The implementation of the innovations in a modern company is usually connected with certain risks of losing the economic growth rate. In this case, an innovative company may not succeed in the realization of the defined business strategy, or the desired result can require considerably long time to achieve. A good example of the company that managed to find a compromise between the economic growth and innovative development is Illinois Tool Works (ITW) Company, which aimed to reach the market leadership through the application of the innovative business model. Therefore, the analysis of the experience of this business allows defining the requirements for the development of the optimal business model that would create opportunities for economic growth and lead to innovative development.

The Key Factors of ITW’s Success Before 2012

Illinois Tool Works (ITW) Company was founded in 1912 as a manufacturing products provider (Pangarkar, 2017, p.2). Since then, the company had passed a long way of innovative and gradual development. The significant success of ITW Company can be attributed to the unique approach to the decentralization of the company’s business processes that served as a basis for the increase of the business profitability and its products attractiveness to the customers. Though the decentralization business model had been bringing success for ITW until 2012, the changes in the ownership structure of the company led to the reformation of the business processes organization. Here, it is important to determine the main elements of ITW business model until 2012 to define its main advantages as well as the limitations that did not allow the company to maintain the approach after 2012.

In general, the business model of ITW can be characterized by three main managerial solutions that have been used in the company since the beginning of its expansion, and remain relevant today. These are the “80/20 management process, customer-back innovation, and a decentralized entrepreneurial culture” (Pangarkar, 2017, p.2). According to the estimations of the experts, this unique combination of the business management principles allowed the company to occupy the leading positions in the different niches of the selected industry. To start with, it is important to discuss each of the business principles separately. Later, the decentralized business organization model will be analyzed in detail.

80/20 Management Process

The main idea of this innovative approach to the organization of the production processes was that the company should diversify its production facilities mainly to respond to the needs of 80 % of most reliable customers, while the production of goods for other 20 % of clients should be organized on the different facilities. Such an approach enabled the company to maintain the high productivity of its operations due to the effective orientation on the limited list of products in each of its departments. Here, the opportunity to channel efforts into a limited range of products has served to benefit in the development of the business.

Customer-Back Innovations

ITW had also presented a completely new approach to the integration of the clients’ preferences into the production processes of the business. According to the position of the managerial approach inventor, Jack Gribbie, the development of the new product should take place only after the clear definition of the client’s preferences and expectations to the final good (Frieswick, 2012, p.26). Although this idea seems to be logical in the modern business environment, the variety of companies still rely mainly on the marketing tools for the promotion of the products that may not be interesting to the potential clients. As a result, it is quite difficult for the modern businesses to respond to the key needs of their customers effectively. However, ITW had managed to implement the business model that was oriented towards contributing through innovative design that would satisfy the needs of their customers. So, the quality and features of the products were the key factors in the customer’s decision-making process.

Decentralized Entrepreneurial Culture

This is the most interesting and controversial element of the initial business model of ITW since it was the only element of the company’s business model that faced the rapid changes in 2012, after the reformation of the company ownership structure. The management of ITW was convinced that the transfer of power to the local management could contribute to the economic development and sustainability of the company in general. Therefore, the senior management had stopped exercising close control over each operation inside the company’s departments. This approach was quite effective during the long period of the company’s development, but it was almost abandoned in 2012. The local management still accumulated the big share of power in their hands, but the centralization initiatives of the new shareholders of ITW cancelled the decentralization policy.

Employees’ Management Principles

It is also important to discuss the principles of employees management that guaranteed the effective operations of all of the company’s units. The main rules of the employees’ work organization in ITW are outlined in the company’s statement of principles of conduct (ITW, 2017, p.1). These principles allowed the company to deliver effective performance in the conditions of the decentralized entrepreneurial culture. These principles include the requirements to avoid conflicts of interests among employees, protect and properly use the assets of the company, not to use the corporate opportunities for the personal benefit of the employees, maintain confidentiality, and support the ethical behavior model among the employees and in relation to other stakeholders.

Decentralization

Decentralization was considered as a core element of ITW business model that guaranteed the effective growth of the business until 2012. The main idea of the decentralization principle was that the company could obtain economic profits only if it managed to provide the highest quality of the products. According to this principle, the senior management of ITW had decided to break their businesses into the smallest units engaged in the production of certain types of products or components. Such an approach was supposed to guarantee the maximum effectiveness of the production processes in each separate department, and make the management processes easier. Nevertheless, the company had to abandon this strategy in 2012, due to the changes in the ownership structure of the enterprise. Considering the consequences of this decision, it is important to define whether it was caused by the objective economic reasons, or it was a subjective decision of the new shareholders of the company. The resolution of this issue will also help to understand whether the centralization strategy can guarantee the desired result for ITW.

The Necessity for Strategic Change

The analysis of the initial business strategy of ITW makes it possible to state that it was quite effective in the resolution of the issues existing inside the company. Nevertheless, the new activist investor of the company, Relational Investors (Relational), had decided to abandon the decentralization strategy and shift to the centralization vector of development (Pangarkar, 2017, p.6). Therefore, it is important to define whether this was an economically required decision or the subjective initiative of the new shareholder.

According to the position of Relational, the company had faced financial issues connected with the realization of the decentralization strategy after the beginning of the global economic recession in 2007 (Pangarkar, 2017, p.6). In particular, the analysts stated that the company had to orient to the higher-growth markets (Cahill, 2012). It was important to integrate the smaller companies into bigger ones to reach the economies of scale effect, and aim at the internal sales growth rather than the acquisition of new small businesses. According to Cahill (2012), the decision to centralize the business structure of ITW was caused by the rapid changes in the world manufacturing industry. Even though the company managed to use its small businesses to obtain the required level of flexibility, they did not manage to provide the necessary level of competitiveness in the conditions of the globalized world economy. The bigger competitors, mainly the Chinese producers, had managed to use the low production costs combined with the economies of scale effect to dominate the majority of ITW markets. As the result, the company had to protect its own interests and adopt the business processes to the needs of the changing environment. Otherwise, there was a risk to lose the potential clients to bigger and more effective competitors. At the same time, the necessity to adopt to the business can be explained by the real threats that ca me from the bigger and more profitable competitors of ITW.

In addition to the discussion of the external factors that led to the need for changes in ITW business model, it is important to analyze the theoretical foundations of the decentralization in its application to the current market conditions. The analysis will allow answering the question whether the decentralization business model could be maintained to respond to the new market conditions. The benefits of the decentralized model include better opportunities for the increase of the growth volume compared to bigger companies (Joseph, 2016). As can be seen from the brief analysis of the manufacturing industry environment, this advantage is eliminated due to the significant economic advantages of the big companies. At the same time, the limitations of the decentralized companies are lower opportunities for effective control and central management, and the risk of the company fragmentation (Joseph, 2016). In the changing environmental conditions, it is impossible to allow such consequences, especially for the company of the scale similar to ITW. In addition, the decentralized company usually faces problems with the development of the integrated information system (Simson, 1990). Consequently, the centralization strategy is considered as an optimal solution for the company that wishes to adapt to the needs of the changing environment.

The Key Changes in the Company

The changes that had been adopted in ITW after the agreement with the Relational were studied earlier in the paper. In addition, it is important to estimate the influence these changes had on the company. It will allow the researchers to define the role of the centralization activities in the operations of the modern companies.

First, the company’s choice of its current strategic path led to the considerable economic progress for ITW (United States Securities and Exchange Commission, 2016). In particular, the company had stated two main tasks of the realization of the new business strategy – the shift of the growth engine to organic, and the development of the business model that would offer the best-in-class margins and returns for the shareholders. The transformation of the growth engine included such actions as “portfolio management, business structure simplification and strategic sourcing” (United States Securities and Exchange Commission, 2016). According to the latest annual report of the company, it had managed to build the business portfolio with higher organic growth potential compared to the previous results of the company. Apart from that, the company reached the economies of scale effect, when the new products could be more compatible in the market due to the considerable reduction of production costs.

Second, the simplification of the business structure allowed the company to reach the increase in “engineering, marketing, and sales resources, and to improve global reach and competitiveness” (United States Securities and Exchange Commission, 2016). This initiative also enabled the company to enhance the effectiveness of the earlier realized business principles, including the 80/20 management process, and customer-back innovations. In addition, the company succeeded in the integration of the 80/20 management process to address the needs of the chosen business model. Consequently, ITW managed to deliver the best-in-class margins and returns for the shareholders.

Finally, it is obvious that the new centralized business model of the company should help it attain its economic development goals. Nevertheless, it is difficult to estimate the concrete results of the strategy realization since it is supposed to last about 18-24 months since the end of 2015 (United States Securities and Exchange Commission, 2016). In general, the company management estimated this initiative as a perspective beginning of the new stage of the company development.

The Recommendations for the Future Development of ITW

To provide the recommendations for further development of the company, it is important to define the strategic goals the enterprise has for the following years. This information should be used as a basis for the definition of the next steps that will guarantee the effective realization of the company’s development strategy. ITW’s strategic aims for the period of 2018-2022 are outlined below:

· 25% increase in the operating margin;

· 20% increase in after-tax Return on Invested Capital;

· organic growth of 3 to 5%;

· 35% incremental margin;

· 8 to 10% Earnings Per Share (EPS) growth;

· free cash flow of 100+% of net income;

· dividend payout of approximately 50% of free cash flow by 2020 (Newswire, 2017).

Although most of these targets had already been defined in 2012, several important changes were introduced after the new strategy announcement. They include the increase of the EPS value and the requirement about the dividend payout of about 50 % of free cash flow. These requirements suggest that the company will have to guarantee the high level of financial liquidity and independence. The latter is usually quite difficult to implement for the manufacturing companies that require significant funds to guarantee the production processes.

As a result, the company will have to provide the stable flow of cash resources from the clients. At the same time, the requirements to the financial independence of the company do not allow the management to focus on the use of the loaned capital to cover the dividend expenses. Consequently, the company should aim not only at the increase of the operating margin, but also at the reduction of the receivables value. The high level of receivables is a common issue among the manufacturing enterprises. Nevertheless, it is important to develop the conditions for cooperation that would encourage the partners of ITW to avoid the occurrence of the receivables. This should be the main recommendation for the company management and it had not been included in the previous strategy formation activities. It will create the conditions for the increase in the company’s financial sustainability level.

Conclusion

The analysis of the business model of ITW Company allowed to determine the main factors that had led to the changes in the company business strategy since 2012. Among the main factors were the global economic recession of 2007, the changes in the industry, and the increase of the centralized companies’ power in the global markets. Under these conditions, ITW had to change its business model to remain profitable in the new environment. As for the recommendations that should be included in the business strategy of the company, it is necessary to highlight the requirement for the reduction of the receivables value, which will be important for the realization of the strategic aims of the company.

References

Cahill, J. (2012, August 11). Why ITW is changing century ? old habits. Crain’s Chicago Business. Retrieved from http://www.chicagobusiness.com/article/20120811/ISSUE01/308119983/w...

Frieswick, K. (2012). ITW: Forging the tools for excellence. Retrieved from http://www.itw.com/wp-content/uploads/2012/12/043012_ITW100Years_Ki...

ITW (2017). Statement of principles of conduct ? Illinois Tool Works Inc. Retrieved from https://secure.ethicspoint.com/domain/media/en/gui/29350/code.pdf

Joseph, C. (2016). Advantages & disadvantages when companies decentralize. Retrieved from http://smallbusiness.chron.com/advantages-disadvantages-companies-d...

Newswire, G. (2017, December 1). ITW provides strategy update at 2017 Investor Day. Nasdaq. Retrieved from http://www.nasdaq.com/press-release/itw-provides-strategy-update-at...

Pangarkar, N. (2017). Illinois tool works: Retooling for continued growth and profitability. National University of Singapore and Richard Ivey School of Business Foundation

Simson, E. (1990). The ‘Centrally Decentralized’ IS organization. Harvard Business Review. Retrieved from https://hbr.org/1990/07/the-centrally-decentralized-is-organization

United States Securities and Exchange Commission (2016). Illinois Tool Works Inc. Retrieved from https://www.sec.gov/Archives/edgar/data/49826/000004982616000151/it...

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