[IS Theory] Information technology and industrial cooperation

Clemens, E., M. Row, “Information technology and industrial cooperation: The changing economics of coordination and ownership,” Journal of Management Information Systems, 9(2), 1993, pp. 9-28.

 

- A framework for investigating cooperative relationships based on extending transactions cost economics.

- IT has the capability to increase integration without necessarily increasing transaction risks, by reducing required sunk capital and reducing monitoring costs.

 

[Introduction]

 

- Transactions cost theory has focused on the determination of firm boundaries, i.e., the dichotomy between markets and hierarchies

- IT has the ability to reduce transactions costs, favoring markets over hierarchies

- Transactions costs are really composed of integration costs and transaction risk

   1) Integration costs are the direct costs of coordinating decisions between economic activities.

   2) Transaction risk is the possibility of being exploited in the relationship.

 

[A Theory of Industrial Cooperation]

 

- Cooperation: any long term agreement or understanding between independent organizations.

- Transactions cost economics (TCE) provides a starting point for looking at cooperative relationships

- The focus is on the dichotomy between markets and hierarchies for managing interactions

1) With market organization, interactions are managed through lateral negotiations among independent firms..

   2) With hierarchical organization, interactions are managed centrally, within a single firm

- TCE posits that the most efficient governance mechanism is determined by balancing production economies and transactions costs

   1) The existence of production economies, such as economies of specialization, scale, and scope, favors the emergence of specialized firms interacting in markets,

   2) The transactions costs include the costs of searching for an appropriate partner, negotiating the contract, and monitoring performance of that contract.

 

[Motivations/Benefits of Cooperation]

 

- The link between cooperation and transactions cost economics is the concept of integration, or the extent to which decisions are coordinated between economic activities.

- It is possible to increase the overall efficiency of production or exchange through closer coordination of operations

- The benefits of closer integration are not limited to vertical relationships within a single value chain. Utilization of resources can be increased by leveraging them in new products or markets.

- Cooperative arrangements increase integration among economic activities in order to exploit transactional efficiencies or latent production economies

 

[Costs of Cooperation]

 

- Transactions costs can be broken down into two parts, with different economic ramifications and different organizational mechanisms available for managing them. This is critical in understanding the role of IT in cooperation

- Transactions costs can be broken down into costs of integration and costs of transaction risk.

 1) Integration costs are the costs of coordinating decision making over resources in order to improve efficiency. (costs to establish and operate information channels and decision processes.)

 2) Transaction risk is the possibility of opportunistic behavior by another party to the relationship, leading to uncertainty surrounding the level and division of the benefits from the increased integration of resources.

- Transaction risk stems from two major sources: Appropriable Rents, and Loss of Resource Control.

 1) Appropriable rents [13] arise in the presence of transaction specific capital or investments by one party that have little or no value in uses other than the specific interaction for which they were undertaken.

 2) Loss of resource control occurs when resources are transferred as part of the relationship, if these resources cannot be returned or controlled in the event of the termination of the relationship.

 

[A More Robust Characterization of Cooperation]

 

1)  Level of Integration: How coordinated are resources?

 - Reducing the level of integration can control transaction risk in two ways.

   (1) Reducing the level of integration can reduce the level of transaction specific capital, hence the transaction risk associated with that sunk cost.

(2) Reducing the level of integration can reduce the potential for loss of resource control.

2) Ownership: The traditional and ultimate mechanism for transaction risk management.

3) Level and Division of Transaction Specific Capital: Far from being technologically determined, as is assumed in most transactions costs literature, this is very much subject to negotiation.

- Transaction specific capital, investment that has little use outside of the relationship, is a major source of transaction risk.

 4) Information Channels and Incentives: Information channels may be established as a byproduct of coordination, or may be specifically for reducing transaction risk. The design of these channels and the incentive system is key to the stability of cooperative arrangements.

 

[IT and Cooperation in Other Business Activities]

 

- IT can be used both to reduce transaction-specific investments and to increase monitoring capability. The fust reduces strategic vulnerability and the chance of opportunistic behavior; the second improves monitoring of performance, and reduces the risk of shirking.