26 **.45 **.44 **.29 *.26 **.56 **.50 **.63 **.57
* p < .05
** p < .01
*** p < .001
Two tailed test

ed benchmarks indicative of reasonable fit. These findings GFI = .93; AGFI = .88; NNFI = .97). These findings suggest
suggest that Hypothesis 1 as stated should be rejected, since that Hypothesis 2 should not be rejected.
three of the four levers were found to have marginal or Figure 4 includes the coefficients obtained from analy-
insignificant relationships to implementation success. sis of the sequential change process model (M3). While
Figure 3 includes the coefficients from analysis of the many of the path coefficients were found significant, note
second order change process model (M2). All path coef- that the strongest relationships surrounded the monitoring
ficients were found highly significant (p < .001). The strong and control variable. The modelʼs sole insignificant path
path coefficient between the second order change process was between incentives and skill development, suggesting
construct and implementation success supports the proposed that incentives had little direct influence on skill develop-
relationship between this higher order change process vari- ment and delivery, which provided only partial support for
able and change achievement. The squared multiple correla- Hypothesis 3c. The squared multiple correlation for the
tion for the implementation success latent variable was .86. implementation success latent variable was .68. While the
The fit of this model was incrementally better than the fit fit of this model was weaker than the fit of the previous two
of M1. The chi-square statistic remained non-significant (x2 models, the fit statistics remained at acceptable levels (x2 =
= 46.2; df = 39; p = .201), and other indicators approached 55.5; df = 36; p = .02; RMSEA = .071; GFI = .91; AGFI =
or exceeded benchmarks of reasonable fit (RMSEA = .042; .84; NNFI = .92).1 These findings suggest that Hypotheses
3a and 3b should not be rejected.
FIGURE 3 To summarize, analysis of M1ʼs configuration found
Analysis of Second Order Model of Change Process monitoring and control as the most significant change pro-
(M2) cess lever linked to implementation success. Hypothesis 1
should be rejected, since action planning, skill development
x2 = 46.2, df = 39, p = .201 and delivery, and incentives were also proposed as directly
RMSEA = .042 related to change achievement. Analysis of M2ʼs configura-
GFI = .93
AGFI = .88
tion found highly significant paths (p < .001) emanating
AP
***.43 NNFI = .97 from the second order change process construct to the other
model variables, including implementation success. The
SD ***.59 strong path coefficients and measured fit support Hypothesis
***.74 2ʼs notion the gestalt effects of individual levers as part of
***.46 CP IS
a higher level change process construct. The strength of the
I ***.69 ✝p < .10 path coefficients and measures of overall fit also provided
* p < .05 reasonable support for the sequential ordering of change
**p < .01
M process variables (M3) as proposed by Hypotheses 3a, 3b,
*** p < .001
and 3c. Of particular note was the strong relationship be-
tween the monitoring and control factor and other variables

Mid-American Journal of Business, Vol. 20, No. 2 65

Ford and Greer
FIGURE 4
Analysis of Path Model of Sequential Change Process
(M3)
x2 = 55.5, df = 36, p = .020
RMSEA = .071
GFI = .91
AGFI = .84
NNFI = .92
I This study has some limitations. Our sample was con-
*.29
*.31
-.01
✝.28
*.27
AP SD
***.50 ***.49
***.46
M ✝p < .10
* p < .05
**p < .01
*** p < .001
of the model, which suggests the importance of this variable
on the achievement of planned change.
Discussion
Viewing the change process using a perspective similar
to the direct effects M1 configuration in Figure 1 appears
naïve. Strength of the results from the analysis of M2 and
M3 suggests a more dynamic perspective of the planned
change process. One such perspective is that of a high-
level change process construct which captures patterns of
covariation among the individual change process variables.
It is consistent with the non-linear path through which many
changes are realized (e.g., Lindblom 1959; Quinn 1980).
Emphasizing the higher order change process construct
rather than the individual levers supports a view that dif-
ferent organizations might emphasize different levers at
their disposal for the implementation of change. Such a
perspective is intuitively appealing since it emphasizes the
uniqueness by which each organization might approach the
implementation problem.
Our findings also suggest the plausibility of model-
ing some sequential organization among change process
variables. Many researchers have suggested that the process
of change is sequential to some degree, and that, when
implementing change, it is more important to alter some
elements of the organization before others (e.g., Hinings
and Greenwood 1988; Gersick 1994). Our findings suggest
that this is a reasonable view from a measurement perspec-
tive, which should motivate further inquiry into causal order
among change process variables.
Of the four independent change process variables consid-
ered in this investigation, monitoring and control appeared
66 Mid-American Journal of Business, Vol. 20, No. 2
to have the strongest effect on implementation success. The
path coefficients associated with the monitoring and control
variable were relatively strong in each of the three models
examined (see Figures 1-3). Monitoringʼs salience to change
achievement may relate to the dynamic, revisionist nature
of planned change. Most planned changes, particular those
large in scale, require midstream corrections to the initial
course of action (Mintzberg and Waters 1985), which may
necessitate formal monitoring of implementation progress.
fined to respondents from organizations that were members
of the same industrial organization. Moreover, the sample
size was relatively small in comparison to other multivariate
IS
studies, and included respondents from the same organi-
zation. While the resulting demographics of the sample
appeared reasonable and multiple respondent influences
were deemed minimal, a larger, broader sample would be
desirable in future studies. By design, the change variables
selected for this study were limited to a few widely accepted
factors in order to explore some fundamental empirical
questions. Of course, other factors have been proposed to
impact the process of change, such as climate and cul-
ture (Burke and Litwin 1992), previous decision history
(Nadler and Tushman 1980), politics (Tichy 1983), and
communication (Kotter 1995). Entering additional factors
of change process would make for a more comprehensive
analysis. In addition, the two- and three-item measurement
scales were smaller than those often employed in structural
equation modeling studies. Future research could explore
larger measurement scales to round out the content valid-
ity of the model. Finally, researchers have noted concerns
with self-rated measures of change, based largely on the
argument that a raterʼs basis for comparison shifts as the or-
ganization itself changes (e.g., Zmud and Armenakis 1978).
While objective measures of organizational change are
certainly desirable, finding them has been problematic for
both researchers (Cameron 1980; Lewin and Minton 1986)
and practitioners (Troy 1994). We should note that despite
such concerns, self-rated measures have been effectively
employed in a number of insightful implementation stud-
ies (e.g., Nutt 1986; Miller 1997; Nahm,Vonderembse and
Koufteros 2004).
This study suggests the value of survey-based empiri-
cal research for studying organizational change. Pettigrew,
Woodman, and Cameron (2001) identified issues related
to temporality, sequencing, and linkage to organizational
outcomes among the challenges facing researchers of orga-
nizational change. Although researchers often suggest only
qualitative or case based methods for gathering change pro-
cess knowledge, survey-based empirical research can help
researchers pursue such issues. For example, periodically
gathering questionnaire-based data over the life of an imple-
mented change could provide insight into when organiza-
tions employ particular change process factors, the degree
to which such factors were employed, and how outcomes
responded to the various process adjustments.

As noted previously, the validity of M2ʼs configura-
tion raises the possibility that organizations possess unique
change process “profiles” for implementing planned change.
The profile, reflective of the degree to which various process
variables are enacted during implementation, might relate
to the organizationʼs particular set of skills or competences
(e.g., Barney 1991). Organizations that possess strong com-
munication skills, for instance, might emphasize change
process factors with high communication content to a
greater extent than less fluent organizations. Empirical de-
signs could investigate the existence of such change process
profiles and the extent to which they may be linked to an
organizationʼs underlying resources.
In our study, monitoring and control were
consistently found to be related to imple-
mentation success.
Our study has practical implications for managers ac-
countable for successfully implementing planned change.
Findings from our evaluation of M2 suggest the possibility
of developing a unique change process for each organiza-
tion. Instead of subscribing to one particular set of change
process factors, it appears plausible that an organization
might be able to develop their own change “style” or combi-
nation of process factors—perhaps based on particular orga-
nizational skills or strengths. For example, an organization
with poor planning skills might still realize implementation
success if it can compensate with effective skill develop-
ment and delivery during the change process. In addition,
our evaluation of M3 suggests some sequential character to
the change process, which supports the notion that timing or
pace may be an important consideration when implementing
change (Gersick 1994).
Do some change process factors matter more than oth-
ers? In our study, monitoring and control were consistently
found to be related to implementation success. Since modi-
fications to an initial course of action are highly probable
(Mintzberg and Waters 1985), diagnostic control systems
may be essential for managers to detect performance gaps
that impair implementation success and require corrective
action. Effective monitoring and control requires organiza-
tional skills in objective setting, in information retrieval and
analysis, and in selecting the appropriate corrective action if
a significant deviation from plan is detected (Simons 1995).
Many of these skills are similar to factors thought to
embody learning organizations (Nevis, DiBella, and Gould
1995). In other words, an organizationʼs effectiveness in
diagnostic monitoring and control may reflect general ca-
pacity for organizational learning and change management
(Kloot 1997). Managers who are accountable for change
outcomes might benefit from establishing monitoring and
control systems that permit tracking of implementation
progress and effective intervention when necessary.
Ford and Greer
Finally, we should note that, while a number of research-
ers have also observed the empirical importance of moni-
toring and control in achieving change (e.g., Charan and
Colvin 1999; Kotter and Schleisinger 1979), many elements
of modern organization design may not be conducive to
monitoring. Managers have been busy shedding bureaucra-
cy, decentralizing decision-making, and establishing more
workplace autonomy to help the organization move faster
and become more innovative (Burns and Stalker 1961;
Ouchi 1980). Although such practices might help get change
going, lack of formal control structure might impair effec-
tive execution of the plan. Such a premise is consistent with
the “Weʼre great starters, but terrible finishers” assessment
we often hear from managers characterizing the change
processes in their organizations. Many organizations may
be reaching or exceeding advisable limits for decentralized
control (Bungay and Goold 1991). Further inquiry into the
role of monitoring in the process of change is prudent.
Conclusions
Given the dynamic work environments that exist in
most organizations, understanding planned change and its
components for success is a necessary skill for managers
involved in implementing short and long-term strategic
objectives. Indeed, the growing use of the term execution
in the lexicon of management (e.g., Bossidy 2003) suggests
that the value placed on knowing how to manage change is
increasing. Knowledge about change models and the factors
that compose them can only benefit managers who must pull
the proper levers that lead to successful implementation.
The findings from this study support configurations that
reflected dynamic change process conceptualizations. The
dynamic change processes were found to possess favor-
able measurement properties when compared to a direct
effects model. Of the change process variables considered
in this investigation, monitoring and control demonstrated
the strongest relationship to implementation success. These
findings support a dynamic, perhaps sequential perspective
of change and its implementation—a perspective that should
benefit from further empirical investigation. ■
Notes
1. We utilize several commonly reported goodness of fit
indicators and the thresholds suggested by Hair et al. (1998)
as desirable. x2 is the chi-square statistic (a non significant
p-value of at least p > .01 is desirable). RMSEA is root mean
square error of approximation (< .08). GFI is goodness of
fit index (no consensus threshold but .90 often viewed as
minimum acceptable value). AGFI is adjusted goodness of
fit index (> .85). NNFI is non-normed fit index, also known
as the Tucker-Lewis index (> .90).
Mid-American Journal of Business, Vol. 20, No. 2 67
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About the Authors
Dr. Matthew W. Ford is an Assistant Professor of Manage-
ment at the Northern Kentucky University College of Business.
He holds a Ph.D. in Operations Management from University of
Cincinnati. His research interests include quality management,
entrepreneurship, and the management and control of change.
fordmw@nku.edu
Dr. Bertie M. Greer is an Assistant Professor of Management
at Northern Kentucky University. She holds a Ph.D. in Business
from Kent State University. Dr. Greer’s teaches courses in opera-
tion management, project management and total quality manage-
ment. Dr. Greer’s research interests include change management,
supply chain management, quality management, project manage-
ment, and diversity.
greerb@nku.edu
Mid-American Journal of Business, Vol. 20, No. 2 69
Cummings
BOOKSHELF
Final Accounting
By Barbara Ley Toffler
Reviewer: Bill Cummings
Northern Illinois University
What do all the following organizations have in common:
Baptist Foundation of Arizona, Global Crossing, Sunbeam,
Waste Management, WorldCom, and Enron? All were cli-
ents of the Arthur Andersen (simply “Andersen” after May
of 2001) accounting and auditing firm during the period of
1990 through 2002. In addition, all suffered major frauds,
significant, downward restatements of earnings, and sanc-
tions by federal regulators. Much has been written over the
past three years about the fall of Andersen, the once proud
and highly respected giant in the accounting and auditing
world. Final Accounting by Barbara Toffler may be the
best account available of the events leading to the demise of
Andersen as the auditor of many of the world’s best known
companies.
Ms. Toffler, as the partner-in-charge of Ethics and
Responsible Business Practices consulting services for An-
dersen from 1995 to 2000, is in the unique position of being
able to tell the story of Andersen’s demise from the inside
and as a professional ethics expert. The author chronicles
the history of the firm from its founding in 1913 by North-
western University accounting professor Arthur Andersen
through the early entry of the firm into the consulting world
in the 1940s right up to the events leading to the breakup
of the auditing and consulting practices in the early 2000s.
This breakup she contends was the proximate cause of
Andersen’s eventual fall from grace and lead to the indict-
ment and conviction for obstruction of justice in the Enron
case. A conviction, which ironically at the time of this writ-
ing, has been reversed by the U.S. Supreme Court.
But the story of Andersen’s demise and fall is like a
modern, tragic, morality play — how the once most power-
ful and highly respected accounting firm in the world lost
its moral compass. Then, born out of desperation to rebuild
its revenue base after the departure of its consulting arm,
Andersen Consulting, now known as Accenture, frantically
pushed its partners to cross-sell services beyond the areas of
accounting and auditing.
70 Mid-American Journal of Business, Vol. 20, No. 2
The major point of the book is to show how the Enron
scandal alone did not bring down Andersen. Rather, com-
mitment to audit excellence and to high ethical standards,
which had been the hallmarks of Andersen for its entire
history, began to erode over a decade before the actual
demise of the firm. Portrayals in the media during 2002,
when Andersen’s fall was unfolding, focused on Andersen’s
failure to reveal the ongoing fraud in Enron and alleged acts
of obstruction of justice which led to the indictment by the
Justice Department of the entire firm. Almost everyday in
the business press were new reports of longtime Andersen
clients dumping the firm as their auditor and switching to
another CPA firm. Indeed, the final destruction of the firm
as an auditor of public companies was due to the conver-
gence of several factors which made Andersen’s survival
impossible: the media frenzy in the spring of 2002 regard-
ing Enron and Andersen, Andersen’s almost totally discred-
ited reputation with further revelations regarding Enron and
other audit failures, and the fact that most public corpora-
tions hold their annual shareholder meetings in the spring.
Given this “perfect storm” of events, it is hard to imagine
any audit committee chairman or chief financial officer
announcing at the annual meeting that Andersen had been
retained as the outside auditor. Not one company stood by
the firm.
The flight of clients from Andersen in the spring of 2002
resembled a classic run on a bank. But the complete story
of Andersen’s decline and fall is much longer and more
involved. Toffler’s account weaves together the author’s
personal experiences at Andersen with the bigger picture of
how the firm’s demise began and ultimately unfolded. In so
doing, she identifies some of the major lessons that accoun-
tants, educators, and the investing public should learn from
the Andersen saga. The following are examples of several
of major lessons raised by Toffler:
Everyone Thinking the “Andersen Way” Did Not Serve the
Firm Well in the Long Run
One of the hallmarks of Andersen had always been the
tendency to hire people right out of college and intensively
train them in the Andersen rules of the game. This approach
was originally conceived by Arthur Andersen, the founder
and furthered by Leonard Spacek who followed as the firm’s
managing partner. The idea was that no matter who you
were or where you did business in the world, as a client you
would receive the same quality of service and approach to
work from people who were all trained in the same basic
way. Andersen’s St. Charles, Illinois training facility in fact
was unique in the industry. New employees and veterans
alike from all over the world were brought to St. Charles to
indoctrinate and refresh them in the Andersen approach to
accounting, auditing, and consulting practices. The Ander-
sen way included a dress code (in the 1950s and 1960s -
conservative dark suits, white shirts, and a hat when outside)
and a mandate “always be busy and to walk briskly.” But
even more important, Andersen traditions placed a premium

on not upsetting clients and not questioning superiors.
When the firm appeared to be losing its ethical halo in the
1990s, these latter two traditions made it extremely difficult
for the firm to recognize the gravity of the situation or for
anyone to initiate action to correct the mistakes of wrong-
ful conduct. The firm rarely looked to outsiders to conduct
training but rather used Andersen people almost exclusively.
People who could not adopt and internalize the “Andersen
way” moved out to clients or other accounting firms. All of
this had the effect of creating a very consistent but insular
Andersen workforce.
In fact, Andersen people became known in the industry
as “Androids” because of their unswerving loyalty to the
firm’s way of doing everything. In the end the “Android”
mindset also led to arrogance that the firm’s way was always
the best and denial that the firm could ever do anything
wrong. Up to the very end in national media interviews,
Joseph Bernadino, the final managing partner of the firm,
denied that Andersen’s actions constituted wrongful
conduct. Active employees and retirees alike were dumb-
founded that the federal government could or would indict
the firm essentially putting it out of business. The Justice
Department position was quite different of course, to them,
Andersen was a repeat offender. Having a series of audit
failures in the 1990s and having signed a consent degree in
2001 to clean up its practices after the Waste Management
debacle, Andersen had not carried through on its part of the
bargain. The final death knell in the court of public opinion
was the announcement by World Com, another client, of a
$9 billion downward restatement and the subsequent arrest
of World Com’s CEO and CFO for fraud. All that was left
for Andersen to do was surrender its licenses to practice and
handoff its clients to competitors.
The Split between Auditing and Consulting —
The Beginning of the End for Andersen
What had long been touted as Andersen’s great strength
in the accounting industry, the size of its consulting practice,
probably planted the seeds of the firm’s ultimate destruc-
tion. Toffler considers the rapid growth, the surpassing of
audit revenue by that of consulting, and the eventual break
away of Andersen Consulting to be several of the primary
causes of Andersen’s auditors to lose their ethical compass
and bring down the firm. Andersen had been an early en-
trant into the consulting field and one of the first to provide
computer and systems consulting services to its clients. The
business was so successful that the growth rate of consulting
compared to auditing was significantly greater by the 1980s.
This ultimately led to a cultural divide which resembled the
Grand Canyon as the consulting partners became convinced
that it was their side of the business which was in essence
subsidizing the audit side of the firm. The divide deepened
and became bitter during the late 1980s and in an effort
to keep the firm together, two autonomous business units
were formed, Arthur Andersen (AA) for the audit side and
Cummings
Andersen Consulting (AC) for the consulting business, both
under the umbrella of “Andersen Worldwide.” But the “One
Firm” concept had been effectively breached.
The two sides of Andersen coexisted in the 1990s in a
contentious fashion more resembling the Cold War than a
collegial firm. Without AC’s revenue, AA was now at or
near the bottom of the six major accounting firms in size.
In an effort to rebuild its revenue base, AA started its own
consulting arm ostensibly for smaller, emerging business.
Inevitably however, there was some direct competition for
clients with AC and this fact was not trivial to AC’s partners
who saw the encroachment by AA as bad faith especially
since AC still had to transfer 15 percent of its profits to AA.
In addition to its foray into consulting, AA began to
press its partners to aggressively market and even cross-
sell services to clients. “Billing our brains out” is the way
Toffler described the strategy to rebuild the revenue base.
Is this where Andersen, the one-time ethical leader of the
field, began to lose its way? One can only surmise that as
revenue building became the preeminent goal of the firm,
quality auditing, and upholding the staunch ethical stan-
dards of the firm became secondary. Certainly, the string
of audit failures involving Andersen clients in the 1990s,
points to something going terribly wrong. As the friction
between AA and AC worsened, in late 1997, AC sued for
divorce by voting to break from AA and filing for arbitra-
tion to determine how much AC would have to pay for its
freedom. Andersen demanded almost $15 billion from AC
for the break; the arbitrator ruled that AC would have to pay
about $1 billion and cease to use the Andersen name which
was trivial in that AC had already ceased using the name
and would soon become Accenture. The final loss of AC for
such a low price was devastating and now given the leader-
ship chaos which existed at the firm, the stage was set for
Andersen’s final slide into disgrace and dissolution.
In this writer’s opinion, the best part of Final Account-
ing is the final chapter entitled “Other People’s Money.”
In this chapter, Toffler states what she believes are the true
lessons from Andersen’s demise and fall. For example, did
Andersen self-destruct because of a few “bad apples in the
barrel” or is the whole environment which spawned disas-
ters like Enron and WorldCom rotten? Certainly, all frauds
and audit failures are perpetrated by individuals but the
point that Toffler is making here relates to the vulnerabil-
ity of Andersen’s people to the intense pressures to which
today’s accountants and auditors are subject. The extreme
importance that the capital markets place on corporations
to meet expected earnings targets can translate into intense
management pressure on the CPAs during the audit process.
It is certainly not accidental that this decade has seen record
numbers of earnings restatements and financial reporting
frauds by clients of all the major accounting firms. But was
Andersen more vulnerable to “pushing the envelope,” given
the contention with and eventual loss of AC, rapid manage-
ment turnover at the top of Andersen, and the almost desper-
ate clamor to build revenues of the firm?
Mid-American Journal of Business, Vol. 20, No. 2 71
Cummings

The failure of Andersen is a very powerful lesson to

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