Allocating Decision Rights Research Articles

Lawmaking and Presidential Attributes in the Chilean Constitution: What’s the Urgency?

In 2019, Chile was struck by an uprising that shook its political structure to the core. Mobilization was so overwhelming that political elites decided—against what they had defended vigorously during past decades—to allow for a comprehensive reform of the Constitution enacted in 1980. Because constitutions allocate decision rights and define their political system as they do so, the process reopened the debate regarding the country’s imbalanced presidential design. This article contributes to the debate on checks and balances in the Chilean political system by examining a specific procedure that promotes imbalance: the urgency prerogative.

Time Inconsistency and Financial Covenants

Financial covenants influence firm behavior by state-contingently allocating decision rights. I develop a quantitative model with long-term debt where shareholders cannot commit to not dilute existing lenders with new debt issuances. Lenders intervene on covenant violations but cannot commit either to any debt restructuring plan ex ante. Counterfactual experiments suggest that financial covenants significantly reduce default probability and increase firm value. However, the value creation is limited by lenders’ limited commitment. A hump-shaped relation between covenant tightness and firm value emerges, reflecting a balance between limited commitment on two sides. This paper was accepted by Gustavo Manso, finance. Supplemental Material: The data files and online appendices are available at https://doi.org/10.1287/mnsc.2022.4667 .

When does centralization undermine adaptation?

We revisit the classic problem of optimally allocating decision rights in a multi-divisional organization. To be able to adapt its decisions to local conditions, the organization has to rely on self-interested division managers to collect and disseminate the relevant information. We show that if division managers are certain about how the headquarter (HQ) weights each division's performance, centralization may always dominate decentralization in generating information, and therefore even lead to more adaptative decisions. However, with uncertainty in HQ's decision criterion, centralization can perform poorly in motivating information acquisition, and particularly so when it is highly important to coordinate the activities of different divisions. As a result, decentralization can be optimal even with an arbitrarily strong coordination motive.

Farmer preferences regarding durum wheat contracts in Italy: a discrete choice experiment

PurposeThis study aims to investigate farmer preferences regarding sales contracts for durum wheat in Italy.Design/methodology/approachThe authors consider that contracts are formed by an organisational entity that is in charge of transferring decision and property rights based on reductions in transaction costs. The empirical analysis presents a discrete choice experiment with three distinct models that was performed by a survey of 160 wheat farmers in southern Italy.FindingsThe results show that contractual terms affect the probability of both a contract being signed and allocating decision rights due to their effects on price, technology and quality.Practical implicationsThis study provides some insights on which contractual attributes could support the wider use of contracts along the durum wheat supply chain in Italy.Originality/valueThe paper reveals that contracts are relevant not only to the coordination of agri-food chains because of price stabilisation but also due to their impacts on technology and quality strategies.

Innovativeness in the Professional Services Industry: A Practice Level Analysis

Professional services firms (PSFs) are characterised by high external client interaction as well as by high levels of internal knowledge intensity. However, the literature is remarkably mixed on the question of how these characteristics impact innovativeness in this industry. While client interaction and demand may induce innovation, clients may be looking for tried‐and‐tested solutions to their problems from professional service providers. Similarly, while professionals' knowledge and expertise is required for new service development, their specialisation does not necessarily lead them to be innovative. We analyse both externally‐oriented and internally‐oriented mechanisms to understand PSF innovativeness, conducting our analysis at the level of practice areas in PSFs. Using a survey of 218 practice areas, we only find support for the internally‐oriented mechanisms and not external ones. It is a combination of human capital, the sharing of knowledge internally, and allocating decision rights to the professional staff that drives innovativeness in PSF practice areas.

Time Inconsistency and Financial Covenants

Financial covenants influence firm behavior by state-contingently allocating decision rights. I develop a quantitative model with long-term debt where shareholders cannot commit to not dilute existing lenders with new debt issuances and risky investments. Lenders intervene upon covenant violations but cannot commit either to any debt restructuring plan ex ante. Counterfactual experiments suggest that financial covenants significantly reduce default probability and increase firm value. Covenants become highly valuable when productivity reverts after a long credit boom. There exists a hump-shaped relation between covenant tightness and firm value, with the average calibration in data close to the optimum.

Foreign earnings management of US multinational companies: The role of decision rights

US multinational corporations (MNCs) need to allocate decision rights between parent companies and subsidiaries to manage global operations. This article examines how the allocation of decision rights affects foreign earnings management of MNCs. I find that the extent of foreign earnings management increases when parents retain centralized decision rights. But internal cross-border frictions, between parents and their foreign subsidiaries, and the external local legal environment in which foreign subsidiaries operate can mitigate foreign earnings management despite parents having centralized decision rights. This study provides evidence on how the decision structures of MNCs affect where earnings are managed.

Collective Choice in Dynamic Public Good Provision

Two heterogeneous agents contribute over time to a joint project and collectively decide its scale. A larger scale requires greater cumulative effort and delivers higher benefits upon completion. We show that the efficient agent prefers a smaller scale, and preferences are time-inconsistent: as the project progresses, the efficient (inefficient) agent’s preferred scale shrinks (expands). We characterize the equilibrium outcomes under dictatorship and unanimity, with and without commitment. We find that an agent’s degree of efficiency is a key determinant of control over the project scale. From a welfare perspective, it may be desirable to allocate decision rights to the inefficient agent. (JEL C73, D71, H43)

The Effect of Allocating Decision Rights on the Generation, Application, and Sharing of Soft Information

Should a bank take small to medium sized companies at face value? Research in both accounting and finance has tried to answer this question by studying the use of soft information that is qualitative, hard to verify, and costly to transfer. We study how the generation, application, and sharing of this soft information is affected by the location of knowledge and the allocation of decision rights. We exploit a quasi-natural experiment at a large European bank to study whether reallocating decision rights away from the loan officer enables or impedes the use of soft information in the operational decision making process. Our findings indicate that the reduction in decisions rights increases the amount of soft information integrated in the the credit application process. These findings are robust to controlling for strategic loan sorting behavior, manager fixed-effects, and the likelihood of acceptance. We also document that this increase in considered soft information is driven by a change in behavior of the incumbent loan officers and that this change in behavior improves the loan application process through better ex-post loan outcomes.

The Role of Decision Rights in Collaborative Development Initiatives

We study initiatives for novel co-development projects, where it may be difficult a priori to specify contracts contingent on the project outcome. In such settings, firms often rely on simple contracts that specify the decision-making process by allocating decision rights. Our goal is to study the effectiveness and design of such governance structures in incentivizing co-operative efforts and maximizing the total value of the project. In our model, a seller and a buyer consider a menu of non-contingent contracts, each of which specify a quantity and an associated transfer payment. The contracts also specify decision rights to set the contract terms upfront (ex-ante) and to choose the quantity after the market potential is realized (ex-post). Our results bear several important implications for the optimal allocation of decision rights and the value of contracting: First, when a decision right is delegated to the seller, he exerts higher effort towards the project. However, the seller may exert lower effort when he has both the decision rights as opposed to when he only has the ex-post decision right. Second, when the buyer has low bargaining power, the ex-post decision right should be delegated to the seller, i.e., the party with lower exposure to the effort-contingent outcome. Otherwise, the ex-post decision right should be delegated to the buyer but the ex-ante right should be held by the seller. Finally, we show that simple contracts with decision rights outperform a spot contract when the ex-post bargaining power of one of the parties is substantially higher.

Relational contracts and adaptation: application to a pork producer contract

AbstractIn this article, we apply a formal theoretical model of adaptation to an empirical setting within specialized pig production. The objective is to allocate decision rights ex ante so that actual decisions taken ex post will optimize the profit accruing to both parties in a contractual or integrative relation. Motivated by the situation in the market for piglets in Denmark, we focus on an analysis of a vertical partnership between a piglet producer and a finisher. By applying a model of adaptation to the particular setting, we provide a solid basis for discussions on both the importance of efficiently allocating decision rights and the usefulness of the partnership as organizational form between specialized pig producers. © 2008 Wiley Periodicals, Inc.

Corporate Architecture and Limited Liability

Abstract This paper studies the effect of limited liability on corporate architecture. Corporate architecture is to be interpreted as the organizational instruments firms use to organize themselves into a coordinating, hierarchical ordered association of people. In this paper, it specifically refers to the use of four governance instruments within the firm to control the behavior of employees. These four are decision control rights, reward schemes, information systems and conflict resolution rules. Limited liability influences the way in which an incorporated group of firms employs each of these instruments. The most important effects are that limited liability makes it advantageous to allocate decision rights lower in the organization, use higher-powered reward schemes and economize on information systems. The effects lead to a saving of coordination costs within incorporated groups compared to unincorporated groups. Corporate groups thus differ in their governance arrangement from firms that have not organized in corporate groups. Alternatives that restrict limited liability have the effect of centralizing rights, flattening reward schemes and increasing investment in information systems. If corporate groups have attuned their architecture optimally, then restricting, or abolishing, limited liability generates additional coordination costs.

Oversight and Delegation in Corporate Governance: deciding what the board should decide

American boards of directors increasingly treat their delegation of authority to management as a careful and self‐conscious decision. Numerically dominated by non‐executives, boards recognize that they cannot run the company, and many are now seeking to provide stronger oversight of the company without crossing the line into management. Based on interviews with informants at 31 major companies, we find that annual calendars and written protocols are often used to allocate decision rights between the board and management. Written protocols vary widely, ranging from detailed and comprehensive to skeletal and limited in scope. While useful, such calendars and protocols do not negate the need for executives to make frequent judgement calls on what issues should go to the board and what should remain within management. Executives still set much of the board's decision‐making agenda, and despite increasingly asserting their sovereignty in recent years, directors remain substantially dependent upon the executives’ judgement on what should come to the board. At the same time, a norm is emerging among directors and executives that the latter must be mindful of what directors want to hear and believe they should decide.

Allocating Decision Rights on the Shop Floor: A Perspective from Transaction Cost Economics and Organization Theory

This paper explores the links that the allocation of decision rights on the shop floor maintains with labor transaction attributes and several structural traits of the firm. The approach is based on the transaction cost apparatus and harnesses the theoretical and empirical background provided by organization theory. Data are presented from a wide field survey in the Spanish food and electronics industries (Standard Industry Classification (SIC) 20 and 36). Evidence not only verifies the influence of firm size, property, age, and unionism, but also shows that the allocation of decision rights is related to a particular mix of labor transaction traits. Specifically, one of the most important results is that employer opportunism offers greater explanatory power than employee opportunism.

On the Choice Between Such Simple Mechanisms as Individual Ownership and the First-Come First-Serve Rule When Renegotiation is Costly

This article compares a set of often used simple contracts or mechanisms in terms of how well they allocate decision rights between two ¸

Responsibility budgeting and accounting

Abstract Information/transaction costs make it necessary to decentralize some decision rights in organizations and in the economy. Decentralization in turn requires organizations to solve the control problem that results when self-interested persons do not behave as perfect agents. Capitalist economies solve these control problems through the institution of alienable decision rights. But because organizations suppress the alienability of decision rights, they must devise substitute mechanisms that perform those functions. Three functions are critical: (1) allocating decision rights among agents in the organization, (2) measuring and evaluating performance, and (3) rewarding and punishing individuals for their performance. Responsibility budgeting and accounting systems are the most widespread mechanisms for performing these functions in business today.

The Two Key Principles Behind Effective TQM Programs

We analyse Total Quality Management (TQM) from an economic and organisational perspective. We find that TQM is a new organising technology that is science‐based, non‐hierarchical and non‐market‐oriented. It improves productivity by encouraging the use of science in decision‐making and discouraging counter‐productive defensive behaviour. It also encourages effective creation and use of specific knowledge throughout the organisation. Effective implementation of TQM generally requires major changes in all three components of the organisational rules of the game, namely systems for allocating decision rights, performance measurement systems, and reward and punishment systems.

The Ownership, Governance And Control Of Organizations: Course Module Overview Note

Through a series of cases, articles and other readings this module develops the concepts of corporate governance and control, and examines their relation to the rules of the game, and to the creation and distribution of value. The organizational rules of the game refers to an organization's systems for 1) allocating decision rights, 2) measuring performance, and 3) meting out rewards and punishments, as defined by Jensen and Meckling (1992). Each of the sessions focuses on issues relevant to when, why and how ownership, governance and control create or destroy value in organizations. The module is comprised of 16 sessions based on cases, clinical articles and related readings. The module note describes the organization and structure of the course module, a description of materials for each session, and a set of student assignments and assignment questions for each session. Particular sessions or groups of sessions from this module can be used in a course whose primary materials comprise academic journal articles and textbook readings. This can involve intermingling case-based sessions with other types of materials or assigning materials from an Ownership, Governance and Control of Organizations session to students to form the basis of a project or paper.

SCIENCE, SPECIFIC KNOWLEDGE, AND TOTAL QUALITY MANAGEMENT

This article analyzes Total Quality Management as an innovation in organizational technology that can be used by companies to increase productivity of both labor and capital. As an organizing technology, TQM has three distinguishing features: (1) it is science-based in sense that individuals at all levels of organization are trained to use scientific method in everyday decision-making; (2) it is non-hierarchical insofar as it provides a process for decentralizing decision-making in ways that do not correspond to traditional corporate hierarchy; (3) it is non-market-oriented in that it does not use prices or formal exchange mechanisms, such as transfer pricing systems, to motivate cooperation or transfer of decision rights.Despite potential benefits of TQM, and many TQM success stories, there is also considerable testimony to difficulty of establishing and maintaining effective TQM programs. We suggest that one important source of TQM's implementation problems has been failure to develop a systematic approach to identifying entire set of organizational changes required by a comprehensive TQM program. While typically arising out of a concern for product quality, most successful TQM programs end up becoming efficiency improvement initiatives that involve organization-wide changes in decision-making authority and performance measures. For this reason, effective implementation of TQM requires major changes in all three components of what we refer to collectively as organizational rules of game--that is, not only (1) systems for allocating decision rights and (2) performance measurement systems, but also (3) reward and punishment systems. Unlike those quality advocates like Edward Deming who object to use of monetary incentives to reinforce TQM initiatives, we argue that the increased decentralization associated with TQM should be associated with a strengthening of relation between performance and rewards of all types.Note: This paper draws heavily on our Journal of Accounting and Economics paper of same title, Volume 18, 1994, pp. 247-287. See working paper version of this paper Science, Specific Knowledge, and Total Quality Management.

Science, specific knowledge, and total quality management

We analyze Total Quality Management (TQM) from an economic and organizational perspective. We find that TQM is a new organizing technology that is science-based, non-hierarchical, and non-market-oriented. It improves productivity by encouraging the use of science in decision-making and discouraging counter-productive defensive behavior. It also encourages effective creation and use of specific knowledge throughout the organization. Effective implementation of TQM generally requires major changes in all three components of the organizational rules of the game, namely systems for allocating decision rights, performance measurement systems, and reward and punishment systems.