The Role of Incentives and Communication in Strategic Alliances: An Experimental Investigation Strategic Management Journal, (2010) Rajshree Agarwal, Rachel Croson, & Joseph T Mahoney Presenter: Ying Li Sep. 27th, 2018

One-Page Overview Research Question Motivation Method Conclusion What are the determinants of the deviation between potential and realized value creation in strategic alliances? Motivation High failure rates of alliances. The inherent tension between competition and cooperation. Common-pool problem. Method Experiment. Conclusion Economic incentives, communication, and more importantly, their interaction affect alliance members’ decision making. Contribution Not only structural arrangement matters (property rights theory), motivational factors matter for the success of alliances, too (social psychology perspectives). “it is difficult to exclude alliance partners from sharing in the gains, regardless of whether or not they contributed toward the economic value creation.” “this lack of well-defined property rights invites potential opportunistic behavior and free-riding”

Alliance as A Social Dilemma Problem The social dilemma arises because exchange partners must decide on whether to pursue a higher individual payoff through competitive choices, even though the collective payoff is larger with cooperation. A prison’s dilemma? An Assurance/coordination game may be better. Payoff dominant Risk dominant

How can the payoff dominant equilibrium be achieved? Economic incentives Economists’ belief Decision makers are perfectly rational. A structural solution. Communication Social psychologists’ belief People act with limited rationality. A motivational solution.

Economic Incentive Property Rights Theory Why firms, formal alliance structures, and other institutions existed at all if the price system were perfectly efficient? – Incomplete contract. Private benefits vs Common benefits Private benefits occur when exchange partners ‘take’ from others in the form of unilateral learning of skills and knowledge and application in areas unrelated to the alliance’s activities, while common benefits are realized by collective ‘giving’ or sharing of information and application of the learning in areas related to the alliance. The probability of strategic alliance success depends on the extent to which the decision makers perceive common benefits to be greater than private benefits. Hypothesis 1: Alliances wherein decision makers have a higher ratio of common to private benefits are more likely to achieve success than alliances wherein decision makers have a lower ratio of common to private benefits.

Economic Incentive (cont) Hart, 1995 The coordination procedures by which one can obtain the correct economic incentives are exceedingly difficult. Libecap, 1989 Asymmetric information and distributional conflicts often lead to persistent sub-optimization of economic outcomes. Strategy Literature Heterogeneity in partner scope and resultant differences in economic incentives can affect strategic alliance success and failure (actual or perceptive). Hypothesis 2: Alliances in which there is heterogeneity in strategic alliance partners’ ratio of common to private benefits will have a lower likelihood of success than alliances where exchange partners are relatively homogenous in their ratio of common to private benefits.

Communication A motivational/design solution. Bounded rationality. Unrealistic assumptions about economic incentive (structural) solutions. In reality, fear, suspicion, distrust, uncertainty, consideration of fairness Nonmonetary rewards. “What sets organization theory apart from much of economics is this emphasis on the nonmaterial, informal, interpersonal, and moral basis of behavior (Scott, 1987).” Communication among alliance partners can potentially offer more cost-effective solutions than structural modifications in economic payoffs, given the high costs associated with altering monetary reward structure, monitoring, and potential restructuring/consolidation of partner businesses. Even in the absence of actual opportunistic behavior by any of the strategic alliance partners, the risk and associated fear that others may not contribute toward joint alliance interests may prevent individual decision makers from undertaking actions that will result in alliance success.

Communication (cont) Specifically, how can communication help? Communication matters because it can help change strategic alliance partner perceptions of the problem from competitive to cooperative in two distinct ways. (1) Communication can reduce coordination costs and address management issues related to bounded rationality and decision biases. (2) Communication can engender cooperation through moral suasion, development of group identity, and trust Hypothesis 3 (an interaction effect): The effect of incentive alignment on the probability of success in alliances is higher in the presence of communication than in its absence.

Method Why experiment? Endogeneity problem better addressed. A direct and clean measurement of variables. Enabling simulation of treatments that may not occur in the field. A fruitful approach for the study of social dilemma problems. Design and Manipulation Model decision making within a strategic alliance as threshold ‘take some or give some. Each participant makes a decision about the extent to which to engage in cooperative activities within their strategic alliance. H1 & H2：Benefits treatment were implemented by differences in bonus structure across the alliances simulations. Examine the behavior of participants under different assumptions of the ratio to private economic benefits accruing as result of the strategic alliance. H3: communication enabled by a free-form chat box. Participants 504 participants who participated as decision makers in strategic alliances. (60 Executive MBA, 300 MBA student, 45 senior level undergraduates)

Measurement Unit of analysis: Alliance level rather than firm level. DV (1) Alliance success (0,1), (2) transfer of resources, (3) resources in alliances IV High benefit Low benefit Mixed benefit With communication ✅ Without communication Q: Why five-firm alliance? Why not a combination of low benefit and communication? The non-mixed benefit scenarios, why not all exactly the same? Why multiple periods?

Results Experiment results Supplementary analysis Results 1: Success rates across treatments and ANOVA High benefit Low benefit Mixed benefit (heterogeneity) With communication 59% 22% Without communication 27% 0% 10% Results 2: logit and multinomial regression results. All hypotheses were supported. Supplementary analysis Conversational analysis of the communication records. Real-world case illustrations.

Conclusion The alignment of economic incentives is a necessary, but not a sufficient, condition for achieving successful alliance outcomes.