1. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Make or Buy?  Buy – Focus on your strengths Deere & Company  Make – Avoid a holdup General Motors & Fisher Body

2. The holdup problem at Fisher This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Fisher Autobody GM Ford Chrysler Fisher Autobody GM After Contracting with GM Before the contract

3. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. The Vertical Chain of Production 1. Raw Materials 2. Transportation & Storage 3. Intermediate goods processors 4. Transportation & Storage 5. Assemblers 6. Transportation & storage 7. Retail & service Steps in the vertical chain Accounting Finance Human Resources Legal Marketing Other Support Services Support Services

4. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Choosing along a Continuum Spot Markets Long Term Contracts Vertical Integration

5. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Cruise Ships  How do these ships get their passengers to shore?* Do they hire local boat operators? Do they bring boats with them? This discussion is based on an essay found at http://knowledgeproblem.com/2004/01/01/asset_specifici/ It was written by Lynn Kiesling, an economics professor at Northwestern Univeristy.http://knowledgeproblem.com/2004/01/01/asset_specifici/

6. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Why Outsource?  Benefits of buying from competitive markets Scale Economies & Efficient Production Survival of the Fittest

7. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Why Integrate?  Contracting Costs  Market Power  Taxes and Regulation  Other

8. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Contracting Costs  Firm Specific Assets & hold-up problems Site Specificity Physical Asset Specificity Human Asset Specificity Dedicated Asset Specificity  Problems Measuring Quality  Externalities  Coordination Problems

9. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Market Power: Price Discrimination  ALCOA: 1888-1930 * Markets for Aluminum  Cookware (Demand elasticity = -1.6)  Airplanes (Demand very inelastic at the time) How much do you charge for Aluminum? Their solution  Sell Aluminum to Airplane manufacturers  Sell cookware themselves * This discussion taken from Carlton and Perloff Modern Industrial Organization, Harper Collins 1994

10. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Taxes and Regulations  Strategy: Shift profit toward the less taxed or regulated stage of production using transfer pricing.

11. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Other Reasons to Vertically Integrate  Securing a critical input when supply is uncertain  Avoid sharing secrets with other firms

12. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Vertical Integration Vs. Long-term Contracts  Incomplete Contracting  Ownership & Investment Incentives  Specific Assets & Vertical Integration

13. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Specificity, Uncertainty & Procurement LowMediumHigh Low Market Transaction MediumContract Contract or Vertical Integration HighContract Contract or Vertical Integration Vertical Integration Uncertainty Asset Specificity

14. Should we outsource? This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004.  Catering for large company parties  Food service in a cafeteria located in the corporate headquarters  Trucking services

15. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Trends in Outsourcing  Flexible new production technologies  Improvements in information sharing  Just-in-time production

16. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Review Question 19.1 The Black Diamond Company mines coal. It would like to build a processing plant right next to its major mine. The location of this mine is relatively remote and is not near other coal mines. Tax considerations, as well as government regulations, dictate that the processing plant be owned and operated by some independent company (other than Black Diamond). Your company, the Greg Norman coal Company, is considering building and operating the plant for Black Diamond on a contract basis. Your job is to negotiate the contract with Black Diamond. Discuss the terms that you will try to get Black Diamond to agree to in the contract. Explain why these terms are important to you.

17. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Review Question 19.4 In the recent acquisition of a supplier, an executive made the following argument: “We purchased the supplier so that we could keep the profit rather than pay it to some other firm.” Evaluate this argument.

18. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Review Question 19.5Cable television companies lay cables to individual households in the communities they serve to carry the television signal. How specific is this investment? What kind of arrangements would you expect the cable companies to make with local communities about the pricing and taxation of cable services? Explain.

19. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Review Question 19.8Jimmy’s Stereo Company manufactures stereo equipment. Its business strategy is to provide retail customers with high-quality equipment along with good service and warranty protection. It currently distributes its products through licensed dealers who have exclusive territories. Discuss (1) why Jimmy’s might offer its distributors exclusive territories; and (2) the potential problems that this policy might create in terms of retail pricing.

20. This slideshow was written by Ken Chapman, but is substantially based on concepts from Managerial Economics and Organizational Architecture by Brickley Zimmerman & Smith, McGraw-Hill, 2004. Review Question 19.12 The Boswell Medical Center is the only hospital in a rural community. It requires significant janitorial services to clean its buildings and equipment. It also requires a relatively large lab for conducting tests of various types (for example, MRIs, blood tests, and ultrasound tests). Do you think that Boswell is more likely to outsource its janitorial services or lab work. Explain.