Networks, enterprises and transaction costs

1_Colaboracion grupos_Eric Constantineau FlickrIn this post I would like to share an idea that seems to me quite complex: Are networks better than companies? Is it true that the “transaction costs” have collapsed so much to make the “network” a superior alternative to the “enterprise”?

Well, once again, let me say “that depends”: The networks are not always more agile than firms. It is rather the opposite: usually it happens that they involve a great complexity of relationship management. Yes, a robust and well-oiled network can be more agile than a versatile firm; okay … but to achieve this is not easy at all.

It hurts me to recognize that networks that work well and are agile, are still an exception rather than a rule. They serve to share ideas and to promote the exchange of knowledge, but when it comes to make a joint effort and carry out the distributed work, a lot of inefficiencies jump out.

Even though it’s true that, thanks to the Internet technologies, the transaction costs have dropped so much in order to facilitate coordination within P2P communities, there are still some considerable costs (in terms of time, for example) when it comes to match commitments among independent agents:

  • Costs of align priorities and interests (synchronize individual agendas)

  • “Democratic” costs of negotiating consensus (more people have to agree and approve things)

  • Daily coordination costs in managing tasks (digital apps help, but there is more dispersion of resources)

  • Costs of communication management (that has to be more sensitive when addressing members without any organic dependence)

  • Costs of common image and consistent identity management (it is difficult to define an identity that meets the expectations of the group and even more complicated to cultivate it consistently = Building a “network image” costs much more than “corporate image” creation).

These “costs” (let´s think about it just in terms of used time) are those we have to manage in order to mitigate the “centrifugal forces” that, by their nature, increase perception of autonomy.

Freeing from organic links implied within the corporative structure (that operates, for better and for worse, as a “centripetal force” that reduces coordination costs) tends to increase the chaos and, consequently, the costs of managing it.

To make matters worse, these costs increase in common situations, such as:

  1. When the project is very complex and requires high synchronization between the work packages

  2. When members of the network don´t  have enough trust among them

  3. When the partners have a poor “network culture” and excessively individualistic personalities that make them to ​​overestimate the independence above a minimum sense of group.

  4. When the network does not respect the appropriate balance between affinities and complementarities.

This last point is essential and closely related to the design of the network itself that means: who are its members. You have to achieve a tight cohesion between two, often conflicted factors:  1) Affinity: chemistry, well-tuned harmony and a culture shared among members, 2) Complementarity: synergies that come from diverse members´ skills.

The second requirement is usually the most afflicted within the networks I´ve known, because it tends to be underestimated. And it is a mistake because it is not enough that there are chemistry and personal affinity, but also there must be complementarities. The partners require these complementaries to need each other, to be able to work together and in this way to strengthen the sense of mutual interdependence.

Returning to the original issue, as I’ve said it other times: the Coase’s Law of the “transaction costs”, is elegant but too simplistic.

Coase reduces everything to the most visible costs, those that can easily be reported in the balance sheet but he ignores more complex factors associated to diversity, risk and image management. All these factors mean the necessity of coordinating free resources on the market, outside the company, as they affect substantially the efficiency and effectiveness of networks.

What I really pretend to say is that a “network” (a free alliance among independent agents) to be better than an “enterprise” (an organic structure), needs to meet certain starting and management conditions that we should take into account.

You should not read this post as a skeptical criticism of networks because it´s not the case.  I love networks and I will continue betting on them, but let us be realistic: when comparing with the alternatives, we should take into account all existing factors.

The first thing to do is acknowledge the reality in order to find ways to manage it better. I do not therefore accept this kind of abstract theory. I prefer to understand the difficulties first and to know what material we have to work with, as well as the degrees of freedom we have available.

The tight cohesion that needs a network to operate effectively is the most complex and hardly replicable things I’ve ever seen. Of course, the companies have troubles of their own, but we will discuss this in another post.

Note: Read this post in Spanish (Lee este post en Español)

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