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Abstract
This paper discus the relationship between a physical product design and the
definition of tasks in integral and modular product development strategies. It is
argued that there are different criteria for defining tasks depending on the types of
advantages of specialization one tries to realize. Moreover, task definition is also
influenced by the costs of coordinating tasks. The physical product design strongly
influences the trade-off between benefits of specialization and costs of coordination.
This paper represents work in progress and is still very preliminary. Comments from
Ron Sanchez on an earlier draft of the paper are gratefully acknowledged.
I. Introduction
The primary theme of this paper is to discuss the relation between the physical
product design and the definition and organization of product development tasks.
Tasks delimit in a more or less precise way the activities carried out by one
individual from those activities that are carried out by another individual1. The
creation of tasks as a minimum requires what Williamson (1985) calls
technologically separable interfaces between activities. The paper explores the
relation between technologically separable interfaces in product development
activities, the definition tasks and technical interdependencies between components
in the products that are to be developed.
Highly integral and highly modular products represent two extremes with respect to
the degree of interdependence between components. Modularization is a product
development strategy where different functions of a product are implemented by
different and relatively independent physical components whose interfaces are
defined by a set of interface standards. This differs from an integral design strategy
where each component may implement many functions and where each function is
implemented by many different components. The independence between
components in modular products implies that an implementation of improvements
in one function have relatively little bearing on other functions. 2
The aim of a modular product design strategy is to reduce complexity in product
design. One can say that with a modular product development strategy one creates a
number of relatively closed systems of interdependent parts, which are contained
within different components.
A modular product design strategy aims at reducing the complexity of the product in
order to reduce the uncertainty and complexity in product development activities.
The success of such a strategy hinges on the relation between the complexity in
1
I distinguish between activities and tasks. Tasks may encompass one or more discrete separable types
of activities. It is difficult to pin point what makes activities separable. Some activities, such as
sneezing, clearly cannot be separated for physical reasons. Other activities such as conducting or
creating a sculpture may easily be separated into a number of distinct activities. However, it may be
difficult to achieve the best result possible if the separable activities are to be carried out as separate
tasks. Problems arise because skills or talents cannot be transferred instantly in the form of
instructions. A long term of continually interaction may be required and event then talents may not be
fully reproduced.
According to Ulrich ad Eppinger (1995) modular and integral production strategies are not just
different ways of producing the same products. Modular designs often results in less elegant products.
They claim that where the important functions depend on size, shape and mass an integrated product
architecture may be preferable to a modular. It should be noted that products are rarely strictly
modular or integral. Even in a modular product there may be strong interdependencies within
components at the level of detailed design where the implementation of the ancillary functions are to
be solved. With a more advanced modularization strategy there may not be this simple relationship
between components and functions. Some functions may be implemented by different components
where the interfaces required to implement the function are well specified. Focus in this paper os on
the more simple kinds of modularization.
product design and the complexity in product development activities.3 The most
important indicator of such a relationship is the extent to which a decomposition of
product development activities is made easier by the decomposition of the product
into independent components.
Decomposing problems into sub-problems is as pointed out by Simon (1969) a way of
reducing complexity in problem solving. In product development a part of the
problem solving activities consists of discovering unknown types of
interdependencies between different design solutions. A decomposition of the
product into nearly independent components constrains the search for causes of
functional failures in products and speeds up the testing of the feasibility of different
design solutions. Therefore, when successfully carried out a modularization strategy
should make it is easier to identify the nature of interaction between components as
well as within components. Modularization thus can be thought of as a way of
increasing the rate of uncertainty reduction with respect to design decisions so that it
becomes possible to specify in great detail the interfaces between components in a
product architecture. Once the architecture is fully specified the uncertainty in
product development is confined to problems of identifying feasible solutions which
will improve the functionality of the product within the constraints set by the predefined interface standards.
The choice of a modular product development strategy over an integral strategy also
has strong implications for the benefits of specialization in product development. In
order to reap the benefits of specialization, product development activities have to be
separated into various tasks which are carried out by different individuals. A main
point of the paper is that task definition and the way in which the product
development problem is presented have great implications for the possibilities of
reaping benefits of specialization at lowest possible cost of coordination.
The paper identifies to types of rationales for task division. One is to economizing on
bounded computational capacity and saving costs of information processing. The
other is to increase the rate of learning by doing and innovativeness in problem
solving. I shall argue that from the perspective of economizing on bounded
computational capacity the identification of interdependencies in product solving
activities is an important criterion by which one ought to identify tasks while from
the perspective of realizing the benefits of learning by doing repetition of activities
and similarities in the underlying knowledge are important criteria
Benefits from specialization cannot be realized without costs of coordination. Costs
of coordination increase with the need for more communication, as more tasks are
defined or more importantly with the way in which tasks are specified. For example,
it may greatly save costs of communication if tasks are defined in ways, which allow
for the communication of results rather than of the premises on which the results are
to be reached. Furthermore, tacit knowledge or sticky information (von Hippel,
1998) may be a problem of coordination between tasks which require the creation a
It is a main argument of this paper that the way in which tasks are defined and
technological separate interfaces are created have profound implication for the net
benefits of specialization. The cost of codifying and transferring information along
with the possibility of realizing advantages from specialization is of great importance
in determining tasks.
To Williamson, technologically separability is taken as a datum and the creation of
tasks is not considered a decision variable. Williamson does not considered task
definition part of a problem-solving activity, nor is it considered a way of dealing
with the problem of coordination. Williamson perhaps implicitly assumes that tasks
are defined in ways that maximize the benefits of specialization given the constraints
of, for example, the laws of nature, the techniques used the state of technological
knowledge, and the extent to which it is possible to codify information.
But technologically separable interfaces in the Williamson sense are not given; they
have to be discovered. Most likely a very great number of alternative technologically
separable interfaces can be defined in any product development process or indeed in
any production activity. It is obvious -for those interested in product development
(for practical or academic purposes)- that the uncertainty or complexity, which
characterize the product design problem, makes it difficult to specify ex-ante all the
possible types of exchange of objects and information, which will be needed in order
to create a new product.
Moreover, transactions between technologically separable interfaces do not occur
unless there is a separation of activities into tasks performed by different individuals.
The best way of defining tasks may vary according to the benefits of specialization
one seek to realize and according to the design problem and the design strategy.
Although we cannot specify in detail all the activities in any product development
process we can anticipate how the choice of a modular over an integral product
development strategy may influence the nature of activities and the types of
interdependencies one encounter. The following section provides a short description
of product development activities with an integral and a modular product
development strategy.
There are many different ways of carrying out these activities and many different
tools and guidelines have been developed in order to aid product development
teams in carrying out these activities (e.g., Wheelwright and Clark, 1992). In the
following sections, I give a brief description of the methodology developed by Ulrich
and Eppinger (1995), since this methodology is developed with a focus on ...
products that are engineered, discrete and physical (p.2). These are the types of
products, which are the focus of this paper. The methodology they suggest consists
of a highly structured search and evaluation process. I use this methodology to
illustrate the more specific differences in product development activities between an
integral and a modular design as well as a basis for discussing the creation of
technologically separable interfaces between tasks in product development.
According to Ulrich and Eppinger, the product development process can be
described as taking place in five sequential phases, which are: Concept development;
system-level design; detailed design; testing and refinement, and production rampup. All of these phases can be described by a number of distinct activities that have to
be performed. In the following, I shall limit my attention to the concept development
and system level design phases, since many of the differences between modular and
integral design strategies arise from the different ways of tackling the information
processing and problem solving activities in these two phases. I shall start by giving
a brief presentation of the various steps in integral product development process,
followed by a short indication of how this process differs from a modular design
strategy.
Ulrich and Eppinger use the word product concept in a different way compared to the general use in
the marketing literature where a product concept is considered to be a package of functions that is
unique.
A target specification consists of a statement of what the product has to do (a metrics) and a target
value expressed in a measurement standard (for example: average time to assemble is a metric and 75
seconds a value). This is sometimes referred to as an implementation.
decomposition where the desired functions of the product are decomposed into
functional elements to create a more specific description of what the elements of the
products do in order to implement the overall functions of the product. 6 7 With the
completion of the functional decomposition the search for physical design solutions
begin. Since each component typically implements many different functions which
may interact in more or less unpredictable ways one continuously have to take into
consideration the interaction between different design solutions. Component and
product design therefore co-evolve and as the architecture of the product gradually
is finalized by the definition of all the component interfaces.
The search for a product concept starts by the selection of a sub problem for further
scrutiny that is believed to be critical and constraining for other solutions. Then, a
number of different concepts of how to solve the sub-problem are developed. These
solution concepts can be systematically explored by using a concept classification
tree where each branch represents a combination of conceptual solutions. For each
promising branch a sketch should be made of the possible technical solutions which
will implement the desired overall function. Finally, the product concept can be
selected by evaluating the most promising combinations of technical solutions
against the target specifications and costs constraints. The evaluation of a technical
solution may require that models are built -which contain the critical design
parameters- in order to determine their interactions with respect to the target
values.8
The System Level Design
At the system level of design product specifications have to be established along with
the architecture of the product. Target values, defined in the beginning of the concept
development phases, may have to be refined as models and tests of design solutions
for all the different sub-problems reveals different types of constraints on the
technical solutions. The architecture of the product is gradually finalized as all the
different solutions to sub-problems are developed.
Functional decomposition is not the only possible way of decomposing a problem. For example, one
can decompose by sequence of user actions or by key customer needs (Ulrich and Eppinger, 1995).
Ulrich and Eppinger mentions different techniques which can be used to aide the functional
decomposition of product development problems.
A functional element consists of the individual operations and transformations that contribute to the
overall performance of the product. Each functional element is described in a way that does not imply
a specific technical solution.
The development process can be organized in sequential tasks or it can be organized with
overlapping tasks. The latter may reduce losses of tacit information. ( See Sanchez and Mahoney, 1996)
The architecture of the product is developed before any of the detailed design
solutions and design-information is partitioned into visible design rules and hidden
design parameters. The visible design rules include:
1. The architecture that prescribes what modules will be part of the system and what
their functions will be.
2. Interfaces which describes the interdependence between these modules or chunks
(chunks, in the terminology of Ulrich and Eppinger, 1995).
3. Standards for testing conformity and quality (Baldwin and Clark, 1997).
Concept Development
With a modular design strategy the concept of the architecture is laid down first and
the interfaces specified. The specification of interfaces often set narrow limits to the
choice of concepts and implementations for the auxiliary functions of the product.
Once the architecture of the product is finalized product development consist of
altering the components of the products within the limits defined by the architecture.
Because interfaces between chunks (major components) are pre-specified and
because each component carries out a separate function, the improvements of
components (chunk) requires information of only limited and known functional
interactions with other chunks.
The System Level Design
The system level design is finalized by the choice of a concept for the architecture
and by the specification of interfaces between the major chunks of components,
which implement the most important functions of the product.
Compared to an integral product design, a modular design strategy means greater
independence between the different functions that are embodied in the product,
more components as each component implements only a few functions and less
interdependence between components. From the above brief sketch of the design
methodology of integral and modular designs it should also be clear that with a
choice of a modular product design informational interdependencies between
problem solving activities and therefore also the amount of iterative processes
needed to solve a problem is strongly reduced. This could of course imply that the
total amount of transactions would be less with a modular design. However,
iterations can be carries out by a single person and by defining tasks to reduce the
need for communication across interfaces it is possible to reduce the amount of
transactions. Of course other consideration than the amount of iteration will have to
determine the definition of tasks and in that case it may not be economically
beneficial to have one person perform all the iterations needed to solve the problem.
The consideration I have in mind here are the benefits of economizing on bounded
rationality, of specialized knowledge, and of learning by doing.
Complex in the sense that it is made up of a large number of parts that interact in a non simple
way (Simon, 1969, p.86).
10
Simon (1969) explains how the numbers of trail in opening a safe with 10 dial with 100 settings can
be reduced from 50 billions to 500 if it is possible to sequentially determine the correct setting of each
dial. Solving sub-problems is equal to setting a dial correct.
11
Simon (1969) uses the parable of the two watchmakers Hora and Tempus to illustrate how the time
of component assembly of a watch may be reduced if the watch is decomposed into sub components.
computational capacity.
Many design problems can be conceived of as complex systems, which belong to the
category of only nearly decomposable systems. As with other nearly decomposable
systems it is possible economized on bounded computational capacity and reduce
problem solving time by identifying and solving sub problems. Design solutions
emerges as the designer searches through a maze of conceptual and physical
solutions in pursue of a workable solution. Trail and error is a dominant feature of
this process as different concepts and physical solutions are constructed and
evaluated against the target specifications. If search is carried out randomly on
average many more trails and errors will be needed to reach a workable solution. But
if search is guided by either experience, technological knowledge or by the
identification of a solution to a sub-problem these trails and errors will be greatly
reduced.
In any product design one of the difficult parts consists in defining independent
problems, which makes up the hierarchy of sub-design problems. The fact that it is
often possible to create a great number of functional decomposition of a design
problem goes to show that it is possible to construct many hierarchies of design
problems. Furthermore, for each functional decomposition a great number of
conceptual solutions can be constructed and for each conceptual representation it is
possible to define a great number of physical solutions.
One of the problems of choosing how to decompose the design problem rest in the
difficulties of trying to anticipating the strength and nature of interdependencies
between functions and among components. Experience of course help one construct
one set of relatively independent problems in ways that can give rise to great
improvements in the functionality of the product. The process however, is greatly
eased with a modular design strategy since with such a strategy the product is
conceived of in a way that greatly reduces the complexity of tracing the
interdependencies between and within components. Once a fully specified
architecture is arrived at a decomposition of design problems can take place along
the line of components. The search for specific design solutions to will then be much
faster since the search strategies are already constrained by the pre-determined
interface standards. However, as pointed out by Sanchez and Mahoney (1996) To
fully specify component interfaces in a modular product architecture, a firm must
have, or have access to, advanced architectural knowledge about relevant
components and their interactions. (p.70)
Decomposing design problems into nearly separable sub-problems is a way of
For Hora, who had not decomposed the watch into sub-components, the watch fell apart every time it
had to be put down due to interruptions. Tempus, who has decomposed the watch into subcomponents, lost only the assembly of the last component when interrupted. There are parallels to this
parable in problem solving. Non codified experience from previous trails, conjectures and ideas may
be lost in case of interruptions. If a problem is decomposed into sub problems with codified solutions
there may not be so great loses of tacit knowledge.
Other factors beside information exchanges may also be of importance in defining tasks. Eppinger,
Withney, Smith and Gebala (1994) mentions task duration, the degree of dependence as measured in
for example ..task communication time, functional coupling, physical adjacency, electrical or
vibration characteristics, parameter sensitivity, historical variance of task results, certainty of planning
estimates, or the volume of information transfer (p.4)
13
14
Another indication of a difference between the two approaches is that it is much easier to reach an
optimal design with the second approach than with the first approach.
10
11
Pattern matching activities in product development are mostly of the type where one
solution is selected on the basis of a comparison with the pre-specified requirements.
For example, pattern matching activities take place when a choice is made between
various combinations of conceptual solutions in the concept combination tree or
when a product concept is selected by comparing various solutions to the target
specifications. These judgments can be carries out by more than one person. Different
individuals can compare sub-sets of solutions and find the best solutions of the subsets which then can be compared by another group and so forth until the best
solution is found. This may be a time saving strategy if there are many solutions to
be evaluated. Since most often there is no definite algorithm by which the best
solution of a sub-set is to be found the judgment of the various individuals may play
an important role in determining which of the proposals are selected. 15
Parallel transformation and pattern matching economize on the bounded rationality
of individuals, it saves time in product development and it may also be employed as
a way of creating more variety in solutions. As mentioned above the ways in which
transformations are performed are likely to vary with educational background and
experience. Since the solution to the design problems in its entirety is likely to differ
with the solutions suggested parallel search can be used as a way of increasing the
variation in the suggestions of design solutions by having different individuals
engaged in the transformation processes.
In order to realize the benefits of parallel search associative processes will have to be
identified from those problem solving activities which have to be carried out
sequentially and tasks will have to be defined as sub sets of these associative
processes. Since there are increasing costs to parallel problems solving activities task
definition of course will have to reflect these costs. The cost consists of delays or
problems of utilizing capacity fully. Delays occurs as parallel sub-problems are
synthesized by sequentially eliminating or transforming sub-solutions until a final
solution is arrived at. Delays can sometime be reduced by defining more tasks to be
carries out by more individuals. An efficient problem-solving network is one where
there is an optimal tradeoff between serial and parallel processing. If problem
solving is not an ongoing process and if idle capacity represents no costs this is
achieved when for a given amount of information ..the number of processors cannot
be decreased without increasing the delay, or vice versa" (Radner, 1992, p.1395).
When information arrive continually one can typically reduce delay time by
expanding the network as compared to the optimal one shot problem-solving
network.
What then are the implication of a modular and an integral design strategy
respectively from the perspective of enjoying the advantages of parallel search? First,
and foremost it should be noted that it is possible to conduct parallel search with
15
The distribution of suggestions among individuals and the sequence of decisions may have a great
influence on the final choice (Miller, 1992)
12
With a flexible design strategy (as opposed to an optimal) sub-functions of the product are
implemented by developing independent physical solutions which are within the range of
interactions, which are established by the set of interface standards. One can often optimize the design
by performing iterations between product development activities. If optimizing is the aim one
typically cannot carry out the sub-design as totally independent parallel processes.
13
by doing and reduce costs of coordination. I shall turn to the latter in section VI. In
the following section I shall concentrate on the benefits of learning by doing.
Transaction costs depend partly on the way in which tasks are defined (Barzel, 1989) partly on the
14
in a way which economize with the receiver competence (Eliasson, 1990) needed to
decode or otherwise use the output from a task. Output which requires less
knowledge to use than to produce fulfill such requirements (Demsetz, 1991).
One of the side benefits of defining tasks around repetitive activities may be reduced
switching costs and increased innovativeness. In product development switching
costs may arise when it takes time for an individual to change his mindset in order
to perform a different type of activity. Such switching costs may, for example, arise if
one has to switch between market analysis activities and concept development
activities or even if one has to switch between the development of different types of
components. This may be because the structure of knowledge is quiet different for
these different types of activities. 18
Defining tasks in ways, which accommodate differences in the knowledge structure
may also increase the rate of knowledge accumulation and enable innovativeness in
problem solving. Innovativeness in problem solving can be described as the ability of
an individual ..to retrieve a potentially useful piece of information from ones
memory and then adapting that information to the problem in hand (Ulrich and
Eppinger, 1995, p.88) or put a bit different to recombine knowledge in new ways (as
in the Schumpeterian notion of innovations).
Innovativeness can result in different kinds of innovations. Henderson and Clark
(1990) have classified innovations as: incremental, modular, architectural and radical
depending on whether the innovation leave the core concept unchanged or not and
whether linkages between core concepts and components are left unchanged or not.
Incremental innovations result in the rearranging of old and well-known conceptual
solutions. Modular innovations introduce new conceptual solution based on new
principles for the implementation of a certain function. When such innovations have
an impact on the way in which components are linked together they are radical
innovations. Finally, an architectural innovation occur when incremental innovations in
components leave the core concepts of components unchanged but not the way in
which components are linked together in the product architecture.
In any case most innovativeness requires accumulation of knowledge. Tsome of the
factors which influence the process of knowledge accumulation is the extent to which
knowledge is cumulative and the nature of the feedback processes from activities.
Knowledge may be more or less cumulative in the sense that knowledge of prior
way in which transactions are organized within firms or across markets (Alchian and Demsetz, 1972;
Williamson, 1985; Hart, 1990). In section VII I take up the discussion of how task definition effect
transaction costs.
18
The architectural knowledge embodied in dominant design often set the agenda for the
accumulation of component specific knowledge (Clark, 1985; Henderson and Clark 1990). In fact, the
differences in the structure of knowledge which underlie architectural and component innovations
emerge with the gradual shift from a pre-paradigmatic to a more mature state of technological
knowledge.
15
16
structure of knowledge within tasks and 3) create tasks which makes it possible for
individuals to trace the effects of their actions. Compared to an integral product
development strategy a modular product development strategy with a task
definition along the lines of architectural development and component development
tasks more easily comply with at least principles one and three. However, since
knowledge accumulation of individuals tend to be structured by the way in which
their tasks are defined accumulation of architectural knowledge and knowledge
needed for more radical innovation may be inhibit -unless some types of information
coordination mechanism is set in place.
17
Up till now, the discussion of the division of labor in product development activities
has been based on the premise that a person can reach an at least equally good
decision without access to the to the entire set of information on decision premises as
with this information. In other words it has been assumed that the tacit information
which is important to those who solve the more or less independent sub-problems is
of no relevance to the solution of the entire problem.
Ulrich and Eppinger (1995), provide a fine example from the development of a fork
for a mountain bike where this is not the case. Those who performed the market
analysis identified customer needs as easy to install. For those who perform the
translation of customers needs into target specification this a to ambiguous statement
since it could be translated into a number of different technical specifications such as
time to assembly or assembled by use of simple tools and simple movements.
Tacit information may also be important in connection with the development and
choice of a physical solution to a sub design problem. As pointed out by Sanchez and
Mahoney (1996), ..information and assumptions underlying upstream design
decisions may not be transferred intact to downsteam stages of development.
Technical incompatibilities between interdependent components may then actually
be desinged into downsteam components (p. 69). For example, it may sometimes
be important for designers of complementary components to know how a certain
solution concept react to changes in different parameter rather than just to know that
this solution concept has been chosen.
According to Ulrich and Eppinger (1995) and Sanchez and Mahoney (1996) the
problems which arise in connection with ambiguous information can be solved by
creating an overlap in tasks. But the influence of tacit and sticky information on task
definition in product development can be solved by other means than by creating
overlapping tasks as suggested above. According to Casson (1994) the extent to
which a problem at hand is characterized by what he calls decisiveness is the key to
whether or not individuals will share tacit information in some sort of consultation
... [d]ifferences in decisiveness mean that some problems have a logical structure
which supports solutions without consultation and some do not (Casson, 1994,
p.50). What Casson calls natural decisiveness occurs when a problem can be solved
equally well by consultation as by substituting knowledge about the other parties
tacit information with knowledge of their plans. Natural decisiveness is
advantageous when tacit information is more costly to transmit than information
about the plans and decisions one has reach on the basis of the tacit information.
Even if problems are not characterized by natural decisiveness it may be possible to
solve them without having to communicate all the tacit knowledge. One may simply
impose decisiveness on problems by dispensing with the communication of tacit
information. This may be done if the consequences of an incorrect decision are
perceived of as small relative to the costs of communicating the tacit knowledge.
Extensive consultation or overlapping activities are only necessary if each party hold
information which is highly likely to be decisive or if the costs are high of not making
the correct decision if lacking some of the tacit information.
18
20
Situations may exist where there is a need to transfer tacit information between relatively
independent problems. However, if problems are relatively independent this information will have to
be non-vital to the solving of each problem so that decisiveness can be imposed.
21
In the case of associative processes there are no logical sequence to follow. However, the
communication will be structured by the way in which one has chosen to organize problem solving
into an efficient hierarchical network (Radner, 1992)
22
Decisiveness and associative process do not preclude one another. It is possible to decompose
problems so that one identifies both associative process and impose natural decisiveness which defines
the sequence in which different types of the associative process are to be carried out. Moreover, there
may be elements of tacit knowledge in carrying out associative processes. The algorithms used to
transform information may for example be partly tacit. However, this only indicates that some
individuals are better at performing the associative processes than others -it do not impose a certain
sequence in problem solving.
19
Decisiveness creates a division of labor between one the one hand those who solve
problems and on the other hand those who define problems, evaluate and select
solutions.23 The maximum division of labor in decision making is obtained when
there is central planning by a specialist, who orders others to carry out the plan. In
product design one may, for example, have a specialized product development
group who defines development projects on the basis of their estimates of both
market and product technology trends. One can improve these decisions by having
non-decision takers report their tacit knowledge to the decision taker. Such
improvements occur only if the costs of transmitting the tacit information is less than
the benefits in terms of improved decisions. Costs may (as suggested by Carter, 1995)
be time and lack of accuracy in reporting. Finally, with no specialization in decision
making, product development projects are jointly defined between those who posses
relevant tacit knowledge. This is most likely to result in a correct decision but it also
increases costs due to overlapping activities. Another way of reducing information
transmission costs is to define task more broadly. With less division of labor between
tasks fewer errors are likely to occur since decision takers have access to the tacit
information they need. However, the gain in terms of better decisions are achieved at
the cost of less specialization.
The concept of decisiveness indicates that the best way of defining tasks is to
minimize the need for exchange of tacit communication between tasks. This reduces
costs of communication while at the same time ensures that tacit knowledge is
available to those who make decisions. Moreover; it may not be possible to
decompose a problem so that one can avoid either loosing or having to transfer tacit
knowledge. However, other considerations such as benefits from learning by doing
may be important.
The concept of decisiveness is important in comparing the cost of coordination
between a modular design strategy and an integral design strategy receptively. With
the modular design strategy and a fully specified product architecture much of the
tacit knowledge is confined to the problems of developing relatively independent
components. Furthermore, with the modular strategy the importance of some types
of tacit information, such as for example, market information, is greatly reduced.
This all suggests that even with a high degree of specialization only relatively little
effort needs to be put into coordination of information.
With an integral design strategy the decomposition of the design problem is likely to
result in tasks where there are many benefits from communicating information
including tacit knowledge. Of course some of the cost of coordination between
23
Carter (1995) talks about routine decisions, market- or production dominated firms, market- or
production led firms or pooled information. Routine decisions occur when tacit information is
suppressed. With market- or production dominated decisions the party with tacit information make
the decision without any knowledge of the other partys tacit information, while with marketproduction led decisions those who do not make the decision transmit the tacit information in a report
to the decision maker. Finally, in pooled information the tacit knowledge of all parties is fully used as
they join in making the decision.
20
21
who carry out the detailed design and between those who delimit the associative
processes in connection with, for example, search for conceptual solutions or
evaluation of physical solutions and those who carry out these processes.
The principal agency literature is generally concerned with how asymmetric
information, risk and different risk preferences between principal and agents
influences the structure of efficient contracts. In the principal agency theory it is
assumed that the agent has more information than the principal about the details of
the tasks he (or they) have been assigned, about the possible courses of actions which
should be taken and about his (their) own abilities and preferences. The principal
thus is unable to write a contract which states the level of effort, which should be
performed by the agent or the exact solutions agents should come up with. However,
the principal (as well as any other third party) is assumed costlessly to be able to
observe the outcome of the agents activities. The principal agency literature
emphasize the tradeoff between cost owing to poor information (lack of tacit
knowledge) and costs owing to inconsistent objectives. According to Jensen and
Meckling (1992) the problem of centralization contra decentralization in firms is due
to exactly this tradeoff.24
The timing of the interaction between the principal and the agent is as follows. First
the principal designs the terms of the contract, which specifies the payments the
agent will receive depending on the observed performance. The principal then offers
the contract to the agent, who if accepting the terms decide how much effort to put
into the task. Under certain circumstance it will be possible for the principal to
induce agents to behave exactly as the principal would if the principal shared the
agents skills and knowledge. The trick is to specify payments so that they depend on
the observed outcome of the task -that is to make the agent the residual claimant of
his own effort.
The contract design becomes somewhat more complex if it is assumed that the
outcome of the task depends one the effort performed by the agent as well as on
state of nature -that is other factors which cannot be influenced by the individual
who carry out the pre specified task. In product development such factors may be
changes in the market conditions for the new product or it may be the externalities in
problem solving activities which arise from interdependencies between components
in the product. In the case where the agent is risk averse and the principal risk
neutral the best solution is to make the agent bear only part of the risk.25
24
In the literature on information coordination (Radner, 1992, Casson, 1994, Carter, 1995) focus is on
coordinating the use of valuable tacit knowledge with out any concern for incentive problems. In the
principal agency literature the tradeoff between agency cost and the use of valuable private
information is important not just in connection with activities where agents are expected to have or to
accumulate advantages in task completion but also in connection with parallel search activities where
a principal delegates the right to an agent to search for solutions or to evaluate solutions. In the latter
case complications may arise if the principal had preferred a different solution than that preferred by
the agent had he himself engaged in the search for and evaluation of solutions (see, e.g., Aghion and
Tirole, 1995) .
25
It is generally assumed that contracts cannot be renegotiated. This means that when an unfavorable
22
It is assumed that the agent as well as the principal is fully aware of the risks and that
they share expectations of these risks. For many product development activities this
is not a very suitable assumption on which to base a contractual design. In the case of
radical, modular and architectural innovation uncertainty and the complexity of
determining the impact of an innovation makes it difficult to estimate the possible
outcomes and thus the risk associated with a bad outcome. However, also the
assumptions that it is without cost to make a complete specification and monitoring
of the activities agents are to perform is often an unrealistic assumption in connection
with product development.26
As opposed to the principal agency theory the measurement cost branch emphasize
that there are high costs of defining contractual obligations and high costs of
monitoring the compliance of agent to these obligations. Since principals are acting
economically rational they only specify and monitor task obligations to an extent
where marginal cost equal marginal benefits. With respect to product development
this implies that tasks are specified in those dimensions which are of value to the
principal net of the cost of specifying and monitoring contractual specifications. One
of the consequences of this is that agents often have discretion in more dimensions
than just the effort they perform.27
In order to reduce incentives to engage in non productive discretionary behavior it is
advocated in the measurement cost literature that the rights to the residual income
(value) from the use of resources (including human capital) has to be allocated to
those who are best able to influence the outcome. Barzel (1982, 1989) has argued that
costs due to shirking and other non productive types of discretionary behavior are
particularly predominant if the value that can be produced varies unpredictably
since then it is more costly to determine what the outcome should have been in any
particular case. Consequently it is also costly to determine whether one of the
contractual parties have acted discretionary in a way which benefit that party at the
expense of the other party (ies) to a transaction. In order to restrict such discretionary
state of nature occurs the agent is unable to renegotiate the contract despite the looses he expects from
carrying out the task. Nor can the principal hold up the agent after the agent has excerted costly effort.
The problems of contract renegotiation is the subject matter of property rights theory developed by
Hart and More (1990) and Hart (1995) and the transaction cost theory developed by Williamson (1985).
26
The costs of specifying and metering task outcomes depends on the extent to which measurement
standards and tests are developed which can be used for the purpose. With more mature technologies
more standards may be developed and this will greatly reduce contract specification costs.
27
Task obligations can be specified in many ways but one can generally distinguish between
specifications in terms of output and specification in terms of input (routines and operations to be
undertaken). The choice between these two types of specifications depends on the cost of specifying
and metering input relative to output (Eisenhardt, 1989). It may be least costly to defined tasks in
terms of input specifications for problem solving activities based on associative operations. For
detailed design activities where the outcome is embodies in components a definition in terms of the
characteristics of the component and the functions it is to implement may be the least costly way of
defining tasks obligations.
23
actions one should make the person who is most likely to influence the mean value the
residual claimant.
In product development discretion may cause errors, unexpected lags, waste of time
or it may cause incompatibility between problems solving activities. Such problems
of discretionary behavior depend on the cost of specifying and metering tasks and on
the degree of interdependence in problem solving activities. If the design problem is
not perfectly decomposable into independent sub problems task completion may be
subject to externalities because with interdependencies in tasks it may be particular
costly to determine what the value of the outcome should have been in any particular
case. Consequently it is also costly to determine the amount of shirking in task
completion. In particular unrecognized interdependencies between tasks combined
with discretionary behavior may be sources of variation in the value of the output
from any particular tasks -a source which is independent of the effort performed by
the person who is carrying out a particular task.
To the extent that interdependencies in product development tasks stem from
interdependencies in components one may limit externalities by decomposing the
problem into relatively independent problems with a task definition which reflects
this decomposition. Defining interface standards between components then reduce
externalities in problems solving between tasks. The incentive problem then depends
on the costs of determining the quality of the input or output (components) from the
independent tasks and reward effort accordingly. In this respect a product
architecture with a set of interfaces standards between interdependent components
mark a set of minimum requirements which task output has to comply to and make
reward depend on the extent to which these requirements are fulfilled.
With a high degree of independence in components and very limited externalities
between tasks one can in certain cases use market competition as a way of making
those who carry out tasks residual claimants on their innovative performance.28
However, other externalities may arise if one is not be able to test solutions
individually. These externalities can be reduced if tasks are grouped so that
individuals form relatively independent teams whose outcome can be tested. When
grouping tasks together one will be faces with the classical team production problem
of inducing team members to display an -from the point of view of the team- efficient
level of effort (Alchian and Demsetz, 1972). To avoid such problems one may employ
a monitor with the rights to allocate residual income to team members and to exclude
shirkers from the team.29
28
The extent to which it is economically feasible to use market competition as a governance structure
also depends on asset specificity (Williamson), and the costs of market transactions relative to in-house
production (Coase, 1937). If market competition can not be used one has to rely on monitoring of tasks.
In that case private information, high costs of metering the level of performance may make it
uneconomic to totally restrict non-productive discretionary behavior.
29
In addition to monitoring one may rely on the use of a forcing contract to provide the team with the
right incentives. With a forcing contract the team receives the residual income of team effort (the extra
income above the income individuals could expect to earn outside the team) provided that the team
24
If design problems are not perfectly decomposable either because the product design
is not decomposable or because specialization is taken beyond the point of
independence in activities one can try to impose decisiveness and decision rules to
create relative independent tasks. This does not eliminate incentive problems since
the decision taker will have to have the proper incentives to make use of his decision
skills or his tacit knowledge. If decisions are based on one partys tacit knowledge
the status as residual claimant should be allocated to that person since he is in a
better position to influence outcome.
When decisions are improved by sharing tacit knowledge in consultations or in
performing overlapping activities it is harder to identify the best way of allocating
the residual claimant status since all may have equally possibilities of contributing to
the joint outcome. With this type of team production one is faced with two slightly
different incentive problems. One, is to provide team members with incentives to
share information the other, is to provide them with incentives to use the information
in the best possible way. With respect to the former problem Williamson (1985) has
argued that information sharing may better be accommodated within a hierarchical
firm where it is possible to combine the use of low powered incentives (wages
independent of effort) with monitoring of the team to induce information sharing.
With respect to the latter problem one may rely on a combination of team
monitoring, forcing contracts or tournaments to discipline team members to make
the right use of information.
Now, if there are interdependencies between tasks which are recognized as being a
priori unknown to the designers sequential adaptation of tasks (Williamson, 1985)
may be the least costly way of reducing the consequences of the externalities which
are due to these interdependencies30. However, sequential adaptation between
interrelated activities may be costly in terms of search for the right information and
in terms of defining the proper terms of information exchange. In order to reduce
such transaction costs transfers of information may have to be organized within the
structure of a Coasian firm in which low cost adaptation is made possible by the use
of an open-ended employment contract where managers have rights to direct
employees and thereby fill the holes of such a contract. 31 This contractual
delivers the specified result otherwise the monitor receives the residual income. The forcing contract is
not a perfect solution since the monitor will have incentive to collude with team members in order to
have at least one shirk so that the monitor receives the residual (Miller,1992 ).
30
Unknown in the sense that product developers recognize that they have incomplete knowledge
(Knight, 1921) of all types of interdependencies.
31
Later on Coase (1991) has remarked that he was aware that the analogy between the employment
contract and the firm could give an incomplete picture of the nature of the firm and advocates for the
amendment that .. a full firm relationship will not come about unless several such contracts are made
with people and for things which cooperate with one another (Coase, 1991, p.64). This amendment
can be interpreted to mean that managerial decisions fill the holes of open-ended contracts in cases
where coordination of a large number of interdependent activities are required.
25
In the incomplete contract literature it is assumed that the outcome of innovative effort cannot be
specified in ways which can be verified by a third party. Therefore, high sunk cost investments in
innovative effort is subject to hold up problems which reduces incentives to invest in such effort. Hart
(1995) has argued that ownership over complementary physical assets creates the necessary protection
of such investments. In cases where innovations requires complementary investments in human
capital the physical assets needed to make use of the investment should be owned by the person whos
investment contributes most to the joint output.
26
VI. Conclusion
This paper has had an ambitious, yet focused agenda: to explore the relation between
the physical design of products and the definition and organization of organization
of product development tasks.
It has been argued that the tasks of detailed design should be defined in ways so that
the technologically separable interface between activities reflect technically separable
sub design problems as determined by the physical layout of the product. This way
of defining tasks would economize on bounded computational capacity as well as
reduce costs of information and incentive coordination. However, if the aim is to
realize full benefits from learning by doing tasks should be defined around activities,
which can be repeated in different product development projects and strong
differences in the underlying knowledge needed to carry out these tasks. In some
cases these different requirements may not be fully compatible.33
When it comes to the activities of problem definition and decomposition one may
distinguish between the activities of defining and decomposing the overall problem
and the more detailed activities of defining and decomposing sub problems. With
respect to the former one may benefit from different individuals with different
perspectives on problem definition and decomposition. However, this requires a
coordination process of consultation accompanied by the incentive coordination
provided by monitoring. With respect to the latter kinds of activities there may be
some gains in terms of learning by doing and in terms of economizing on bounded
computational capacity by having different individuals define and decompose sub
solutions. However, these benefits may be overruled by the high costs of information
and incentive coordinating if tacit information is needed in order for these
individuals to make the right choice.
The extent to which the benefits of specialization can be realized depend to a large
extent on the explicit knowledge of interdependencies in products which in turn
depend on the complexity of the product design. It has been argued that it is possible
realizing more of the advantages from specialization with modular product design
strategy relative to an integral product design strategy. This is because a modular
33
For those problem solving processes which can be characterized as associative processes there is no
conflict between defining tasks in ways which economize with bounded computational capacity and
which increases learning by doing in carrying out the associative processes. Only costs which are due
to lags and unused capacity may set limits to the amount and kind of specialization in these activities.
27
product development strategy strives for a more simple design based on explicit
knowledge of interface constraints.
The argument has relied on sources and ideas that are arguably somewhat unusual
in the literature on modularity in management, such as Herbert Simons ideas on the
limits to problem decomposability, Adam Smith on the advantages of specialization,
the work of economists of the coordination of information (Casson, Radner, Carter),
and, finally, theories from organizational economics, such as theories of
measurement costs and principal/agent theory. This mixed bag of influences and
ideas has allowed to me analyze the organization of modular product design strategy
in a novel way namely in the comparative-institutional mode of analysis
characteristic of organizational economics and to pinpoint how this strategy allow
for greater advantages in specialization. Moreover, I have devoted ample space to
discussions of the costs of these strategies, a topic that is arguably somewhat
neglected in the literature. Future research will more intensively address aspects of
organizational learning in connection with integral modular product design
strategies, as well as a deeper inquiry into the issue of how modularity influences the
market/firm choice (the boundaries of the firm issue). The present paper represents
only a first stab at these important issues.
28
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