Organizational theory is a set of ideas and studies as to how people interact in groups. A basic understanding of organizational theory is key if you are running a business because you will likely have employees. It is important to understand the principles of how they act around one another, how they act with you, what motivates them and what kind of incentives they should have. Understanding organizational theory is the first step towards understanding your employees and yourself.
Organizations that create small amounts of high-value products or services (such as computer programs, legal advice or copywriting) tend to focus more on the people making the product and less on the product itself. This is because each individual person contributes more value in these situations; small-batch companies can do more with less. They have smaller staff, fewer managers and a higher level of specialization.
Some companies create large amounts of products and services. Rather than sell small amounts of products for a large amount of money they do the opposite (relative to cost). These companies follow a different principle of organization. The lower levels of these companies will have large amounts of less-skilled people who earn less pay, and more managers.
Classical theory is closely related to large batch production, and indeed came about in the early 20th century when most organizations were manufacturing companies. It follows a scientific method: examining every factor involved in production, adjusting one at a time, and assessing whether it increases or decreases productivity. Classical theory is extremely effective on paper because it reduces people to economic actors; it assumes their performance is directly related to how much money they make, when the reality is that people are much more complex. However, classical organizational theory is important because it forms a framework on which other theories can be built.
Neoclassical theory is a more modern, versatile theory of organization. It recognizes the fact that workers often behave irrationally, responding to non-economic incentives such as increased lighting or a better sense of a connection between their labor and the finished product.
Centralized organizations are essentially bureaucracies. Everyone has to report to a superior before they make decisions, and everything is eventually run by the head office. A decentralized organization, on the other hand, is one that lets managers make their own decisions and focuses on results rather than following a set-in-stone process. Both of these can work, depending on the needs and culture of the organization in question, so it is important to understand the benefits and drawbacks of both of them.