The Cyert and March Theory of Firm

The behavioral theory of firm was developed by Cyert and March focuses on the decision making process of the large multi product firm under uncertainty in an imperfect market. They deal with the large corporate managerial business in which ownership is separated. Their theory originated from the concern about the organizational problem with the internal structure of such firms
creates and from the need to investigate the effect on the decision making process in these large organization. The internal organizational actors may well explain the difference in the reactions of firms to the same external stimuli, that to the same changes in their economic environment.

The assumptions underlying the behavioral theories about the complex nature of the firm introduces an element of realism into the theory of the firm. The firm is not treated as a single-goal, single decision unit, as in the traditional theory, but as a multi goal, multi decision organization coalition. The firm is as a coalition of different groups which are connected with its activity; in various ways, managers, workers, shareholders, customers, suppliers, bankers, tax inspectors and so on. Each group has its own set of goals or demands.

The behavioral theory recognizes explicitly that there exists a basic dichotomy in the firm, there are individual members of the coalition firm and there is the organization coalition known as ‘the firm’. The consequence of the dichotomy is a conflict of goals; individuals may have different goals to those of the organization firm.

Cyert and March argue that the goals of the firm depend on the demand of the members of the coalition, while the demand of these members are determined by various factors such as aspiration of the members, their success in the past in occupying their demands, the expectations, the achievements of other groups in the same or other firms, the information available to them. The demands of the various groups of the coalition firm change continuously over time. Given the resources of the firm in any one period, not all demands, which confront the top management can be satisfied. Hence, there is a regular bargaining process between the various members of the coalition firm and inevitable conflict.

The top management has several tasks; to get the goals of the firm which are often in conflict with the demands of the various groups, to resolve the conflict between the various groups, to reconcile as far as possible the conflict in goals of the firm and of its individual groups.

The goals of the firm are set by the top management, which the main five goals of the firm are:
  1. Production Goal: The production goal originates from the production department. The main goal of the production manager is the smooth running of the production process. Production should be distributed evenly over time, irrespective of possible seasonal fluctuations of demand, so as to avoid excess capacity and lay off of workers at some periods and over working the plant and resorting to rush recruitment of workers at other times with the consequence of higher, costs due to excess capacity and dismissal payments or too frequent breakdowns of machinery and waste of raw materials in period of rush production.
  2. Inventory Goal: The inventory goal originates mainly from the inventory department if such a department exists, or from the sales and production department. The sales department wants an adequate stock of output for the customers, while the production department needs adequate stocks of raw materials and other items necessary for a smooth flow of the output process.
  3. Sales Goal: The sales goal and the share of the market goal originate from the sales department. The same department will also normally set the ‘sales strategy’ that is decided on the advertising campaigns, the market research programs, and so on.
  4. Profit Goal: The profit goals is set by the management so as to satisfy the demand of share holders and the expectations of bankers and other finance institutions; and also to create funds with which they can accomplish their own goals and projects, or satisfy the other goals of the firm.
  5. Share of the market goal: While making decisions, the firms are guided by these goals. All goals must be satisfied but there is an implicit order of priority among them. The conflict among different goals may crop up.
The number of goals of the firm may be increased, but the decision making process becomes increasing complex. The efficiency of decision making decreases as the number of goals increases. The law of diminishing returns holds for managerial work as for all other types of labor.

The goals of the firm are ultimately decided by the top management through continuous bargaining between the groups of the coalition. In the process of goal formation the top management attempts to satisfy as many as possible of the demands with which the various members of the coalitions confront it. The goals of the firm such as the goals of the individual members or particular groups of the coalition take the form of aspiration levels rather than strict maximizing constraints.

The firm in the behavioral theories seeks to satisfy, i.e., to attain a ‘satisfactory’ overall performance as defined by the set aspiration goals, rather than maximize profits, sales or other magnitudes. The firm is as satisfying organization rather than a maximizing entrepreneur. The top management, responsible for the coordination of the activities of the various members of the firm, wishes to attain a ‘satisfactory’ level of production, to attain a share of the market, to earn a ‘satisfactory’ level of profit, to divert a ‘satisfactory’ percentage of their total receipts to research and development or to advertising, to acquire a ‘satisfactory’ public image and so on. But it is not clear in the behavioral theories what is a satisfactory and what an unsatisfactory attainment is.

They argue that satisfying behavior is rational given the limitations, internal and external with in which the operation of the firm is confined. They take by the form of aspiration levels, and whether attained, the performance of the firm is considered as satisfactory. The goals do not normally take the form of maximization of the relevant magnitudes. The firm is not a maximizing but rather a satisfying organization.

Conflicting Goals

The aspiration levels of the individuals within the firm which determine these goals change over time as a result of organizational learning. Thus, these goals are regarded as the product of a bargaining learning process in the organization coalition. But it is not essential that the different goals may be resolved amicably. There may be conflicts among these goals.

The conflicting interest can be reconciled by the distribution of side payments’ to members of the coalition. Side payments may be in cash or kind, the latter being mostly in the form of policy side payments. But the actual among of total side payments is not fixed for the coalition but depends upon the demand of members and on the form of the coalition. Demands of coalition members equal actual side payments only in the long-run. But the behavioral theory focuses on the short-run relation between side payments and demands and on the imperfections in factor markets.

In the short-run, new demands are being constantly made and the goals of the organization are continually adapted, to a greater or lesser extent, to take account of these demands. The demands of the members of the organizational coalition need not be mutually consistent. But all demands are not made simultaneously and the organization can remain viable by attending to demands in sequence. A problem will arise when the organization is not able to accommodate the demands of its members even sequentially, because it lacks the resources to do so.

Besides, side payments, the conflicting goals of the organization are resolved by subjecting them to a constant review. This is because, aspiration levels’ of coalition members change with experience. In fact, the aspiration levels change with the process of satisfying. Each person in the organization has a satisfying level for each of his goals.

Criticisms of this theory The Cyert and March theory of the firm has been severely criticized on the following grounds:
  1. The behavioral theory relates to a duopoly firm and fails as the theory of market structures. It does not explain the interdependence and interaction of firms, nor the way in which the interrelationship of firms leads to equilibrium of output and price at the industry level. Thus, the conditions for the attainment of a stable equilibrium in the industry are not determined.
  2. The theory does not consider either the conditions of entry the effects on the behavior of existing firms of a threat of potential entry by firms.
  3. The behavioral theory explains the short-run behavior of firms and ignores their long-run behavior. It cannot explain the dynamic aspects of inventions and innovations which are related to the long-run.
  4. The behavior theory is based on the simulations approach which is a predictive technique. It simply products the behavior of the firm but does not explain it.

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