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Formal Contracts in the Presence of Relational Enforcement Mechanisms: Evidence from Technology Development Projects

Formal Contracts in the Presence of Relational Enforcement Mechanisms: Evidence from Technology... Formal contracting addresses the moral hazard problems inherent in interfirm deals via explicit terms designed to achieve incentive alignment. Alternatively, when firms expect to interact repeatedly, relational mechanisms may achieve similar results without the associated costs. However, as we now know from a growing body of theoretical and empirical work, the resulting intuitionthat relational mechanisms will be substituted for formal ones whenever possibledoes not generally hold. The extent to which firms substitute relational mechanisms for formal ones in the presence of repeated interaction is an empirical question that forms the basis of this paper. We study a sample of 52 joint technology development contracts in the telecommunications and microelectronics industries and devise a coding scheme to allow empirical comparison of contract terms. Counter to the above intuition (but consistent with recent research), we find that a firm's contracts are more detailed and more likely to include penalties when it engages in frequent deals (whether with the same or different partners). Our results suggest complementarity between formal and relational contracts, and have implications for optimal contracting, particularly in high technology sectors. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Management Science INFORMS

Formal Contracts in the Presence of Relational Enforcement Mechanisms: Evidence from Technology Development Projects

Ryall, Michael D.; Sampson, Rachelle C.
Management Science , Volume 55 (6): 20 – Jun 25, 2009
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References (58)

Publisher
INFORMS
Copyright
Copyright © INFORMS
Subject
Research Article
ISSN
0025-1909
eISSN
1526-5501
DOI
10.1287/mnsc.1090.0995
Publisher site
See Article on Publisher Site

Abstract

Formal contracting addresses the moral hazard problems inherent in interfirm deals via explicit terms designed to achieve incentive alignment. Alternatively, when firms expect to interact repeatedly, relational mechanisms may achieve similar results without the associated costs. However, as we now know from a growing body of theoretical and empirical work, the resulting intuitionthat relational mechanisms will be substituted for formal ones whenever possibledoes not generally hold. The extent to which firms substitute relational mechanisms for formal ones in the presence of repeated interaction is an empirical question that forms the basis of this paper. We study a sample of 52 joint technology development contracts in the telecommunications and microelectronics industries and devise a coding scheme to allow empirical comparison of contract terms. Counter to the above intuition (but consistent with recent research), we find that a firm's contracts are more detailed and more likely to include penalties when it engages in frequent deals (whether with the same or different partners). Our results suggest complementarity between formal and relational contracts, and have implications for optimal contracting, particularly in high technology sectors.

Journal

Management Science – INFORMS

Published: Jun 25, 2009

Keywords: Keywords : contracts ; repeated interactions ; R&D ; alliances

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