DEPARTMENTALIZATION AND STOCHASTIC DISSIMILARITY

When activities within the organization are confronted with different types of stochastic environments, the owner of the firm has to evaluat e the benefits and the costs involved in establishing multiple special ized divisions. The benefit from departmentalization is the ability to better match incentives to the extent of uncertainty confronting diff erent activities. The cost of departmentalization is the increase in t he number of required managerial positions, which implies that the own er has to deal with a bigger number of individuals that can assume onl y limited risk. Only when the extent of 'stochastic dissimilarity' amo ng activities is significant, can the benefit more than outweigh the c ost.